Daiga Auziņa-Melalksne, CEO of Nasdaq Riga
Society Wants Good Governance. How are Latvian Companies Responding?
The significance of and demand for good corporate governance is ever growing because the quality of governance is a key factor in a company’s value and ability to raise funds, as well as in its competitiveness and sustainability.
We can observe that society is also placing higher demands on companies’ corporate behavior, including their attitude to the environment and employees. A company’s reputation and image is significant both when a consumer chooses goods and services and when people assess their current or potential employer.
One might ask why a company should show transparency toward society and whether the quality of governance is not just an internal matter for shareholders.
Matters of governance become especially important when there is a change of generations at companies, when shareholder disputes arise, in financing rapid growth, as well as for the long-term motivation of employees. This manifests itself in particular during crises and at times when companies need financial aid from the state, because that is when the entire public becomes a hostage of bad governance.
This has been experienced by the Latvian public during numerous bank crises and the very recent threats of ending up on the “grey list”. The Latvian public has paid for bad governance through various crises at public and municipal enterprises and in the private sector too. Bad governance is costly because scandals over governance result in increased business costs for honest companies through a disproportionate administrative burden, and the international reputation and competitiveness of the entire country suffers.
Governance is especially important for companies providing public services that affect a large part of population, as in such cases society has the right to demand much higher transparency about what is going on at the company.
The rise to the forefront of corporate governance in international business is perhaps the breakthrough that has not been given sufficient attention by both the Estonian public and business leaders this year. There are, however, many signs of a new era. Goldman Sachs, one of the world's leading investment banks, announced a simple but effective new policy this year: it will no longer help the IPO of a company that does not have at least one member on the board that can be classified as a diverse. And from 2021 onwards, at least two members. Goldman Sachs is referring here to people who are chronically under-represented in the management of large companies - whether because of their gender, sexual orientation, race or nationality.
According to Larry Fink, head of the world's largest investment fund BlackRock, in a few years' time, investors will take into account ESG (environment, social, governance) indicators when making investment decisions, i.e. they will evaluate the following: what is the impact of the enterprise on the environment; whether and how the enterprise contributes to the development of society at large through its activities; and how transparent, ethical and responsible the management of the company is.
Within the framework of the TOP 101 of Latvia’s Most Valuable Companies, Nasdaq Riga evaluates the publicly available information about the governance of companies and their openness to the public. The impact of this evaluation on a company’s value in the TOP 101 is in the range of 20%.
This year we adjusted the evaluation criteria according to global trends in good governance. The following aspects of governance disclosed by companies are assessed: diversity, or whether both genders are represented on the Supervisory and Management boards, the presence of independent supervisory board members and clear declaration of their independence; the provision of information about the work experience of members of the Supervisory and Management boards on the company's webpage; the ability to identify majority shareholders; financial information disclosed by the company, information on the most important risks and how they are managed; disclosure of key internal policies and the provision of corporate governance and sustainability reports on the company’s webpage as well as information about the company’s strategic goals.
Analyzing this year’s results for Latvia’s TOP 101 companies, we see that shareholders can be identified at 44% of the companies, which shows that companies are becoming more transparent. Looking at supervisory board composition, only 6% of companies have at least one independent member on their council, and both genders are represented at only 7% of companies, which is surprisingly little. Meanwhile, both genders are represented on 42% of companies’ management boards. Environment, social and governance (ESG) or sustainability reports are available at only 36% of companies. Corporate governance reports are published by 10% of companies, while policies on key matters like risk management, codes of ethics, etc. are disclosed by 32% of companies.
Recent research shows how diversity can create real value as it contributes to better and more balanced decision-making. Greater board diversity is correlated with lower stock price volatility, more investment in research and development projects, and better innovation, according to a 2017 report titled “Board Diversity, Firm Risk and Corporate Policies” by Professors Gennaro Bernile, Vineet Bhagwat, and Scott Yonker. Furthermore, the research institution FCLTGlobal’s analysis of MSCI ACWI firms between 2010 and 2017 found that “the most diverse boards added 3.3% to return on invested capital (ROIC) as compared to their least diverse peers.”
Nasdaq is taking an active role in promoting good governance, diversity and gender equality, and sustainable business. It is completely clear that these matters will be not only a global trend in the years to come but also a requirement on the part of investors, hence they certainly must become an essential point on the agenda of every company. Our goal within the context of the TOP 101 is to stimulate a discussion and understanding of the benefits of good governance as it affects economic growth, well-being, and an inclusive society.
08/12/2020
