One year post-Hayne: what have we learned?

The banking Royal Commission was a watershed for the financial services industry, but one year on, what's really changed in governance, culture and accountability?

On February 4, a year ago, the three-volume final report of the Royal Commission into Misconduct in the Banking, Superannuation and Financial Services Industry landed with a thud in the Australian business community. Commissioner Kenneth Hayne AC QC’s findings exposed to the public the entrenched nature of misconduct, lack of customer focus and accountability, and governance failures at Australia’s largest financial institutions.

After months of testimony and 75 case studies, it resulted in 76 recommendations and 24 referrals for further action, drily reminding all of the basic principles that should be embedded in decision-making — starting with “obey the law”.

Following the global financial crisis, financial services entities and regulators in Australia and elsewhere gave close attention to financial risk. However, Hayne flagged that in Australia, too little heed had been paid to regulatory, compliance and conduct risks, often grouped under the umbrella of non-financial risk.

“Too little attention has been given to the evident connections between compensation, incentive and remuneration practices and regulatory, compliance and conduct risks,” wrote Hayne. “The very large reputational consequences that are now seen in the Australian financial services industry, especially in the banking industry, stand as the clearest demonstration of the pressing urgency for dealing with these issues.”

Hayne quoted the G30 in his final report: “As the Group of 30 said in November 2018, ‘getting culture and conduct right is not a supervisory requirement. It is necessary for banks’ and banking’s economic and social sustainability’.”

Pledging immediate action, the boards and CEOs of our financial institutions stepped up investment in systems and personnel to work through a mounting list of issues and began publicly reporting on their remediation of failures. With NAB singled out for special comment, CEO Andrew Thorburn and chair Ken Henry AC headed out the door, joining a growing list of exits.

Regulation

A chastened and beefed-up Australian Securities and Investments Commission (ASIC) got busy with a tougher enforcement mission and long list of expected prosecutions. Meanwhile, the AICD began its extensive member consultations and developed its Forward Governance Agenda — a program of work responding to the debates on governance practice through the streams of standards and professionalism, culture, director duties and stakeholders, demonstrating accountability, and remuneration.

By May 2019, the Australian Prudential Regulation Authority (APRA) diplomatically revealed the enormous scale of the quest and the weaknesses in its paper summarising the results of the self-assessments by 36 regulated institutions on their governance, accountability and culture. APRA demanded additional capital requirements of $500m each from ANZ, Westpac and NAB to reflect higher operational risk — following the $700m penalty imposed on CBA in 2018, after APRA’s prudential inquiry into the bank.

APRA chair Wayne Byres GAICD said Australia’s major banks were well-capitalised and financially sound, but improvements in the management of non-financial risks were needed. “This will require a real focus on the root causes of the issues that have been identified, including complexity, unclear accountabilities, weak incentives and cultures that have been too accepting of long-standing gaps,” he said. “Their self-assessments reveal they have fallen short in a number of areas and APRA is therefore raising their regulatory capital requirements until weaknesses have been fully remediated.”

However, by November, AUSTRAC’s federal court allegations of anti-money laundering breaches at Westpac left seasoned directors dismayed. Had anything really changed?

Fiona Shand FAICD, a non-executive director and long-time AICD course facilitator says many she’s spoken to in the director and investor communities are deeply frustrated at how little has changed in the past year. “Every day when you open the newspaper, it may be a different person or organisation, but they are the same fundamental issues. It’s Groundhog Day. We can all accept the baggage of legacy problems and systems in large organisations, but where is the sense of urgency to effect real change? With a few exceptions, we haven’t seen boards and companies transparently accepting responsibility and making the behavioural changes communities expect.”

Shand says there is still a deep disconnect between boardrooms, directors and communities they operate in. “Companies and directors cannot continue to say ‘trust us to fix the mess we made‘ and expect to be believed.”

Certainly, that was the lesson for Ken Henry. Reflecting on what went wrong during his time as NAB chair, he told the ABC it was not responding fast enough. “We should have pressed harder. There’s no doubt.”

The issue, he said, was “not dealing quickly enough with emerging problems, being prepared to interpret emerging problems as being of an administrative or technical nature rather than something that goes to the way that the bank impacts on its customers”.

However, Rahoul Chowdry, partner and head of the financial services industry group at MinterEllison, who joined the AMP board in December 2019, says there must be an appreciation of the deep-rooted issues and scale of change required. “Many of the issues that have surfaced during and post the Royal Commission are deep-seated, so it’s simplistic to claim that financial institutions have learned nothing. The issues will take time to resolve.” Every bank is under pressure, he says, and organisations must make up an investment deficit in data and non-financial reporting information, regulatory reporting, compliance and risk management reporting — and invest in technology.

“There’s no question, many organisations are finding it a big challenge to keep up with the speed technology is changing and the sophistication that is required while also dealing with many legacy systems and controls that are no longer fit for purpose,” says Chowdry. “This is a particular issue for organisations that are product- rather than customer-centric. Boards are a lot more probing and questioning. That’s reflected in their response to their roles as directors. One of the great things [the Royal Commission] has done is to force a general uplift in governance standards in this country.”

Chowdry says sound products, efficient operations, good culture and an appropriate customer focus are a recipe for sustainable shareholder value. “Those that fall short will experience pressure on profits and the ability to maintain dividends. We’re already seeing this play out. And the cost is being borne by shareholders.”

Shand says that 12 months on, “we’ve learned a hell of a lot, but we haven’t put it into play. With a few exceptions, we haven’t made the behavioural change we’re going to need. In order to make that change, we’re going to need for directors and management of organisations to go.”

She describes the lack of connection between board and community as the “hubris of the legacy mirror” — a belief by senior directors that they have a right in that space. “There is a behavioural shift we have to make. We have to say: the emperor has no clothes. We need fresh eyes to see fresh issues and solutions — and a maximum board tenure of 12 years.”

John Connolly FAICD, who runs issues management consulting company John Connolly & Partners, says directors must be acutely aware of the changed social context. This is also being fed by revelations of broader business shortcomings.

“A lot of good has come out of the Royal Commission, but the environment has become more toxic,” he says. “What’s happened for everyone is the accountability has narrowed. Go back a couple of years, it was about companies and then about executives; and now it’s about directors. People want to see the directors go. That’s the seriously big difference and if you are a director of a large public company now, you have to be thinking about the fact that you’re much more accountable than you were before.”

Connolly says directors must focus more deeply on what’s going on in the organisation, even though they may still have concerns about blurring the line over their duties with management. “Everyone’s been talking about reputation and communication. You have to work out if this is a communications problem or an operating problem. In many cases, 60 per cent of problems are operating problems, not communications problems. People being underpaid is not a communications problem, people not being cared for properly in nursing homes is not a communications problem. There is wilful blindness... as to what’s been going on.”

Connolly says boards and management should do scenario planning and focus groups to get a grip on the real issues and concerns. “The reality is, the experience of employees and customers is completely different to that of a board executive.”