How to Implement Strong Corporate Governance Pre-IPO

Shelagh Donnelly

It's not uncommon for colleagues and directors to turn to you as a corporate secretary or other governance professional for advice. This extends beyond fiduciary duty, meetings, compliance and so on; your role is strategic by nature.

What insights might you offer in the case of a company CEO or board wanting to implement strong corporate governance practices? Leaders may want to drive effective corporate governance practices for a number of reasons. There may be a conviction that this is simply the way business should be conducted; it's only right to strive for strong corporate governance. Or it may be that satisfying current and prospective investors and existing stakeholders is the incentive. Perhaps your company's CEO, founder or existing board has an eye to future scaling.

If leadership has its eyes on going public, it will want to position the company to meet regulatory standards in advance of its initial public offering (IPO). The bottom line, if there's a desire to take the company public, is that the company must demonstrably establish a strong system of corporate governance that serves to safeguard shareholders' interests.

A company wanting to implement strong corporate governance practices pre-IPO will need to be prepared to make significant investments. The organization will need to invest resources and recruit the right expertise and people, including a governance professional. It will need to foster an organizational culture that understands, accepts and supports changes associated being publicly listed. These changes may include, but aren't restricted to, changes to internal and external audit practices, working effectively with a board that is expected to challenge management's assumptions, and exposure to higher degrees of public scrutiny than in the past.

Importance of Strong Corporate Governance Pre-IPO

Ideally, leadership will have positioned the company so that it is functioning in accordance with expectations of publicly traded companies at least a year before the actual IPO. The company will likely retain external expertise as it builds an internal and external IPO team or teams.

Ensuring the company has strong governance practices is just one aspect of IPO preparation, but it's critical. In 2018, the Stanford Graduate School of Business published the results of its Stanford Closer Look Series study, Scaling Up The Implementation of Corporate Governance in Pre-IPO Companies. The paper reflected studies of 47 companies that completed IPO offerings in America between 2010 and 2018.

Authors David Larcker and Brian Tayan reported that, despite variabilities among the 47 companies, there were some commonalities. The following averages may prove informative should you find your board and company on the IPO journey.

Implementing strong corporate governance practices can be incremental, and often begins with leadership. The study found that, on average, those companies that relied on CEOs other than their founders to take their businesses public brought those CEOs on board five years prior to the IPO.

When it came to implementing SEC-friendly accounting and financial systems and retaining the external auditors used for IPOs, companies involved in the study did so, on average, four years in advance of their respective IPOs. Audit and finance practices are critical in supporting prospective shareholders' confidence in the caliber of a company's statements, and so a company needs to ensure that its statements are prepared in accordance with generally accepted accounting principles (GAAP). In the US, financial reporting systems need to reflect controls required for SOX (Sarbanes-Oxley) compliance. Larcker and Tayan found that 77% of the study's pre-IPO companies had retained one of the Big Four accounting firms by the point of the IPO. On average, corporate governance undertakings escalated three years in advance of the IPO.

That's when companies became 'serious' about developing their corporate governance systems. That's the same point, on average, when companies in this study recruited the CFOs who would be charged with taking their respective companies public ...and the point at which they recruited their first independent directors.

Preparing for an IPO

While a startup company's board of directors is unlikely to have independent directors, a company preparing for its IPO must recruit directors who meet regulatory bodies' independence standards. Independence is not, of course, the sole criteria for director recruitment. The board must also be competent, and membership should reflect diverse skills.

Consider that compliance and disclosure requirements associated with publicly traded companies may drive changes to practice. Your board can be charged with providing executive compensation disclosures that include presentation of the company's compensation philosophy and pay objectives or peer group analyses. Since the board will establish an independent compensation committee to establish compensation processes, the board will need to recruit for compensation expertise.

Boards have traditionally recruited on the basis of senior management and industry or sector expertise as well as prior governance experience and financial literacy. Audit and risk management experience have been reflected on board matrices for some time now, and they've been joined by needs for risk management, technology and social media expertise. A company approaching its IPO may also benefit from recruiting for one or more directors with experience in taking companies public.

Increasingly, diversity expectations extend beyond gender to include age, ethnicity, tenure on your board and more. Your board recruitment is likely to reflect the need to provide effective oversight of environmental, social and governance (ESG) issues, and the importance of being prepared for shareholder activism and expectations. Recruiting directors with technological, ESG or social media qualifications may in and of itself afford greater age diversity on the board.'?'?'?

Independence is also a criterion when it comes to committee compensation. The audit committees of companies listed on the Toronto Stock Exchange (TSX), for example, are required to consist of at least three directors, all of whom are required to be both independent and financially literate.

Your board and each committee will want to establish and regularly review their respective charters or terms of reference (TOR) as well as the board's policies. To ensure strong corporate governance pre-IPO, the board can benefit from consultation with legal consultation. That will help ensure these documents (and the board's performance) reflect duties, authorities and limitations as required.

On that note, the Scaling Up study found that retention of internal general counsel was treated as the 'least necessary' of pre-IPO companies' corporate governance requirements. Cost-benefit perceptions influenced deliberations as to whether a company should add a general counsel to the corporate structure. On average, companies that hired in-house general counsel did so two years in advance of their IPOs.

Just as management will adjust and elevate aspects of corporate performance in preparing to go public, the board will also need to commit to acquiring and developing the expertise associated with effective oversight, and with the compliance and disclosure requirements of a listed company. From a governance perspective, it's critical that individual directors and the board as a whole understand and are prepared and willing to undertake the responsibilities and the scrutiny associated with leadership of a pubic company.

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Shelagh Donnelly
Shelagh Donnelly writes about governance and the world of administration, and speaks internationally on both topics. She's been a direct report to C-level executives, including four CEOs, in the private and public sectors. Shelagh spent the last decade of her 21-year higher education career immersed in the world of governance. As the institution's governance point person, she elevated the directors' onboarding program, championed the introduction of portal software, and introduced efficiencies and practices that enhanced operations and ongoing board development. Responsible for effective operations of the institution's governance system and accountable to board Chairs and the institution's CEOs, Shelagh supported all five of the board's committees. She worked with four board chairs, more than a dozen committee chairs and multiple directors. Shelagh's professional affiliations have included the Institute of Corporate Directors (ICD) and the National Association of Presidential Assistants in Higher Education (NAPAHE). Through the Association of Governing Boards' (AGB's) Board Professionals Leadership Group, she served as a board professional mentor. She remains a member of Governance Professionals of Canada (GPC) and has served as Chair of the Board of Directors of CICan:GPOP (GPOP), a national professional association affiliated with Colleges and Institutes Canada (CICan). She is one of only two individuals to be recognised with the CICan:GPOP Award for Distinguished Service. Shelagh began publishing Exceptional EA, an online professional development resource for career assistants, in 2013. She continues to publish Exceptional EA and write for other publications, and is the author of the forthcoming book, The Resilient Assistant. Exceptional EA: ' Colleges and Institutes Canada (CICan):