The Wates Principles
The Wates Corporate Governance Principles, published by the UK Financial Reporting Council (FRC), could be the catalyst for a change in how privately-owned family businesses approach corporate governance.
Scene setting
All UK companies, other than those that are small, must publish a strategic report to inform shareholders about the business and help them assess how the directors have fulfilled their duty to promote the success of the company for the benefit of its members as a whole.
Larger private companies (those with more than 2,000 employees; or a turnover over £200 million and a balance sheet total over £2 billion) must also state the corporate governance arrangements applied by the company. This statement should do the following:
Identify which corporate governance code, if any, has been applied and how.
If the company has departed from the code it must set out the respects in which it did so, and the reasons.
If the company has not applied any corporate governance code, the statement must explain why that is the case and what arrangements for corporate governance were applied.
To help larger private companies with this reporting requirement, the FRC published the Wates Corporate Governance Principles for Large Private Companies (‘Wates Principles’) as a corporate governance code.
Wates Corporate Governance Principles for Large Private Companies 2018
The 6 Principles are high-level statements, each of which is accompanied by brief guidance on how it should be applied. The board should apply each Principle individually within the context of the company’s specific circumstances and then explain how their corporate governance policies and processes operate to achieve the desired outcome for each Principle.
Principle 1: Purpose and Leadership
An effective board develops and promotes the purpose of a company, and ensures that its values, strategy and culture align with that purpose.
Principle 2: Board Composition
Effective board composition requires an effective chair and a balance of skills, backgrounds, experience and knowledge, with individual directors having sufficient capacity to make a valuable contribution. The size of a board should be guided by the scale and complexity of the company.
Principle 3: Director Responsibilities
The board and individual directors should have a clear understanding of their accountability and responsibilities. The board’s policies and procedures should support effective decision-making and independent challenge.
Principle 4: Opportunity and Risk
A board should promote the long-term sustainable success of the company by identifying opportunities to create and preserve value and establishing oversight for the identification and mitigation of risks.
Principle 5: Remuneration
A board should promote executive remuneration structures aligned to the long-term sustainable success of a company, taking into account pay and conditions elsewhere in the company.
Principle 6: Stakeholder Relationships and Engagement
Directors should foster effective stakeholder relationships aligned to the company’s purpose. The board is responsible for overseeing meaningful engagement with stakeholders, including the workforce, and having regard to their views when taking decisions.
Adoption of the Wates Principles by large private companies, including family businesses, is voluntary. It will be interesting, however, to see if external stakeholders insist that the Principles should be followed; for example, will lenders make this a condition of providing financial facilities or government departments use them when awarding public contracts.
The companies affected by the Wates Principles will start reporting on them in respect of financial years ending after 1 January 2019. It will then be possible to assess the number of companies adopting the Principles and the effect of this on corporate governance in family businesses. In the meantime, I offer some general observations.
Observations on the Principles
The Principles have been justified on the grounds that large private companies have an impact on various stakeholders and society generally, especially when they fail. This equates good governance with (a) the promotion of stakeholder interests and (b) measuring the societal impact of a business.
This is interesting because it marks a departure from the traditional concerns of corporate governance. These have been about how to balance the respective interests of the board of directors and shareholders who are not involved in running the business; for example, how to restrain board members from enriching themselves at the shareholders’ expense through excessive remuneration. Those in favour of stakeholder capitalism will see this shift of emphasis as a positive move, but they might also argue that the Principles could have gone further.
For example, the Principles do not provide for employee and other stakeholder interests to be represented at board level, nor require directors to be externally appraised. A case could also be made for providing more protection for minority shareholders who have little power and who, in a private company, cannot easily register dissatisfaction with the board by selling shares.
And what about stricter controls to regulate conflicts of interest in the family business boardroom? These tend to be more complex than in other types of business because they can involve different types of fiduciary duties and the interests of the wider family who neither work in the business nor own any shares. For example, a director may also be a personal shareholder and a trustee and beneficiary of a family trust that owns shares in the company. As importantly, she or he is also a parent, spouse, child, sibling, aunt or uncle. When making important decisions in the boardroom that affect the interests of all members, is this individual clear which personal interest he or she is considering at any time, and which fiduciary duties are paramount, director or trustee?
On a slightly cynical note, it could be argued that the need for Principles to promote stakeholder and social interests reflects a view that some large private companies, including family businesses, are not to be trusted to do this on their own. The argument would be that the Principles would not have been needed had a broad section of society not felt they were necessary to regulate businesses who have by their actions proved to be untrustworthy. This distrust of private enterprise cannot entirely be obscured by presenting the Principles as being for a positive purpose, such as promoting good business through good governance.
Having said this the Principles contain sound ideas for all private companies of any size who believe that good governance matters.