How boards are reacting to regulatory findings

Governance challenges abound but top directors have divergent views on the impact of regulatory change on board processes.

Opinions differ on the fallout from the Australian Prudential Regulation Authority’s (APRA) inquiry last year into Commonwealth Bank – widely considered a governance landmark.

Some directors say APRA’s report and this year’s findings from the Financial Services Royal Commission have forced boards to adjust their meeting structure and content – and to test their governance procedures and policies against APRA’s 35 recommendations.

Others argue that the regulatory findings have reaffirmed what good boards do already. Rather than implement significant governance change, high-performing boards are driving efficiency gains, so that their directors have extra time to identify and discuss key issues.

There is no shortage of governance challenges. In addition to APRA’s CBA report and the Financial Services Royal Commission, Parliament passed new whistle-blower legislation this year and APRA recently proposed stronger requirements on remuneration for APRA-regulated entities.

The release of the fourth edition of the ASX Corporate Governance Principles and Guidelines, and new regulations such as the Modern Slavery Act 2018 and Notifiable Data Breaches Scheme 2018 on cybersecurity have added to boardroom complexity and workloads.

In spite of these and other regulatory changes, Nora Scheinkestel FAICD, says the issues raised by APRA’s CBA report and the Financial Services Royal Commission have been on the board agenda for some time. Scheinkestel, one of Australia’s leading directors, is Chair of Atlas Arteria and a non-executive director of Telstra Corporation, AusNet Services and OceanaGold Corp.

“Good boards have for a long time been grappling with issues APRA and the banking Royal Commission identified,” she says. “Of course, boards should carefully review the recommendations, reflect on their governance processes and learn from the experience of other organisations. What’s changed is that we now have data from these reports to work with.”

Dr Scheinkestel has had a consistent view on governance change. She believes APRA’s CBA report and the Financial Services Royal Commission have not revealed ‘new news’. “But the focus and intensity of the conversation is felt and has had an impact around the boardroom table,” she says.

Scheinkestel adds: “The reviews have encouraged boards to renew their commitment to make sure they are spending their time on the issues that truly matter to our stakeholders. It’s about creating space for directors to have more substantive discussions and these should be deeply anchored in the issues the organisation is facing. It’s not about adding more policies and procedures in response to the reviews.”

A ruthless focus on governance basics is needed to create time for “deep-dive” board discussions – and to consider the views of shareholders, employees, regulators and the community, says Scheinkestel. “Boards are reviewing the quality and quantity of information they receive and ensuring strong governance processes are embedded in the organisation. When you get that right, directors have the time and space to focus on the issues that add most value to stakeholders.”

This efficiency drive extends to board committees such as audit and risk. “Like the main board, committees I’m involved with are finding ways to free up time for more substantive discussions,” says Scheinkestel. “Committee meetings cannot be only a forum for compliance. Issues considered in audit and risk, remuneration and other committees are too important.”

Scheinkestel says greater cross-fertilisation between board committees is occurring after the regulatory inquiries. “It’s commonplace for members of one committee to attend the meeting of another, particularly when the main board meeting is combined with a site visit and everybody attends together. Practically, it makes sense for directors to attend each other’s committee meeting, spend more time together and gain insights from informal discussions between meetings.”

The benefit of this approach, says Scheinkestel, is committee issues discussed and agreed upon outside the main board meetings, make the latter more productive. “The regulatory inquiries have reminded directors that we must have considered, honest and at times confronting conversations at the main board meeting about how the organisation balances trade-offs in a world where our governance actions are more visible than ever and disseminate at greater speed.”

Scheinkestel says: “Boards need sufficient space to ask: What would our employees think about a decision? How would shareholders view it? What would be the likely response from regulators? How would the man and woman on the street view the decision? Has the board found the right balance between the needs of a range of stakeholders and the organisation? These are the issues the inquiries are encouraging boards to think more about.”

Adjusting to a complex governance landscape

Graham Bradley AM FAICD believes boards are responding attentively to APRA’s report on CBA and the Banking Royal Commission. Bradley chairs HSBC Bank Australia, EnergyAustralia Holdings and GrainCorp.

“It’s the most intense period of governance self-reflection and external scrutiny I have seen in my 15 years as a company director,” he says. “APRA’s CBA report is encouraging boards to hold up a mirror and compare themselves to the failings identified at CBA. Boards want to know if they are falling short of the standards set out in that report. That work is ongoing.”

Bradley says that all the organisations he chairs have reviewed their governance processes against APRA’s report. “APRA’s recommendations are immensely significant. I suspect many boards are devoting extra time at meetings to discussions on organisation culture and the needs of customers, employees and other stakeholders as a result of APRA’s view.”

Bradley says the inquiries have three main implications for boards: organisation culture, the customer’s voice at the board table, and the board’s role in challenging management.

On culture, the Financial Services Royal Commission emphasised that boards are responsible for setting the tone from the top. “Boards have long known they are stewards of organisation culture, but too few had well-established processes for measuring and reporting on culture indicators,” says Bradley. “Also, boards have not always articulated their expectations for organisation culture and values as crisply as they need to have done. That is changing.”

Better data on culture is helping, says Bradley. “Boards are ensuring they have access to a well-designed organisation culture ‘dashboard’ that pulls together staff surveys, customer feedback, whistle-blower complaints and so on.”

In turn, this information is influencing board agendas and discussions. “Boards are increasing their focus on problems identified by whistle-blowers or other stakeholders – and unpacking the organisation’s response. I doubt boards have ever spent as much time on these issues as they are today, following APRA’s report.”

Customer needs are also occupying a greater share of board-meeting discussions, says Bradley. “Previously, boards relied on Net Promoter Score or other aggregated customer data, reported once or twice yearly, to gauge customer feedback. Today, boards expect nuanced information on how customers view the organisation, if there are complaints and how they were handled and remediated. They want to ensure the organisation does not have a ‘tin ear’ to its customers.”

Bradley adds: “Boards are asking: has there been a fair exchange of value between the organisation and its customer? This is a different discussion and an important new test. In years past, the focus was: how much is the market willing to pay for our product or service, so we can maximise profit? Now, boards will challenge management if they are concerned the company is growing too quickly at the expense of customers.”

Regulator calls for boards to better challenge management are also shaping board-meeting structure and content, says Bradley. “The big change is boards having more discussions with divisional and front-line managers, not solely with the executive team. It’s about getting a better sense of opportunities and risks, and the board building more relationships throughout the organisation.”

Annual private sessions between the board and Chief Risk Officer are also featuring, says Bradley. “Boards are interested in the ‘near misses’, regulator complaints and other things that could have gone wrong, not just what went right. Boards are looking beyond organisation performance to better understand how it was achieved and the risks taken in getting there.”

Bradley believes APRA’s CBA report will reverberate in boardrooms for years to come. “It has highlighted some very significant issues that need greater airtime on boardroom agendas. The challenge for boards is carving out extra time to discuss those matters in detail.”