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When corporate governance fails, the curse of the SME

When corporate governance fails, the curse of the SME
March 13
09:37 2018

One of the most common causes of failures for small to medium businesses is due to lapses in governance where most of these enterprises do not have proper guidelines and rules that govern how the business should be run. As a result, over time issues of unethical decisions and behavior perpetuate which resultantly lead to these businesses failing.

Now one might argue that corporate governance should be only a concern for large enterprises and in some way in might impede on growth of the smaller businesses but that is not the case. There is need for simple governance principles that will help develop a much more sustainable business with a strong brand that will go a long way in creating a strong business with an equally strong reputation.

Given the importance of Corporate Governance as stated above its important to understand what is meant by corporate governance and although the definitions differ the principles are the same. According to the research done by Brodies, corporate governance is the manner in which a company is managed and the controls which are in place. It covers the relationship between the board, management, employees and the customers and ensuring that there are proper internal controls and processes that give guidance on how things should be done.

This it key for SMEs especially because in most instances there is no distinction between management and ownership, which might result in conflict of interest resulting in governance oversights if there are no controls in place. To give this more context, imagine a small business which is wholly owned by a single individual, there are a lot of cases where the business accounts and those of the owner are not separated and thus it becomes difficult to separate business expenses to those of the individuals and this will definitely have an impact on the credibility of the business and from a financial standpoint, it will make it harder for entrepreneurs in this position to source funding from the financial institutions due to this issue.

In addition, it is important to provide clear rules which guide under what circumstances the owner/manager is able to incur costs at the expense of the business accounts. This example thus highlights the importance of corporate governance even in the SME space. In addition, as mentioned above governance allows for separation of roles and responsibilities and there is comfort in knowing that if any conflict of interest arise, then there are proper procedures to address these and there is then increased accountability.

The third benefit is one on building a strong and credible reputation by having strong controls in place. If the controls make it harder for the owner to simply run the business as he so wishes, this will signal to the financial services providers that this is a strong business and as a result they will most likely be willing to invest in such a business. This strong reputation will enhance the brand of the business and it will help cement the sustainability of the business over the long term.

Given the importance of corporate governance these are some of the small steps the small businesses can take to build on strong governance structures.

  • Independence of the board of Directors. This is one of the King Principles which strong recommends having independent boards. This might be hard for small owner managed firms however it could simply start by having an independent person who is impartial who can give impartial advice to help guide decisions of the board. As a start they need not be the board chair but they are there to provide a sound board and if anything ring alarms if any material issues of conduct come into play and they should be able to do so without fear or favour. This then means that the rules on selection of these members of the board should be clear and be part of the company memorandum. This is to guard against the owners choosing people who are not independent or if they are being able to fire them without sound reasoning. Ultimately this will go a long way in signaling to the potential investors that this is a strong business.
  • Have controls in place which separate expenses of the business to those of the owner and clearly explain what can be claimed as a company expenditure. This also gives an indication that although the owner and the manager are the same, the business is otherwise operated independently.

These are small steps which can go a long way in developing a strong sustainable business with a strong reputation to withstand most challenges.

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