Online fast-fashion retailer Shein grew from a little-known Chinese business into a global powerhouse, shipping thousands of tonnes of clothing around the world every day.
At one stage, the company was reportedly valued at around $100bn. But when it came to becoming a listed company, Shein discovered that rapid growth alone wasn't enough.
After attempts to list in both the US and UK faced significant obstacles, its Initial Public Offering (IPO) valuation was closer to $27bn when it later listed on the Hong Kong Stock Exchange.
While several factors contributed to the decline, the episode showed how concerns over transparency, oversight and risk management can affect investor confidence.
In recent years, the company has faced intense scrutiny from politicians, regulators and investors over a range of issues, including supply chain oversight, transparency and reporting standards. Concerns about links to suppliers in China's Xinjiang region, where allegations of forced labour have persisted for years, added to the pressure.
In France alone, Shein has been hit with multiple fines covering issues ranging from misleading discounts and data protection breaches to consumer rights and environmental claims. French authorities also sought to suspend the company's marketplace after illegal products were found being sold on the platform, though the courts ultimately rejected the request.
This article is for information only and not personal financial advice.
When governance goes wrong
History is littered with corporate governance scandals that have cost unsuspecting investors billions.
Arguably the most famous was US electricity turned energy trading firm Enron. The company used an array of fraudulent accounting techniques to appear hugely profitable, even on projects that had barely begun. When the company's misdeeds became public knowledge in 2001 it collapsed, taking its auditor, Arthur Andersen, with it.
Then again in 2015, another high-profile governance failure – when Volkswagen was revealed to have cheated US emissions tests on its diesel engines. Their cars used software that could detect when they were being tested and change performance to improve results.
The company's share price fell almost 40% in the wake of the scandal. It also lost more than $34bn to fines, financial settlements and buyback costs, with some lawsuits still ongoing.
Even before the scandal, some investors had concerns about a lack of accountability at the company. The voting shares were mostly held by the founding families, the local government and the government of Qatar. These groups also dominated the company's board.
The importance of accountability and alignment
Well-managed companies empower people to make decisions, but they also ensure those individuals are accountable for the consequences. Senior executives should be accountable to the Board, while the Board itself should be accountable to shareholders.
Strong governance starts with effective oversight. Independent Non-Executive Directors play an important role in challenging management, scrutinising decisions and helping to ensure risks are properly managed. The Chairman is responsible for facilitating debate and promoting constructive challenge, which is why it’s usually preferable for the role to be held by an independent director.
Boards are often strongest when they combine a range of backgrounds, experiences and skillsets, helping to avoid 'group think' and improve decision-making.
Transparency is equally important.
Annual reports and audited accounts help shareholders understand a company's financial position and hold management to account. Investors should also consider the quality and independence of a company's auditor, as well as any potential conflicts of interest.
Charlie Munger: "Show me the incentive and I'll show you the outcome."
Incentives are important too. If rewards are focused on short-term profits alone, executives may be encouraged to take risks that aren't in shareholders' long-term interests.
That's why many investors pay close attention to executive remuneration. The best pay structures often require managers to hold shares in the company for several years and tie part of their rewards to long-term objectives. This helps align management's interests with those of shareholders and encourages decisions that support sustainable long-term value creation.
Considering Governance issues in your portfolio
This week is Good Money Week. It's a national campaign that aims to raise awareness of responsible investing.
We think it could be a great time to make sure the people who run the companies you invest in are appropriately incentivised, and that there are appropriate mechanisms to hold them accountable to shareholders. The value of investments goes up and down, so naturally, investors could get back less than they invest.
If you don’t have the time or knowledge to consider governance factors when investing in individual companies, you could consider a fund which takes governance factors into account. We look at two in more detail below.
Investing in these funds won’t be right for everyone. Investors should invest only if a fund matches their objectives and there’s a specific need for the type of investment being made, they understand its risks and charges, and it forms part of a diversified portfolio.
For more detail on each fund, its charges and specific risks, please see their factsheets and key investor information.
Legal & General Future World ESG Tilted & Optimised Developed Index
The Legal & General Future World ESG Tilted & Optimised Developed Index invests in around 1,250 companies across the globe with the aim of tracking the Solactive L&G Enhanced ESG Developed Markets Index.
The index gives greater weight to companies that score well on a variety of environmental, social and governance (ESG) criteria, which includes several governance-related factors. Independent directors on the board, audit committee expertise and lobbying activities are examples. The index also reduces the allocation to companies that score poorly on these measures.
The advantage of reducing investments in poorly-scoring companies, rather than selling their shares completely, is that the Legal & General team can engage with poorly-scoring companies to help them improve. An increased investment in exchange for improvement on various factors is a good incentive.
The fund will not invest in persistent violators of the UN Global Compact Principles (a UN pact on human rights, labour, the environment and anti-corruption) or companies with significant involvement in tobacco, adult entertainment, gambling, thermal coal, oil sands, military weapon systems manufacturing and civilian firearms. Controversial weapons (like cluster munitions, anti-personnel mines and chemical and biological weapons) are also excluded.
Additionally, the fund is managed to achieve at least a 7% reduction in carbon emissions per year until 2050.
The fund’s investments in smaller companies add risk. The fund can also lend some of its investments to others in exchange for a fee in a process known as stock lending. This offsets some of the costs involved with running the fund but can add risk.
Jupiter Strategic Bond
The Jupiter Strategic Bond fund invests across different areas of the bond market depending on where managers Ariel Bezalel and Harry Richards see the best opportunities.
Their investment process starts with a view of the broader economy and how it might evolve, before identifying bonds they believe are well placed to perform in those conditions.
Governance considerations also play an important role in the team's bond selection process.
When considering a potential new investment in infrastructure operator New Fortress Energy, the Jupiter team decided not to invest after identifying concerns about management credibility and an aggressive approach to taking on debt. Those concerns later proved well founded.
The company ran into significant financial difficulties and was ultimately forced to restructure its debt, causing substantial losses for many bond investors.
Conversely, the fund invested in Saturn Oil & Gas because of management's disciplined approach to running the business. Rather than prioritising growth at any cost, the company focused on maintaining financial strength, managing risk and making decisions with bondholders' interests in mind.
The business successfully navigated a difficult period for energy markets and later refinanced its debt, providing investors with both a solid income stream for two years, and then a premium repayment.
Investors should note that the fund can invest in emerging market and high-yield bonds, as well as derivatives, which all add risk.
