Westpac cops a pounding

Westpac is too complex and paying the price for the poor integration of St George Bank after its acquisition in 2008. Picture: AAP

A series of heavy blows from the Australian Prudential Regulation Authority has left Westpac punch-drunk and gasping for air, with its leaders forced to accept the reality of a difficult five-year turnaround.

It’s hard to escape the conclusion that the poor integration of St George Bank in 2008 left Westpac mired in complexity and completely ill-equipped to meet the ever-sharpening demands of Austrac and other increasingly aggressive agencies.

Effectively, APRA’s latest insight — from a risk governance review triggered by Austrac’s explosive statement of claim in late 2019 — is: “Congratulations, you’ve made some progress in fixing the problems, but it really is about time you picked up the pace.”

More broadly, the regulator identified that Westpac has an immature and reactive risk culture, unclear accountabilities, capability shortfalls and inadequate oversight.

That rather brutal message was delivered to the 203 year-old lender on Monday night.

In the coming days, Westpac is expected to sign an enforceable undertaking with APRA over risk-governance remediation, after the issue has been considered by the full board.

Commonwealth Bank’s entanglement with Austrac followed a similar course, with CBA signing an EU with APRA in May 2018.

The second APRA blow aimed at Westpac was well-telegraphed, and relates to enforcement action over “material” breaches of liquidity standards in 2019 and 2020.

While the incorrect treatment of funding and loan products for calculation of the liquidity coverage ratio first emerged in the New Zealand subsidiary, it blew back into APRA’s regulatory remit because of the impact on the parent’s balance sheet.

The breaches have been rectified, and Westpac would still have continuously met its minimum liquidity coverage ratio.

However, the group still breached the prudential standards because the LCR for its NZ subsidiary would have been below 100 per cent for much of 2019.

Westpac’s LCR for the September quarter 2020 was 151 per cent.

The episode was a further demonstration of weaknesses in the bank’s risk management and oversight.

APRA has ordered comprehensive reviews of Westpac’s liquidity reporting requirements, as well as remediation, by independent third parties.

Until then, the regulator will also require Westpac to apply a 10 per cent add-on to the net cash outflow component of its LCR calculation.

When APRA started its risk governance review of Westpac in December 2019, it made the bank hold an extra $1bn in operational risk capital due to Austrac’s allegations of anti-money laundering breaches.

The capital add-on will remain in place until APRA is satisfied that Westpac has fixed its gaping risk governance deficiencies.

BoQ’s pay play

The science behind executive remuneration has become so complicated that it’s often beyond the understanding of mere mortals.

On December 8, Bank of Queensland investors will vote on an equity grant-with-a-twist to chief executive George Frazis; the twist being that the BoQ board is effectively asking investors to sign a blank cheque for the CEO’s maximum short-term incentive.

Sure, the board gets to exercise its discretion, with the amount of stock actually pocketed by Frazis varying over a one-year performance period.

But why dispense with the conventional practice of granting the STI after the performance period?

It’s rare in Australia — only a handful of the top 300 or so listed companies do it — and it’s believed to be the first time BoQ has done it.

The regional bank agrees the Frazis equity grant is “not traditionally structured”, but it was adopted, in any event, to ensure immediate alignment between the CEO and the bank’s shareholders. It also happens to be a more common practice in the US, from which a lot of our pay culture is derived.

The problem with such blind adoption is that Australian boards don’t have a great track record of exercising discretion against the interests of their CEOs.

BoQ, as well, is hardly shooting the lights out, with its 2020 net profit tumbling by 61 per cent to $115m and its cash profit down 30 per cent to $225m.

While Frazis’s maximum pay under the new framework has fallen from $4.55m to $3.2m, it would be an understatement to say that some of the proxy advisers are not enamoured of the change.

ISS, for example, also targets the regional bank for inadequate disclosure of performance measures in relation to the STI, other than a 50:50 split between financial and non-financial measures.

In its revised prudential standard on remuneration, released for consultation earlier this month, the Australian Prudential Regulation Authority went for a principles-based approach, replacing the 50 per cent cap on financial measures with a requirement that “material weight” is given to non-financial measures.

The history is that boards are happy to disclose the relevant ratios but tend to keep the specific non-financial measures under wraps, relying on commercial-in-confidence even though pay is disclosed retrospectively.

Senior executives can then be marked more generously against those measures, away from the glare of publicity.

ISS has some clear reservations about BoQ’s remuneration framework, saying investors will require full transparency in the 2021 remuneration report to justify short-term bonuses. Despite this, ISS recommends a “yes” vote for the Frazis equity grant and the remuneration report.

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