Corporate Governance in the European Union: Emerging Developments, Part 1

The European Commission is proposing a series of corporate governance reforms for EU member countries.  As the reform’s “Green Paper” (as it is called) sets out in its introduction, the G20 Finance Ministers and Central Bank Governors emphasized in late 2009 that actions should be taken to ensure sustainable growth and to build a strong international financial system.  Corporate governance is seen as a means to prevent excessive risk taking and undue influence on the short term, in this regard.  The purpose of the EU’s corporate governance Green Paper is to respond to the G20’s edict, under the auspices of the European Commission’s Corporate Governance and Financial Crime Unit, and propose wide-ranging and long-awaited corporate governance reforms within European Member States.

There are 25 corporate governance proposals in total, under four general categories: (i) General; (ii) Boards of Directors; (iii) Shareholders; and (iv) Monitoring and Implementation of Corporate Governance Codes.  The full text of the proposals is available online, in downloadable PDF format, at the European Commission’s website here (PDF).

The proposals are comprehensive and are a major step forward.  Proposals address the governance of small and mid-cap companies (SMEs) and unlisted companies (as well as listed companies); the separation of chair and CEO; board diversity; external board evaluations; having boards be responsible for risk appetite, and potentially overseeing disclosure of “societal risks”; disclosure of director remuneration (executive and non-executive) for shareholder advisory votes; the governance of asset managers and proxy advisors (including addressing conflicts of interest); greater shareholder engagement; strengthening the rights of minority shareholders; employee stock ownership; and possibly strengthening authority to monitoring bodies (e.g., securities regulators and stock exchanges) to assess information quality of listed companies’ compliance (or explanations of non-compliance) with governance code provisions.

The overall tone and direction of the EU’s governance proposals are significant because they not only reflect several reforms already undertaken in other countries, but go beyond many of these in a prescriptive way, particularly those involving proxy advisors, asset managers, institutional shareholders, the relationship between controlling and minority shareholders, and the role of regulators in overseeing the informational adequacy of company disclosure within the voluntary “comply or explain” regime more effectively.

The 25 proposals are as paraphrased as follows (the first 12 of 25 proposals are in this Part; with the next 13 to 25 and conclusion to follow in Part 2):

General Questions:

  1. Should the EU take into account a company’s size when instituting governance reforms?  (For example, there could be a separate code for SMEs, or a certain size threshold, above which corporate governance measures would apply.)
  2. Should governance measures be instituted for unlisted companies?  Or should they apply only to listed companies?

Boards of Directors:

  1. Should the duties and responsibilities of the Chair and CEO be clearly divided?
  2. Should the recruitment policies of directors (including the board chair) be more explicit about the profile of directors, to ensure that boards have the right skills (e.g., competencies and other attributes)?  Should these policies also ensure that the board is suitably diverse?
  3. Should companies be required to disclose whether or not they have a diversity policy (e.g., to apply to the board, senior management and the organization), and if so, should the objectives and progress of the policy also be disclosed?
  4. Should companies be required to ensure a greater gender balance on boards (e.g., through disclosure of objectives and progress, through quotas, or through other mechanisms)?  If so, how should this be done?
  5. Should the number of mandates that a non-executive director (NED) holds be limited? If so, how should this be done?  (This limitation may include consideration of various types of directorships, whether the NED also occupies an executive position, and whether leadership positions are also occupied (e.g., chair).)
  6. Should listed companies be encouraged to conduct externally facilitated board evaluations regularly (e.g., “every three years”)?  If so, how should this be done? (Given that the UK Code (2010) recommends a similar time frame for externally facilitated board evaluations (“at least every three years”), this may be a move towards standardizing board evaluations, and frequency may be a potential variable, too.)
  7. Should disclosure of an organization’s board remuneration policy and its implementation, and the remuneration of executive and non-executive directors be mandatory?
  8. Should the remuneration policy and report on its implementation be put to shareholders for an advisory vote? (This proposal would constitute a European version of ‘say-on-pay’.)
  9. Should the board approve and take responsibility for a company’s risk appetite and report this appetite to shareholders?  Should this disclosure include societal risks (such as risks related to climate change, the environment, health, safety, human rights, etc.)?
  10. Should a board take reasonable steps to ensure that the company’s risk-management arrangements are effective and aligned with its risk profile?

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