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Building group governance to enhance corporate value
1. Introduction
Developments such as government-led corporate governance reform efforts, increasing shareholder activism and a growing international awareness of ESG (environment, social and governance) issues have made the re-examination and building of corporate and group governance an important issue for many companies. Furthermore, a rapidly changing business environment—marked by shrinking domestic markets and advancing digital technologies—is forcing companies to make a strategic shift toward transforming the economic performance of their businesses and launching new domains. Therefore, governance is also becoming more necessary from the standpoint of strategy execution. In this article, we present an approach that focuses on group governance (a type of governance that is particularly effective in group management) based on the idea that enhanced governance is important not only for guaranteeing management transparency and efficiency but also for realising strategies and ensuring the success of the M&As and alliances that serve as means for realizing those strategies.
In this article, we use the term ‘governance’ to refer to all governance systems and processes that pertain to strategy realisation. We refer to governance as a broad concept that is not restricted only to the traditional definitions of ‘methods of supervision and enforcement’ and ‘measures to prevent wrongdoing and ensure legal compliance’.
2. A look at group governance at Japanese companies
As the building of governance is becoming more and more important, let us first take a look at group governance as it exists in many Japanese companies. At many companies, group governance is progressing at least outwardly—most notably in the form of responses to corporate governance codes. However, its effectiveness remains insufficient, and many criticise it as being akin to ‘ploughing the field but forgetting the seeds’. In general, many Japanese companies tend to manage their organisations based on tacit understandings and long-standing rules. While this in itself is not problematic, it does present a major challenge from the standpoint of an organisation’s scalability in terms of initiatives such as launching new domains or the post-merger integration (PMI) of companies acquired through M&A. This situation often leads to the following issues:
- There is a tendency for the group HQ to serve merely as a coordinator, for company-wide strategy to be vague, and for medium-term management plans to be little more than an amalgamation of each company’s business strategies and plans.
- Without a specific governance policy in place, business management tends to be left to the individual businesses and subsidiaries that were acquired through M&A. The group HQ does not become involved unless there is a change in the business environment or an incident occurs.
- Groups fail to establish a system whereby the chief executive officer oversees corporate functions across all businesses and subsidiaries and, as a result, only partial optimisation of corporate functions takes place at the group’s HQ, businesses and subsidiaries.
The following issues that impede corporate value enhancement can then arise as consequences of the above:
- Even if the group HQ takes the lead and attempts to promote synergy-generating measures, these efforts stall because the measures do not bring short-term benefits or profits to the businesses and subsidiaries.
- The PMI of businesses and subsidiaries acquired through M&A does not progress, the group fails to produce synergy commensurate with the acquisition premium, and the M&A fails to enhance corporate value.
- Efforts to reform corporate functions throughout the group do not progress or become watered down due to resistance from businesses and subsidiaries, which leads to a failure to achieve group-wide optimisation.
In the next section, we present an approach to building group governance that can help to resolve these issues.
3. Our approach to building group governance
To overcome these issues associated with group governance and to execute your group’s strategy, it is important to streamline your group HQ functions as a ‘control tower’ for group management and to clarify your involvement policies for businesses and subsidiaries in the group. (See Figure 2.)
(1) Optimising group HQ functions
The first step in building group governance is to optimise the functions of the group HQ as the ‘control tower’ for group management. It is not unusual to hear front-line employees say things like ‘The group HQ just issues demands and instructions for reporting, targets and forecasts and never provides any feedback,’ or ‘The group HQ does not understand the logic we use in the field.’ However, for a group HQ to conduct management with attention to the capital efficiency required by its corporate governance code, it cannot be just a coordinator focused solely on ‘the logic used in the field’. The group HQ must take a company-wide view of optimisation, which includes understanding business portfolios and decisively reorganising businesses as necessary. In recent years, the business environment has been described as VUCA (volatility, uncertainty, complexity and ambiguity). In such an environment, it is more important than ever that the group HQ, as the control tower that drives the entire group, fulfil the requirements of another form of VUCA:
Vision: establishment and development of a group vision
Understanding: comprehension of the essential nature of the businesses under its umbrella and presentation of strategic hypotheses and feedback
Clarity: formulating a clear role and involvement policy for the group HQ, and
Agility: flexible decision-making and execution.
When we talk about the optimisation of group HQ functions, we do not mean that the group headquarters should simply exert its authority to control the businesses and subsidiaries under it. It is important for the group HQ to optimise the way it carries out its functions in a manner suitable for the situations and characteristics of its businesses and subsidiaries. This requires the thorough clarification of an involvement policy for businesses and subsidiaries, and the development of rules and regulations and execution of reforms. These two topics are discussed in detail below.
The functions that a group HQ needs to perform typically include strategy formulation, business portfolio management, synergy manifestation and promotion and risk management. Ideally, however, the group HQ should also study and analyse the current nature of the roles and operations of its departments and then proceed to design appropriate functions based on the medium-and long-term company-wide strategy, industry and business characteristics and other considerations.
(2) Clarification of an involvement policy for businesses and subsidiaries
The next step is to clarify the group HQ’s involvement policy for the group’s businesses and subsidiaries. Generally speaking, corporate groups consist of various businesses and subsidiaries with different voting rights percentages, business sizes, business stages and numbers of business territories. For this reason, we do not recommend lumping all businesses and subsidiaries together under the same involvement policy. Group HQs have limited resources to provide, and they must therefore pursue balanced involvement based on variations in strategic importance and inherent risk.
One effective approach is to rank and classify your businesses and subsidiaries based on various factors (for example, voting rights percentage, scope of sales revenue or business territories), and then establish involvement policies (‘hands-on’ and ‘hands-off’ involvement policies) according to those classifications. By linking these policies with the group HQ functions described above, the group HQ will be able to control how it exerts its functions.
Classifying businesses and subsidiaries and setting involvement policies based on those classifications makes it easier to handle M&As and alliances. This step eliminates the need for impromptu discussions and decision-making during the PMI stage, and enables the preparation of clear integration policies and medium- and long-term road maps that help maintain consistency with previous and future M&As and alliances.
(3) Development of rules and regulations and execution of reforms
Once the group HQ functions have been optimised and involvement policies for businesses and subsidiaries have been clarified, the next step is to apply these functions and policies to regulations pertaining to decision-making authority as well as various other rules and regulations. Achieving balanced involvement requires consideration for the establishment of decision-making authority and advance consultation concerning M&As and IT investment in businesses and subsidiaries. In addition to developing rules and regulations, measures such as hiring temp staff and establishing communication rules and operational processes can also be effective in realising involvement policies. (See Figure 3.)
4. Taking group governance to the next level
This process of establishing group governance is not a one-time undertaking. Companies must create their own versions of group governance (their own group governance models) through continuous review, and adjust their governance systems to changes in their business environment and company-wide strategy. Moreover, to further enhance the effectiveness of group governance, it is important for companies to develop systems and organisational processes to address the business portfolio management and group-wide human resources management issues described above, and to deploy these systems and processes throughout the group.
PwC’s services: Support for the building of governance that enhances corporate value
Based on our wealth of experience in helping our clients build corporate governance and group governance, PwC Consulting LLC provides ‘one-stop’ support to help you address not only individual issues, but also wider-ranging issues affecting your entire group. Our services include:
- Identifying issues in corporate governance and group governance
- Surveying and analysing the current allocation of corporate functions and degrees of involvement in businesses and subsidiaries
- Developing concepts and road maps for building corporate governance and group governance
- Developing systems, operational processes and regulations
- Supporting the planning and execution of group restructuring based on a governance road map
Example 1: Helping build group governance for a major food company
We helped a major food company build systems and mechanisms for streamlining their group HQ functions, clarifying their involvement policies for businesses and subsidiaries, and strengthening their regulations for business planning and monitoring, all aimed at ultimately realising their long-term vision.
Example 2: Helping build group governance for a major services company
We helped a major services company survey its existing corporate functions and formulate a vision for its group HQ to establish group governance in accordance with the introduction of a new organisational and governance structure.
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Our team
Hirotaka Arima
Director, PwC Consulting LLC
