With reference to the quotation provided above, explain what is meant by ‘comply or explain’ and discuss the advantages and disadvantages of principles based approaches to corporate governance compared to rules based systems

The UK corporate governance code operates on the basis of the comply or explain principle and is regularly reviewed in companies and investor. The comply-or-explain principle is recognised at the European level as an important tool for delivering good corporate governance but the Green Paper raises questions about its effectiveness. We believe that the flexibility that it offers is positive for economic activity. Particular care must be taken at a time when many EU countries badly need to restart growth not to replace it or water it down with arrangements which might stifle entrepreneurialism.

First, the frequent assertion that comply-or-explain is self-regulation is incorrect. Indeed a comply-or-explain approach depends on regulation to make it effective. There must be a formal requirement for transparency, so that entities covered by the regime are obliged to state publicly whether they comply with relevant provisions, explain publicly when they do not and demonstrate how the resulting governance arrangements meet the relevant principle. Those to whom the explanation is directed need some form of sanction in cases where the explanation is unacceptable. In the case of shareholders the sanction ultimately is their legal right to dismiss boards. The comply-or-explain approach thus uses regulation to enhance accountability. It does not allow companies to regulate