General Principles of Good Governance
There is a general consensus on the foundations and principles of quality governance amongst investors in EM PE. These principles are applicable across all three layers of the industry—fund managers, funds, and portfolio companies— and they are relevant in each region of the world.
Each organization’s governance framework should be tailored to its goals and objectives, and it should take into consideration the market(s) and sector(s) in which it is operating, the scale of its activities, and the breadth of its shareholders, among other variables. That said, this section provides an overview of the key corporate governance and business integrity principles that all firms should consider.
Corporate governance is the overarching system of policies and processes that control an organization’s operations, as well as the structure that determines the relationships among its numerous stakeholders, including the management team, the Board, customers, and investors.
A strong CG framework is essential to establishing an organization’s goals and objectives, outlining the action plans necessary to achieve those aims, and monitoring both positive and negative developments along the way. While the complexity of a firm’s governance depends upon its size, sector, and ownership structure—among other variables—there are several broadly agreed-upon elements to good corporate governance (see below).
Foundations and Principles of Good Governance
The five governance attributes listed in the CG Checklist are featured in the Corporate Governance Development Framework (CGDF), which is a helpful baseline—and a great starting place—for the development and / or assessment of any firm’s approach to CG. Thirty-five DFIs have adopted the CGDF as of March 2017, and the group has assembled several useful tools, such as a progression matrix, which provides qualitative indicators for four levels of governance practice (“basic” through “best”).
Organizations may use these matrices to assess the level of a firm’s current CG practices, and then think through how they may be improved. Notably, each of the DFIs that has endorsed the CGDF may take a different approach and pace to its implementation, in line with its own objectives and internal processes.
Corporate Governance Checklist
Specific Considerations at the Fund Manager and Fund Levels
LP views toward governance have evolved over the last decade. Today, the governance of a fund manager—or ‘operational risk’—is one of the key variables that LPs consider when evaluating a commitment to a PE fund. Indeed, Mounir Guen, Chief Executive Officer of MVision Private Equity Advisors, relays that operational due diligence (ODD) is now a main area of focus for LPs.
“They really hone in on how these companies are run, what values the ownership of the GP instills, and what governance mechanisms the GP has internally to promote the right views and good outcomes.” At CPPIB, in addition to the investment team’s due diligence, an ODD team examines the controls and processes of a prospective GP. Notes Leo Chiu, “We have an internal assessment comparing each firm across our GP relationships so that we can identify areas where we can work with them to ramp up their governance standards.” Nevertheless, while some investors may rank EM managers along a spectrum of governance policies, processes, and procedures, there absolutely are minimum requirements that GPs need to meet.
“There’s no reason to accept lower standards because it is an emerging market,” cautions Anne Fossemalle, Director of Equity Funds at EBRD, “We are not going to do anything weaker in terms of standards even if the starting point is less sophisticated.” Given the smaller size of many EM PE funds, GPs often operate under tight resource constraints, which necessitates a thoughtful approach to managing firm and fund governance. Often, this requires a blend of internal and external capabilities.
In addition, fund governance structures (i.e., Limited Partner Advisory Committees, or LPACs) are evolving, while investor demands for more granular and frequent reporting are on the rise. IIn this light, the report highlights five additional governance considerations that are particularly germane to participants in the industry (see below). These include: ownership and management of the GP; compliance; fund structure and domicile; LPACs; and, reporting requirements for funds.