“Why do staff (whether customer-facing or not) need incentives to do their job unless the incentive is directed towards maximising revenue and profit?”
It was a simple yet profound question posed by Commissioner Kenneth Hayne in his interim report into the royal commission into misconduct in the banking, super and financial services sector.
If applied to all layers of staff, aligned financial advisers, introducers, brokers and other intermediaries, it would have a massive impact on a sector that has fostered a culture of greed and gouged customers any way it could to meet profits and earn bonuses.
Behaviour that contributed to systemic misconduct, rather than a “few bad apples”, as the banks, AMP, their spin doctors and well paid lobbyists have long tried to suggest.
Removing incentives, commissions and bonuses and changing remuneration settings would ring the death knell for grandfathered commissions, life insurance commissions and other conflicted remuneration, which survived the Future of Financial Advice (FOFA) reforms, which banned commissions on financial products and required financial advisers to act in the best interests of their clients.
In his report, Hayne put the spotlight on FOFA: “Experience (too often, hard and bitter experience) shows that conflicts cannot be ‘managed’ by saying, ‘Be good. Do the right thing’. People rapidly persuade themselves that what suits them is what is right. And people can and will do that even when doing so harms the person for whom they are acting.”
In all we have seen during the six rounds of the royal commission, staff acted to line their hip pockets and weak regulators became the enablers.
Hayne asked whether structural change was necessary. “Should an intermediary be permitted to recommend to a consumer, provide personal financial advice to a consumer or sell to a consumer any financial product manufactured by an entity (or a related party of the entity) of which the intermediary is an employee or authorised representative?”
In other words, should the inherently conflicted model of vertical integration be unwound?
Law changes will have major impact
In an email to clients following the release of the Hayne report, Brett Le Mesurier at Shaw & Partners banking said if any of these issues result in law changes, the biggest loser could be AMP, which is largely reliant on its own financial planning network to generate business and retain existing business.
He is right. Banning grandfathered commissions would impact AMP’s buyer of last resort (BOLR) contracts and its ability to retain its current financial planning network, which is already in decline. Most of the banks have already agreed to stop their salaried planners collecting grandfathered commissions.
But ending vertical integration would turn the business models of AMP and IOOF upside down. It would also have an impact on the banks, to varying degrees. CBA’s proposed spin-off of its wealth businesses could become less attractive to prospective shareholders. Ditto for NAB, which is keen to demerge or float its MLC business.
There will be lobbying galore to stop it in its tracks.
Even if vertical integration survives, we are likely to see more proactive regulation and higher compliance costs, which could well make it harder to attract advisers, which, in turn, would impact fund inflows.
Matthew Rowe, chief executive of CountPlus, an ASX listed network of professional accounting and advice firms, has long held strong views on separating product and advice and banning conflicted remuneration.
In terms of licensing, he believes the best way forward to professionalise financial advice and ensure consumer protection is a combined approach to licensing. This would include an AFSL [Australian Financial Services Licence] structure that requires a minimum capital adequacy requirement and clear separation from product manufacturing and individual adviser licensing through ASIC-approved code monitoring bodies.
He says the AFSL would be separate to product manufacturing and provide consumer protection through a combination of rigorous product research, governance, risk management, financial strength and infrastructure.
The individual licensing of financial advisers through a strong independent code monitoring body would mean ethical framework and professional standards would rest with the individual professional adviser. “Ethics should always be about the natural person,” Rowe says.
Such a move, he argues, would potentially give birth to a new licence offering in the market. One that focuses on quality assurance, governance, risk management and independent research instead of product distribution and sales.
“In a world where advice is separated from product you would not have buyer of last resort mechanisms, you wouldn’t have bias in approved product lists and you wouldn’t have the conflict that comes when the AFSL is only economically viable due to upstream product margin payments.”
He says the code monitoring body would protect the profession and consumers from bad apples. “It’s an “and” strategy not an “or” strategy. ASIC has a greater role to play with both,” he says.
It is something Hayne will undoubtedly explore as he moves towards making recommendations in his final report.
More than just a ‘few bad apples’
For now we have to read the tea leaves based on the types of questions Hayne asks and the observations he makes in the draft report, particularly whether we can trust them to mend their ways without serious policy changes, simplification of the law and better regulators.
He notes that when institutions have been caught doing the wrong thing they blame it on a few bad apples.
Hayne reminds us that in its initial submission to the royal commission dated January 29, 2018, CBA said that “incidents of misconduct may be attributed to an individual, to a small number of individuals or to ‘pockets of poor culture’.”
He saw the explanation for what it was: “That generally similar conduct occurred in all of the major entities suggests that the conduct cannot be explained as a few bad apples.” Hayne suggested the phrase “bad apples” was designed to contain allegations of misconduct and distance the financial institution from responsibility. “It ignores the root causes of conduct, which often lie with the systems, processes and culture cultivated by an entity.”
Hayne also observed the various stage-managed mea culpas from bank CEOs. “Rhetoric of this kind is common. And responses of this kind to revelations of wrongdoings are generally accompanied by apologies and undertakings to take steps to restore public trust,” he said. “For example, following the CFPL [Commonwealth Financial Planning] scandal, Ian Narev, then CEO of CBA, noted that CBA ‘must now focus on restoring trust with all our financial planning customers and the community generally’. Similar commitments were made after the Comminsure scandal in early 2016 and again in 2017 in relation to the AUSTRAC investigation into money-laundering through CBA ATMs.”
His summation of the regulators was damning. It is something I experienced first-hand as various scandals were exposed including at IOOF, CBA’s financial planning and life insurance, NAB’s financial planning and Macquarie’s financial planning and so many others, with little or no punishment and airbrushed press releases. Yet these scandals included caches of internal documents, explosive and damning whistleblower testimony and so many victims.
The royal commission has found there was no tough cop on the beat, contrary to Prime Minister Scott Morrison’s proclamations.
Even now, there have been no heads on sticks, no consequences for crimes covered up or ignored.
For instance, when it comes to the fees for no service scandal, which was aired in the royal commission, the best ASIC did was slap CBA and ANZ with an enforceable undertaking including a community benefit donation. These EUs were issued under the new ASIC chairman James Shipton’s watch in April. Given the pressure on them to do more, that may now happen but it shouldn’t take public humiliation to force proper action.
Hayne summed it up with the following comment: “Too often, entities have been treated in ways that would allow them to think that they, not ASIC, not the Parliament, not the courts, will decide when and how the law will be obeyed or the consequences of breach remedied.” It is a damning indictment and a long way from Morrison’s criticism of a royal commission into banking as a “populist whinge”.