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EC offers guidance on board diversity

While the European Commission (EC) is looking for responses to the question of how corporate governance can be made more effective throughout member states, the European Union’s (EU) executive body has also made recommendations that boards could consider ahead of any future reform.

The EC green paper focuses on how the diversity and functioning of boards of directors, shareholder engagement, and the monitoring and enforcement of existing national corporate governance codes should be improved.

For example, board diversity is still relatively poor in most companies, despite many corporate governance reviews consistently highlighting the problem. Companies interviewed by the EC have acknowledged the importance of identifying complementary profiles in selecting board members, so their experience and skills meet the needs of the business. But such assessment is not general practice.

As a result, some frightening statistics emerge: 48 percent of European boards have no director with a sales or marketing profile and 37 percent of audit committees do not include a current or former chief financial officer.

The EC also found that nearly three-quarters (71 percent) of board directors of Europe’s largest companies are of the same nationality as the company they head, despite the fact that these businesses operate overseas and are hoping to expand into developing markets.

The number of female executives is low, with women taking just 12 percent of boardroom jobs. The EC believes companies need to think more widely about which people could offer greater challenge and broader experience in the boardroom.

Companies are also warned about how they consider candidates for non-executive roles. The EC suggests companies should not appoint non-executives who already have many directorships as they might be unable to devote sufficient time to carrying out their duties effectively.

To address this, the EC recommends companies use recruitment policies that identify the skills needed by the board to help increase its ability to monitor the company. It also suggests that the use of an external facilitator could improve board evaluations, by adding objective perspective and sharing best practices.

Improving shareholder engagement

Investor short-termism is another issue the EC wants companies to confront. In its 2010 green paper, the EC found companies had not sought to improve shareholder engagement because of the perceived cost, difficulty of valuing the return and the uncertainty of the outcome. That will need to change: according to EU figures, turnover on the major equity exchanges is at 150 percent per year of aggregate market capitalisation, which implies the average holding period is just eight months.

Corporate disclosure across the EU can also be mixed, as companies reveal only what they have done, not what they have declined or failed to follow. The EC found that, in more than 60 percent of cases in which companies chose not to apply recommendations, they did not provide sufficient explanation.

As a result, the EC recommends that companies follow the example of Sweden’s code, which provides that “in its corporate governance report, the company is to state clearly which Code rules it has not complied with, explain the reasons for each case of non-compliance and describe the solution it has adopted instead”.

 

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