Stakeholder engagement can get remuneration back on track

APRA deputy chair Helen Rowell says strengthening governance, culture, remuneration and accountability will be a collaborative effort by stakeholders and regulators.

At heart, many of the problems identified through the financial services Royal Commission and subsequently were the result of failures in governance and culture. These are areas where it can be difficult to identify the underlying causes or drivers of poor outcomes. These poor outcomes are often the product of many small decisions, rather than one major decision, making it harder to pinpoint when things went wrong and who should be held accountable. Nevertheless, there is a clear need for institutions and regulators to enhance their approach to issues of governance, culture, remuneration and accountability (GCRA), and it is encouraging that progress has been made on this over the past year.

APRA’s intensified approach to GCRA seeks to find an appropriate balance between the role of boards in strengthening GCRA practices, and APRA’s regulation and supervision. Our proposals for GCRA incorporate wider use of risk governance declarations and self-assessments by boards, supplemented by a range of supervisory activities (including thematic reviews) undertaken by APRA to assess industry progress. A good example of our approach is the introduction of a strengthened prudential standard on remuneration.

Draft proposal

The draft CPS 511 Remuneration proposes more prescriptive requirements for regulated entities to ensure their remuneration frameworks align with the long-term interests of entities and stakeholders. It also recognises that boards are ultimately responsible, and therefore requires them to approve and actively oversee the remuneration framework, and regularly confirm it is being applied appropriately.

The feedback we’ve received reflects the divergent, often strongly-held views across stakeholders on how best to promote appropriate remuneration outcomes for executives. APRA has undertaken significant stakeholder engagement to give us the best chance of striking an appropriate balance in our regulatory settings. It’s no secret much of the feedback was critical of the APRA proposal, including the 50 per cent cap on the use of financial metrics in determining variable remuneration, longer vesting periods and clawback provisions. Disappointingly, we received less in the way of realistic alternative suggestions as to how we could design the standard differently to satisfy disgruntled stakeholders while still achieving our regulatory objectives.

Given clear evidence that existing frameworks have been driving poor outcomes for consumers, and entities themselves, the status quo is not an option. However, we recognise genuine concerns raised by stakeholders about some aspects of draft CPS 511 and have been thinking hard about the options, especially around the 50 per cent limit on financial performance measures. The introduction of a limit on the use of financial metrics in connection with long-term variable remuneration was a recommendation of the financial services Royal Commission.

Our challenge in revising the draft standard is to design a package of requirements that remains true to the intention of the recommendation, namely to ensure appropriate focus on both financial and non-financial outcomes in establishing remuneration frameworks and determining remuneration.

In that context, it is important to remember we are approaching the remuneration standard as a package of initiatives — looking at how performance is measured, the rewards available, time horizon over which risk emerges, responsibilities and accountabilities for decision-making, and enhanced disclosure. We want to deliver a framework that works holistically, not just look at individual components in isolation. As we have assessed submissions and considered alternative approaches, we have been conscious of ensuring the framework as a whole leads to good governance in relation to remuneration.

Working with the BEAR

Another factor APRA is considering is how our remuneration prudential standard will interact with government plans to extend the Banking Executive Accountability Regime (BEAR) to the insurance and superannuation sectors.

We have been actively engaged with government as part of the development of its consultation package on the Financial Accountability Regime (FAR), which addresses another five Royal Commission recommendations. The government has foreshadowed its intention to introduce legislation creating the FAR before the end of 2020. However, there is much that entities should be doing now to ensure they are prepared.

It is ultimately in institutions’ long-term financial interests for boards and management to take the lead on enhanced accountability; a greater emphasis on accountability in the post-Hayne era is inevitable.

This is an edited extract of an address to an AICD breakfast in February.