Setting a Fox to Keep the Geese: Does the comply-or-explain principle work?

The German Corporate Governance Code works according to the comply-or-explain principle. One of its recommendations was to publish the remuneration of the members of the executive board on an individual basis. We examine the characteristics of the firms that comply with the code requirement. Our results indicate that firms that pay higher average remunerations to their management board members are less likely to comply, whereas firms with higher Tobin's Q are more likely to comply. We also document a non-monotonic relation between ownership concentration and the probability of compliance that is consistent with standard corporate governance arguments. Due to the fact that the number of firms complying with the disclosure requirement was low, a new law was passed that mandates disclosure unless the shareholders' meeting (with a 75% majority) decides otherwise. We find that this 'loophole' in the new legislation is exploited by smaller firms, firms with comparatively high levels of executive remuneration, and firms with concentrated ownership. We discuss the implications of our results for the effectiveness of the comply-or-explain regulation.