The Australian Federal Treasury has made its observations on banking and superannuation misconduct known in its submission to the Hayne Royal Commission on 13 July 2018. This is a particularly important submission, as it provides insight into the factors that Treasury will consider important when it weighs up a regulatory response to the Commission’s eventual findings.
It seems likely that remuneration will be addressed as part of any regulatory responses. In addition to discussing the corporate governance and accountability failings highlighted by the Commission, Treasury concluded that:
“Misconduct encouraged by remuneration structures has been demonstrated. Evidence to the hearings suggests that conflicts of interests in remuneration structures, and remuneration structures with an emphasis on financial measures (rather than consumer measures) have been a significant factor in misconduct and poor consumer outcomes…These issues are not limited to front line staff and exist for senior management where the behaviour driven by misaligned incentives more substantially influences firm culture.”
Treasury’s submission then gives a hint of what potential regulation might address:
“APRA’s recent review of remuneration practices found that downward adjustments of individual executives’ remuneration in situations of poor risk outcomes were rare, as was application of malus clauses where adverse outcomes emerged in later years.This was even the case in examples where more junior staff had faced remuneration consequences, while the executive with overall line responsibility had not.”
And in case anyone was thinking any action might not necessarily entail additional regulation:
“In light of the extent of corporate governance, accountability and remuneration-driven failings, it is clear that the current regulatory framework and its enforcement are not delivering satisfactory outcomes.“
Almost sneaking under the radar in all the media hoopla regarding ASX Corporate Governance Council Principles (see HERE), Australian Treasury opined that it did not think the Principles did much good, and was less than kind on APRA standards:
“Particular corporate governance rules are either non-binding or sufficiently general that they appear to be ineffective in countering the desire for short-term financial gain when it is at the expense of consumer outcomes and consequent risks to shareholder value if of significant magnitude.As mentioned above, the ASX Corporate Governance Council Principles and Recommendations are non-binding, and the governance and remuneration requirements introduced under APRA Standards have not yet been sufficiently effective in ensuring boards are properly identifying and managing non-compliance with the law, and non-financial risks.”
To tackle board failings, the Treasury submission acknowledges the issues associated with regulatory interventions, but nevertheless, suggests that regulation could be considered for:
- Mandating measures to strengthen the competency, capacity and composition of boards
- Limiting outside employment and board seats for financial firm directors to address the risks of overcommitted directors (it cites the EU and New Zealand in this regard)
- Introducing a mandatory tenure limit for directors
- Requiring directors to stand for re-election every year
Of these, Treasury sees the most merit in procedures that lead to a refreshing of boards on a regular basis.
It also sees merit in extending BEAR legislation to insurers (but not superannuation funds, apparently because superannuation legislation is now so labyrinthine Treasury shudders to think of more changes), which would also be in accord, we believe, with APRA’s thinking. But, it seems that Treasury is also thinking of extending BEAR to encompass non-prudentially regulated companies. This would necessarily take it out of APRA and into ASIC, or in both, or a new regulator. We will see.
Although if Treasury does amend the BEAR, we trust it will take the opportunity to fix up some of the drafting problems in the current BEAR legislation (for example, see HERE).
Treasury also has its sights on remuneration disclosure. It wants to “improve” it, and take away “extraneous detail”.
This is what all stakeholders have been saying has been needed since the current legislation was introduced in 2005. In practice, trying to simplify regulatory disclosure requirements is not that simple. The UK spent a concentrated 36 months of hard work focussing on a single figure for executive remuneration that explained all (see HERE). Well, they got to the single figure, but ended up with lengthier, and more complex, remuneration reporting that, if the letter of the law is followed, fails to shed more light on executive pay than prior versions. Australia has also failed in its various attempts to achieve consensus on simplified reporting (see HERE and HERE).
Unfortunately, Treasury’s predisposition to “simplification” should not be mistaken for brevity. Treasury says that consideration could also be given to improving the disclosure of the remuneration policies of the whole company (not just key management personnel) to provide greater insights into the incentives of middle management, who set the tone for day-to-day conduct, and frontline staff, who deal directly with individual consumers.
Given systemic failures by financial services boards in their oversight of important sales incentives (and the risk controls to prevent illegal behaviour these plans otherwise rewarded), this is understandable. But is public disclosure the way forward to ensure boards give this adequate attention, particularly when only one stakeholder group, shareholders, vote on remuneration matters?
While the Treasury paper deals extensively with incentive and commission plans in banks, insurers and brokers, the challenge is the same for financial products as it is for used cars. That is, allowing for “caveat emptor”, while ensuring that the sales person and their employer do not engage in “false and misleading conduct”.
For those interested in the likely regulatory outcomes for remuneration and governance from the Hayne Royal Commission, the Treasury paper is highly recommended. See HERE.© Guerdon Associates 2023 Back to all articles