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Access to finance and the long arm of anti-corruption legislation mean that SMEs in the GCC are having to step up their corporate governance practices, says Pinsent Masons’ Alison Hubbard

 

This article first appeared in edition 07 of Accountancy Futures journal (August 2013).

 

 

 

 

 

Although a relatively new concept to the countries of the Gulf Cooperation Council (GCC) – Saudi Arabia, Oman, Bahrain, Qatar, United Arab Emirates and Kuwait – the role of corporate governance in risk management and sustainable growth is being acknowledged, in principle at least, as regional governments seek to regain investor confidence, build sustainable economies and compete on a global platform. 

To varying degrees each GCC government has legislated in respect of corporate governance. Predictably, the focus of such legislation tends to be public companies, and increasingly financial institutions, as governments seek to grow their capital markets and boost confidence in the financial sector. However, there is a growing initiative directed towards private companies, including small and medium-sized enterprises (SMEs). For example, the Pearl Initiative, launched by the United Nations Office for Partnerships, the Crescent Group and the American University of Sharjah, is providing a platform for open discussion on improving corporate governance, accountability and corporate social responsibility across the GCC, and counts as its partners several high-profile private companies. 

In Dubai, Hawkamah – the regional Institute for Corporate Governance – and the Department of Economic Development have developed a Corporate Governance Code for Small and Medium Enterprises, setting a benchmark for best practice in corporate governance for private companies. 

However, for many owners and managers of SMEs, corporate governance is an alien concept, often dismissed as an issue for public companies. A prevailing view is that governance policies are ‘red tape’ by another name – a hindrance rather than a help. There is an assumption that a governance policy will be complex and interfere with the running of the business, and a concern that the tail will end up wagging the dog. The tide, however, is slowly turning as more SME owners begin to appreciate the benefits of corporate governance, particularly in the context of access to funding.

SMEs and access to finance 

The lack of finance available to SMEs in the wake of the global financial crisis has been identified as a key barrier to growth, both in terms of SMEs themselves and the wider economy. As a result, governments across the GCC have been applying increasing pressure on financial institutions to free up some much-needed capital.

Although the lack of collaboration among potential lenders (in terms of information sharing and the development of lending practices) could be said to be a factor, the reluctance of these potential lenders may be understood in the face of legal frameworks that, arguably, do not provide efficient mechanisms to enable these lenders to adequately manage their own exposure. In the absence of credit-rating agencies, security registers and an efficient mechanism for debt recovery, lending in the Gulf region carries inherent risk. Although these issues are being addressed, the pace is slow.

While good governance can enhance the operations of a business in various ways, it is the link to funding that seems to be the key driver in encouraging SMEs to adopt sound practice. Put simply, lenders and potential investors want (and need) to see that borrowers are being properly managed, that they have appropriate mechanisms in place for assessing risk, that appropriately qualified people are making the decisions, and that proper books of accounts are being kept in accordance with international standards. For those operating in more mature economies, these principles may seem like the fundamentals, but in a region where, historically, there has been little separation between the owners and management of businesses, and where there has been a distinct absence of a need to adopt formal policies, these fundamentals do not necessarily come naturally.

the global picture 

Access to finance is not the only reason that SMEs are being actively encouraged to adopt good governance. With regional governments seeking to steer their economies away from reliance on hydrocarbons, wider global engagement will be key to sustainable growth. Investors from more mature economies will be more likely to invest in economies where transparency and access to information are the norm, rather than the exception. 

With the ever-expanding reach of extra-territorial legislation, such as the UK Bribery Act and the US Foreign Corrupt Practices Act, foreign investors need to be extremely careful about with whom they do business; the potential financial penalties and reputational risk associated with falling foul of anti-corruption legislation compel foreign investors to ensure that their counterparts are adopting robust governance procedures. 

The GCC region is clearly an interesting prospect for foreign investors, but can also, rightly or wrongly, be perceived as a challenging environment for compliance with anti-corruption legislation. SMEs in the region seeking to engage with global partners will need to adopt good governance practices to avoid being deemed as too risky a commercial partner. This is particularly true of the family businesses that the GCC is well known for.

Each GCC country has its notable large family businesses that, over several generations, have morphed into multinational enterprises, in some cases with interests spanning the globe. Many family businesses in the GCC region started out as small trading companies and grew into large diversified conglomerates with interests in retail, trading, construction, logistics, manufacturing and real estate, to name a few. Part of this growth can be attributed to the strong relationships developed with international investors.

However, with a tendency towards privacy, many family businesses still have very few formal procedures in place, but will, in due course, need to consider how to take the business forward, particularly in the context of succession. Others have truly made the transition from local trading enterprise into diversified global conglomerate, with sophisticated corporate structures and governance frameworks that include the appointment of both executive and non-executive directors from outside the family circle, audit committees and anti-corruption policies and procedures.

As these hugely successful family businesses openly demonstrate their commitment to good governance, it is likely that others will follow suit.

The future 

It remains true that for many SMEs, corporate governance is a work in progress as the true value of good governance is not yet fully appreciated. Although SMEs are slowly beginning to recognise that good governance can lead to improved efficiency and market reputation, and reduced risk exposure, the real driving force behind implementation is likely to be the need to demonstrate that the business is a safe bet for investment. 

However, those with the capital to lend are well aware that a corporate governance policy is only as good as the commitment to its implementation and continued application. Any business treating governance as a tick-box exercise is likely to be given short shrift by lenders and investors.

 

Saad Maniar FCCA

Managing Partner, Horwath Mak, DIFC (MEMBER, CROWE HORWATH INTERNATIONAL), Dubai

‘As markets become more open and global, and business becomes more complex, the SMEs in the GCC region need to understand that good governance is necessary to support effective decision-making, to comply with applicable legislations and to continue to fuel their growth appetite. This will also enable companies to maintain high-quality standards, thereby reducing their overall risk, which means access to capital and relatively easier and cheaper debts for the SMEs. However, in times where cutting cost reigns supreme, it remains to be seen how the institutions will react to this wake-up call.’

Member of ACCA UAE members’ advisory committee Alison Hubbard is a partner in the corporate group based in Pinsent Masons’ Dubai office. She has been working in the Gulf region since 2006, advising on a range of corporate matters including mergers and acquisitions, joint ventures and structuring, as well as governance, anti-bribery and other compliance matters. 

 

 

 

 

 

Last updated: 26 Nov 2014