A Corporate Governance Policy Framework for the Private Investor
By Jim Barra, Ironwood Capital Ltd.

The highly publicized corporate scandals of 2002 and the ensuing deluge of legislation, speeches, seminars and articles calling for heightened corporate governance standards have prompted many private investment funds to revisit their policy on the matter. It is perhaps more likely that, before Sarbanes-Oxley, most non-control investors had no formal governance policy, despite routinely taking board seats in conjunction with mezzanine or equity investments. Beyond the reactive formation of audit committees and restriction of loans to insiders, an opportunity is at hand for directors to acknowledge and address their fiduciary duty to shareholders as well as their professional duty to their partnership and limited partners. Below are five key tenets that provide a basic framework from which to build a comprehensive, effective, and fluid governance policy.

I. Strike a Balance - Monitor vs. Mentor. Even before Enron, financial investors commonly viewed board seats primarily as a means of overseeing the inner workings of a portfolio company and of exercising some influence over management or strategic direction in response to an adverse event. Today's director should work collaboratively with management to develop a governance structure and code of ethics that will serve as a backdrop for all company activity, without being overly restrictive or fostering a climate of distrust. A governance policy should acknowledge that, first and foremost, the board is a forward-looking body with an obligation to maximize value for all shareholders. This mission must be the focal point of a governance policy with oversight serving as just one element of implementation.

II. Add Value. Obvious but often overlooked. Directors must be committed to serving the interests of ALL shareholders. The one element of Sarbanes-Oxley that will undoubtedly trickle down to private governance is the overall higher standard to which employees, shareholders, courts and insurers will hold company directors. In order to fulfill this obligation, a director should limit boards served to a number commensurate with time available to perform duties effectively. A director must also possess and maintain the proper industry orientation and knowledge base required to develop or vote strategic initiatives. This includes being diligent in identifying trends and threats, monitoring the competitive landscape and proactively seeking out opportunities that will facilitate growth or mitigate risk.

III. Strive for Optimal Board Composition. Irrespective of the size of the company, a board of directors must possess the comprehensive set of skills required to address any and all issues that it may confront. As mentioned in section II above, a director is expected to have a prudent understanding of the overall business and the industry in which it operates. That assumed, each director should bring a higher level of acumen in one of four critical disciplines: business contacts, industry experience, accounting and finance, and operations and controls. It is also practical to insist that, even for privately held companies, at least one director be an "outsider" in order to ground discussions and decisions in objectivity. While it may not be possible to identify the optimal independent member(s) at the time of investment or board formation, the investment fund may require that a nominating committee be formed to identify and elect such member(s) within some reasonable timeframe.

IV. Demand Organization and Productivity. The ability of a board to be effective begins with organization. Too often management perceives the board meeting as an administrative burden, requiring a two-week fire drill during which a stale presentation is perfunctorily updated to reflect recent financial performance. In addition, many boards have come to accept directors missing meetings or showing up unprepared. A governance policy should require that meetings are scheduled well in advance to ensure 100% attendance, that presentation materials be disseminated in time to be reviewed, that the agenda/format are reflective of the situation, and most importantly, that all attendees are prepared to exchange ideas and ask questions in an open forum.

V. Adopt Best Practices. Investment funds should keep apprised of legislation and industry practices, selectively adopting those elements that are consistent with its overall policy. While the direct fallout of Sarbanes-Oxley on private companies is uncertain and potentially minimal, private investment funds should develop and adhere to positions on: independent board members, loans to shareholders/insiders, conflicts of interest, and certification of financial information by the CEO/CFO. Periodic board performance evaluations may also be helpful in cultivating an environment of open communication and continuous improvement.

The process of developing a corporate governance policy is arguably more valuable than the resulting document, which will require adjustment for specific situations and will (and should) evolve over time. Developing a cogent and actionable policy will require partners to acknowledge the heightened importance of their position as board members and to address their responsibility to various constituencies (shareholders, employees, LPs, etc.). The principles outlined above are intended to serve as a framework from which private investors can bring an added level of structure, commitment and accountability to corporate governance, producing stronger relationships with management and improved performance by portfolio companies.

Mr. Barra is a Director of Ironwood Capital Advisors LLC, which manages the Ironbridge Mezzanine Fund LP, an $80 million Small Business Investment Company. Ironbridge makes $2 million to $5 million mezzanine investments in companies located primarily in the Northeast and MidAtlantic regions. Ironbridge takes a board seat or board observation rights in conjunction with every investment. Mr. Barra can be contacted at barra@ironwoodcap.com. Go to www.ironwoodcap.com to to learn more about Ironbridge and its investment banking affiliate, Ironwood Capital Ltd.

Copyright © 2003 by Ironwood Capital Ltd. All Rights Reserved.