Assessing Governance Investment Risks and Opportunities

Arun Kelshiker

20 years: Asset management and stewardship

In this video, Arun explores the global landscape of governance structures, ranging from single-tier boards in Australia to double-tier systems in Germany, and the varied practices in the United States due to federal-state dynamics. He also delves into the evolving purpose of audits, emphasising their role in ensuring transparency and investor confidence through independence and comprehensive reporting.

Investment Management Sector

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Assessing Governance Investment Risks and Opportunities

10 mins 11 secs

Key learning objectives:

Outline the various governance structures globally
Understand the purpose of audit and why it matters
Understand how governance factors impact investment opportunities
Outline how to incorporate governance factors into investment opportunities

Overview:

Global governance structures differ significantly. While Australia adopts a single-tier board system prioritising shareholder influence, Germany embraces a double-tier approach, balancing employee and shareholder interests. In contrast, the U.S. lacks a unified system due to state-specific corporate laws, yet national initiatives aim to bridge this gap. The significance of audits is underscored by their evolution, which emphasises auditor independence and transparency. Governance, a cornerstone in ESG analysis, profoundly influences a company's success and resonates universally. Its effectiveness or lack thereof can have vast economic consequences. Investment professionals, recognising its impact, weave governance into their strategies, illustrating its relevance across diverse asset classes and even sovereign debt.

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Summary

What are the various governance structures around the world?

Governance structures vary internationally, generally divided into single-tier and double-tier boards. In a single-tier structure, such as Australia, the board combines both executive and non-executive directors, with shareholders voting annually for non-executive directors. Double-tier boards, as seen in Germany, separate the management and supervisory boards, with shareholders and employees appointing the supervisory board members. Meanwhile, the US lacks a unified corporate governance code due to its federal-state dynamic, resulting in varied governance practices across states. However, US securities law shapes governance practices, emphasising investor transparency and disclosure.

What is the purpose of audit, and why does it matter?

Audit's main purpose is to independently assess a company's financial reports, identifying discrepancies or inconsistencies for further examination. While not providing outright assurance, it signals potential issues often unnoticed by shareholders. Essential to this process is auditor independence, ensuring unbiased financial analysis and eliminating conflicts of interest. The transparency in auditing has been enhanced through comprehensive auditor reports that delve into the scope, materiality, and key matters of an audit. The emphasis on maintaining auditor independence and liability safeguards trust in financial reporting, vital for stakeholders' confidence in a company.

How do governance factors impact investment opportunities?

Governance is pivotal in shaping a company's performance and its investment potential. Companies with sound governance practices can effectively address environmental and social challenges, leveraging opportunities and minimising risks. On the other hand, poor governance can diminish a company's value. Key principles of good governance, such as accountability and alignment, are universally relevant. Governance inefficiencies can lead to financial losses and erode trust, making it essential for investors to assess a company's governance framework when considering its valuation and growth prospects.

How can governance factors be incorporated into investment decisions?

Fund managers integrate governance insights diversely in their strategies. Some view governance as a foundational benchmark assessing the management team's quality. Others use it as a risk assessment tool, influencing the value of future earnings. A niche group sees weak governance as a potential turnaround opportunity, believing that active engagement can lead to governance enhancements. Ongoing dialogues with companies allow investors to address governance issues, which are central in AGM discussions. The 'G' in ESG extends to investments across various asset classes, emphasising the role of good governance in securing robust investment returns.

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Arun Kelshiker

Arun Kelshiker was formerly the Head of Asset Allocation and Portfolio Strategy at Standard Chartered Bank and part of the bank's Global Investment Committee, where he provided investment advisory and multi-asset portfolio solutions. His focus is now with Cambridge Sustainable Investment Partners, which draws its expertise from the Resilience and Sustainable Development Centre at Cambridge University. He is also a university lecturer at the Frankfurt School of Finance and Management and is Vice Chair of the CFA UK's Inclusion and Diversity Committee and its Investment Committee.

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