Governance and SMEs

MAX HARNDEN, commercial partner at Gotelee Solicitors, explains how corporate governance guidelines now apply to unlisted companies

MUCH has been written about the Combined Code on Corporate Governance for companies listed on the UK stock exchange.

However, there was no set of codified principles and guidance for unlisted companies in the UK, largely small to medium enterprises which contribute more than 30% of our gross domestic product.

In November 2010, the governance of unlisted companies entered a new era with the Institute of Directors’ publication of The Corporate Governance Guidance and Principles for unlisted companies in the UK. Based on guidance first published by the European Confederation of Directors Associations’, it was adapted for the UK business environment by the IoD.

A voluntary code, the document provides practical guidance and a “roadmap for family owners or founder-entrepreneurs as they plan the development of their companies over the corporate life cycle”.

The introduction of corporate governance principles is designed to facilitate effective distribution of power among the board, management and other shareholders. It bolsters the idea that the company is not an extension of the personal property of the owner. Fourteen principles of governance are presented in the publication and take account of openness, size, complexity and age of the enterprise. They set out to help ensure the long term continuity and success of SMEs by sound business practice and controls.

Public demand for accountability and transparency has grown in the wake of the recent financial crisis. Reliance on external sources of finance will require implementation of a more explicit governance framework as financiers seek assurance that their investment will be well managed. Implementing the governance principles is voluntary, but will clearly be viewed positively by investors and banks when it comes to raising capital to finance expansion and growth.

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A key recommendation from the guidance is for all decision making to be subject to some kind of third party scrutiny including the appointment of independent external directors to the board.

Given that a significant proportion of unlisted enterprises are owned and controlled by single individuals or a family, it is may be that they will not want the pain of eroding their own management style, particularly where they are successful. However, the most capable individuals can make mistakes or fail to analyse issues objectively, so the corporate governance principles have a part to play.

Such a cultural change will probably not see an immediate take up, particularly as the principles and guidance are voluntary, but there are potential gains and owners of unlisted companies should consider the benefits of improving corporate governance.