There is a growing tendency among companies, family-owned businesses, start-ups, non-profit organisations, churches and other entities to treat established corporate governance principles as rules designed primarily for large corporations.
The reasoning often sounds sensible: “We are still a small company.” “The founder is also the Chief Executive Officer and understands the business better than anyone else.” “Our directors need to be more hands-on.” “We are a charity/church, not a commercial company.” “We do not need the same structures as a listed company.”
There is some truth in this. Good corporate governance should be proportionate to the nature, size, complexity and purpose of an organisation. But proportionality should not become an excuse for abandoning the principles that governance is intended to protect.
The problem is not that organisations want governance structures suited to their circumstances. The problem arises when they establish formal governance structures — particularly boards — but then redesign the role of those structures whenever conventional governance becomes inconvenient.
The Board That Is Expected to Manage
Consider a relatively small group of companies founded and substantially owned by one individual. The founder is the majority or sole shareholder and also serves as Chief Executive Officer. As the group grows, a board of directors is established, perhaps including experienced independent directors.
Very quickly, however, tension can emerge.
The founder-CEO may question why directors only attend scheduled board and committee meetings. He or she may expect directors to regularly visit the company’s offices, follow up operational matters, participate in negotiations, supervise employees, develop business opportunities or otherwise become more involved in the day-to-day running of the organisation.
The argument may be:
“We are not a large multinational. Our directors cannot simply attend four meetings a year. We need a working board.”
A board can certainly be more engaged. Directors should understand the business, challenge management, interrogate information and remain sufficiently informed to discharge their duties. Smaller organisations may legitimately require greater interaction between directors and management.
But there is an important distinction between an engaged board and a board that becomes management.
The board’s principal function is governance and oversight. Management’s function is execution.
When directors routinely become involved in operational decision-making, the distinction begins to disappear. More importantly, the board may eventually find itself being asked to independently evaluate decisions in which its own members participated.
Who then holds management accountable?
The Founder-CEO Problem
Governance becomes particularly important where ownership and management are concentrated in the same person.
A founder may reasonably think:
“It is my company. I invested the capital, developed the business and understand it better than anyone else. Why should people who spend considerably less time in the business have authority over decisions concerning it?”
That perspective is understandable commercially. From a governance perspective, however, it demonstrates precisely why a board may be necessary.
A company has a legal identity distinct from its shareholders. Once an organisation chooses to operate through a corporate structure, the distinction between shareholder, board and management becomes important.
The shareholder exercises ownership rights.
The board provides direction, oversight and accountability and exercises the powers and responsibilities allocated to it by law and the organisation’s constitutional and governance framework.
Management runs the organisation within the authority delegated to it.
One individual may occupy more than one of these spaces, particularly in smaller businesses. What is dangerous is allowing the boundaries between them to disappear altogether.
A founder-CEO who establishes a board but expects that board ultimately to defer to him or her has not necessarily created an effective governance structure. The organisation may have created the appearance of governance without the discipline of governance.
“But We Are a Church” “But we are a Charity”
The same issue appears differently in churches, charities, associations, NGOs and other mission-driven organisations.
A church, for example, may establish a board but resist conventional governance principles because it considers itself fundamentally different from a commercial organisation.
And, of course, it is different.
A church’s mission, stakeholders, organisational culture and measures of success are not the same as those of a commercial enterprise. Its governance arrangements should recognise those differences.
But the fundamental governance questions remain remarkably similar:
- Who has authority to make decisions?
- Who exercises oversight over those decision-makers?
- How are financial resources controlled?
- How are conflicts of interest managed?
- Who can approve significant transactions?
- What happens when the interests of a founder, leader, director or related party conflict with those of the organisation?
- Who appoints and removes senior leadership?
- Who holds the leadership accountable?
- How are decisions documented and challenged?
Calling an organisation a church, charity, family business or start-up does not make these questions disappear.
Indeed, organisations built around particularly influential founders or leaders may require more attention to governance rather than less, because authority can easily become concentrated around an individual rather than an institution.
Governance Principles and Governance Practices Are Not the Same Thing
A useful distinction is often overlooked.
Governance principles should be relatively constant. Governance practices can be proportionate.
- Accountability is a principle.
- Independence of judgment is a principle.
- Transparency is a principle.
- Management of conflicts of interest is a principle.
- Proper allocation of authority is a principle.
- Effective oversight and internal control are principles.
The particular mechanisms used to achieve them can differ substantially.
A large corporate group may require numerous board committees, sophisticated internal audit functions, detailed delegations of authority and extensive board reporting.
A smaller business may require considerably simpler arrangements.
A church or non-profit may adapt its governance structure to reflect its mission, membership and leadership model.
But each should still be able to demonstrate where authority sits, how it is exercised and how those exercising it are held accountable.
That is the substance of governance.
A Board Should Not Be Created Merely for Credibility
Another difficulty arises when organisations establish boards because having one signals institutional maturity.
A board looks good to investors, lenders, regulators, donors, partners and other stakeholders. Experienced independent directors can also lend credibility to a growing organisation.
But appointing directors has consequences.
Once directors are appointed, they should be permitted to exercise genuine judgment. They need appropriate information. They must be able to question management. Their decisions should be properly recorded. Conflicts should be disclosed and managed. Reserved matters should genuinely be reserved for the board.
An organisation cannot reasonably invite individuals to assume the responsibilities and potential liabilities associated with directorship while simultaneously denying them meaningful authority because “this is how the founder wants things done.”
Governance cannot operate only when everyone agrees.
Its real value often becomes apparent precisely when there is disagreement.
The Other Extreme: The Distant Board
This does not mean that directors should hide behind the phrase “we are non-executive.”
Boards can also fail by being too distant.
A director who attends a few meetings, reads papers immediately before the meeting and otherwise has little understanding of the organisation may not be providing meaningful oversight.
The appropriate question is therefore not:
“How often should directors come to the office?”
It is:
“What level of engagement is necessary for the directors to properly discharge their governance responsibilities without assuming management’s responsibilities?”
That answer will differ between organisations.
Site visits may be appropriate.
Strategy sessions may be appropriate.
Directors may need access to senior management.
During a crisis, transaction, restructuring or major project, board involvement may temporarily increase significantly.
None of this necessarily converts the board into management.
The line is crossed when directors cease primarily to direct, oversee, challenge and approve and instead routinely execute, supervise and administer.
The “We Are Different” Exception Can Become Dangerous
Every organisation is different.
That statement should begin a governance discussion — not end it.
An organisation should be able to explain why it has departed from a recognised governance practice and, more importantly, how the alternative arrangement still achieves the underlying governance objective.
For example:
We do not have a separate risk committee because the size of the organisation does not justify one; therefore, the full board considers risk quarterly.
That is proportional governance.
Compare:
We do not need formal risk oversight because we are a small company.
That is simply the absence of governance.
Similarly:
Our directors interact with management more frequently because of the size and developmental stage of the business, but operational authority remains with the CEO under an approved delegation of authority.
That is a deliberate governance model.
Compare:
Our directors are expected to help run the business because we are not a large company.
That creates uncertainty about where governance ends and management begins.
The difference is important.
Governance Is Most Valuable Before Something Goes Wrong
Weak governance can remain invisible for years when an organisation is performing well and relationships between its leaders are good.
The weakness becomes apparent when circumstances change.
A founder and fellow shareholders disagree.
A director challenges a transaction.
A CEO must be disciplined or removed.
A related-party transaction arises.
A donor questions expenditure.
A lender demands evidence of proper approvals.
A regulator investigates.
A business seeks external investment.
A church experiences a leadership dispute.
A director resigns and questions decisions previously made.
At that point, informal understandings such as “everyone knew how things worked” become considerably less useful.
Proper governance creates institutional memory and institutional authority that does not depend entirely on personalities.
The Test Should Be “Why?”, Not Simply “Why Not?”
There is nothing inherently wrong with departing from conventional governance practices.
But the organisation should ask four questions whenever it does so:
- What governance principle is this practice intended to protect?
- Why is the conventional approach inappropriate or disproportionate for our organisation?
- What alternative mechanism will achieve the same governance objective?
- Is that alternative clearly documented and understood by the shareholder, board and management?
If those questions cannot be answered, the departure may have less to do with organisational uniqueness and more to do with avoiding accountability.
Governance Should Grow With the Organisation
Governance should also not remain static.
A governance arrangement suitable for a founder-led company with five employees may become inappropriate when the business develops subsidiaries, borrows substantial amounts, attracts investors, employs hundreds of people or begins operating across several jurisdictions.
The same applies to churches and non-profits. An informal governance arrangement that worked when an organisation had a small congregation and limited assets may be entirely unsuitable when the organisation owns substantial property, employs staff, operates schools or businesses, receives significant donations or manages complex investments.
Governance must therefore mature with the institution.
Conclusion
Corporate governance was never intended to force every organisation into an identical structure.
A family-owned company does not have to govern itself exactly like a listed multinational. A church does not have to operate like a bank. A start-up does not require every committee that might exist in a mature corporate group.
But being different does not eliminate the need for accountability, transparency, oversight, appropriate controls, management of conflicts and clearly defined authority.
The better approach is proportionate governance rather than selective governance.
Organisations should adapt the form of governance to their circumstances without abandoning its substance.
Ultimately, the question is not whether an organisation follows every governance practice adopted by larger or more established institutions.
The more important question is:
If we have chosen not to follow a recognised governance practice, what have we put in its place to ensure that the principle it protects is still respected?
If the answer is simply “because we are different,” that may be the strongest indication that the governance structure needs another look.