Home > Corporate Governance Theory, Trends in Corporate Governance > What to do with the “Comply or Explain” Principle?

What to do with the “Comply or Explain” Principle?

Most European Corporate Governance codes are based in such a principle, which provides what is usually called “soft law”, that is a set of recommendations firms should follow to adopt best CG practices. They explain why they don`t comply if this is the case. The UK CG code was a leader in this approach, followed for example in Spain, but also in Singapore, etc.

Nevertheless serious critics have emerged, regarding:

  • The (low) quality of explanations,
  • The absence of shareholders´ engagement in oversight activities,
  • The lack of oversight competencies on any regulatory body, as to the kind of explanations companies offer in their CG reports.

This set-up´s main value is its flexibility, so that any firm can adopt it whatever its industry, size, structure, etc.

These are the general considerations introduced by George Hadjikyprianou (Univ. Leicester) in his paper “The Principle of “Comply or Explain” Underpinning the UK Corporate Governance Regulation: Is There a Need for a Change?, published in May 2015, (1). He then analyzes the degree to which the Principle reaches its objectives.

Is the Principle working?

The Principle is based in the quality of the explanations justifying the separation from certain recommendations; this allows firms to have better CG structures than those recommended by codes, (as an adaptation to the particular firms` characteristics). Accordingly the market would assign a better (worse) price to the stock, if there are (not) compliance or good explanations. The author identifies two main shortcomings, that according to him are intertwined and strengthen each other:

  • Lack of shareholders engagement: they don`t pay attention to the explanations, because monitoring them has a cost and requires time; this is even more evident in countries where the shareholding base is disperse, (UK for instance). The author refers to a dangerous trend (2) by analysts and shareholders that would accept non compliance if performance is good, (even if it is well known that performance –it can even be fraudulent- is not a perfect indicator of a proper company functioning, (Enron, Pescanova, Volkswagen, etc). The “box-ticking approach” by institutional investors doesn`t help either. A partial correction was introduced with the “Stewardfship code” in 2010, also based in the Principle, but letting aside some major investors, (it only affects Institutional Investors).
  • Poor quality explanations for noncompliance: the author recovers Arcot and Bruno`s 2006 study (3) where they show that 26% of companies provided useless explanations while another 20% of companies didn`t even explain anything. And the problem persists in 2015.

What are the options to improve the CG result?

One of the alternatives is introducing a regulatory body that would assess compliance and explanations, and that should have a certain punitive capacity. The author outlines the problem that such a body would “force” companies to comply and abandon the explain option, while at the same time usurping the shareholders` role in monitoring compliance and explanations.

The author suggests a certain reform that would not be so aggressive while being effective under certain circumstances:

  1. A workable reform: a monitoring body could be introduced so that it monitors a web-based rating or CG quality assessment system by investors. Thus the role would remain among investors, and the body would manage the system and efficiently distribute information.
  2. Prerequisites for success: the website should be available for investors and companies; easy access and the eventual interaction will facilitate fair ratings within the system and a pressure for improvement, while keeping the flexibility. An standard of what a good quality explanation is should be drafted, so that companies and investors may have a clear reference.
  3. Advantages of this reform: the reform will reduce the cost and time needed for monitoring; thus, monitoring will be eased and enhanced by interaction among investors that would see an easy way to impose some discipline on boards and management; bad rated firms would be known to all, (reports by the body would be standard) and would have a pressure to ameliorate their CG standards.



  1. Hadjikyprianou, George C., The Principle of ‘Comply or Explain’ Underpinning the UK Corporate Governance Regulation: Is There a Need for a Change? (May 20, 2015). Available at SSRN: http://ssrn.com/abstract=2690687 or http://dx.doi.org/10.2139/ssrn.2690687
  2. April2015 Iain MacNeil and Xiao Li,‘Comply or Explain:Market Discipline and Non-Compliance With the Combined Code’(2006)http://onlinelibrary.wiley.com/doi/10.1111/j.1467-8683.2006.00524.x/abstract
  3. Arcot, Sridhar and Bruno, Valentina, In Letter but not in Spirit: An Analysis of Corporate Governance in the UK (May 2006). Available at SSRN: http://ssrn.com/abstract=819784 or http://dx.doi.org/10.2139/ssrn.819784



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