4.2.9 Summary question: What are the developments after having the comply or explain principle in place for several years?

Generally the UK is acknowledged world leader in corporate governance reform (Solomon 2007, p. 49). The corporate governance debate and reform started long before they did in other countries. The UK debate was boosted by the growing interest within the boardroom for governance issues, some UK scandals and the economic decline in the early 1990s (Solomon 2007, p. 49) (Voogsgeerd 2006, p. 36). The publication of the Cadbury Report in 1992 was the first attempt to formalise the UK corporate governance best practices (Solomon 2007, p. 50) (Voogsgeerd 2006, p. 35). The Cadbury Report was followed by many other UK codes, sometimes on specific topics, but the most recent code is the UK Corporate Governance Code 2010.

The UK definition of corporate governance can be described as the system by which companies are directed and controlled by the boards of directors and shareholders with as purpose of facilitating effective, entrepreneurial and prudent management that can deliver the long-term success of the company. Hence, the board and shareholders play a central role in UK corporate governance. The main features of UK corporate governance and more specifically of its code are a focus on the one-tier board and more specifically independent non-executive directors. The aim is to achieve a dialogue with shareholders and the traditional shareholder approach has changed into a 'stewardship model of corporate governance': still prioritising the shareholders but taking other interests into account. Part of the UK's culture is the preference for self-regulation above legislation, of which the UK 2010 Code and comply or explain principle are a direct result. The fact that the UK is a common law country and scores high on individualism can i.a. be seen in the strong shareholder protection.

Since the beginning the comply or explain principle has been the trademark of UK corporate governance and although no specific definition is provided in the code, a separate paragraph and schedule explain its working. The UK 2010 Code consists of principles (main and supporting) and provisions. The main principles have to be complied with and with regard to the code provisions the comply or explain principle is applicable (UK Code 2010, p. 4). Over the years the UK's national corporate governance code has increased in size and detailed nature and extensive attention is paid to the comply or explain principle and its disclosure. Compared to other national corporate governance codes it is not that extensive and detailed (see the final section of chapter 4), but still functions as an example.

Since the Cadbury Report, UK corporate governance codes already have a legal embedding, but a strong emphasis on self-regulation has existed as well. With respect to the contents of the code, the UK refuses to legislate the norms of the code since no consensus exists regarding some definitions (Voogsgeerd 2006, p. 40). Arrangement B applies to the UK (strengthened self-regulation supported by non-statutory norms) (Voogsgeerd 2006, p. 69): for reporting periods ending after 30 June 1993 the London Stock Exchange already required listed companies to include a corporate governance statement in their annual reports and accounts, thus applying the comply or explain principle (Weil, Gotshal & Manges 2002, p. 226) (Klijnsmit 2001, p. 383). With respect to the UK 2010 Code the comply or explain principle is embedded in the FSA Disclosure and Transparency Rules sub-chapter 7.2 (for issuers whose securities are admitted to trading on a regulated market) and FSA Listing Rules 9.8.6 R and 9.8.7A R (for issuers of Premium listed equity shares, also being foreign companies listed in the UK with a Premium Listing). Taking the history of self-regulation in the UK into account, modification of the FSA Listing Rules to implement the Directive 2006/46/EC was a logical step to take, whilst most countries implement the directive in legislation, meaning a legal embedding of the code and the comply or explain principle in hard legislation. Based on article 5 of Directive 2006/46/EC Member States shall bring into force the laws, regulations and administrative provisions necessary to comply with this directive by 5 September 2008 at the latest. Hence, implementation in listing rules is perhaps less usual, but nevertheless allowed.

Taking the tradition of self-regulation and thus self-monitoring into account, it is in the first place up to the shareholders to supervise material and formal code compliance. This monitoring is mainly carried out during the shareholders' meeting. This takes time and effort; hence shareholders only act when a breach is serious and the company is performing badly (Charkman 2005, p. 303). Therefore the FSA also supervises code compliance and can impose fines and file complaints that eventually can lead to delisting (Voogsgeerd 2006, p. 46) (Charkman 2005, p. 303). Nevertheless the FSA prefers where possible not to use its powers which seems to work since compliance rates are high. Since the beginning of the corporate governance discussion in the UK, the external auditor can already be considered a supervisor of formal code compliance. Listing Rule 9.8.10 R nowadays states that before the annual report is published, a listed company must ensure that the auditor reviews the parts of the statement required by Listing Rule 9.8.6 R (6) that relate to financial reporting (provision C.1.1), internal control (provisions C.2.1) and the audit committee and auditors (provisions C.3.1 to C.3.7). Although no supervisory tasks apply, it is of interest to mention the FRC due to its code consultations and its leading role in the public debate on corporate governance.

Over the years many compliance studies have been performed by many different organisations, researchers and consultants. Although these studies are unfortunately not comparable, the studies conducted show several resemblances. Having a corporate governance statement in which the code compliance is discussed is generally accepted nowadays. The level of fully compliant companies has increased significantly over the years. Moreover, the overall number of deviations per company is very low. The code provisions most often not complied with involve the provisions on remuneration (committees), audit committees and the independence of non-executive directors. The history of the corporate governance debate in the UK is the longest within the EU, so few compliance issues are expected and have been detected in literature so far.

With respect to the optimum framework (see section 4.1.2) to come to a common understanding of the conditions for the principle to work best, the UK scores quite well although improvements remain possible.

Although code compliance in the UK is high, an annually conducted study on code compliance is preferable to keep a close eye on developments and necessary improvements such as the quality of the explanations in case of non-compliance. More guidance on a suitable lay-out of the statement (e.g. preferably reference to the provisions not complied with) and clarity on the board's accountability and liability for the corporate governance statements are other remaining points of improvement.

To conclude, the UK was and still is the front-runner in the corporate governance debate and developments. Having a common law system and market-based corporate governance approach with a focus on shareholders, other interests are taken into account as well. As it is tradition and because the market system is believed in, self-regulation and self-monitoring are considered major assets. Taking the high compliance rates and few compliance issues into account this indeed seems to work. Further remarkable features are the absence of an annual compliance study, the ability to have a clear and not too extensive code and the manner in which the Directive 2006/46/EC (by listing rules) is implemented. Below, the comparisons of the countries under review in the underlying study will elaborate further on the UK's front-runner position.