The general preference for choosing company directors who have had unblemished executive careers is robbing financial services company boards of directors who can identify the emergence of serious problems and help boards respond to them.
This is among the findings of an Actuaries Institute paper, which argues that the financial services industry has some unique features that need to be taken into account when selecting suitable candidates for directorships.
The paper’s authors are Barry Rafe, a consultant and fellow of both the Actuaries Institute and the Australian Institute of Company Directors, and Ian Laughlin, a former APRA deputy chair. They say the poor behaviour highlighted by the Hayne royal commission may have been enabled by boards whose directors lacked the necessary skills and capabilities for complex financial services businesses.
The “unique features” of financial services companies flow from the long-term contingent nature of the financial products offered and the trust individuals place in these products.
Products and services are often complex and, with significant information asymmetry between individuals and the organisation, customers need to trust the organisation to do the right thing.
There is often an intermediary involved in transactions, which means customers must rely on advice from third parties.
Almost all adults have a relationship with several financial service providers and large financial exposures are often involved.
“The pressure to make short-term profits traded off against the long-term financial commitments that are made to the community has important implications for the capabilities of the board,” the paper says.
“It is crucial that directors really understand the products and services being sold and the customer needs being addressed. The rationale for a social licence to operate is particularly strong for financial services businesses as they effectively make money by helping their customers manage their financial affairs.”
Rafe and Laughlin say financial services company board composition goals should include a chair who is a former chief executive or senior executive of a similar financial services business and at least three directors with deep operational experience in the financial services industry.
Beyond that, there should be a mix of directors from other industries and directors who can demonstrate ban understanding of broader community expectations.
Surprisingly, they call for the inclusion of at least one director who has direct experience with an insolvency or other existential business challenge.
They say there is a preference for directors without any blemishes in their executive or board careers, and directors with first-hand experience in organisations where there have been major financial or other issues are not represented on most boards but directors with experience of insolvency or other challenges would be useful.
“Risk aversion to director selection may result in boards lacking directors with foresight for emerging challenges and a lack of experience to be able to recognise and manage them.”
They say their recommendations should sit alongside generally accepted principles for board composition, such as diversity.
As to the skills and capabilities required, their list includes financial literacy, knowledge of financial regulation, risk management experience and a strong grasp of governance requirements for financial services businesses.
There should be at least