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Hayne Royal Commission Report: what does this mean for non-financial services sector entities?

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This article was written by Joe Muraca and Victoria Ngomba.   

In February 2019, the final report on the Royal Commission into Misconduct in the Banking, Superannuation and Financial Services Industry (Report) was published.  A copy of the Report can be found here.

In assessing the implication of the Report for entities in the non-financial services sector, it is important to take into account the strict prudential regulatory environment and legal duties associated with the provision of financial services and financial products.  At the same time, however, there are a number of themes emerging from the Report that would apply equally to many other entities, particularly when it comes to matters relating to governance, culture and accountability frameworks. 

From a governance perspective, in our view, there is nothing in the Report that is materially different or new from the issues raised by APRA in its prudential inquiry into Commonwealth Bank of Australia (APRA/CBA Report).[1]  However, the Report does reflect the increased expectations that Boards must identify and deal with issues, especially issues involving consumers.  We have also entered a new regulatory environment where regulators are expected to have a more aggressive approach to possible breaches of law and to be more directly involved in the management of business. 

The following table sets out the key takeaways for Boards in the areas of governance, remuneration frameworks and culture. 


Theme

Key Takeaway

The Board's role

The Report acknowledges that the Board does not need to be aware of everything, but it does need to be aware of significant matters arising within the business and to set the strategic direction of the business in relation to those matters.  This clarification follows discussions post the APRA/CBA Report as to whether themes in that report required Boards to do more and be much more actively involved in operational matters.  While  arguably more is required of directors than perhaps the past, the Commissioner was conscious of, for example, calling for Boards to receive 'better' information rather than 'more' information. 

The Commissioner also emphasises that an integral part of the Board's role is being able to challenge management.  This can only happen if the Board has the right information (i.e. focus is on the quality of the information).  The Report also calls for Boards and management to continuously consider how to present information about the right issues in the right way. 

The Commissioner also notes that if the remediation of customers is delayed and/or the corporation's relationship with regulators is being damaged, it is appropriate for the Board to intervene and say, 'Enough is enough. Fix this, and fix it now'.

Management accountability

There must be proper processes for identifying who is accountable for risk and how they are to account for it and be held accountable – that accountability must include financial risk, but consistent with the themes emerging from the APRA/CBA Report, it must also extend to all forms of risk including, conduct, compliance and regulatory risk.  This is effectively a key requirement of the BEAR regime where individual accountabilities need to be specified in 'accountability statements' for each key executive.

Regulators

The Report calls for regulators to be more proactive and take a different approach to their supervision and enforcement strategies, particularly where there are serious cultural problems.  In particular, ASIC has been asked to adopt an enforcement approach – this accords with ASIC's recent change agenda which has included the adoption of a 'why not litigate?' enforcement stance and its decision to establish a separate 'Office of Enforcement' responsible for the investigation and enforcement of contraventions of the laws that ASIC administers.    

Implementing Remuneration – senior executives 

The Report encourages companies to focus on the design and implementation of their remuneration / incentive arrangements because they provide key signals to staff and the market generally about what the company values.  In particular:

  • while there is flexibility in how executive remuneration programs are designed, they need to address more than financial metrics (i.e. non-financial risks);
  • there should be provision for clawback including for remuneration that has already vested/been paid (although clawback is presently unlawful in Australia and legislative change will be required);
  • there needs to be regular assessments of remuneration systems including how it is working in practice;
  • regulators (APRA for financial institutions and ASIC where appropriate) are asked to do more to gather information about: (i) how remuneration systems are being applied in practice; and (ii) whether those systems are actually encouraging sound management of non-financial risks and reducing the risk of misconduct;
  • adequate information needs to be provided to the Board and Boards need to be willing to make significant adjustments to variable remuneration as a result of risk related matters; and
public disclosure as to why a Board has made a particular risk related adjustment to an employee's remuneration is not required – rather the appropriate audience for such disclosure is the company's employees.  

Implementing Remuneration – frontline staff 

The Report acknowledges that remuneration matters aren't limited to executive remuneration – how frontline staff are rewarded and incentivised is also important.  This invariably means that Boards need to get more involved in the design and implementation of remuneration frameworks for front-line staff. 

The Report notes that variable remuneration is not the only way to encourage desired behaviour / respond to poor behaviour of frontline staff – alternatives include positive feedback, offering promotion or higher base salary, disciplinary action and removing duties.  A yearly review of the design and implementation of remuneration is also recommended to ensure that those programs focus on not only what staff do, but also how they do it.  

Culture

The Report draws on many of the same themes that have been discussed at length of late, including by ASIC and APRA (through the APRA/CBA Report)) – i.e. there is no single best practice for creating or maintaining a desirable culture and culture cannot be prescribed or legislated, but it can be assessed. 

Entities are encouraged, as often as reasonably possible, to take proper steps to:

  • assess the entity's culture and its governance (i.e. cultural audits);
  • identify any problems with that culture and governance;
  • deal with those problems; and
  • determine whether the changes it has made has been effective. 
Regulators also have an important role to play in supervising culture and ought to intervene where they see a serious problem.


[1] Our previous On Board article on the APRA / CBA Report can be found here


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