What skills and capabilities should be represented on the boards of banks and insurers?  What skills and capabilities are required to avoid a recurrence of the issues identified by the Hayne Commission?  The Actuaries Institute has released a paper discussing these questions and putting forward a suggested approach aimed at strengthening board appointment and nomination processes.  Our key takeaways are below.

Key Takeouts

  • The paper argues that the gaps in the mix of skills and capabilities represented on the boards of financial services firms enabled the misconduct identified by the Hayne Commission and other reviews of the financial services sector.  In light of this, the authors consider identifying and addressing these gaps to be essential to preventing a repeat of past mistakes/failures in oversight
  • The paper puts forward a suggested checklist to inform the director appointment/nomination process including a recommended list of skills/capabilities considered necessary in the financial services context
  • A key recommendation is that appointing directors with 'golden' or 'unblemished' career records over those with experience of a major crisis or insolvency may not be optimal

Overview

The Actuaries Institute has released a paper written by former Actuaries Institute President Barry Rafe and former Australian Prudential Regulation Authority (APRA) Deputy Chair Ian Laughlin – The Special Needs of Financial Services Boards – aimed at providing financial institutions, and more particularly, banks and insurers with a guide to future director appointments. The focus is on non-executive directors.

The paper makes clear that it is primarily aimed at banks and insurers and does not specifically consider the specific needs of superannuation fund trustees.

Financial services boards are different

The authors argue that financial services firms have certain 'unique features' that differentiate them from other large, complex organisations. Among other things, the authors point to the critical role financial services firms play in society. They observe that virtually every adult necessarily has a relationship with a financial services firm and often has large financial exposure to that firm. They also point to the higher community expectations attaching to financial services firms – their social licence to operate – which reflects their unique role.

They consider that this has implications for board composition – that financial services boards need a specific mix of capabilities/skills in order to be able to exercise their oversight function effectively and ultimately to prevent the recurrence of the sorts of oversight failures identified in the Hayne Commission and other recent reviews.

Mr Laughlin states:

'Boards are obliged to act in the best interests of the company but in financial services there are other legal and moral obligations to protect the interests of customers…The skills and capabilities of the Board and individual Directors can have profound implications for conduct and culture.'

Board appointment and/or nomination processes deserve more focus

The authors argue that to date, efforts to tackle the underlying causes of misconduct in the financial services context have largely focused on improving overall governance, remuneration and risk management processes rather than on board composition/effectiveness per se. In the authors view:

'evidence suggests that the misconduct identified by all the reviews was enabled by boards of directors that did not adequately understand the complex businesses they directed – clearly reflecting systemic gaps between essential board skills and capabilities and board appointments'

In light of this, they consider that a sharper focus on the existing approach to board nomination/appointment is warranted.

Key skills and capabilities needed on financial services boards?

The authors consider that generally speaking, the following skills and capabilities should be represented on the boards of financial services firms.

  • The board should include 'at least one' director with direct experience with a 'solvency issue or business existential challenge'. The rationale for this is that directors with unblemished career records may result in boards lacking directors with 'foresight for emerging challenges and a lack of experience to be able to effectively recognise and manage them'.
  • The board should include director with an understanding of broader community standards and expectations who can provide 'ethical leadership to the organisation within the broader community'.
  • There should be a 'mix of directors from different industries, to recognise various patterns between industries and enable more lateral thinking that is not limited by industry specific jargon'.
  • Boards should have at least three directors with 'deep operational experience [ie hands-on management experience] garnered through working in the financial services industry within which the company operates'.
  • The Chair should be a former CEO or senior business line executive of a similar financial services business. The authors consider this to be necessary, among other things, to ensure that the Chair has the experience and insight needed to effectively coach/mentor the CEO. In putting this recommendation forward, the authors acknowledge that as fewer women have held very senior business line or CEO roles compared with men, this 'could introduce a bias against appointing a woman as Chair. The board would therefore need to balance this with its diversity intent'.

The paper includes a more detailed table of suggested board skills at page 18 and a suggested list of board capabilities at page 22.

A suggested tool to inform future board appointments

Appendix A at p17 of the paper is a suggested board assessment matrix, populated with 'illustrative skills and capabilities' (reflected above) that the authors consider should be represented on the board of a complex financial services business, together with a suggested traffic light rating system.

The authors stress that the suggested matrix is intended as a starting point and underline that it will need to be adapted to reflect the needs of specific organisations/to include more detail around specific skills/capabilities. The paper also makes clear that the process of building and maintaining a board with the optimal mix of skills/capabilities is an ongoing and long-term process.

[Source: Actuaries Institute media release 18/10/2021; Dialogue paper The Special Needs of Financial Services Boards]