Doing so not only leads to greater oversight of the business and ensures compliance with regulatory requirements, but also ensures a focus on strategy and the development of good governance habits in preparation for future growth.
Because the business owner/s tend to wear all the hats in an SME – owner, operator, director, manager – a best practice approach to governance for SMEs involves the ability to wear the right hat, at the right time. Below, we discuss what this means in a practical sense, adopting a governance mindset and how to implement the right practices in your business.
What are the key governance considerations for SMEs?
The governance requirements of a business can change dramatically over time and with growth. During start-up and while the business is quite small, owners tend to perform all governance and management functions. At this stage, it’s necessary to regularly set time aside to work on, not in, the business – which takes discipline. At a minimum, this will require ensuring appropriate operations and that necessary compliance and policies are taken care of.
As the business grows, you will likely consider hiring external specialists to perform some of these functions (e.g. OH&S or HR), and in time, establishing a board (or advisory board, as an interim step). Regardless of size, there are key governance issues relevant to all SMEs which should be considered and addressed – we explain each of these below.
Environmental, Social and Governance (ESG)
In today’s business climate, ESG is increasingly important for organisations of all sizes. Demand for reporting on these metrics by various stakeholders is increasing, and while there is currently no regulatory requirement for ESG reporting, SMEs can benefit from getting on the front foot.
Incorporating these elements can assist with access to new and emerging markets, access to better lending conditions or interest rates and be seen as a point of difference in a highly competitive talent market. As suppliers to larger organisations, SMEs may soon find – if not already – that ESG reporting requirements are included in supplier agreements. Find out more about ESG reporting in this article by our sustainability team.
Accountability provides rigour and looks different in different businesses, depending on its size and structure, and changes as businesses grow and functions change. In a larger business, for example, the board will likely be accountable to outside shareholders, whereas a smaller business is really only accountable to relevant regulators and the owners. Accountability also includes considerations such as financial delegations – establishing who in the business has the right to approve expenditure and up to what amount.
In any business, it’s important to establish clear lines of authority. Who is responsible for what? What decisions can they make, and not? Put in place a decision-making escalation framework, to provide structural integrity and ensure all levels of the business are clear on who has the authority to make which decisions.
Again, the extent of an SMEs reporting requirements depends on the size of the business and who the reports are for. Reporting may be for owners, a board or regulatory reporting – a requirement of tax authorities, for example, or licensing authorities in the case of a building company. Ensuring these reporting requirements are met, as relevant to your business and industry, is a key component of good governance.
While many small businesses don’t have written policies, it is highly advisable. A suite of formal policies – including OH&S, harassment, discrimination, etc. – provides certainty and accountability. They also improve the scalability of your business, reducing reliance on ‘word of mouth’ or other informal processes, which are untenable if you experience rapid growth and suddenly find yourself with 100 staff, rather than 10.
Larger businesses have a formal risk framework guiding their approach to risk management, while smaller businesses often manage their risk ‘on the fly’ – which is less than ideal. A more effective approach in an SME is to understand the nature and range of risks in your business, identify the level of risk presented by each of these, and know what your mitigation process is. i.e. ‘In the event of X, we do Y’. An example of unacceptable risk in an SME might involve a contract that doubles your business, but potentially leaves you too reliant on one client.
A further consideration is the management of tax risk. The ATO is increasingly looking at business’ approach to tax governance. How they perceive the level of rigour in managing tax risk will impact the level of intrusion they have into your business’ affairs.
Ownership v Directorship
As we’ve discussed above, role lines are commonly blurred in an SME – owners and directors are often one and the same. Where that’s not the case, or in a larger business, it’s important to delineate the roles clearly and for directors to know and understand their duties/responsibilities & legal obligations. This delineation can be particularly tricky in a family business, where existing family dynamics come into play and can make formalising roles and processes more difficult.
A best practice approach to governance is intrinsically linked with strategy. Achieving the goals you lay out for your business will depend heavily on having the right governance processes in place at the right time. Governance requirements or milestones should be mapped into your strategy and factored into growth projections: ‘By this stage, we want to … [e.g. expand into a new market, or have X number of staff] so we’ll need this resource [e.g. HR Manager or Board] or formal process at this time.’
Steps to implementing ‘best practice’ governance
Take stock: Start by stepping out and looking objectively at the business, asking yourself questions and answering honestly: Do you have a strategy? Do you have the right people, with the right skills? What are you good at, and what could you use help with? What’s working well, what’s not? Importantly, what budget do you have? A comprehensive and objective understanding of your business can be difficult to achieve, so you may consider seeking outside assistance to facilitate this process.
Get your compliance ducks in a row: Before you attempt any non-mandatory governance processes, first make sure you are meeting all your regulatory and compliance obligations. Failure to implement regular reviews can lead to much larger, but entirely avoidable, issues. Payroll compliance and ‘wage theft’ is a common example of this, with recent high-profile cases serving as a warning to all business owners. Be methodical in your approach to compliance, ensuring there are checks and balances in place and stay across changes to regulations – particularly those that may occur regularly (e.g. award rates and clauses).
Identify and involve key stakeholders: For each governance issue or consideration, who are the key people (within or outside the business) who should be involved? This will depend on the structure and size of the business, but involving the right people at the right time is key to ensuring a governance mindset is embedded and adopted beyond simply the business owners.
Learn from other businesses: There’s a lot to learn from businesses who do governance well. While no two businesses, or their owners, are the same, there are traits they have in common that lead to good governance outcomes:
- Know your limitations: Be ready to bring in skillsets that fill gaps in your own capability
- Strive for increased rigor and commercial discipline in your operations
- Be open to outside advice and assistance: This may take the form of an advisory board or independent board member, for example. The benefits to be gained from the experience, networks and broader views of someone external are invaluable
- Be honest with yourself and open to input from others (whether internal or external)
- Don’t underestimate the importance of step 1 – taking stock. One of the biggest mistakes SME owners make is neglecting to stop working ‘at the coalface’ long enough to step back and assess the business. Those who successfully adopt a governance mindset ensure they take the time for this process.
Plan and review regularly: Some governance processes have review or reporting intervals that are determined by the associated compliance requirements, or payment schedules (e.g. annual insurance premiums). Others, such as internal policy or strategy reviews, will be self-determined. The most effective way of ensuring an ongoing revision and compliance process is to establish a governance calendar for your business, mapping out what needs to happen when and eliminating the risk of ‘oops’ moments. Take the opportunity to annually re-set your approach to governance, check your bearings and make sure you are still applying best practice processes.
It’s easy to be absorbed by the day-to-day demands of owning and operating an SME, and to fall into the habit of working so hard in the business that you don’t take the time to put your ‘governance hat’ on. However, it’s important to do so. Not only does it ensure the business is compliant and applying strategy, but sets it up for future growth and scalability.
BDO’s ‘Best practice for SMEs’ series is designed to ensure you, and your business operations, are at the top of your game throughout the year. No matter which industry you’re in, we’ll help equip you and your team with the resources and information to help you thrive.
This article is a version of one first published at bdo.com.au on 27 June, 2022.