Until recently the requirement for companies in the United Kingdom to adopt a formal corporate governance code was restricted to companies with a premium listing on the London Stock Exchange. Since January 2019 this has been extended to large private companies and companies on the Alternative Investment Market (AIM).
Nonetheless, most companies are still unaffected. So, why should you be interested in corporate governance?
Good governance is about having the right people in the right roles, working together, and doing the right things to deliver value for shareholders as a whole over the medium to long term.
Corporate governance is concerned with establishing a framework of company processes and attitudes that add value to the business and help ensure its long-term continuity
Good corporate governance creates shareholder value by improving performance, whilst reducing or mitigating the risks that a company faces as it seeks to create sustainable growth.
All limited companies are subject to a corporate governance code; it is their Articles of Association. In addition, they are subject to the Companies Act 2006.
These determine and constrain the behaviour of boards.
As companies grow, their needs evolve and it is wise to create process and practice to match. For example, when:
- Shares are issued
- Entrepreneur needs a management team
- Expansion of shareholder base
- Separation of board and management
- Growth brings complexity
- External funding required
- Appointment of non-executive directors
- Government/blue chip contracts sought
What companies should do as they grow and evolve
A shareholder agreement defines the rights, rewards and expectations of the shareholders, and is a sensible step as soon as more than one shareholder is involved. In particular, it should cover sale and purchase of shares.
It is more flexible than the Articles; it can be tailored to particular needs and changed easily by agreement. Such agreements are valuable in clarifying relationships but are confidential and may be disputed when circumstances change.
Consequently, over time, shareholders should seek to move away from shareholder agreements as a means of safeguarding their essential interests.
Good governance creates shareholder value by improving performance, whilst reducing or mitigating the risks that a company faces as it seeks to create sustainable growth over the medium to long term.
The formalisation of board and governance processes should increase in tandem with the size and complexity of the company, and the extent of its reliance on external sources of finance.
Company law demands that the company is steered by a board in an objective manner with a sustainable purpose, and not as a means of promoting specific personal interests or enriching a specific constituency.
Best practice and the increasing interests of stakeholders will demand that this is formally defined. Governance codes published by the Financial Reporting Council (Wates) and the Quoted Companies Alliance are designed to reflect the needs of growing companies and may be adopted or used as an interim guide.
Many small and medium-sized companies may see this as imposing an unnecessary bureaucratic burden on their enterprise.
However, adoption of best practice improves performance and a reputation for good governance can improve trust and reduce the cost of capital.
Where can small businesses look for support and guidance?
Boards should choose accountants and lawyers who are able to provide business advice as well as fulfilling legal requirements. They may also be blessed with a wise and supportive bank manager. In addition, they should investigate services provided by organisations such as chambers of commerce, trade associations and government agencies.
Consultants, coaches and facilitators
A wide range of individuals and companies are able to provide specialist advice and guidance on strategy, good practice and organisation development. They are most appropriate for short-term projects and development.
It is lonely at the top and can be challenging for a growing company facing rapid change. A mentor for the chief can be both a sounding board and a source of wisdom and advice. Appointing a mentor can also be a useful introduction to the benefits of involving independent outsiders.
Independent non-executive directors
Carefully chosen non-executive directors can bring a range of benefits:
- Formal commitment to the long-term sustainability of the company
- Challenge and discipline; experience of formal board processes
- Specialist knowledge and experience
- Wisdom and maturity
- Counter-balance to executive directors and family interests
- Chairmanship of key committees – nomination, remuneration and audit
- Public confidence in the board
In addition, appointment of an appropriate chairman could raise the company’s profile.
Experienced directors who have chosen an independent path may be looking to create a portfolio career as non-executive directors of smaller companies and high-flying executives of larger companies may also be seeking such roles as part of their career progression. In addition, providers of external finance might wish to nominate directors – though these would not be deemed independent.
Appointment as a director carries significant risk and responsibilities; also, a significant time commitment in addition to attending board meetings. These will require a suitable level of reward.
During the early years of the company’s existence, owner-managers may be uncomfortable about inviting outsiders onto the board. They may not yet be ready to share sensitive information and decision-making powers with outsiders. Hence, the board often consists of their colleagues, family and friends.
However, this may result in the board lacking expertise in a number of key strategic areas, including strategy analysis, marketing, finance, human resources management, international trade. As a result, it might make sense to create an advisory board, which can fill the expertise gaps in these areas.
Advisory board members are not directors in the traditional sense; they do not serve a governance function or represent shareholders or stakeholders. They simply provide advice to the owner-manager about achieving current business goals.
At its most basic level, the advisory board is a sounding board for the owner-manager. At its best, the advisory board furnishes him/her with a group of experts who can discuss opportunities, challenges and next steps.
An advisory board should be regarded as an interim step. Over time, non-executives should be added to the main board, which is the key decision-making body of the company.
An advisory board could become a source of pre-qualified candidates for appointment to the board at a later stage. Similarly, membership of an advisory board can provide valuable experience and a useful addition to a CV for an executive or consultant seeking future board roles.
Here are some guidelines for creating an effective advisory board, based upon original suggestions by Jesse Torres:
Have a purpose – carefully consider your critical knowledge gaps so as to identify appropriate advisors.
Expect challenges – choose advisors with your best interests at heart who are prepared to be brutally honest in their feedback.
Leverage your network – Identify people within your network with the requisite skills and experience, or able to suggest referrals. Then carefully vet them to ensure they would be a good fit. They should not only have the technical knowledge but also a desire to help – plus good chemistry.
Write it down – Each advisor should initially complete non-disclosure and conflict of interest agreements. You should also spell out in writing the advisor’s role, responsibilities and other expectations, including an indication of how long and for what purpose the arrangement might last.
Recognise time demands – Advisory board members will not necessarily be contributing their valuable time for money. However, it is good form to provide meals, travel expenses and a fee.
Keep it intimate – You should seek out three to five advisors with the necessary skills to meet the current challenges. Over time the company’s business issues may change; then you can seek different advisors with the needed skills.
Provide support – Plan ahead as you would with a formal board. Provide relevant information in advance, together with formal agenda, meeting time and venue with flip chart, projector etc.
Maintain ongoing communication – Meetings might be only once a quarter, so ensure that members are provided with interim information such as monthly financial and other reports.
I had a client with whom I attended several two-day events. On the first day I would facilitate a strategy meeting and then on the second day attend the board meeting. On the first occasion my client complained that because the company had recently joined AIM he was required to appoint non-executive directors – and these would be expensive. I reassured him that they would be a good investment.
On the second occasion things were very different. The long-standing financial director had left and three non-executive directors had been appointed. He had been right, they were expensive; he was paying them £60k each.
The company provides specialist operations in Africa. These NEDs were top people in the field with exceptional experience, expertise and connections; and they proved their worth. The strategic thinking and the board meeting discussions were now at a significantly higher level. The board had been transformed and my client was delighted with the result.
Richard Winfield is Principal consultant at Brefi Group and the creator of The Directors’ Academy (www.thedirectorsacademy.com), firstname.lastname@example.org
Richard helps new directors and boards become more effective by clarifying goals, improving communication and applying good corporate governance.