Keeping on top of the latest financial services regulatory & compliance trends?
Investing time in your professional development within a rapidly changing financial services industry is challenging. To meet that challenge, the Australian regulators weekly wrap is designed to keep you at forefront of your practice by quickly setting out the top 5 developments from the past week, analysis and practical considerations for the future.
- ‘Best interests’ (ASIC): ASIC has released a consultation paper CP 327 on the new ‘best interests duty’ for mortgage brokers which is open until 20 March 2020. You can read more on the ‘best interests’ duty, and ancillary changes e.g. prohibition on giving / receiving ‘conflicted remuneration’, in this past ARWW briefing or here. The draft guidance is structured around the key steps common to the credit assistance process of brokers, such as gathering information, considering the product options available and presenting options and a recommendation to the consumer. At a broad category level, ASIC is setting out its expectations for what mortgage brokers may need to do to meet the ‘best interests’ duty when: (a) gathering information about the consumer; (b) making an individual assessment of what is in the consumer’s best interests; and (c) presenting information and recommendations. The initial thoughts that I have is that the definition of ‘mortgage brokers’ in paragraph 13 of the CP 327 does not appear to match the definition s15B and s15C of the legislation, which defines ‘mortgage broker’ and ‘mortgage intermediary’ more broadly; the draft guidance is principles-based and does not contain a ‘safe harbour’ within which a broker is deemed to have complied with the obligations; information gathering may involve an iterative process of receiving instructions and making inquiries (usually, it is not an iterative process); mortgage brokers should consider products ‘holistically’ to assess whether they are in the consumer’s best interests (including for packaged products); brokers should ‘use their judgment to weigh up factors according to the consumer’s individual circumstances’ (which is quite subjectively broad); the duty operates in conjunction with other laws that affect how credit assistance is provided to consumers, including the responsible lending obligations; and, the duty will apply at the time of the assessment and whenever a mortgage broker provides credit assistance. ASIC also proposes to provide guidance on the operation the conflict priority rule, which requires mortgage brokers to prioritise the consumer’s interests in the event of a conflict of interest, and the obligations for credit licensees to ensure that their representatives who are mortgage brokers comply with the best interests obligations. In relation to the latter, which may present an appreciable compliance burdens on licensees, ASIC has stated that what constitutes ‘reasonable steps’ by the licensee may vary depending on the nature and scale of the mortgage broker’s operations and their relationship with the credit licensee. Irrespective of the final form of the guidance, the legislation is now in place and affected entities need to start implementing compliance frameworks now — the broad nature of the obligations (and lack of safe harbour) mean implementation may take time and the changes come into effect on 1 July 2020. Also, we need to look out for ASIC’s guidance on ‘conflicted remuneration’ before that time!
- IPOs (ASIC): ASIC has released a consultation paper CP 328 concerned with making things easier for IPOs, which closes for consultation on 6 April 2020. There are two key changes proposed. First, ASIC’s modification power will be used to to grant conditional relief to public companies, professional underwriters and lead managers for voluntary escrow arrangements in connection with an IPO. The relief would enable these entities to require certain security holders to enter into voluntary escrow arrangements without acquiring a relevant interest for the purposes of the takeover provisions. Second, ASIC is proposing to grant conditional relief to allow companies to communicate specified factual information to employees and security holders about an IPO, before the company lodges the disclosure document. These are sensible proposals, in my view, and I doubt they will receive any material opposition.
- Accountability (APRA): Deputy Chair Helen Rowell gave a speech to the AICD on accountability, which is perhaps the most candid and useful of APRA’s speeches I have seen recently. Definitely my top read for the week! Ms. Rowell started with the new proposed CPS 511, which proposes far more prescriptive requirements for regulated entities to ensure their remuneration frameworks align with the long-term interests of entities and their stakeholders, including customers, beneficiaries and shareholders, stating that: ‘It’s no secret that much of the feedback was critical of what APRA was proposing, including the 50 per cent cap on the use of financial metrics in determining variable remuneration, longer vesting periods and clawback provisions. Disappointingly from APRA’s perspective, we received much 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.’ Ms. Rowell also dedicated a lot of her speech to FAR / BEAR, urging entities to start their preparations now (which, having led BEAR / UK SMCR implementations, I strongly endorse). She stated: “An essential first step is for organisations to clarify internal lines of accountability…this is a more helpful first step than focusing on the content and format of the accountability statements and maps. Another area where some entities stumbled in implementing the BEAR regime was to concentrate too intently on the number of accountable persons rather than appropriateness of who is included as an accountable person…a very small number of accountable persons may be an indication that accountability is overly concentrated, while a very large number of accountable persons may be an indication that accountability is inappropriately diluted.” Ms. Rowell also noted that firms which had struggled with their BEAR implementation-which regime sets the framework for potential future enforcement action, and so really needs to be done well-were those that engaged consultants to just implement BEAR for them instead of those consultants working to deeply understand, advise, work with and challenge the firm where necessary. I have seen a number of consultancy firms roll out arguably ‘prepackaged’ BEAR implementation projects which involve minimal nuance. It is not a one size-fits-all regime. The BEAR / FAR laws themselves are untested principles-based ones with little heritage in Australia, there is personal liability attached to failures (and hawkish ASIC / APRA in the background) and many ancillary considerations. To put it inelegantly, it very much pays for financial services firms to ‘kick the tyres’ on their consultants. How has the regime played out overseas in UK or HK? What are some of the key UK cases under the UK SMCR? Which subsidiaries are and are not caught? What amendments to employment agreements / REM policies do we need to consider? How do we deal with information access rights once an executive leaves / then faces an investigation? What happens with the legal function under FAR / BEAR? How do we give our executives / directors meaningful comfort they can demonstrate ‘reasonable steps’ to APRA / ASIC? How do we avoid paper attestation ‘waterfalls’? Do the executives have the right ‘information and control’ over their function areas to justify their role as an accountable person? How do we handle the division of responsibility over the ubiquitous tech function? How do we mesh the product responsibility role with DDO / PIP? Do we mesh FAR / BEAR breach reporting with AFSL breach reporting? Is there any sensitive material we need to consider only behind the protection of legal privilege? If you are a superannuation or general insurance firm faced with implementing FAR now, I do encourage you to take the time to ask probing questions (I have a high level two-page document with initial considerations I would be happy to send you as well, if it will assist.)
- Small business (ACCC): the competition regulator has released its report on small business, franchising & agriculture news for July — December 2019. The great thing about this particular report is that it breaks down the reports being received by the ACCC by key issues. For small business, by far the biggest issue was misleading conduct and false representations — 910 were reported for the H2 2019 period (up from 846 in H1 2019). The second biggest issue was consumer guarantees — 489 reports for the H2 2019 period (up from 405 in H1 2019). With increasing reports in these areas, expect a greater focus from the ACCC in 2020. The report also deals with other areas that the ACCC has been focusing on the H2 2019 period, including the CDR, scams, franchising code and electricity retail code.
- Climate reporting (APRA): the prudential regulator has published a letter to all APRA-regulated institutions outlining plans to develop a prudential practice guide focused on climate-related financial risks, as well as a climate change vulnerability assessment. The assessment, which will be coordinated with ASIC, will begin with Australia’s largest banks . APRA has stated that beginning with the banking industry will provide helpful insights on the impact of a changing climate on the broader economy, which will be analysed in conjunction with the RBA. The vulnerability assessment will involve entities estimating the potential physical impacts of a changing climate, including extreme weather events, on their balance sheet, as well as the risks that may arise from the global transition to a low-carbon economy. The bank vulnerability assessment will be designed in 2020 and executed in 2021, with other industries to follow. Finally, the letter also outlines APRA’s intention to update superannuation Prudential Practice Guide SPG 530 Investment Governance, which includes paragraphs related to environmental, social and governance investments. The assessment will be quite interesting reading, to be sure. For now, my sense is that organisations should continue to focus on their climate risk reporting (and how this risk interacts with their existing directors’ duties for their business — see Hutley, Noel and Hartford Davis, Sebastian “Climate Change and Directors’ Duties Supplementary Memorandum of Opinion” (26 March 2019), published by The Centre for Policy Development here.) as that will receive a good deal of scrutiny this year and beyond. ASIC and APRA have repeatedly called for companies to address climate change risk as part of their governance and risk management frameworks and to make public disclosures where appropriate. ASIC expects companies to include in their annual directors’ reports a discussion of climate risk when it could affect the company’s achievement of its financial performance or disclosed outcomes. In addition, for listed companies, Recommendation 7.4 of the ASX Recommendations provides: “A listed entity should disclose whether it has any material exposure to environmental or social risks and, if it does, how it manages or intends to manage those risks.”
Thought for the future: the AFR (3 / 2) reported that CBA’s spending on risk and compliance was 64 per cent of its total $1.4 billion in investment spending in FY19. That trend will increase for the foreseeable future, driven by the need for financial services firms to fix past mistakes,to respond to increased consumer expectations and implement new principles-based laws. Such laws require a fair bit of thought and transferable experience in implementing though, given their interpretational nature and newness. (Also, frankly some are poorly drafted, for example the new FASEA code which I have commented on in the AFR this past week here.) The point is that cookie-cutter or near cookie-cutter approaches to regulatory reforms across financial services firms are much less likely to pass muster now than they were for past regulatory reforms, which were more prescriptive. Especially given the global zeitgeist Australia is following of attaching personal liability to their laws. (Just wait for the ALRC’s corporate criminal reform report to come out in April 2020!) For what it is worth, my view is that increasing cost, consumer / regulator expectations and risk should correlate to increased stress-testing of legal advisers, accountants and other consultants.
Do you think I overlooked something or would like more information? If so, please send me a message!
(These views are my own and do not constitute legal advice. Photo credit Tom Wheatley)