The Royal Commission into Misconduct in the Banking, Superannuation and Financial Services Industry has revealed a broad range of structural problems within the Australian superannuation industry and raised questions as to whether super funds have been suitably concerned with members’ best interests.

What’s clear, from the final report, is that Kenneth Hayne isn’t layering more regulations, but focusing on the practice of governance and getting trustees more focused on consequences. This is especially apparent in the introduction of a civil penalty for breach of the best interest covenant. The question remains how to implement the standard and how to make the system more transparent and accountable?

Governance and oversight

One of the problems that the Royal Commission has revealed relates to governance and oversight, and more specifically, the separation of powers between management teams and trustees.

A fund’s management team—which will report to the board of trustees—is tasked with running the fund on a day-to-day basis, and is also responsible for the profitability of the entity. In contrast, the board of trustees is responsible for ensuring that the fund acts prudently, responsibly and honestly, complies with the trust deed and all legal requirements, and that it is run in the best interests of fund members. From a corporate governance point of view, a clear separation of powers between the management team and its trustees is crucial, due to the unique role that each party plays in the operation of the fund. However, trustee boards are often actually heavily reliant on management information—which can be conflicted—simply because boards can be quite diverse and contain individuals from a broad range of backgrounds.

As much as the independence of the trustee board is a critical part of good governance and an important safety-net, there is a certain degree of information asymmetry that exists between management teams and trustees, and this creates a problem. It’s management that has an information advantage over the trustees and controls the flow of information, yet it’s also management that is responsible for ensuring that the fund generates a profit. Trustees, however talented, high-achieving and of strong moral fibre and integrity in their professional careers and community contributions, unfortunately sometimes simply lack the requisite information to make the right decisions. They need to be better equipped.

Trustee accountability

Given the findings of the Royal Commission, the responsibilities of trustees are likely to be scrutinised more closely going forward. Regulators are likely to place a much greater focus on trustees’ duties, and examine in detail whether members’ best interests have been prioritised.

Trustee accountability is another issue that has come to the fore with the introduction of civil penalties for fund trustees that have failed to act in members’ best interests.

It’s worth pointing out that in Switzerland, the Swiss Federal Supreme Court recently found that the trustee board of a pension fund had violated its basic duty of ensuring the security of its assets. This was after the pension fund took excessive risks by significantly increasing its exposure to equities without building up adequate reserves beforehand. The supreme court ruling found that trustee board members were liable for the losses suffered by fund members, which illustrates how important it is for governing bodies of retirement funds to operate prudently.

As such, looking ahead, super fund trustees need to put processes in place that guarantee members’ best interests take precedence. Operational safeguards are required in order to ensure that the oversight function is fully independent and that conflicts of interest are eradicated.

Regardless of how board of trustee members are chosen, in order to effectively fulfil their responsibilities, they must be able to exercise informed, objective and independent judgement, acting as a representative of all super fund members. Ultimately, trustees need a system that enables them to show that they are making the best possible decisions on behalf of super fund members.

Independent governance reporting

One solution in this respect is to follow the lead of the Swiss financial industry—which is known for its sophisticated financial regulatory framework—and its use of ‘investment controlling’ services.

Investment controlling seeks to provide independent supervision of the investment process and monitoring of investment assets, lending more visibility, transparency and credibility to the investment management process. Encompassing a broad range of investment support activities including governance advisory services, investment reporting, compliance and fee checks, risk management, portfolio analysis, and performance monitoring, its ultimate objective is to ensure that the decision makers receive independent management-relevant information.

In Switzerland, pension funds rely on investment controlling firms to monitor their investments, detect risks, and provide overall guidance with no conflicts of interest. By working independently of management teams and investment managers, investment controlling experts can ensure a neutral and objective oversight process that ensures clients’ best interests are the top priority.

One of the major benefits of investment controlling—particularly from a trustee’s perspective—is that complex financial information is summarised in clear, concise reports. Unlike most management reports, which are often both complex and protracted, investment controlling reports are straightforward and succinct, providing a clear investment dashboard which highlights the most important issues. This can empower trustees and minimise information asymmetry.

Note that in Switzerland, a Swiss Federal Supreme Court ruling states that trustees must fulfil their due diligence obligations in every respect from the first day of the actual assumption of the mandate. In other words, the liability of the board of trustees is not subject to any waiting period. The ruling says that trustees should obtain a “sufficiently comprehensive picture of the institution even before taking office” and that important issues such as risk management should be assessed before the acceptance of the mandate. Clearly, investment controlling services could be helpful in bringing trustees up to speed in this respect.

Given concerns over the influence of management teams on trustees, another investment controlling function that could benefit Australian superannuation fund trustees is that of unbiased consultancy services. Unlike asset consultants, investment controllers do not generate investment ideas nor do they advise on financial products; the sole objective is to provide independent third-party oversight of the investment management process. This expert advice and guidance from third-party investment professionals—completely independent and free of conflicts of interest—could be extremely beneficial to superannuation funds, as it could potentially help trustees make better decisions.

By providing appropriate information and data in a concise format to governing bodies of superannuation funds, along with proactive and incisive recommendations, investment controlling could add another layer of security for trustees, and help ensure that members’ funds are being managed in their best interests.

Empowered to make the best decisions

The Australian superannuation industry looks set to undergo radical changes in the near future as a result of the findings of the Royal Commission. Going forward, there is likely to be a close focus on trustees and their accountability. With penalties potentially on the line for trustees that fail to act prudently, trustees need to be better equipped to make optimal decisions on behalf of members, and be able to show that they have proper systems in place that protect members’ benefits at all times.

Given its independent nature, investment controlling or governance is one area that could certainly add value for the superannuation industry. It’s not a ‘magic bullet’, as trustees are responsible for a number of different duties. However, with its focus on providing unbiased, objective advice, and summarising complex financial information into clear and concise reports, investment controlling could help ensure that trustees are empowered to make the best possible decisions and that members are the top priority.