Many private equity veterans will argue that good corporate governance is a hallmark of the private equity model, and anecdotes abound to demonstrate that a competent and motivated board can drive outperformance. However, directors taking a place on that board (including non-executives nominated by investors) had better take care: their responsibilities have increased considerably in recent years. While the main focus has been on public company boards, private company directors are also in the spotlight – as is clear, for example, from significant UK government proposals issued last month.
Following a public consultation launched in November 2016, the UK government now says that it wants to legislate to promote “strong and effective corporate governance” in the face of evidence that “a small minority of our companies are falling short of the high standard we expect”. No doubt, the collapse of the well-known retailer BHS – a privately-held company – provided some of that evidence.
Among the government’s concrete proposals, due for implementation in mid-2018, are enhanced narrative reporting requirements for large private companies (tentatively defined as those with over 1,000 employees), and a new voluntary set of corporate governance principles, with a requirement for larger companies (in this case, provisionally defined as those with over 2,000 employees) to report on compliance. It is welcome that the UK’s private equity and venture capital industry association, the BVCA, is among the organisations being asked to work on drafting those principles.
But any discussion of the responsibilities of boards and non-executive directors inevitably involves a philosophical question: what, exactly, is the job of a company director? That question has been perennially posed in the UK, and the answer given by British law-makers has (generally) been clear: their job is to protect shareholder interests. Originally, that answer was grounded in the view that shareholders owned companies. Now, particularly following a fundamental review that culminated in a re-write of the law in 2006, the UK approach is subtly different: it is to regard the pursuit of long-term shareholder value by accountable professional managers as good for society generally, because (it is said) that will build stronger and more successful companies for the benefit of all.
So, according to UK company law, non-executives (just like their management counterparts) are supposed to promote the (long-term) success of the company for the benefit of shareholders (or creditors, if the company is insolvent). In doing that, they are expected to think carefully about the interests of all stakeholders, because an “enlightened” board understands that long-term sustainable value is built by having a company that looks after its customers, employees, regulators and the like.
The UK’s model is not without its critics, many of whom argue that directors ought to have a clearer (and more easily enforceable) duty to wider stakeholders, particularly employees. Part of the answer to those critics is, of course, that non-executives are already regarded as guardians of probity in another sense: there is no doubt that criminal and civil liability imposed on a company for a wide range of misconduct – including bribery, anti-competitive behaviour, and breaches of health and safety law – can fall upon individual directors who have been less than diligent in their role. But it is true that the more nebulous company law obligation to look after stakeholders has very few teeth in practice, and there is little hard evidence that it affects behaviour.
Aware of those criticisms, but apparently determined to maintain the law’s current philosophical focus on shareholder value, these new proposals aim to improve the board’s awareness of – and public reporting on – stakeholder engagement in the company’s decision-making processes, especially as regards the workforce. And although workers will not get a right to a board seat, large companies will have to find a way to demonstrate that employees’ views are being heard in the boardroom, and that their interests are being taken into account.
Many will worry that the changes will increase box-ticking bureaucracy, and related advisory fees, without having any meaningful impact on behaviour. But – as the private equity sector knows well – there very clearly are best practices in governance, and they can create value. The key question is whether this formal guidance can spread those best practices a little wider. If it can, everyone – shareholders and stakeholders alike – will gain.