OECD Principles on Corporate Governance: Confidence-building must continue across a wider risk spectrum

The OECD Principles of Corporate Governance are among the best known and most useful among the policy statements of the OECD. They are addressed to policy makers: some of them have been laid down in legal rules and are fully binding. However, in many Member States the familiarity with the OECD Principles could be improved. Other Principles are to be included in the companies’ corporate governance codes, while some remain in the status of unwritten standards. In general the Principles deal with most prominent corporate governance issues and indicate a convincing way forward. The present blog paper focuses on the issues where the Principles could usefully be complemented by issues which came forward more recently, or can be considered lacunae in their present presentation.

The Principles are adressed to private companies traded on public markets, but are equally of importance for the many unlisted companies, and even other bodies – such as the state owned economic enterprises which exercise central functions in our societies, e.g. the railways, or the hospitals. The corporate governance statement is a specific section of the management report and will be subject to external review by the auditor.

Legal v voluntary standards

The Principles address three functions in private companies; management function, financial function, and broader economic, environmental and societal interest. The way these functions are organised and exercised is a matter for national systems. In most western economic systems, the essential features of the management and the financial functions are dealt with in the legal or regulatory system. A significant part of the OECD principles have been transposed in national legal requirements – e.g. structure of the decision making bodies, majority rules - , and references are often made to the Principles. But further advances are possible leading to higher predictability of the applicable legal regime, more similar national translation, and facilitating mobility of companies. It would be useful to open a dialogue with the EU Commission on broadening the scope of the governance provisions, especially those which might limit mobility of companies.

The governance instruments serve a complementary role, leaving wide discretion to national preferences and traditions. The choice between binding legal requirements and more flexible, often self-regulatory instruments allows for great diversity in solutions, but may lead to less effectiveness, and even to some regulatory competition or arbitrage. It would be commendable to undertake a comparative analysis to determine which subjects can more effectively be laid down in formal regulation – preferably uniform in many jurisdictions- contributing to harmonisation and equal treatment. The International Financial Reporting Standards (IFRS) is a model contributing to effective equal competition on a multinational basis. It allows accounting statements in many jurisdictions to be considered equally reliable.

A core function of the Principles and other similar instruments consists of creating confidence in the companies’ actions, strengthening their reputation, and improving their relations with stakeholders and customers. This confidence building is related to the safety of the production or operational procedures, and the absence of unexpected incidents undermining the stakeholders’ and customers’ confidence. Production chains have had to be stopped due to defects in the products: examples of these have been numerous[1]. Better surveillance and more active risk management aimed at the avoidance of production disturbances may usefully be considered.

Structuring risk management

The absence of advanced risk or quality control processes is often initiated by an adequate follow-up of the applicable standards. Even larger companies do not always have adequate instruments to monitor the deficient production or intense risk processes. This can be noticed in the food industry, but also in the production of electronic devices, or even airplanes. This issue can often be analysed as a component of the companies’ risk surveillance processes.

Company disclosures and confidence building

Companies should include the corporate governance statement in a specific section of their management report, to be subject to the auditor’s ‘fair and true view” basis for the public’s confidence. No separate disclosures are mandated for data of controlled entities which the auditors will separately review as part of the consolidated accounts. In cases of insolvency, or similar cases of lack of trust, it often appears that the reliability of these data deserved a caveat which was not eliminated by the auditor’s analysis and verifications. Further strengthening the position of the auditors, and public interest oversight, but also of the audit framework would be welcome.

Sustainability and resilience

In line with recent recommendations, the Principles add an additional line of action dealing with sustainability and resilience, mainly dealing with climate risk, human rights, children rights, animal protection and more generally environmental risks. Other classes of risks should not be forgotten, such as impact of subcontractors, or in the value chain, or industrial risks. Here too, the disclosure approach is predominant, although implying risk reduction and mitigation. In some cases of massive threats, hard law rules would be preferable. But companies should organise their internal vigilance, by installing an expert risk committee, including tracing illegal or unethical company behaviour, or avoiding intense risk positions.

To conclude, although in some fields, some refinement of the tools may be advised, the adoption by the OECD of the Principles will be a welcome improvement.

By Eddy Wymeersch, chairman of the Public Interest Oversight Board in Madrid (PIOB), deputy president of Euroclear SA and independent director of the Association for the Financial markets in Europe (AFME). He is a member of the Senate of the European Law Institute (ELI), member of the European Company Experts group (ECLE) and of the European Banking Institute. He is also an ECGI Founder and Fellow.

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