FUND GOVERNANCE AND BUSINESS INTEGRITY MANAGEMENT SYSTEM
Click on the puzzle elements below to go through each stage.
All funds need to have a governance and business integrity management system (GBIMS) commensurate with the level of governance, business integrity and compliance (G&BI) risk, and the impacts of those risks associated with current and potential portfolio companies. The GBIMS will need to take into account the fund manager’s capacity and structure. It should be noted that GBIMS is more than a set of documents. It is the way in which a fund manager ensures that ESG aspects are well managed. The documents are just a part of the fund management system.
This section provides guidance on designing and implementing a GBIMS.
What does G&BI cover?
In this section, and throughout the CDC Toolkit for Fund Managers G&BI covers:
A fund’s GBIMS should include the following key elements:
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All fund managers should have G&BI policies that:
2. Guidance and advice
Developing an approach
The most effective and realistic G&BI policies evolve where fund managers have properly considered the types and significance of the G&BI risks to which the fund will be exposed, their own market positioning, their specific circumstances, and the resources available internally to develop their policies and procedures. It is also important to consider investors’ priorities and expectations and align the direction of the fund’s policies and practices with those of key stakeholders.
Elements of good policies
Good policies typically contain or address the following:
Communicating the policies
Policy documents should be visible, and adequately communicated and explained, to all members of the fund management team, and should be easily accessible and made prominent (e.g. published on the fund manager’s intranet, in the LP zone of its website and potentially disclosed publicly online).
Consideration should also be given to whether and how the policies are communicated externally. It is also important to consider who might be interested in the policies – potential and current portfolio companies, as well as investors – and then make the policies easily accessible to them.
During fund raising, it is important for the fund to disclose enough information on its GBIMS to allow potential LPs to assess whether their approaches are aligned. A well-conceived set of policies and a clear GBIMS will signal G&BI commitments to potential investors.
Roles, responsibilities and oversight
There is no ‘best’ or standard way to organise roles and responsibilities; every fund and every portfolio company will be different. The structure of the GBIMS should be aligned to the fund’s commitment and capacity to address G&BI matters. Common elements of good practice are:
2. Guidance and advice
Fund managers may wish to develop a flow chart/table (see graph below) and accompanying documentation to indicate how implementation of the GBIMS aligns with the operational investment process (i.e. who is responsible for ensuring G&BI matters are addressed at each stage of the investment cycle: identification, screening, due diligence, decision making and portfolio management). It can also indicate how G&BI responsibilities have been assigned and where specific expert G&BI input (internal or external) is likely to be required.
Accountability for the GBIMS
Ideally, accountability for each of the G&BI policies should reside with a senior executive of the fund (e.g. a Senior Partner or voting member of the IC). The role of the senior executive includes approving, developing and promoting the policies, leading and ensuring their proper implementation, ensuring relevant G&BI matters are discussed at IC meetings and reporting to the Board and investors. When assigning these roles, the fund structure, culture and processes, as well as the existing time commitments of the individual(s), should be taken into account in order to ensure that adequate time is devoted to driving the GBIMS. These people should be knowledgeable about their relevant G&BI matter and how to address it. It is likely that within a small organisation that these various roles will be held by one person.
A senior staff member (ideally an IC voting member) should also lead the evaluation of the adequacy of due diligence for each deal for the IC, in order to provide a ‘check and balance’ mechanism (see ‘Checks and balances’ below). This may be the same person who is accountable for the GBIMS or another IC member.
If it is not possible to allocate accountability to a senior IC member with relevant experience, the fund should try to identify a senior staff member who has a personal interest in G&BI matters and find a way to provide that person with training or give this person access to independent advice.
Responsibility for the GBIMS
To ensure effective implementation of the GBIMS, a G&BI Officer(s) with sufficient independence, influence, capacity and commitment should be appointed. The G&BI Officer is responsible for operationalising their particular policies (i.e. day-to-day implementation). This includes ensuring that relevant parts of the GBIMS are applied consistently and effectively, undertaking reviews of the system and acting as the main contact point for companies, fund staff and LPs for their particular G&BI matters. The G&BI Officer should also take responsibility (as relevant) for external and internal G&BI communications.
This person should have a reasonable understanding of G&BI matters, but does not necessarily need to be a G&BI specialist. In addition, the G&BI Officer can have another role, provided that role does not conflict with their G&BI responsibilities. The level of experience required and whether the role needs to be full time will depend upon the level of the G&BI issues the fund is likely to encounter, the size and type of fund, and how responsibility for G&BI implementation is allocated. Some fund managers employ a G&BI specialist to cover several funds.
Resources and training
GBIMS development and implementation will require resources (budget and staff), and thought should be given to who will manage these resources. It is also important to ensure that appropriate training is provided to the investment team and, where appropriate, the G&BI Officer.
It should be noted that, in some instances, particularly when the fund manager has limited G&BI expertise or capacity and may be exposed to significant G&BI risks and impacts, LPs may require capacity improvements such as targeted G&BI training, recruitment of additional staff, or mentoring by external G&BI experts.
Day-to-day implementation of the GBIMS
Experience shows that funds that have most effectively implemented a GBIMS have well-trained and fully-committed staff, who understand that consideration of G&BI matters needs to be integrated into their investment activities and responsibilities, and whose objectives and remuneration covers G&BI management.
At a minimum, the G&BI Officer should be tasked with management of the system, (ideally there should be some separation from the deal leader to ensure objective G&BI assessment).
GBIMS implementation will involve several teams including G&BI Officers, investment Officers, counsel and in some instances, external consultants. As a result, it is important that a G&BI Officer coordinates collective efforts from the various teams. Investment Officers will typically have an important role in the implementation of the GBIMS and, hence, should understand the business case for G&BI. Additionally, the G&BI Officer will ideally have experience in successfully engaging with portfolio companies around G&BI management. Where such G&BI responsibilities are being introduced to investment staff, it is important to offer training, mentoring and/or other support.
The fund manager should also consider whether its representatives on the Boards (or Advisory Committees) of portfolio companies have sufficient understanding of, and experience with, G&BI matters, to engage with company management on G&BI performance.
Where this is not the case, capacity building could be of value or, in some cases, the fund should consider bringing in external expertise.
Checks and balances
As noted previously, it is important to put in place appropriate checks and balances to ensure that G&BI matters are assessed properly throughout the investment cycle, in accordance with the fund’s procedures. Depending on the fund’s specific characteristics, fund managers may adopt different approaches taking into account the fund structure and size, the G&BI risk profile, the investment strategy of the fund, LP expectations and requirements, and, the ambitions, requirements and objectives outlined in the policies. A good principle to observe is that the G&BI assessment presented to IC and, as applicable, to other relevant committees is conducted and written and reviewed, by someone independent from the leading Investment/Portfolio Officer.
The IC typically provides an important ‘check and balance’ role. Having senior people on the IC with the knowledge of G&BI issues and the ability and commitment to evaluate G&BI matters ensures that these aspects are effectively considered in each investment.
Fund managers should ensure that information on the G&BI performance of portfolio companies is also subject to adequate checks and balances. Therefore the IC or other committees should oversee G&BI performance of portfolio companies during ownership. Fund managers should also consider whether members of the IC and/or committees would benefit from G&BI training.
When designing and implementing training sessions and programmes, fund managers should:
Developing an appropriate training programme will significantly contribute to implementation of the GBIMS. A training programme should not be a one-off event. Instead, it should include the sharing of experiences and lessons learnt, as well as more specialised training as the policies that make up the GBIMS become better established.
Generally, all staff within the fund should participate in some level of capacity building to understand G&BI dimensions and how they relate to investment, as well as on the actual functioning of the GBIMS and the procedures involved. Professionals with direct company contact should be able to confidently and clearly articulate the fund’s G&BI requirements, as well as identify potential G&BI risks and opportunities.
Running in-house training:
The advantage of in-house training is that the whole investment team can be brought together to discuss G&BI issues and lessons learned without confidentiality concerns. In-house training can be run either by experienced in-house staff or commissioned through consultancies. Experience has shown that interactive training, including case studies and evaluation of real life deals, is more successful than generic and/or academic training.
The design of the training program should take the fund’s portfolio and strategy and deal team’s time constraints, key concerns and needs into account. Some funds have found it useful to integrate G&BI training into general fund training arrangements, particularly induction training, and to add G&BI modules whenever other training is given. In addition, planning for regular refresher training, or at least discussion groups, assists in keeping the GBIMS at the front of mind.
An effective training programme may not rely entirely on internal or external training sessions, but may also include some on-the-job training. Since there may not be relevant training programmes available on all topics, this can be a good way to increase knowledge and awareness. Similarly, if some team members have more experience regarding G&BI issues than others, setting up a peer-to-peer learning system should be encouraged.
Learning from experience:
In developing training programs and resources, it is important to take the context and experiences of the fund and its team into account. Engagement with all team members following a training exercise is necessary to assess the adequacy of the session. It can be interesting to follow up several months post- training session to see which elements of the training had the smallest or the greatest impact. It is also useful to keep an eye on what training for the private equity (PE) sector is generally available in the market and which ESG topics are currently "trending".
Staying informed and keeping up to date:
Participating in regional PE networks or initiatives such as East Africa Venture Capital Corporation (EAVCA), African Private Equity and Venture Capital Association (AVCA), Emerging Markets Private Equity Association (EMPEA) and PRI has the advantage of keeping professionals with G&BI responsibilities up to date with regulatory developments, changes in approach to G&BI management, key issues emerging and corresponding tools to manage these. It can be useful to not only focus on networks or bodies relevant to the private equity sector, but also to participate in initiatives in sectors on which the fund focuses.
Capacity building initiatives/tools:
Several Development Finance Institutions (DFIs) and organisations offer ESG capacity building for PE. Examples include:
All funds should have documented practical procedures that set out how they operationalise their G&BI policies on a day-to-day basis, from screening prospective investments to the ownership and monitoring stage through to exit. Procedures help to ensure that a consistent approach is applied across the investment cycle and the fund’s portfolio, and to define roles and responsibilities. Above all, G&BI procedures should be practical and consistent with the fund’s operational procedures. Simplicity and pragmatism should be prioritised over complexity and bureaucracy.
2. Guidance and advice
Procedures and accompanying tools (see image below) should be designed to ensure that G&BI matters are considered throughout the investment cycle. Ideally these procedures should be integrated within investment operating procedures and into existing management systems, rather than in a separate system.
Developing effective and pragmatic procedures:
Procedures should cover:
Experienced fund managers have found that it is typically easier to develop G&BI procedures once investment procedures are in place, and to integrate these G&BI procedures into existing processes. In this respect, process flow diagrams can assist in ensuring a clear overview of how and where the G&BI procedures apply to the investment cycle and in articulating key roles and responsibilities for each of these stages. There should be a clear explanation of what needs to be achieved at each stage of the investment cycle. Appendices containing templates to be used and adapted during screening, due diligence and monitoring could significantly help to ensure efficient and consistent implementation of the GBIMS (checklists and other tools are provided in Downloads & Reference Materials). The procedures should take into account the G&BI requirements and expectations of LPs.
Above all, the aim for G&BI procedures should be that they help the deal team and G&BI Officer(s) to evaluate and manage potential G&BI risks and opportunities throughout the life of an investment. They must not be seen as a compliance or ‘tick box’ exercise.
Procedures for integrating G&BI management into the investment cycle
Operating procedures should be prepared for the various activities to be performed throughout the investment cycle, clearly highlighting roles and responsibilities. Procedures may include templates that can be adapted on a deal-by-deal basis. A good procedure manual will typically cover the points included in the table below. Procedures, as with the rest of the GBIMS, can be structured in different ways. The ultimate goal is to produce something that is helpful and appropriate for the fund to manage ESG in the Investment Cycle.
Screening: Robust procedures at screening will contribute to a more efficient due diligence process. Procedures and/or tools would typically cover: (i) identification of material breaches of the fund’s policy and Exclusions List; (ii) identification of key E&S issues; and (iii) planning of due diligence.
Due diligence: Significant guidance is required at this stage.Procedures and tools would typically cover: (i) assessment of the transaction’s G&BI risks, impacts and opportunities; (ii) assessment of a company’s compliance against applicable standards/requirements, including guidance on the information to be reviewed; (iii) site visits; (iv) assessment of the company’s commitment, capacity and track-record; (v) preparation of due diligence reports; and (vi) engagement of appropriate consultants (where appropriate).
Investment decision: Ensuring that all investment decisions are supported by appropriate due diligence documentation, including a G&BI section in IC papers/Investment Memorandum. This enables IC members to understand and discuss G&BI matters at each meeting. Procedures and tools providing guidance on how to prepare IC papers (i.e. investment proposal to IC and IC minutes) should be developed.
Investment agreement: Ensuring that appropriate G&BI representations, warranties and covenants are incorporated in each investment agreement is of vital importance. It is advisable to develop a set of standard G&BI terms and conditions, which are then adapted to each investment based on the findings of due diligence (e.g. where material gaps are identified, an ESG Action Plan should be included in the legal documentation).
Ownership and monitoring: Fund managers should not only take G&BI matters into account during due diligence.Continued engagement with portfolio companies post-investment is key to ensuring that G&BI management is integrated into the portfolio company’s operations, that ESG Action Plans are effectively implemented and that G&BI opportunities are realised. Procedures and tools would typically cover: (i) engagement with investee companies during ownership; (ii) monitoring of companies’ G&BI performance, ESG Action Plan implementation and compliance with investment agreement requirements; and (iii) management of unforeseen events (e.g. corruption issues).
Additionally, procedures on how to engage with/report to LPs should be developed. These should include regular monitoring and reporting on material events such as unforeseen events or relevant situations involving/affecting investee companies.
Some fund managers have templates to guide portfolio data collation and reporting to LPs and, if applicable, other stakeholders. In some cases, LPs will provide a reporting template to guide fund managers (see example - CDC’s reporting template).The goal should be to provide adequate detail and clear communication of actual, rather than perceived, performance, without resorting to a ‘tick box’ approach. Templates should be designed to be easily understood by those utilising them. Follow-up and feedback on the reports will also be required. Some fund managers also use Advisory Committee meetings to highlight progress made on G&BI matters, or include it on investor site visits to portfolio companies.
Roles and responsibilities: It is necessary to clearly assign roles and responsibilities for all aspects of GBIMS implementation from management of G&BI aspects within portfolio companies and oversight of the implementation, through to the design and application of E&S procedures within the fund itself, including reporting and disclosure to stakeholders.
Performance management and review: It is important to have periodic oversight and performance review to assess the continued relevance and efficacy of the GBIMS and make adjustments and improvements. The procedures should identify who is responsible for the GBIMS performance review and how any corrective actions and/or changes to the GBIMS will be agreed and approved.
Procedures for grievance mechanisms: Fund managers should implement a mechanism to enable third parties to raise their grievances. Fund managers should investigate these grievances and assess whether any further action should be taken.
All funds should have an effective system for monitoring and periodically reviewing the adequacy of their GBIMS. In order to do this, appropriate records need to be kept, documenting the process followed for each investment and the progress made or challenges encountered. Reviewing the successes and challenges faced when implementing the GBIMS can reveal important lessons and insights to improve the system and make it more effective. Continuous improvement is a key component of the GBIMS.
When assigning roles and responsibilities funds should be clear about who will conduct performance reviews and how corrective actions/changes to the ESMS will be implemented and approved.
2. Guidance and advice
Fund managers should monitor the adequacy and performance of their GBIMS and the underlying policies to understand the extent to which they are meeting their own objectives and strategy, meeting stakeholders’ (e.g. LPs) expectations and requirements, and contributing to the performance of their funds and the companies in which they are invested.
Periodic review of the efficacy of the GBIMS and G&BI policies allows the fund to assess whether it needs to adjust its ambitions or goals, invest more in capacity building of its investment team, or remedy any matters that are either posing obstacles or being by-passed within the investment cycle. Responsibility for monitoring the efficacy and efficiency of the policies should be clearly identified in the policies and GBIMS documentation.
Elements of performance management
External stakeholder engagement
All funds should report to LPs, (and potentially to other stakeholders), on the implementation and progress of their G&BI policies and the G&BI performance of their portfolio companies. It is fairly standard for this to be an annual report, although some fund managers also include G&BI aspects in their quarterly reports. Many funds also increasingly use other communication channels to discuss G&BI matters in a more proactive manner including ad hoc calls or emails, Advisory Committee meetings, investor days and inviting investors on site visits etc. These help to build a mutually supportive relationship between the fund and its LPs.
2. Guidance and advice
Disclosure of information during fund raising
During fundraising, it is important that the fund manager discloses sufficient information on its G&BI management to potential LPs, as this could attract LPs and/or expedite their due diligence process. A well-executed set of G&BI policies and a good GBIMS will signal to a potential investor that the fund’s approach and commitment are solid. Where the fund manager has a track record with other funds, information demonstrating how it has supported and enhanced its portfolio companies’ management of G&BI risks can offer good starting points for engagement with LPs. Investors may ask to see examples of due diligence, G&BI coverage in legal agreements and ESG reports to LPs. As such, ensuring that progress on priorities identified during due diligence can be clearly followed through the document trail is important in demonstrating an effective system.
However, some fund managers may not have fully designed a GBIMS when they contact LPs. In these cases, LPs may be able to provide guidance to fund managers on how to develop it in alignment with LPs’ expectations.
Reporting to Limited Partners
Many LPs (and all DFI LPs) require fund managers to report regularly (at least annually) on the G&BI performance of their portfolios and of the funds themselves. The purpose of this reporting is twofold. Firstly, it allows LPs to assess how G&BI improvements have been implemented within portfolio companies, what challenges may have been encountered and how these were addressed. Secondly, it offers an opportunity for LPs to check that the fund is still being managed in line with the G&BI commitments made by the fund, and/or whether there have been any material changes to the fund’s portfolio, strategy, management or focal sectors to justify a change in scope of, or approach to, G&BI management. Reporting should also address the steps the fund has taken to ensure continued implementation of its GBIMS, such as additional training, recruitment and partnerships with external advisors or re-assignment of internal responsibilities.
Reporting by fund managers to LPs typically incorporate the following information:
An example of a reporting template could be found here.
Ongoing engagement with Limited Partners
Fund managers should always consider contacting LPs to get guidance on G&BI management and have regular meetings or calls to discuss G&BI performance. Ongoing communication enables a constructive and trusting relationship to be built up between fund manager and LP that can be mutually beneficial. Many DFI LPs, including CDC, welcome being contacted for advice regarding G&BI matters (e.g. challenges faced by fund managers). DFIs can draw upon their experience and may be able to suggest solutions or possible ways forward — or put the fund in touch with others who might be able to help.
An increasing number of fund managers are seeking to incorporate G&BI into their mainstream LP communications, including Advisory Committee meetings, investor days, site visits and quarterly reports, as G&BI is increasingly seen as a material feature of the fund performance that should be reported together with other information. LPs typically welcomed this.
Some LPs now actively encourage the funds in which they invest to report publicly on their approach to managing of G&BI issues in their portfolios in order to encourage public transparency in the investment sector. This is particularly the case in certain domiciles that have introduced recommendations or requirements for fuller disclosure, such as the UK Stewardship Code andthe Code for Responsible Investment in Southern Africa (CRISA).
This information should be included either in annual reports already prepared by the fund and/or on the fund manager’s website. Reports should focus on providing a balanced, objective and complete snapshot of the fund’s investments. To contextualise the reporting, information on the fund’s GBIMS should be included. Additionally, examples of how these G&BI values and approaches have contributed to improving performance or mitigating risk in portfolio companies should be given.