Corporate Governance

The collapse of Enron in the US and European scandals such as those revolving around Dutch retailer Ahold and Italian agri-food giant Parmalat, all in 2003, forced the issues of corporate governance and financial reporting to the fore in the EU. The Commission therefore began to systematically address these issues through its company law and financial services policies.

The possibility of creating a European code of conduct on corporate governance was mooted but has been shelved for the present in favour of harmonisation of national codes.

Rules of corporate governance are important elements of the regulatory framework for successful market economies. Definitions of 'corporate governance' vary, but the Commission generally uses it to mean the mechanisms by which an enterprise is directed and controlled, including how managers are held accountable for corporate conduct and performance. 

In its Financial Services Action Plan (FSAP) published in May 1999 (see EURACTIV LinksDossier), the Commission  launched a review of existing codes of corporate governance and in July 2001 the Group of High Level Company Law Experts (Winter Group) was set up to advise the Commission on a modern EU framework for company law, which would include corporate governance.

The Winter Report
, presented in November 2002, was not in favour of a single European code of corporate governance but rather recommended improving harmonisation of national systems through: 

  • defining disclosure requirements;    
  • providing for effective independent non-executive directors,    
  • establishing a regime for directors' remuneration and directors’ responsibility for financial statements
  • creating a legal framework for shareholder information and decision-making
  • setting up a co-ordinating structure for member states.

On 21 May 2003, the Commission adopted a Company Law Action Plan to implement the Winter report which dealt with corporate governance, capital maintenance, groups and pyramids, corporate restructuring, the European Company Statute, cooperatives and other forms of enterprises. In September 2004, a strategy was put forward to combine the action plan and the FSAP measures to promote corporate governance and prevent malpractice.

The Plan also contains proposals to amend the 4th and 8th company law directives to:

  • provide for disclosure of off-balance-sheet transactions and related party transactions;
  • compel all EU listed companies to produce a corporate governance statement explaining their internal checks and
  • impose a collective duty on board members to publish financial statements.

Corporate Governance Forum

One of the measures outlined in the action plan, the forum was set up in Oct 2004. Made up of senior member state experts, its aim is to advise the Commission on how to achieve convergence of national corporate governance codes. (For links to the codes of all the member states see ECGI site). At its first meeting on 20 January 2005, the forum identified as priorities: the role of shareholders, internal company control and the independence of directors.

European Company Statute/Societas Europae (SE)

SEs became available for use from October 2004, following a 2001 Regulation, but member states have been slow to implement it.  By using the SE, businesses operating in several member states can establish themselves as a single company instead of having to follow different rules for each country in which they have subsidiaries. They are only suitable for large companies. Disagreement on employee participation, which dogged the proposal for 30 years, was finally overcome via the introduction of special negotiating panels. 

European Private Company

A European private company (EPC) would be, confusingly, a similar entity to SEs (above) but one appropriate for SMEs.  There are proposals for EPCs in the Commission's company law action plan and a study is being carried out, the results of which are expected late 2005.

Directors: remuneration and independence

Following consultation, the Commission issued two recommendations dealing with the relationship between directors and shareholders. Recommendations give advice to member states on how national legislation should be formulated, but are not binding. 

  • Remuneration: company policy on remuneration and details of individual salary levels should be disclosed and discussed at shareholder meetings. Payment in shares should be subject to prior AGM (annual general meeting) approval.
  • Independence: should be ensured through the inclusion of non-executive directors on company boards. These would be people with no business or family relationship with the company who could act as an independent check on board decisions.

Responsibilities of Board – Accounting

Part of the 2003 action plan was four revisions of accounting directives to the effect that:

  • board members of listed companies to be responsible to the company for financial statements;
  • requirements for disclosure of transactions with family members etc, which apply to listed companies, to be extended to unlisted companies for large deals;
  • all companies to disclose arrangements made "off balance sheet" e.g. with off-shore companies;
  • all listed companies to provide an annual "governance statement" showing they are complying with corporate governance rules.

Cross-border mergers

First put forward in 1984, initial proposals for a directive on cross-border mergers could not get past disagreement on employee participation and the proposal was withdrawn. The new proposals put forward in 2003 and agreed by Council in 2004, followed the same principles on employee participation as the European Company Statute. The new proposal allows, as far as possible, each company to follow its own member state rules. The Commission is examining how to remove barriers to cross-border mergers specifically in the banking sector.

Financial Reporting

As with issues related to corporate governance, the EU seeks to implement:

  • International Accounting Standards (IAS): The EU, advised by representatives of the member states sitting on the Accounting Regulatory Committee, has adopted most of the IAS (see EURACTIV 9 Dec 2004). However, there is still controversy over IAS 39 in particular, and over whether the EU should have more influence on the IASB, the body which sets the standards (see EURACTIV 15 March 2005).
  • International Standards on Auditing (ISA): In March 2004, the Commission proposed a directive to combat fraud and malpractice through a new directive on statutory audit. 

Financial malpractice

The very basis of corporate governance is to avoid conditions developing within a company in which financial malpractice can go unnoticed. All the issues above, set out in the September 2004 Commission communication, go towards this goal. On enforcement, there are also a range of proposals outlined. A number of framework decisions are already in place regarding sanctions for financial fraud, freezing and confiscation of assets and mutual recognition. Other proposals are on mutual recognition of disqualification to be a director and possible recording of electronic payments to allow traceability of financial flows.

In his speech to the first meeting of the European Corporate Governance Forum in January 2005, Commissioner McCreevy ruled out a European code of conduct. Instead, work, through the forum, should be towards convergence of national rules. In relation to financial services, however, Mr McCreevy is keen to encourage cross-border consolidation in the banking sector.

Grant Kirkpatrick of the OECD, in a paper which outlines the revised 2004 OECD guidelines on corporate governance, stresses the evolving nature of corporate governance rules and the need for consultation. He highlights the importance of increasing the role of shareholders, removing obstacles to cross-border voting and avoiding conflicts of interest through disclosure.

The FEE, the European Accountants’ Federation, has broadly welcomed the proposals on disclosure requirements and clarification of board responsibilities but feels that disclosure should be confined to information which is "material", ie could influence the economic decisions of users. They also regret the fact that the EU has not proposed sanctions for directors who knowingly mislead auditors.

UNICE, representing businesses in Europe, feels that the Commission is in danger, with some of the proposed measures, of imposing excessive regulatory burdens on business. This would not be in the interests of efficiency and competitiveness.

The UK consumers organisation, Which, runs a campaign to improve corporate governance in the financial services sector beyond current requirements to include, amonst other things, rules on redress procedures and on restraint in lending.

The Centre for Financial Market Integrity, a think-tank of the Chartered Financial Analysts' Institute, takes the view that investors should be more involved in corporate governance issues. It has issued a manual giving outlines of issues such as independence of board members, shareholder rights and corporate codes of ethics from the investors point of view.  The aim is to encourage shareholders to become more active in lobbying for corporate governance standards.

  • The Commission has set up an advisory committee on corporate governance and company law to provide technical advice on legislation.
  • Changes to the 8th company law directive, compelling companies to have independent auditing committees were approved by Parliament in October 2005.
  • Agreement on changes to 4th and 7th company law directives (re corporate governance and financial reporting) expected by end 2005.
  • The Commission will issue a report on cross-border mergers in the banking sector in November 2005.



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