Wed, Sep 25, 2019

Neil Kirton Discusses Non-financial Issues Crying Out for an Ever-Increasing Share of Board Time in Today’s Boardroom

Neil Kirton, Managing Director of the Forensic Investigations and Intelligence practice discusses non-financial issues crying out for an ever-increasing share of board time in Today’s Boardroom.

Sitting in today’s boardroom, you might be forgiven for thinking that life has changed. While the financial metrics—the profit and loss, balance sheet and cashflow statement—remain core considerations, a growing number of non-financial issues beyond those invested in debt or equity cry out for an ever-increasing share of board time—both inside the boardroom itself and outside.

Adapting to this new and evolving environment looks to be one of the defining characteristics of a successful executive and non-executive board member in listed and unlisted companies. As companies respond to the new environment, it is also likely the composition and make up of boards will change.

So, What Are These “Non-Financial” Issues?

In a media report last year two pension funds were reported to be questioning their allocations to a global asset manager. The problem? In both cases, the concerns were non-financial. The asset manager had delivered double digit growth per annum. Rather than the returns themselves, the pension funds were concerned about the ethics of how the returns were achieved. 

In the listed company arena, there are a number of recent examples of non-financial issues exposing the shortcomings of corporate culture, poor ethical behaviour and corporate governance weaknesses. As a board member, the reputational consequences of these shortcomings occurring on your watch can be significant - at one level, career limiting, and at another level inviting scrutiny from both regulatory and law enforcement bodies. The non-financial issues can have a direct impact on the financial. In today’s world, a scandal can make an already cautious buy-side more nervous and feel pressurised to sell down equity. The pool of investors potentially interested in acquiring stock reduces and the rating placed on the shares could fall. The growing army of advisors available to assist in a crisis costs time and money to manage, leaving aside the impact on the morale of the staff. Add to this a heightened level of engagement by your shareholders and a scandal can create a full timetable for a board.

If you do sit in a boardroom - a word to the wise. Issues such as your lingering concerns about a CEO’s behaviour and approach to the staff; the company’s internal controls; the handling of a whistleblower; the actions you took to integrate an acquisition; the reputation and possible actions of the buyer of your business or subsidiary that’s for sale; your management of a conflict or even a potential conflict; or the leak of information from your boardroom, are likely to be worthy of your focussed attention. This is hardly news to the informed board member but what may be less obvious is the extent to which these issues are being considered and processed by other parties when constructing the investment case. 

Certainly, if those parties have hostile intent, get ready. At the “extreme” end, the growing instances of short selling attacks can play hard to the non-financial issue tune. The hostile aggressor knows this, as does the army of advisors, who have likely been consulting a wide range of sources, not just investment banks, to identify extra leverage to undermine the management. 

In short, money still talks but it’s speaking a more nuanced language. If the house isn’t in order, investors will get harder to court and fewer pools of capital will want to invest.

So, recognising and embracing this at board level is key. A response could come in various ways depending on the context of your situation. Elevating and sustaining the debate at board level first requires a recognition that this is actually an issue but second, requires a level of understanding and board level sponsorship that may be different. The virtues of reviewing or investigating sensitive issues independently is growing. Allowing yourself to be benchmarked against best practise whether it be around sustainability, diversity, due diligence or areas like data security can achieve a lot both internally and externally.

Understanding the culture of a business - the working environment, ethics, core values - and the board’s commitment to these non-financial issues represents a rapidly growing area of both pre-acquisition spend and ongoing management for acquirers. Investors increasingly demand high standards and tangible evidence of commitment and consistency. While the value proposition centres on the financials, an increasingly large group of professional investors believe businesses are easier to sell with these attributes embedded in them and perhaps also the earnings these businesses can generate can be rated more highly. 

Returning to the boardroom, the list of items on the agenda is undeniably getting longer. Forbes believes 60% of assets managed for EU investors now incorporate sustainable investment strategies. In a recent survey, leading asset manager Schroders suggests investors hold ESG investments for on average of two years longer than their usual investments. The London Stock Exchange ESG report in January 2018 indicates millennials - presumably the investors of tomorrow - rank some of the non-financial issues as equally important as investment outcomes in terms of investment decision making.

It seems inescapable that a board’s objective is to build long-term stable ownership that supports development and growth. There are several component parts to creating this, but an understanding at the highest level in an organisation that an increasing proportion of the capital pools are configuring around these non-financial issues will continue to shape the board agenda. 

This article first appeared in Today’s Boardroom on September 13, 2019.

Forensic Investigations and Intelligence

The Kroll Investigations, Diligence and Compliance team consists of experts in forensic investigations and intelligence, delivering actionable data and insights that help clients worldwide make critical decisions and mitigate risk.