The idea behind corporate governance is simple – well run companies produce better results. Much of the emphasis has been placed on the best practice of managing formal external relationships, establishing transparency and emphasising legal, timely and trustworthy information. Research suggests that those companies that have better corporate governance are more valued than others with less sophisticated systems, of obvious importance in exit planning. Studies also show that those enterprises with good corporate governance are far less likely to be involved in survival and recovery planning.
Other research suggests that there is a strong link between good corporate governance and:
lower levels of labour turnover;
improved levels of labour productivity;
improved terms and conditions from suppliers;
improvements in the ability to hold onto customers (the customer life value or CLV) and suppliers;
an improved ability to carry out more complex strategies;
greater responsiveness to market change and speed of action;
and lowered finance costs.
There is also some anecdotal data that suggests a link between improved corporate governance and rates of growth.
All these improvements in performance suggest that the enterprise should be continually reviewing its corporate governance as part of its planning system within its business plan outline, with at least each annual planning cycle requiring management to revisit corporate governance and match it to the demands of the market and the size of the enterprise.
Corporate governance needs to change with the demands of the enterprise
Corporate governance can be considered as the glue that holds the enterprise together, both internally and externally. For the micro enterprise the demands are far less onerous that for the large multinational, suggesting that a step by step development of a corporate governance programme will be the sensible approach, with each phase building into a more complex and demanding framework as the enterprise grows.
Good corporate governance is more than pencil whipping.
There is a temptation to consider the completion of necessary paperwork on time and to specification as meeting all the demands of corporate governance. It should be seen as including formal and informal mechanisms dealing with internal and external relationships to ensure improved performance and team cohesion.
Implementation of the step by step development of corporate governance
Four stages can be identified each with their own central problem that corporate governance should be addressing:
The micro-enterprise with its central problem of control;
The small enterprise with its central problem of maintaining stakeholder relationships;
The medium enterprise with its central problem of encouraging and maintaining diversity;
Finally, the large enterprise with the problem of balancing central functions against the demands of decentralisation.
The corporate governance requirements for the micro enterprise
Advisors. Problems regularly arise for which the enterprise does not have the internal skills – selecting the right advisers for each stage of development will be a vital first stage in best practice – and one that will have to be regularly reviewed.
Articles of Association/ Company Statutes. Defining what the enterprise can do is another vital first stage in development – one that tells management what is permitted and what is not. Standard terms and conditions exist which function for the early stage organisation – but which again will need to be regularly reviewed.
Single share class. The creation and maintenance of a single share class, with common voting and dividend rights is considered as an essential part of good corporate governance from the earliest stage of the enterprise.
Shareholders agreement. In small organisations, with a limited shareholder base, conflicts can easily arise. Documenting how shares can be transferred, what rights each shareholder has, and how they are valued, is important in reducing the potential impact of disputes. This shareholder agreement will no longer be valid once the shares are more widely traded.
Record keeping. Best practice insists that the enterprise should maintain comprehensive records, both financial and non-financial, and that this should start at the earliest possible moment in the development of the enterprise.
Conservative accounting. Many of the problems of “public” corporate governance develop as a result of “creative” accounting approaches. Establishing conservative accounting guidelines (including those based on accounting assumptions) at an early stage and maintaining them throughout the development of the enterprise will control this tendency.
Business plan. Controlling rather than reacting to the environment is a sign of good corporate governance, and one that demands a formal planning procedure incorporating effective action planning and implementation. This will become more detailed and comprehensive as the business grows, with the incorporation of benchmarks and key performance indicators.
Investment appraisal. Within the business plan, the enterprise needs to start to create a formal system for making investment choices. This will involve a standard procedure for review including a company-wide hurdle rate, and board level approval for all major investments with all directors signing off on expenditure.
Planning cycle. The creation of a formal planning cycle incorporating a planning period, quarterly updates and monthly business monitoring will be a vital part of the continuing development of control within the enterprise.
Registration/ certification. Ensuring that the business and product/ service has been correctly registered will be a continuing requirement of corporate governance. These requirements include intellectual property, tax, data protection. There will be a continuing requirement to ensure that regulatory standards are maintained, which will demand the introduction of standard operating procedures to provide an audit trail.
Contracts of employment. Most legal systems demand that the employee is provided with a contract of employment which sets out clearly the terms and conditions of work. Best practice suggests that this includes a clear job description, which defines authority and responsibility, places the individual within the enterprise organogram, and is accompanied by a code of conduct, discipline and grievance procedure and pension rights. For directors, these contracts need to be of limited duration (ideally annual).
Code of conduct. Every code of conduct can of course be ignored. Nevertheless it is useful in defining what the organisation sees as acceptable and non- acceptable behaviour, which individuals can risk breaching – but which create clear barrier conditions. Topics include: absenteeism, alcohol, appearance, bribery, communication (external, internal), company vehicles, complaints, conflict of interest, credit management, data protection, discrimination, dispute management, dress code, drugs, expenditure powers, external promotion/PR material, entertainment, forgery, fraud, gambling, gifts, harassment, health and safety, humour, insider trading, intellectual property ownership, maintenance, monopolistic behaviour, misuse of business assets, moonlighting, nepotism, overtime, physical contact, politics, private use of business computers/ telephones/ photocopiers, privacy, public service during working hours, purchasing policy, religion, security, smoking, timekeeping, travel expenses, truthfulness, violence, visitors, waste management, whistleblowing.
Complaints policy. The need for a formal complaints policy for all stakeholders will be required early in enterprise development so that all stakeholders can receive speedy and effective treatment when problems exist.
Discipline and grievance procedure. Again a legal requirement in many countries. The discipline and grievance procedure sets out how disputes will be handled and what the employee and employer can expect, and will be part of the overall complaints policy.
Pensions policy. Different countries differ on pension provision within the enterprise and how it should be managed, though it is best practice to make it clear to the employees how they will be affected.
Health and Safety. An increasingly important control over all organisations. Clearly establishing what the health and safety issues are, and how they are managed will again be a necessary early step in the creation of a comprehensive corporate governance environment.
Supplier and sales contracts. Formalising relationships with suppliers and buyers will be part of the essential business platform building which will move the enterprise from its starting position into a steadily larger organisation.
Creating timelines for legal reporting. Any enterprise needs to establish deadlines for the preparation of official documents, including sufficient time for review and re-working.
Customer satisfaction survey. Best practice requires any organisation to have an idea as to its strengths and weaknesses to ensure that problems are corrected, many of which will be organisational in nature, and require modifications to corporate governance.
Credit management. As the customer base expands, a formal methodology of identifying and managing credit risk will become more and more important.
Communication policy. Creating and maintaining effective communication with the main interest groups will maintain and improve the position of the enterprise. These interest groups will be employees, financial stakeholders, non-financial stakeholders each of which will require the creation of a different communication policy.
Contingency planning. Even for the smallest enterprise, contingency planning has value. It focuses attention on what can go wrong (which include many items of corporate governance); identifies how the problems can be minimised or entirely designed out; and revisits the information system to ensure that early detection is possible.
Additional corporate governance requirements for the small enterprise
Management team development. Decision making requires diversity and depth – improving the skills and abilities of the management team will be a priority for the growing enterprise leading to the creation of knowledge centres which can drive competitive advantage through the maintenance and development of core competences.
Standard operating procedures. With the increased size of the organisation, it becomes important to both standardise procedures in many areas, but also to incorporate experience and to provide training, all of which are part of the creation of standard operating procedures.
Regular formal reviews. As the number and importance of decisions grows, the formalisation of the reporting system needs to increase. To improve control, management meetings need to include formal agenda, supporting documentation, formal voting and records of the meeting decisions. Other formal reviews should include both a planning effectiveness review, and a regular analysis of legacy issues.
Internal and external audit. With increasing complexity of control, an internal audit system which reviews procedures will become a steadily more important element in corporate governance and control, especially to identify potential areas for cost cutting and to reduce the potential for fraud.
Legal review. As part of the audit procedures, small companies should start to regularly review their legal agreements – such as sales and purchase contracts, covenants, leases, contracts of employment, intellectual property rights, to ensure that the enterprise understands its legal obligations and controls them to the greatest possible extent.
Impact analysis. In common with the development of a formal reporting system, a structured approach to the analysis of market driver change and the implications for the enterprise will clearly identify changes that senior managers need to take.
Security plan. As the operation becomes more complex, clear authority and responsibility needs to be established for the creation and maintenance of a security plan, which will have many of the characteristics of contingency planning.
Purchasing policy. As turnover grows, the need to formalise rules and approaches to purchasing will become more and more important – both to improve quality and profitability, but also as a major element in reducing potential corporate malfeasance.
Joint planning. Partnering with major suppliers and customers will improve long term performance and reduce instability. The use of Pareto’s Law will ensure a focus on those that are vital for the enterprise.
Team building for major projects. With the complexity of tasks and the level of investment rising in the more important projects, a move towards team based systems will generate better returns than the reliance on single individuals to effectively complete projects on time, budget and specification.
Recruitment. Standardising recruitment policy will both improve the quality of the recruits and their diversity, but will be central to moving the micro enterprise onto a new level. This recruitment policy will also include the recruitment criteria for senior management.
Quality circles. As the organisation grows, the need for internal discussion of operating procedures becomes more and more important, as does the need to ensure a growing quality of performance as part of building competitive advantage. Incorporating quality circles as part of an integrated approach to quality performs this function as well as improving internal communication.
Manpower planning. With increased numbers of employees, a formal manpower planning system will provide greater impetus to corporate development, lower labour turnover and generate a greater employee involvement in enterprise development.
Appraisal. Accompanying a formal manpower planning system, the introduction of a structured appraisal system will help to identify the strategic direction of the organisation in building on existing staff strengths.
PDP. The introduction of an appraisal system should be linked to the creation of personal development plans for key staff, as a further component in building employee strengths for future development, including succession planning.
Bonus systems. With the increasing number of employees, the development of a formal bonus system will become more and more important. Best practice in bonus system is well established: it should be broadly based, transparent in application, based on factors that groups or individuals can impact, include a significant element of stock and deferred compensation payment for senior staff, and is based on a basket of key performance indicators (ideally the additive balanced scorecard for senior staff and operational components for divisional employees).
Fringe benefits. Research has shown that the policy towards fringe benefits will have a substantial effect on labour retention.
Dividend policy. Research suggests that those enterprises that introduce a progressive dividend policy are more highly valued than those that do not, as it provides a regular communication channel with the investing stakeholders.
Exit interview. It is essential that management have a clear idea of how the enterprise is perceived by the workforce; the introduction of an exit interview provides one of the most detailed reviews possible.
Additional corporate governance requirements for the medium enterprise
Separation of powers. With the increasing workload of the growing company – strategic, operational, personnel considerations and stakeholder relationships, the separation of powers between a chief executive and a chairman is both important to provide a check and balance within the organisation, but also to improve operational performance.
Directors trained in corporate requirements. With the growing complexity of the business, it becomes more important that the board of directors has a clear understanding of corporate governance and the actions that need to be taken to ensure best practice. Most directors lack this expertise and require relevant training. Such training is essential for the creation of the administration knowledge centre.
Contract rotation. Limits on the length of time advisors are retained, board members appointed, and non-executive officers retained will improve diversity and good governance. Best practice suggests a maximum of two four year contracts.
Compliance officer. As the number of stakeholders increase the appointment of a corporate governance compliance officer will become more and more important, with regular (at least six monthly) reports on the quality of corporate governance.
Compliance software. Introducing a formal logging system based on software at the same time as the choice of a compliance officer will further improve procedures and provide an audit trail for management.
Auditors comment on corporate governance. The introduction of additional external checks on corporate governance will assist the work of the compliance officer in identifying problems and threats.
Industrial relations policy. Formalising staff relations into a standard and transparent industrial relations policy with regular and established review meetings will improve organisational performance and reduce the potential for damaging conflict.
Diversity index. With the growing size of the enterprise the need to ensure that personnel balances are maintained will become more and more important.
Ethics. At some stage in the evolution of the enterprise there will be a need for a review process to ensure that minimum ethical standards have been established and are adequately maintained.
Independent appeals system. As the enterprise grows, the gap between senior management and operations staff widens. There is a universal tendency to support management against staff in all disputes – a dangerous policy. Introducing an independent appeals system which operates outside the enterprise will greatly enhance the standing of any appeals process.
Independent whistleblower system. Whistleblowing is damaging in any enterprise to the individual involved, but is important for senior management to be aware of potentially threatening problems. Creating an independent whistleblower system (which can operate alongside the appeals system) has many advantages in ensuring that issues are properly identified and analysed.
Environmental audit. Legislation on environmental management continues to strengthen, with the requirement for organisations to complete a comprehensive and regular environmental audit as part of their corporate governance.
Operating, financial review. The development of a formal reporting system for the operating financial review (OFR) is part of the legal reporting requirements for the medium sized enterprise.
Business model. A description of the business model provides investors with a clear understanding of the way in which the company perceives its positioning in the market – what customers it services and how it makes money. This is typically part of the operating, financial review.
Internal satisfaction survey. As enterprises expand, internal conflicts become more common. Creating a regular internal satisfaction survey will identify which departments cause conflicts.
Additional corporate governance requirements for the large enterprise
Simplest structure consistent with operational requirements. Complex structures produce opaque reporting and control. Enterprises should have a policy to reduce organizational complexities, and remove special units wherever possible, to ensure that ease of control is optimized and communication enhanced. Following the rule of eight, an understanding of the Dunbar number in the creation and maintenance of strategic business units and the use of recruitment appraisal techniques, will all make complex structures less likely and improve speed and quality of decision making.
Minority stake policy. Minority stakes create management complexity diverting attention away from core business activities. Establishing a policy to avoid minority stakes and focusing on key operational segments, customers and products will enhance operational performance.
Common reporting language. As the enterprise decentralises, the importance of a common reporting language will grow. Incorporating this into standard operating procedures will ensure that universal problem solving approaches will develop and that the influence of cultural barriers will decline.
Profit centre emphasis on corporate governance. Think global, but act local. Maintaining responsibility for the majority of corporate governance activity at the local level will both improve the responsiveness of the entire organisation but ensure that key activities are modified for local legal and stakeholder requirements, while meeting overall corporate guidelines.
Succession planning. With the devolution of power into profit centres, an emphasis on succession planning and corporate governance training will be required to create the pool of staff able to manage the increasingly complex enterprise relationships.
Employee satisfaction survey. Even with high quality management emphasising management by walking about (MBWA) rather than management by memo (MBM), a comprehensive understanding of employee requirements and attitudes will become more and more difficult to realise unless some form of sampling such as employee satisfaction surveys, supported by exit interviews is conducted.
Auditor rotation and removal from non-audit work. Conflicts of interest with external advisors need to be minimised to improve the objectivity of the advice offered.
Major project management. A similar problem of conflict of interest can be reduced with other suppliers by separating the design, execution and control phases of major projects and ensuring that they are managed by separate enterprises.
Specialist board committees. Best practice suggests that certain functions of the company should be transferred to committees with a substantial element of non-executive (external) directors – especially compensation and audit. This will only work if the non-executive directors are truly independent.
Supervisory board. Integrating a range of stakeholders into a supervisory board provides another check and balance for the large enterprise, and is becoming part of future corporate legislation in many countries.
Risk management. A formal system of risk management identifying all the key components and how the company should deal with them will become essential for the large enterprise.
Public attitude survey. The larger enterprise will make a steadily greater and greater impact on the communities, local, national and international. Appreciating the attitudes of these stakeholders will be important to understand the political dynamics that will influence future planning.
Share buy backs. Research suggests that share buy backs pose problems for corporate governance as they encourage poor cash management, and a failure to systematically follow investment appraisal guidelines requiring share buy backs to meet hurdle level returns.
Corporate governance achievement level
The continued increase in corporate governance requirements with the growth of the enterprise allows for the creation of a key performance indicator, the corporate governance achievement level, which enables the enterprise to measure the effectiveness of its corporate governance as part of an enterprise balanced scorecard.
Corporate governance within the planning platform
The planning platform developed by Ibis creates knowledge centres within the enterprise which are responsible for the planning, information, and control of their areas of expertise. The administration knowledge centre, responsible for corporate governance is supported by the corporate governance standard operating procedure which incorporates a whole range of checklists and action plans to build and maintain best practice within the enterprise.
E-mail Ibis for a no-obligation review of your current approach to planning.