The Royal Commission into Misconduct in the Banking, Superannuation and Financial Services Industry (Financial Services Royal Commission) third round of public hearings into the provision of credit to small and medium enterprises (SMEs) commenced on 21 May and ran until 1 June. The focus of the second week of hearings was largely on a number of cases in which small business' arrangements with their banks were varied by the lenders or came to an end.
A high level overview of the case studies and the issues to emerge is below.
The proposed new banking code (presently under consideration by the Australian Securities and Investments Commission (ASIC)) and ASIC's implementation of the extension of unfair contract terms legislation to small business contracts were also considered by the commission during the final days of the second week of hearings. These issues will be covered in a separate post in the next issue of Governance News to be published 12/06/2018.
[Note: In his opening statement to the Commission, Counsel Assisting Michael Hodge QC highlighted 'three overarching questions' for consideration over the course of the hearings, and a number of more specific questions to be explored in the case studies. See: Governance News 28/05/2018.]
Approach to hardship applications/communication with borrowers: Suncorp case study
This case study concerned five business loans made by Suncorp to Mr Peter Low which eventually became the subject of FOS complaints by the Low family. Mr Rien Low (Peter Low's son) described the steps he'd taken in the aftermath of his father's unexpected death, to seek hardship assistance from Suncorp, his attempts to negotiate a pause in interest repayments on the loans and ultimately to resolve the debts on behalf of his grieving mother and the Low family. The Commission heard that when Mr Low was unsuccessful in negotiating a solution with Suncorp, he lodged an FOS complaint alleging maladministration in relation to the loans.
The Commission heard that the FOS found that one loan was affected by maladministration (Suncorp acted irresponsibly when it approved the loan). FOS directed that Suncorp forgive the interest that had been repaid and stop charging interest or fees on that loan. The remaining loans (which were not found to be been impacted by maladministration) were to be repaid and the parties were directed by FOS to come to some arrangement between themselves to facilitate this. The Commission heard that Suncorp took the approach that the loan impacted by maladministration should be paid back first, and in full, within a short timeframe (ie $220,000 should be paid back in six months rather than over the original life of the loan – a further 17 years).
CEO banking and wealth at Suncorp Group, David Carter was questioned about the approach taken by the lender to approving the loans in this case and the approach taken to responding to the hardship application made by the Low family. He was also questioned about the approach taken by Suncorp to the FOS process. It was alleged that Suncorp prolonged the FOS process, knowing that there had been maladministration in approving the loan. Mr Carter was also asked to explain the approach Suncorp took, following the FOS determination, to requiring that the loan impacted by maladministration be paid back first. It was alleged that the approach taken by Suncorp put the Low family in a worse position than before they approached the FOS (because they were required to pay the loan at a faster rate). Suncorp maintained that though it agreed that the loan should not have been made, its actions following the determination were consistent with the FOS determination and that the timeframe for repayment of the loan was consistent with FOS practice/industry practice.
Financial Ombudsman Service (FOS): Clearer guidance to lenders on FOS expectations; errors in judgement in specific case.
The case studies explored over the course of the Round 3 hearings were drawn from Financial Ombudsman Service (FOS) cases. It was alleged by the Commission that in some cases, lenders sought to delay FOS outcomes and the Commission also heard that some lenders have not always been in agreement with the FOS' interpretation of their lending obligations (see: Governance News 28/05/2018).
Lead ombudsman, banking and finance, of the Financial Ombudsman Service Philip Field was asked to comment generally on the approach taken by FOS to resolving complaints. Mr Low described the FOS process in some detail and commented that generally the process is more familiar to lenders than it is to consumers (who are unrepresented). Asked why the FOS directs consumers to negotiate repayment plans with lenders following determinations (rather than doing so on their behalf) Mr Field explained that the FOS does not assume that there will be any further issue between the lender and the consumer once the determination is made. He also expressed the view that the approach adopted by FOS to resolving disputes was an appropriate basis for the Australian Financial Complaints Authority's (AFCA's) approach going forward.
Questioned specifically about the circumstances of the Low case study, Mr Field was asked whether requiring the payment of the interest-free loan (the loan found to be impacted by maladministration) before the other loans was an FOS requirement. Mr Field said that it was not.
Asked whether FOS guidance on this issue was clear, Mr Field said that FOS ought to make clear in its guidance to lenders that its expectation is that debts from responsible lending are paid off before debts from irresponsible lending.
Mr Field also said that FOS was mistaken in indicating that the loan in the particular case should have been paid off within such a short timeframe.
Variation or non-renewal of loans: CBA/Bankwest case studies
The Commission heard from a number of former Bankwest customers about their experiences following the acquisition of Bankwest by CBA in 2008. More particularly the case studies explored examples of circumstances in which the terms of loans to some Bankwest customers were varied or where loans were not renewed, as CBA applied more stringent risk parameters to the loans in question. Witnesses described the personal and financial impact of the bank's actions and the alleged lack of transparency and fairness in this process (from their point of view).
In his opening statement to the Commission, Counsel Assisting Michael Hodge emphasised that the case studies chosen, did not/do not raise any of the 'ulterior motive theories' circulated about CBA's dealings with the Bankwest loan book. Mr Hodge said that the theories referred to are not consistent with each other but that the common element is that they 'attribute to CBA in its dealings with the Bankwest loan book an ulterior motive to systematically default loans and to default loans for reasons not concerned with what CBA perceived, rightly or wrongly, to be the risk of a particular loan or lending to a particular industry'. Mr Hodge said that: 'we have not seen any primary evidence from primary sources that support these ulterior motive theories, and their logic appears to be premised on misconceptions of the facts'.
The Commission heard from CBA executives that the quality of the Bankwest loan book (with respect to business banking) was poorer than CBA had anticipated and that credit review processes at Bankwest were less stringent than those of CBA. The Commission also heard that that CBA sought to minimise these risks through reviewing the Bankwest's high risk loans (Project Magellan) and acting to address the high concentration of Bankwest's exposure in commercial property which resulted in a number of loans not being renewed or the terms of loans being varied. The Commission also heard that the CBA launched a remedial program to educate Bankwest staff and raise standards in business banking. CBA executives were asked whether the bank should have done more to work with the businesses in question. The Commission heard that in some specific cases, Bankwest's actions may have been outside community expectations, and that in some cases the actions taken at the time would not now be in line with CBA bank policies.
Group chief risk officer Mr David Cohen was also questioned about the effectiveness of CBA's risk function and asked to comment on CBA culture. He said that the risk function may not have been sufficiently challenging of the business in the past, and that recruiting personnel with the appropriate expertise given the shallow talent pool in Australia was one factor (among others) that had contributed to this. He then outlined the risk initiatives that have been implemented (eg risk appetite strategy) or which are in the process of being implemented by CBA, since he took over the role since 2016. Asked whether the process has taken longer than he would have liked, Mr Cohen said it had not and that the timeframe (3-5 years) was a realistic one. Commissioner Hayne also questioned Mr Cohen on the subject of the approach the CBA has taken to identifying risk more recently and following the release of APRA's recent report (see: Governance News 04/05/2018). Mr Cohen said that, CBA though good at logging, tracking and measuring financial risk, had as was pointed out in the APRA report, not sufficiently emphasised non-financial risk such as conduct and reputational issues in the past, and that the bank had lacked an executive forum for considering risks of this kind. He said that an executive committee for considering risks of this kind would be established to improve non-financial risk oversight. The Commissioner suggested that simplification of policies and procedures, and asking 'should I' (as suggested in the APRA report) could assist in improving the effectiveness of the application of policies to which Mr Cohen agreed stating 'I think it requires a sense of returning to the basics'.
Variation or non-renewal of loans: NAB case study
This case study concerned Mr Ross Dillon who described to the commission the actions by National Australia Bank (NAB) in applying 100% of the proceeds from the sale of his principal residence (Goanna Downs) to pay down his business debts (for his music imports business: National Music which was struggling financially). Mr Dillon said that he hadn't expected that 100% of the proceeds from the sale of his home would be used to settle the entirety of the business debt based on his understanding of discussions with NAB. He said that he had planned to put a proportion of the sale proceeds into National Music (as he understood NAB wanted him to do) and to use the remainder to purchase a smaller principal residence and that this had been communicated to NAB. Mr Dillon said that he would not have accepted the price offered for the property (which he said was lower than what another interested buyer may have paid) had he known that the lender would take the action that it did.
Mr Dillon also described to the Commission the negative impact of NAB's decision to substantially reduce the trade facility for his business on the profitability of the business. NAB's barrister, Wendy Harris QC challenged Mr Dillon's recollection of the facts, and more particularly his memory of the communication around the sale of his home and the use by the bank of the proceeds to pay down his business debts. She suggested among other things, that it was unlikely that the NAB representative would have given any assurance of the way the proceeds of the sale would be used (as this was outside the NAB representative's authority) and questioned whether the bank's actions were in fact a surprise to Mr Dillon.
Questioned about the bank's decision to apply 100% of the proceeds to settle the business debts, general manager of strategic business services at the National Australia Bank Limited Ross McNaughton said that in preparing his evidence, he had discovered that NAB had no legal basis for acting as it did (in insisting on the full proceeds of the sale of Mr Dillon's home being used to pay down his business debts) as the property was not direct security for the business loan (though Mr Dillon may have mistakenly understood that it was), and because Mr Dillon's business was not at the time in default. Mr McNaughton also said that that communication with Mr Dillon regarding the sale of the property could have been clearer ie that the bank could have better articulated the bank’s position and the basis of its decisions.
[Sources: Royal Commission into Misconduct in the Banking, Superannuation and Financial Services Industry: 21 May 2018 – Draft Transcript for Day 20; 25 May 2018 – Draft Transcript for Day 24; 28 May 2018 – Draft Transcript for Day 25; 29 May 2018 – Draft Transcript for Day 26; 30 May 2018 – Draft Transcript for Day 27; 31 May 2018 – Draft Transcript for Day 28]
