APRA to improve insto’s remuneration practices

A review has found plenty of room for improvement in the remuneration practices of Australia’s large financial institutions, prompting the Australian Prudential Regulation Authority (APRA) to consider ways to strengthen its prudential requirements in this area.

Since the GFC, ASIC’s standards and prudential practice guides have promoted a principles-based approach to remuneration. To examine how these were working, the regulator undertook a review of remuneration policies and practices across a sample of large APRA-regulated entities last year.

The results were disappointing. Even though all institutions had remuneration structures that satisfied the minimum requirements of APRA’s prudential standards, the frameworks and practices often fell short of the sound practices set out in APRA’s prudential guidance and were therefore some way from better practice.

Amongst other things, the review found room for improvement in:

  • Ensuring practices were adopted that were appropriate to the institution’s size, complexity and risk profile.
  • The extent to which risk outcomes were assessed, and weighted, within performance scorecards.
  • Enforcement of accountability mechanisms in response to poor risk outcomes.
  • Evidence of the rationale for remuneration decisions.

In a recent address in Sydney, APRA chairman Wayne Byres noted that by and large, the institutions reviewed had the required frameworks, policies and processes that could provide the basis for a sound system of remuneration.

‘But in many cases their practical application left something to be desired. In other words, they were present in form, but less so in substance.

‘In particular, while frameworks, policies and processes existed to align remuneration with risk outcomes, their application in practice was often less than robust.

‘Given Australian financial institutions have on the whole been financially successful, executives have been rewarded accordingly. But that financial success has not been universal, nor without a number of missteps. Yet there has been limited evidence of material financial consequences for senior executives when risk outcomes have been poor in their area of responsibility.’

Based on the review’s findings, APRA says there is considerable room for improvement in both the design and implementation of executive remuneration structures within the Australian financial system.

The regulator has suggested that boards and senior executives consider the findings of its review and take action to better align their remuneration arrangements with good risk management and the long-term soundness of their institutions.

But it says it also intends to strengthen its prudential requirements on remuneration to better support this outcome and to reflect evolving international standards and regulatory expectations related to remuneration, including the application of the most recent FSB Supplementary Guidance on Sound Compensation Practices.

APRA says it will continue to focus on its core principle that remuneration must be designed to encourage behaviour that actively supports the risk management framework and long-term financial soundness of the institution. Proposed changes will focus on better alignment of remuneration and its outcomes with prudent risk management and long-term financial soundness.

APRA intends that any proposals to address the areas identified in this review will be considered in conjunction with the implementation of other initiatives such as the Banking Executive Accountability Regime (BEAR).

The proposed changes to be considered include (although may not be limited to):

  • Improved design of remuneration frameworks.
  • Enhanced implementation and outcomes.
  • Strengthened board remuneration committee oversight.
  • Enhanced reporting and disclosure.

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