Keynote address by John Price, Commissioner, Australian Securities and Investments Commission at the G100 dinner, (Melbourne, Australia) 26 February 2019

Introduction

Thank you for that introduction and for the chance to speak here today.

I have been asked tonight to give an update on some impressions of:

• The Financial Services Royal Commission final report
• Issues for listed companies arising out of the recent AGM season and our expectations around financial reporting, and
• Some of the regulatory issues developing overseas and their potential impact in Australia

Royal Commission

As many of you will know the Financial Services Royal Commission report contains 76 detailed recommendations about matters relating to the final system.

Both the Government and Opposition have responded to the report agreeing with the main outcomes proposed although in some cases differing in matters relating to implementation.

In the time available I am not proposing to talk to the individual recommendations in detail, but I do want to comment on some very clear themes evident from the Introduction to the report which I think are quite instructive.

In that Introduction, it is stated that “There can be no doubt that the primary responsibility for misconduct in the financial services industry lies with the entities concerned and those who managed and controlled those entities: their boards and senior management…..Because it is the entities, their boards and senior executives who bear primary responsibility for what has happened, close attention must be given to their culture, their governance and their remuneration practices.” 

Of course, this report follows the release of an earlier APRA report into the Commonwealth Bank of Australia. The APRA report talks in detail about the role and function of boards and raised concerns about them being too light-touch, too high level and not critical enough of management. It also raised concerns about accountability within large organisations and whether complacency driven by short term financial success came at the expense of addressing non-financial risks including operational and compliance risks.

Again, questions of culture, governance and remuneration practices were raised. And let me be clear, these matters are of vital interest to ASIC. The reason is, of course, that one of the most important roles of a regulator is to change behaviour. Issues around culture (the way we do things around here), governance (systems and processes that people should follow) and remuneration (what people get paid to do) all have a very strong influence on how people behave.

So, it should be of no surprise to anyone that culture, governance and remuneration are all matters that ASIC will focus on using a variety of new supervisory and enforcement approaches.

Those new approaches include close and continuous monitoring, asking ourselves the question ‘why not litigate’ for all the misconduct we see and a strong focus on corporate governance.

Close and continuous monitoring involves regularly placing ASIC staff on-site in major financial institutions to closely monitor their governance and compliance with laws. A key goal of this new approach is to modify the behaviour of the large institutions to further encourage them to place consumers first in their decision-making and quickly identify and respond to conduct that produces unfair outcomes.

ASIC’s enforcement approach will have at its centre a focus on deterrence, public denunciation and punishment of wrongdoing by way of litigation. A functionally separate Office of Enforcement will be set up within ASIC to deliver on this very objective. A greater likelihood of detection of misconduct and greater penalties where misconduct is established should be very powerful reasons not to engage in wrongdoing in the first place.

As regards Corporate Governance, ASIC has sought and received funding to undertake targeted reviews of corporate governance practices in large listed entities. This will allow us to shine a light on ‘good’ and ‘bad’ practices observed across these entities. 

As part of this work, we will look at a range of issues, three of which I will discuss briefly.

The first is the role of the board and officers in the oversight (and in the case of officers, the management) of risk. The independence of the board from management and proper information flows to the board is necessary for the board to effectively hold management to account. Our review will look at how directors are actively exercising their stewardship functions, particularly in relation to non-financial risk. 

The second issue we will be investigating is executive remuneration practices.  We will do this with the benefit of recent work that APRA has also done in this area. Remuneration is a clear driver of conduct and so we will be looking at whether executive remuneration structures, grants and vesting of variable remuneration are driving the right behaviours and accountabilities of executives in Australia’s listed companies.

Finally, we will be considering the adequacy of periodic corporate governance disclosures.  We will be looking to see whether investors are being provided with meaningful disclosures about the effectiveness of a company’s corporate governance practices. At the moment most disclosure focuses on what policies and procedures companies have in place regarding corporate governance. We want to understand whether those stated policies and procedures are actually reflected in practice.

And in closing on matters relating to the Royal Commission it would be remiss of me if I didn’t note that all of these measures are being supported by a broader strategic change program that is occurring within ASIC itself.

However, let me move on and talk on the recent AGM season and financial reporting matters.

AGM Surveillance Program

Last month ASIC published Report 609: Annual General Meeting Season 2018, setting out our observations on the 2018 AGM season for ASX 200 listed companies.

I thought I would take the opportunity today to share with you some of the key observations in Report 609, noting of course at the outset that the recent AGM season was conducted against the unique backdrop of Financial Services Royal Commission.

So, turning to those key observations:

• Firstly, shareholder engagement at AGMs remained significant this season with shareholders continuing to use AGMs as an avenue of direct engagement with company boards; 
• Secondly, shareholders of some companies, including many of those involved in the Royal Commission, displayed an elevated focus on matters such as social license to operate and community expectations;
• Thirdly in terms of remuneration, shareholders used their votes on the remuneration report to demonstrate discontent with boards more broadly rather than just on executive remuneration. Across the ASX 200 we observed a decrease in support for remuneration reports compared to prior years; and
• Finally, environmental, social and governance (ESG) issues continued to attract shareholder attention, with climate change risk and sustainability emerging as the most frequently raised ESG issue.

Of course, the matters I have raised here are very brief highlights. I would encourage anyone seeking more detail to look at Report 609 which is available on ASIC’s website.

Financial Reporting

Turning to financial reporting. ASIC continues to conduct proactive surveillances of about 300 financial reports of listed companies and other public interest entities each year.

We continue to see an average of about 4% material misstatements in the financial reports reviewed.  We publish media releases on focus areas and findings ahead of each 6-month reporting season with the objective of better reporting ahead of our surveillances.  We also issue media releases on individual material changes to financial reports for named companies to provide real case studies for other companies.

ASIC’s continuing focus areas include impairment of non-financial assets and revenue recognition.  The highest numbers of material changes to financial reports are in these areas.

Particular focuses for impairment of non-financial assets include how realistic and supportable cash flows and key assumptions are in discounted cash flow models.  For example, if cash flow forecasts have not been met in previous years, why will they be met now.

Major new accounting standards can significantly affect reported net assets and profits.  New standards on revenue recognition and financial instrument valuation apply for 31 December 2018 full years and half-years.  The new leasing standard is only one year behind and can have significant income statement impacts, as well as balance sheet impacts.

We are focusing on the use of non-IFRS financial information at 31 December 2018, and the operating and financial review.  In this regard, we refer to Regulatory Guide 230 Disclosing non-IFRS financial information and Regulatory Guide 247 Effective disclosure in an operating and financial review.  Consideration should be given to disclosure of risks such as digital disruption, Brexit, cyber security and climate change. 

We also continue to focus on recognition and measurement, and material disclosures.

Being mindful of time let me conclude my comments with some brief observations about MiFID II Regulation and its possible impact in Australia.

MiFID II Regulation and its impact in Australia

The Markets in Financial Instruments Directive II (MiFID II) came into effect in the European Union on 3 January 2018. 

MiFID II included new rules on research and inducements (referred to as unbundling). Under the rules, fund managers must determine the value of research and pay for it themselves or through a research payment account funded by investors. This results in an unbundling of fees for broker execution, research and corporate access services. Of course, all of this is quite relevant to corporates who may have been the subject of such research or benefited from corporate access.

Given many of us operate in a global market, these changes may well impact on the way that research is provided including:

• Investors being more selective about the research they receive (and requests by investors not to receive some research)
• unbundling may result in lower execution fees (as the total amount paid for unbundled services is less than what was previously paid for an all inclusive service)
• changes to the way that companies engage with investors in the European Economic Area (i.e. how roadshows are arranged)

So, what is the relevance of all of this for Australian companies? Australian fund managers with exposure to the European economic area, including via broker firms or by participating in fund raising, can be impacted by MiFID II.

MiFID II may also impact European economic area based fund managers access to the Australian equities market, including research and corporate access.

The impact of MiFID II may even be more far reaching than that. As recently noted in The Economist^[1]:

“As well as being a European rule, MiFID II may evolve into an unofficial international standard. Instead of having different procedures outside Europe, global asset managers have decided to unbundle research worldwide. More than half of the buy-side respondents to Liquidnet’s survey said they had done so and a further fifth said they would follow suit in the next five years.” 

To better understand these impacts, ASIC has engaged the UNSW Business School to survey Australian fund managers that may be impacted by MiFID II. Of course, we will keep you informed as this work progresses but would welcome any comments you wish to make.

Finally, while speaking about international developments it would be remiss of me if I did not mention our reminder released earlier this month to have in place adequate contingency measures to mitigate the potential implications of Brexit. Again, you can find the detail on our web-site.

Conclusion

Thank you for your attention this evening, I’m happy to take questions.