After months of hearings at the Financial Services Royal Commission, we are beginning to gain a clearer picture of what policy options might flow from the inquiry.

    On 26 July 2018, the Royal Commission released Treasury’s submission on the key policy issues it has identified to date. In its paper, Treasury concluded that while it is for the Commission to reach a judgment on how systemic problems and the underlying causes are, “prima facie these outcomes reflect instances of failures of leadership, governance and accountability at an industry, firm and business unit level”.

    Of greatest interest to the director community will be Treasury’s wide-ranging observations on corporate governance within financial services, and potential policy responses. As the government agency with primary responsibility for policy advice on corporate governance matters, the department’s views are likely to be carefully considered by the Royal Commission.

    Key observations

    In Treasury’s view, there have been significant corporate governance failings by financial services boards, including with respect to: oversight of legal compliance; risk management; challenge of management; and having adequate information to discharge directors’ duties. According to the submission, high profitability had meant shareholders could remain “largely complacent about governance and culture, and consequently poor conduct can persist”.

    Treasury saw existing governance mechanisms as primarily designed to empower shareholders to hold boards to account, but that those interests would not necessarily align with those of customers, particularly in the short term.

    Treasury concluded that in light of corporate governance, accountability and remuneration-driven failings, “it is clear that the current regulatory framework and its enforcement are not delivering satisfactory outcomes”. In particular, it highlighted that the ASX Corporate Governance Council Principles & 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”.

    Potential policy options

    These observations notwithstanding, Treasury struck a cautionary note on potential regulatory reform, acknowledging that responsibility for a firm’s culture should rest with the firm, rather than the government, and that it is desirable to rely on competitive forces to address cultural problems, where possible.

    Noting that the Banking Executive Accountability Regime (BEAR), which came into effect for the largest ADIs on 1 July 2018, should encourage greater individual accountability, and that stronger penalties for corporate misconduct have been committed to by the government, Treasury called on the regulators (ASIC and APRA) to take a stronger enforcement stance in future.

    The key potential policy options canvassed in Treasury’s submission were:

    1. Direct governance regulation: such as around the competency, capacity and composition of boards. Issues flagged include: limits on numbers of directorships; tenure limits for NEDs; and limits on maximum terms without re-election;
    2. Extension of the BEAR: to all prudentially regulated firms or to all financial services firms and/or to cover systemic conduct beyond that which impacts prudential reputation or standing;
    3. Enhanced remuneration disclosure: improved disclosure and/or disclosure of the remuneration practices of whole firms (not just key management personnel) could provide greater insights for shareholders and stakeholders.

    It is important to recognise that Treasury prefaced these options with the observation that regulatory intervention by the government is best considered only after it has been determined that a market based option, or self-regulation, would not be effective.

    What happens next?

    The AICD is closely watching proceedings at the Royal Commission and is giving due consideration to the proposals outlined by Treasury in its submission. Ultimately though, it will be a matter for Commissioner Hayne to put forward whatever policy recommendations he considers appropriate.

    The Commission has confirmed that it will submit an interim report by 30 September 2018, and will invite submissions on the policy issues identified thereafter. There will also be an opportunity to separately comment on policy matters arising from the August and September superannuation and insurance hearings.

    A final round of policy-focused hearings have been scheduled for 19-30 November 2018.

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