In a decision that takes a welcome approach to the application of consumer protection legislation in financial services, the Federal Court has dismissed legal action brought by ASIC against members of the CBA group relating to alleged breaches of the prohibition against paying conflicted remuneration. ASIC took action against Colonial First State Investments Limited (Colonial) and Commonwealth Bank of Australia (CBA) alleging that Colonial’s agreement with the CBA for payments relating to the distribution of Essential Super products comprised conflicted remuneration under Part 7.7A of the Corporations Act.
ASIC alleged that between about 2013 and 2017, Essential Super was issued by Colonial and sold in CBA retail branches to individuals and small business employers as a default fund for employees who did not choose a superannuation fund. It further alleged that millions of dollars in fees generated by Colonial from Essential Super were paid to CBA through a series of cash transfers and general ledger entries. ASIC alleged that these arrangements and resulting payments and journal entries involved conflicted remuneration, given by Colonial and accepted by CBA, in contravention of the prohibitions within Division 4 of Part 7.7A of the Corporations Act.
CBA submitted that its decision to use its ‘in-house capability’ in the form of Colonial to produce and distribute Essential Super caused no ‘real and genuine conflict of interest’, and that any ‘remuneration’ passing between the parties in relation to the arrangement was merely ‘an appropriate allocation of costs and revenues between members of the group, so as to permit appropriate reporting about the performance of separate entities and business centres within the corporate group’, consistent with common and recognised business practice. Further, it pointed out that ASIC’s own regulatory guidance indicated the conflicted remuneration provisions are concerned with substance over form, and should not be applied to an arrangement within a corporate group such as the distribution arrangement between CBA and Colonial where the scope for influence on any financial advice given is remote.
Justice Anderson accepted the CBA submissions, stating that ASIC’s case fell at the first hurdle because the arrangement did not produce any ‘benefit’ to which the conflicted remuneration provisions should apply. His Honour noted that the character or circumstances of the benefit described in the conflicted remuneration definition in section 963A must be such that it ‘could reasonably be expected to influence’ either the relevant financial product advice or the choice of financial product recommended, and in construing whether a benefit exists in the context of section 963A, the court ‘should take a substance over form approach and ask whether a real commercial advantage exists after an assessment of any net benefits that may arise’.
Applying these principles, His Honour found that ASIC had ‘misconceived the purpose and application’ of the conflicted remuneration provisions as it relates to the context of a corporate group such as the CBA Group. His Honour said:
‘The Conflicted Remuneration Provisions were never intended to operate between business units in the same group of companies or entities within a consolidated group of companies. Rather, the Conflicted Remuneration Provisions are directed to benefits that exist between arms-length entities that are not part of a single consolidated group, as well as legal entities which have separate and distinct ownership.’
Expert evidence adduced was accepted that the relevant cash transfers and journal entries the subject of ASIC’s allegations did not cause any transfer of value between legal entities, and so could not comprise a ‘benefit’ for the purposes of the conflicted remuneration provisions.
His Honour’s finding that the particular inter-company arrangement in this matter did not comprise a ‘benefit’ which could reasonably be expected to influence advice for the purposes of the conflicted remuneration provisions is important, and could have broader implications to the way these provisions are applied to other arrangements within corporate groups (such as product distribution arrangements which increase shareholder value but do not have direct financial implications for advisers).
A number of comments made by the court in passing were also of great interest, including that:
- even if the arrangements did involve the giving or receipt of ‘benefits’, ASIC failed to establish that they were reasonably capable of influencing any choice of financial product or financial advice. His Honour expressed the view that the frontline staff that distributed the relevant product had no knowledge of the arrangements between Colonial and CBA and so they couldn’t be expected to be influenced by it in any advice they gave.
- the two limbs of the definition of conflicted remuneration require that the benefit could reasonably be expected to influence either the choice of financial product recommended or the financial product advice provided. But this was not the case here – as His Honour said:
‘Both limbs operate in the context of a choice between financial products, where a conflict may potentially arise because the advisor is recommending one product over another… The provision cannot be intended to operate where no other financial product is available, as this would eliminate the requirement that a choice could be made between two options. Clearly, the first limb cannot operate in this case because there is no choice to be made, and the better view is that the second limb also presupposes there is a choice to be made between financial products that creates a situation of potential conflict.’
This is a significant position for the court to take, as it suggests that licensees that only distribute one product will never encounter the type of conflict of interest that may enliven the conflicted remuneration prohibition.
- as the prohibition is a civil penalty provision, and ASIC’s case proceeded on the basis that every single instance in which a customer established an Essential Super account was the result of financial product advice in breach of the prohibition, ASIC bore the onus of establishing all elements of the alleged contraventions on the balance of probabilities. The court found that ASIC had not adduced any evidence of any recommendation or statement of opinion actually provided by a member of CBA’s branch staff ‘to a single retail customer, let alone to every, or almost every, branch customer’. The court found this was not sufficient to discharge the onus of proof to the level of satisfaction required in a penalty case, where the asserted contraventions are alleged to attach to every Essential Super account that was opened. This demonstrates the significant evidentiary burden that falls on ASIC in cases involving allegations of widespread contravention of the conflicted remuneration provisions.
In its press release, ASIC said it will carefully consider the judgment, although at this time no appeal has been announced.