Tue, Jul 27, 2021

Clearing Out Your Garage - Benefiting from Corporate Simplification

“Any intelligent fool can make things bigger and more complex. It takes a genius and a lot of courage to move in the opposite direction.” Whilst I’m sure Albert Einstein was referring to complex physics when he made this assertion, his words are true for business generally and more specifically, legal entity structures. Many corporates (not just large multinationals) seem to excel in making things unnecessarily complex by setting up more legal entities than they know what to do with. Of course, it’s not always intended to make matters complicated. Often, they were formed for specific operational or financial reasons or tax structuring purposes. Alternatively, they were acquired through M&A activity. 

Irrespective, it doesn’t take long for the group structure to grow and the corporate garage to get cluttered with bric-a-brac.

It’s not uncommon for an organization to have hundreds of companies in its structure. Even when these companies no longer serve an obvious purpose, groups often retain them, leaving them “as-is” rather than toying with the status quo.

Keeping such entities can be costly and risky (for the corporate itself and directors personally) and hamper the implementation of other strategic initiatives. Consequently, “clearing out the garage” is not something to continually postpone but tackle head-on in the near term either on its own or as a component of a wider strategic transformation/reorganization initiative.

Indeed both during and as we emerge from the pandemic, many enterprises have been undertaking strategic reviews which have and will lead to the transformation of their operating model as they position themselves for business in the “new normal.”

We often find that companies will initiate a defined corporate simplification (CS) project to tackle some of these issues and complement other transformation initiatives, bringing the entity structure and operating model in closer alignment. When implemented successfully, execution is well planned, quick and can provide speedy payback.

By clearing out the garage, you’re not only eliminating unnecessary entities, but also managing risk and making a leaner, more agile organization to take into the future.

So, what indicators should management look for when determining whether to progress CS efforts? In our experience, there’s no specific criteria. If you can’t describe your corporate structure internally, if it is hindering your corporate governance objectives, if it doesn’t match your organizational culture of transparency, if it takes up a whole wall in your office or if your employees are facing and raising day-to-day challenges caused by the complexity—those are some of the signs.

You’ll have senior executives acting as directors of companies they know nothing about, swathes of dormant companies or intermediate holding companies creating unnecessary tiers in the group structure, or your finance team (and other functions) spending an inordinate amount of time supporting non-core entities.

The question is then whether you have the capacity and energy to clear out the garage. Many have found this whilst operating remotely during the pandemic. If you do, you’ll find lost family treasures and previously unidentified wasps’ nests in the process.

As the CFO/financial director, you want to avoid being challenged by the board or other senior management on the group structure and having to defend its complexities. Non-executive directors and newcomers to the senior management team may have a different perspective on what “good” looks like from working with other organizations and through looking at the organization through a different lens. Furthermore, current and potential investors, finance providers, employees and other stakeholders will all value transparency and a group structure that is easily explained.

Kroll has worked alongside clients of all sizes ranging from entrepreneur-led privately owned businesses through to mid-market and globally-listed corporates on CS initiatives. One that is properly planned and resourced can deliver a wide range of sometimes unexpected benefits (summarized below) for your organization. The trick then is to ensure that those benefits are sustained through making CS business as usual, thereby facilitating long-term entity management.

The moral of this story is to move clearing out the garage up your “to do” list—identify where everything is, get rid of unnecessary clutter and put things where you want them. You’ll feel good about it, see the value in your achievement and be wary of letting it return to its previous state.

Benefits of Corporate Simplification (CS):

  • Reduced audit, tax, regulatory and other compliance costs
  • Reduced internal costs associated with maintaining unnecessary entities: Executive, Finance, Legal, Company Secretarial and Human Resources will all benefit from focusing on core activities
  • Mitigation of corporate risk and director personal risk associated with compliance failings, fading or lost corporate memory, potential contingent liabilities and misstatement in statutory accounts
  • Improved governance and transparency (and therefore reduced impact of disclosure requirements and corporate governance reform)— this increasingly prominent in a world that demands legislation and guidance reform 
  • Resolution of issues resulting from unnecessary complexity such as tax inefficiency and dividend blocks
  • Releasing capital tied up in balance sheets of individual entities
  • Restricted scope and cost of future improvement and transformation efforts
  • Synergies achieved through the alignment of the entity structure with operational activities

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