The Corporate Governance Centre at Insead has published a summary of the case made by Charlotte Valeur, Chair of the Institute of Directors, founder of Board Apprentice, and well-regarded corporate governance expert for why privately held companies cannot opt out of governance constraints.
The collapse of BHS, Monarch Airlines and British Steel show clearly that privately owned companies can and do have a sizeable impact on employees, suppliers, and creditors, Ms Valeur writes. Further, discussing Uber, she makes the crucial point that in rapidly growing companies, “company growth can rapidly outstrip governance capacity“.
While the Wates Principles to guide corporate governance in large private companies were published in late 2018, and became effective 1 January 2019, the challenge remains for smaller privately owned companies, which are not insignificant players in the UK economy. According to the Federation of Small Businesses:
- Small businesses accounted for 99.3% of all private sector businesses at the start of 2018 and 99.9% were small or medium-sized (SMEs).
- Total employment in SMEs was 16.3 million; 60% of all private sector employment in the UK.
- The combined annual turnover of SMEs was £2.0 trillion, 52% of all private sector turnover.
Governance failure at smaller private companies can be quite devastating too. They are likely to employ locally but may form part of the supply chain of larger businesses, so a failure may mean job losses at a local level but also create risks beyond their immediate geography.
Yet governance failure remains highly probable at smaller private companies.
Smaller companies are not always willing to have independent directors on their boards, often because the owner/ founder may not have the appetite for independent challenge and may see it as a distraction rather than a strategic advantage.
Equally smaller companies may find it hard to attract independent directors with the experience to drive good governance and build governance capacity. Good independent directors are in demand, and like to do their due diligence. The due diligence may be hampered by the privately owned nature of the business and create an impression of the company being a higher risk challenge that many may like.
Startups are sometimes able to address this challenge with the assistance of their investors who may be able to help recruit independent directors. But not all investor directors on boards of startups are keen on independent challenge either.
These challenges notwithstanding, absent the need to comply with any specific guidelines or to be publicly accountable, smaller companies can continue to operate without transparency. When the proverbial hits the fan, sometimes their customers and employees may be the last ones to find out.
Good governance cannot create a financially and socially sustainable business, but it can help shape such growth with transparency and accountability to all stakeholders.
There is no reason why the Wates Principles — encompassing purpose and leadership, board composition, board responsibilities, opportunity and risk, remuneration, and stakeholder relationships and engagement — cannot also apply to smaller private businesses — at least those who have employees and customers.
Stakeholders of small private businesses need that kind of governance.
(Disclaimer: These are my own views and do not reflect the views of the boards of JP Morgan US Smaller Co.s Investment Trust or Temple Bar Investment Trust or London Metropolitan University, where I serve as a non-exec director, nor of Ditto AI, where I am an exec director.)