Corporate Governance: A tale of three industries

In 2019, Kenneth Hayne delivered the Final Report of the Royal Commission into Misconduct in the Banking, Superannuation and Financial Services Industry revealing misconduct across the industry including poor treatment of vulnerable customers, charging fees for no service, and offering unsolicited increases to credit card limits.

In March 2021, Tony Pagone and Lynelle Briggs delivered the Final Report of the Royal Commission into Aged Care Quality and Safety detailing systemic problems in the sector resulting in shortfalls in the quality and safety of care for vulnerable older Australians.

Also in 2021, the NSW Casino Inquiry report was delivered. This found that Crown Resorts Limited had facilitated money laundering through its Melbourne casino, exposed its staff to the risk of detention in China, and partnered with junket operators that had links to organised crime.

Three separate inquiries in three quite different industries. But there is one thing they all have in common - startling failures of corporate governance.

These industries represent a combined 30% - 40% of the ASX100, which should make the Australian business community sit up and take notice. Given the various findings, there is no doubt that better oversight, governance and accountability in these organisations could have improved conduct impacting  consumers and communities. Indeed, much of what went wrong may even have been prevented with stronger corporate governance practices and robust, informed decision-making.

What is corporate governance?

Corporate governance is the framework of rules, relationships, systems and processes within and by which authority is exercised and controlled within corporations. It encompasses the mechanisms by which companies, and those in control, are held to account1.

It is ultimately the responsibility of the board to govern and strategically direct the organisation to perform in an accountable manner.

Sounds simple enough – then why are organisations still not getting it?

While some governance failures come to light as realised financial risk events (such as capital and solvency issues), many more failures represent non-financial risk exposures which may receive less attention in organisations. It is often not until conduct-related outcomes of poor governance come to light in a very public and reputationally damaging manner that the importance of strong corporate governance is realised.

Financial Services Royal Commission

Commissioner Hayne notes that “types of risk associated with misconduct”2 are compliance, conduct, regulatory and operational risks – i.e. non-financial risks. He believed that boards did not receive the right information that would enable them to either identify emerging non-financial risks or oversee and challenge management effectively. This could be a result of such risks being “more difficult to measure than most types of financial risk”.3

Rather than seeking to make new rules to enhance governance and oversight of risk, Hayne’s recommendations focus on the changes organisations might make, particularly in relation to compliance with existing rules and their governance practices. He calls for comprehensive assessments of governance arrangements, whilst also emphasising the importance of clear accountability for effective governance and having remuneration systems that provide for consequences relating to both financial and non-financial risks.

Aged Care Royal Commission

The Aged Care Royal Commission cited “deficiencies in the governance and leadership”4 of some aged care providers as well as a lack of structures in place to “ensure that governing bodies are properly informed of care deficiencies and risks.”5 These governance factors ultimately contributed to a substandard quality and safety of care.

Given the systemic issues identified in the aged care sector, several of the Commissioners’ recommendations relate to legislative and system changes to uplift the governance standard of aged care providers including amending the Aged Care Act 1997 (Cth) to require boards of providers of personal care services to have a “majority of independent non-executive members” and requiring boards to ensure that their leaders and managers are appropriately qualified.6

In light of the issues and governance failures, there is now a particular focus on improving provider “care” regulation, with the Commissioners recommending replacing the current Aged Care Act with a new Act, which includes a new general duty to “provide high quality and safe care”, and requiring providers to establish a care governance committee to “monitor and ensure accountability for the quality of care provided”.7

Beyond providers, the Commissioners also recommend the establishment of the Australian Aged Care Commission, which would monitor financial risk of providers and provide “system governance”, and call for the Australian Government to establish a “program of assistance” to assist providers to “improve their governance arrangements”.8

In this industry, as in others, where boards and governance arrangements fail to prevent issues, legislative requirements become tighter and more prescriptive.

NSW Casino Inquiry

The NSW Casino Inquiry Commissioner noted that the former executive chairman’s “stewardship led Crown to disastrous consequences”, alongside “processes that exposed its directors to conflicts of interest”, “lack of robust Junket approval processes” and “lack of proper oversight and monitoring of risks to money laundering”.9 These contributed to the Commissioner’s finding that Crown is “not suitable” to operate the Barangaroo casino in Sydney.

In order for Crown to be “suitable”, Commissioner Bergin’s recommendations largely focus on strengthening its corporate culture and governance and include, but are not limited to: a restructure of the board; continuing education for board members; and enforceable undertakings “in respect of matters including governance, independent review [and] accountability”,10 no doubt to demonstrate Crown’s seriousness and commitment to good corporate governance and conduct.

The outcomes of this Inquiry bring home the extreme nature of the consequences that can flow from faulty stewardship and inadequate visibility for boards. Executives and directors must not lose sight of the need for objectivity, transparency and, perhaps most importantly, the ability to identify risks and potential conflicts. We expect independent reviews of board performance, skills and procedures to play an increasingly important part in providing the necessary comfort for organisations.

So, what are the key governance lessons from these three major inquiries?

Corporate governance lessons from these three inquiries include:

1. Board independence: The independence of boards is a key consideration, as is appropriate tenure (generally less than 9 years). Consider a non-executive chairperson and a majority of directors being independent.
2. Director capability and skills: Individual directors need relevant skills and experience, as well as a strong understanding of the landscape in which the organisation operates (including applicable legislation) so that they are able to make quality decisions and strategically guide the organisation.
3. Accountability: Roles, responsibilities and reporting lines should be clearly documented to enable boards to hold management to account. Boards and Executive Committees should also have sufficient oversight of management of key functions and challenge their actions and decisions where appropriate.
4. Adequate risk management: Equal importance should be given to the prudent management of financial and non-financial risks. Organisations should have adequate focus on non-financial risks. The risk appetite set by the board should consider both financial and non-financial risk, and clearly articulate the board’s expectations in cases of non-compliance. Importantly, boards should exercise active stewardship by holding management to account where the organisation operates outside the parameters of the risk appetite.
5. Corporate culture and reward: Directors must set the tone on corporate culture with senior management and staff enabled to do the right thing without fear of consequences. This should be aligned to the terms of employment including remuneration and incentives, which should clearly reflect the purpose and values of the organisation. In this regard, APRA regulated entities will need to ensure their arrangements meet the incoming requirements of CPS 511 and FAR.

As outlined above, independent consideration of board performance and other governance arrangements is expected to play an increasingly important part in checking the cultural health of organisations across a number of industries. Recent events have demonstrated a direct link between governance problems and adverse impacts on customers and communities.

Deloitte is ready to support you, with a number of offerings to help assess and uplift your organisation’s corporate governance arrangements. For further information visit our Corporate Governance homepage here.

References:

1. Justice Owen in the HIH Royal Commission, The Failure of HIH Insurance  Volume 1: A Corporate Collapse and Its Lessons, Commonwealth of Australia, April 2003 at page xxxiv.
2. Hayne, KM, Royal Commission into the Misconduct in the Banking, Superannuation and Financial Services Industry: Final Report volume 1, Commonwealth of Australia, 2019, p 405
3. Hayne, Final Report volume 1, p. 405
4. Pagone, T, Briggs, L, Royal Commission into Aged Care Quality and Safety: Final Report volume 2, Commonwealth of Australia, 2021, p. 206.
5. Pagone and Briggs, Final Report volume 2, p. 209.
6. Pagone, T, Briggs, L, Royal Commission into Aged Care Quality and Safety: Final Report volume 1, Commonwealth of Australia, 2021, p. 133.
7. Pagone and Briggs, Final Report volume 1, p. 219, 267.
8. Pagone and Briggs, Final Report volume 1, p. 211, 268.
9. Bergin, P, Report of the Inquiry under section 143 of the Casino Control Act 1992 (NSW): volume 2, 2021, p. 505.
10. Bergin, Report volume 2, p. 571.