Startup Governance

The recent debacle involving LaunchVic and 500 Startups comes at a time when startups and entrepreneurs are facing increased public scrutiny over their ethical behaviour. Having a great idea, building an innovative or disruptive business, and attracting investors is not carte blanche to disregard corporate governance and social responsibility obligations. So how do we instil a better “moral compass” among startups and their founders?

The TV sitcom, “Silicon Valley”, is drawn from experience of the software industry, but it also reveals much that ails the startup economy. As funny as it is, the series also highlights some painful truths. Scenes where founders “trade” equity in their non-existent companies are just one aspect of how startups can develop an over-inflated sense of their own worth. These interactions also reveal how startups can reward inappropriate behaviour – if sweat equity is the only way founders can “pay” their team, it can lead to distorted thinking and impaired judgement, because the incentive to go along with poor decision-making is greater than the threat of any immediate sanction.

A key challenge for any startup is knowing when to seek external advice – not just legal, tax or accounting services, but an independent viewpoint. Many startups don’t bother (or need) to establish a board of directors – and if they do, they normally consist of only the founders and key shareholders. The role of independent, non-executive directors is probably under-valued by startups. But even an advisory board (including mentors who may already be guiding the business) would allow for some more formal and impartial debate.

Another challenge for startups is that in needing to attract funding, they can find themselves swimming with the sharks, so doing due diligence on potential investors is a critical task in building a sustainable cap table that will benefit the longer term aims of the business.

Equally, if startup founders are motivated to “do their own thing”, because they are driven by purpose or a higher cause, or they simply want to make a difference, they can risk having to compromise their values in order to engage with bigger, more-established companies. So they may end up emulating the very behaviours they sought to change or challenge. Neither startups nor big corporations have a monopoly on unethical behaviour, but if founders stray from their original founding principles, they will soon alienate their stakeholders.

Finally, nurturing the “conscience” of a startup is not something that should be left to the founder(s) alone. The vision has to be shared with, and owned by everyone involved, especially as the business scales. Everything should be measured or tested against this criteria – “does it stay true to or enhance our reason for being here?” Without a clear sense of what is important to a startup, it will also struggle to convey its core value proposition.

Next week: Digital Richmond

 

Corporate Governance – exercising a “duty of awareness” in the age of social media

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Do we need a new theory of Corporate Governance? Is it time to look at a new model that reflects the current environment in which businesses operate, an era characterised by:

  • social media,
  • corporate and social responsibility,
  • shareholder and consumer activism,
  • increased market connectivity, and
  • rapid generational change?

Has the law fallen behind in being able to regulate and oversee contemporary corporate behaviour – where compliance with and adherence to the letter of the law may no longer be enough to meet community standards or satisfy shareholder expectations?

The question arose during a roundtable discussion I attended recently, comprising non-executive directors, entrepreneurs, corporate advisers and governance experts. Some of the issues we kicked around included:

  • the efficacy of running more frequent board interaction via the use of technology (as opposed to the standard face-to-face monthly board meeting);
  • the ethics of minimising cross-border taxation by multinational companies (even though it may be legal under international tax law);
  • the imperative to develop more inclusive and diversified boards (including networking into broader stakeholder groups);
  • the perils of ill-considered public comments made by CEOs (and the resulting social media backlash); and
  • the risk of harking back to some “golden age” of corporate behaviour (assuming such an era actually existed)

Our current perspectives on Corporate Governance largely derive from the late 1980s and early 1990s when a series of authoritative studies and reports led to new Codes of Practice and updated corporations laws – I’m referring to the work done by and in the name of Tricker, Carver, Monks, Cadbury, Greenbury, Hilmer and Hempel. And while in recent years we have seen increased scrutiny on CSR, directors’ remuneration and financial oversight by boards (plus Sarbanes-Oxley, Dodd-Frank and IFRS), the reality is that most of the earlier Corporate Governance reforms were introduced just as the internet went public and just as financial markets were being deregulated. So it could be argued that the reforms were ill-equipped for, or could not have anticipated, the changes to come – witness for example, the SEC’s recent approval of social media as an appropriate platform for corporate disclosure.

In Australia, Corporate Governance is described simply as “good decisions being made by the right person”, and the obligations of company directors are summarised as follows:

  • your primary duty is to the shareholders;
  • you must act with appropriate due care and diligence;
  • you must not allow the company to trade while insolvent;
  • you must exercise your powers in good faith and in the best interests of the company;
  • you must not improperly use your position of (or information obtained as) a director to benefit yourself or another person, or to cause detriment to the company.

On one level, the test of whether an organization has exercised good judgement in making a decision is, “would you be embarrassed if this was reported on the front page of tomorrow’s newspaper?” At another, Corporate Governance is reduced to a compliance checklist of risk mitigation measures.

The Australian courts (in the OneTel and Centro cases) have expanded and reinforced the duty of care (particularly in relation to the business judgement rule) to place greater accountability on individual directors to consider what a reasonable person would do in exercising their duty of care and diligence:

  • To understand the fundamentals of the business
  • To keep themselves informed of the company’s activities
  • To monitor the company’s activities (e.g., through active questioning)

The question we should be addressing is: “Does imposing a broad duty of care and specific fiduciary obligations ensure an appropriate level of Corporate Governance?” I would argue that in light of a rapidly changing operating environment, we would be well-advised to exercise a “duty of awareness” in respect of our Corporate Governance standards. In my view, directors need to take a wider perspective in understanding and monitoring the business fundamentals and the company’s activities. Some may argue that this is not a new duty, it has simply been forgotten in recent times – and in the era of social media, when it is far easier to “get caught out”, it would be prudent to have more regard for the broader context.

A “duty of awareness” offers an appropriate counter-balance to the numerous areas of self-regulation by industry sectors and by individual companies. It provides an objective test for assessing “if not, why not” explanations required under both voluntary and mandatory Codes of Practice – i.e., did the respondent take into account all relevant factors, and did the respondent adopt a sufficient level of awareness in evaluating its options under a chosen course of action?

The “duty of awareness” means that at an individual level, directors would be obliged to reflect on their contribution to and participation in board decisions; boards would need to consider the likely impact of their decisions on the company’s performance and on wider stakeholders; and companies would be expected to have regard to their standing as a good corporate citizen, not merely a compliant one.

Acknowledgements: I am grateful to Andrew Donovan of Thoughtpost Governance and Dale Simpson of Bravo Consulting Group for their invaluable contributions to this article.