Summary

  • Prudential Standard SPS 530 came into force on 1 July 201 imposing new investment governance obligations on boards and trustees of superannuation funds.
  • SPS 530 requires trustees to develop and implement an effective due diligence process for the selection of investments.
  • Tips for trustees and their directors on compliance with SPS530.

The new APRA guidance on investment governance in SPS 530 – combined with learnings from the Centro decision and other key cases – inform what trustees and their directors need to do in due diligence.

Some pointers to comply with these requirements include:

  • The trustee’s investment governance framework should provide for an effective due diligence process.
  • But a pre-set process is not enough. The due diligence process then needs to be tailored for each specific proposed investment under consideration. SPS 530 requires due diligence to be 'commensurate with the nature and characteristics of the investment … and involve sufficient stress testing'.
  • The potential investment needs to be tested for fit with the relevant investment options, investment objectives and investment strategy, required returns and potential risks.
  • The trustee should consider the potential risks and how to scope the due diligence enquiries effectively to test those risks.
  • Similarly, the trustee should consider how to test – and stress test – the proposed investment having regard to the required returns.
  • Proposed internal and external adviser sign-offs need to be considered closely – do they cover the right risks? Are there any inappropriate scope carve-outs or assumptions?
  • The board will receive a proposed due diligence scope from management, and management’s own view of the risks. Directors need to apply a critical mind, understand and test the proposed due diligence scope, having regard to each director’s own knowledge as well as what they have been told by the trustee management or investment team.
  • Be on the lookout for ‘red flags’ including:
    • conflicts of interest of anyone involved – is there an appropriate plan in place to manage these?
    • unusual risks like currency or hedging risks – should expert input be obtained?
    • inappropriately narrow adviser scope.
    • Gaps – excuses for information not being provided.
  • Read the due diligence reports in detail. Again apply a critical mind. Have they covered the agreed scope? Has anything emerged which suggests additional risks should be tested or other enquiries made?
  • After considering the detail, take a step back. Checklists are a significant part of due diligence, but after all the detailed work is done, a big picture last look is a key part of due diligence. Does this investment stack up – in the interests of members – taking into account the risks and expected returns as tested in due diligence?
  • If in doubt, take external advice:
    • Futter v Revenue and Customs says that, if things do go wrong, liability should not be imposed on trustees ‘who conscientiously obtain and follow, in making a decision which is within the scope of their powers, apparently competent professional advice which turns out to be wrong.’1
    • Trustees may wish to consider, for example, external legal advice on whether a potential investment meets SIS Act requirements rather than forming that view by themselves.
    • When taking external advice, apply reasonable ‘professional scepticism’ to whether this is an appropriate adviser to provide the relevant advice. The Australian Senate Committee described Trio Capital as a case of ‘misplaced trust’.
  • Capture all the good due diligence work done in minutes and other documentation.
  • Ensure that future monitoring of each investment facilitates an ongoing awareness of any risk factors identified in the initial due diligence.
  • Finally, be aware that APRA has released four draft Prudential Practice Guides to support SPS 530 and expects to finalise these in late 2013.