On opening companies up to foreign investment: a governance perspective
Opening your company up to foreign direct investment (FDI) is not just about a cash injection: it can offer a boost to the local economy as well as increasing shareholder value. If this is what you’re after however, good governance is key.
The following applies to many models – mainly businesses in frontier and emerging markets controlled by small, closed societies such as families, tribes or ethnical groups. But let’s use Lebanon as our example, since the numbers and analysis here are based on the findings of three round tables (and counting) held at the Institute for Finance and Governance at Beirut’s ESA International Business School. Gathering together roughly 50 of the major, (mostly) non-banking family businesses, information has been shared by each firm on the company’s shareholder structure, the board and committees compositions, and company investor interests.
Lebanon is also a good candidate for increased FDI. It’s a country rich with sustainable family businesses, which have grown through the decades but today face single-digit growth, stagnation or decline. The geopolitical context is not favorable either.
Many initiatives are being launched to boost the economy but none appear to be creating the sought-after breakthrough. Why? The simple answer is that they address either the workforce or lack the regulatory framework; but none address the investor.
So why advocate for families to give up part of their control over capital?
Sustainable businesses, especially family businesses, might well be reticent to invite foreign investors to share their capital, with concerns around control, reputation, risk and legacy. The following scenario however offers some insight into the potential benefits.
Boosting turnover
Imagine a Lebanese company with a need for a capital injection of $100 mn and a turnover of $1 bn. Imagine then that 100 companies with a need for a capital injection of $100 mn and a turnover of $1 bn each decide to open their capital to FDI of up to 30 percent and they each find an investor. FDI then totals $10 bn, with potentially increased turnover and a more profitable bottom line for these firms. If the investments are replicated in the 100 companies in a similar way to two success stories seen at these roundtables – one a bank and the other a services firm – FDI return would be between $80 bn and $100 bn. These figures are more than double the country’s GDP and many times the Lebanese government spending.
The input of foreign investment can also bring the transfer of know-how covering management, technology, financial, human and organizational skills. It offers other wider, potential benefits too. Frontier markets often face higher unemployment rates than in developed countries for example. Greater foreign investment could also see an increase in required labor, cutting down the unemployment rate and improving purchasing power, spending, reinvestment and trade. It can offer a significant boost to the local economy.
So while owners might lose control over 30 percent of their business, the potential returns remain the same – if not better – and their business prospects become more attractive in a rosier economy.
Choosing the right investors
What is often not said about FDI is that choosing the right investors, based on specific criteria, can help create a positive economic cycle by increasing peace and security via the presence of their interests on the ground and influential networks with policymakers in their home countries.
With the many potential benefits do come important risks that need to be considered however, and consequently, anyone contemplating opening up their business to FDI should consider the following:
– Consolidation. To show a solid position, companies may decide to get rid of toxic assets contaminating their financial statements before soliciting investors
– Your shareholder agreement. In order for investors to become shareholders, a shareholder agreement should be signed. This should be precise and leave no room for interpretation
– A safe exit. You should have an exit plan in place that would result in the least damage in the event the investment fails.
The role of governance
According to the United Nations Conference on Trade and Development World Investment Report 2015, FDI inflows in 2014 went east, with Hong Kong receiving $103 bn and Singapore $68 bn. Lebanon stood last in line at $3.1 bn. So how do companies in countries that are low on the pecking order make themselves attractive to foreign investment?
Part of that involves highlighting your good governance. A company might be well managed for example, but outsiders don’t know that. For major funds, $100 mn is an average placement with acceptable risks, but only in companies they know are well managed.
Knowing that these companies are managed properly certainly creates a greater appetite to invest. And a key principle of governance is transparency. It is when the company’s structure, management, financials, capacities, outlook and vision are brought into the open that an investor might show interest.
Essentially, what is needed is the key elements of best practice investor relations. And companies should implement these systems from strategy down to operations. Once this has been done, it’s time to start targeting your foreign investors.
Frederic Chemaly is managing partner of Chemaly & Company and corporate secretary of Malia Group. He regularly speaks and writes about governance, risk and compliance
