Cooper Fitch Dubai

Blog

December 19, 2016

The Importance of Corporate Governance for SMEs

Cooper Fitch work with a number of small to medium sized enterprises across the region, both on an advisory networking basis and for their recruitment and executive search requirements.  We take a look at the importance of Corporate Governance compliance for these SMEs.

The Importance of Corporate Governance for SMEs
Cooper Fitch Dubai
Cooper Fitch Dubai
Cooper Fitch Dubai
Cooper Fitch Dubai

What is Corporate Governance?

Corporate governance in simple words is the system by which an entity is directed and controlled. It is the management of the relation of a company’s shareholders, management and stakeholders and aims to provide a structure to set and achieve a company’s objectives.

Elements of good Corporate Governance:

  • The UK Corporate governance code, which is one of the best and widely accepted practices throughput the world describes some of the main elements of good corporate governance as;
  • Clear reporting lines and division of responsibilities at board level
  • Diversity at board level in terms of directors’ experience, age, skills, gender etc.
  • Establishment of internal controls which includes effective risk management policies, and the maintenance of an appropriate relationship with the company’s auditors 
  • A formal and transparent procedure for developing the remuneration packages for the directors/ employees; This involves setting up a remuneration committee  
  • Appropriate means of communication with shareholders and stakeholders

These are just some of the elements of a good governance and are mainly required to be followed by large public listed entities. 

Corporate Governance is greatly applied within large companies. However, it does not discriminate against company size and is equally important in a food restaurant than it is in a large natural gas provider. 

Why is Corporate Governance important in SMEs and privately/family owned businesses?

Unlike large companies, SMEs and privately/family owned business do not run the agency risk, which is the owners of the business are different from the management of the business. In small business usually the owners are the managers of the businesses. The risk here is when multiple roles are executed by by members of a family, it becomes difficult to define responsibility and have an agreed distribution of power as different generations join the business.

Secondly, not much importance is given to the impact that senior managers can have on a business. This is because they can provide valuable insights of what is actually going on within the business and the potential risks that the business is facing. In addition to that they also provide monthly/ annual reports.

Thirdly, the boards of small companies lack diversity and Non-executive directors. As non-executive directors are considered to be a fresh pair of eyes to any business and provide their independent judgement relating to the business strategy and performance they can add significant value to the business. However, their appointment should be formal and be a board decision.

Moreover, there can be a lack of formal policies and procedures as members might be familiar with one another. This creates a higher risk of fraud and error due to the absence of a formalized contract and rigorous procedure in place.

How can SMEs benefit from good Corporate Governance?

The creation of formal contracts, policies and procedures will lead to less conflict among the members. It will also reduce the chances of fraud and error and create greater transparency. The business will be run with greater integrity and hence will have a better reputation as well. 

The preparation of annual reports will allow the business to identify potential risks within the environment it operates in and mitigate them accordingly. Moreover, these reports can be used to carry out performance appraisal and reward the staff accordingly as it will be fair and just. 
As most SMEs plan to go listed through a IPO and will also be audited hence these reports are very important.

A crucial step of setting up a company is to invite external directors. Non-executive directors can be hired during growth, acquisition or crisis to lead the company. They will not only provide the small companies with their valuable advice regarding the business strategy but can also bring in commercial contacts. For example, many SMEs would require finance for growth. A non-executive director could assist in obtaining finance from a local bank or financial institution.

Importance of Corporate Governance in SMEs within UAE

As the number of SMEs are increasing in the UAE, it is important for them to be aware of the governance structures and the benefits that can be achieved of them. This will help SMEs and privately/family owned business become larger entities.

Conclusion 

Change management can be a difficult task for many companies especially when it comes to understanding the impact that governance can have on a company. Owners of SMEs might take the word “corporate” and assume that it is irrelevant to their business.  A greater challenge that they will face is the cost of hiring non-executive directors. However, an alternative is to award the non-executive directors with shares of the company. However, if the shares do not have a good market value then it might be difficult to pay their fees through retained earnings or profits.

In order to implement these changes, an intense in-house training should be given to the members of the firm and needs to be explained with great detail to the owners and managers. Advisers and international institutions need to keep emphasizing on the importance of corporate governance within SMEs and family/privately owned businesses.

By

Thank you for your enquiry. A member of our team will be in touch with you shortly.