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Australian Financial Institutions in the Hot Seat – NAB

We examine National Australia Bank Limited (“NAB”) in the third instalment of our series on alleged wrongdoings in the Australian financial services sector.

Royal Commission

The Royal Commission into Misconduct in the Banking, Superannuation and Financial Services Industry (the “Royal Commission”) was established on December 14, 2017, by the Governor-General of the Commonwealth of Australia. The Commissioner will submit an interim report by September 30, 2018 and will provide a final report by February 1, 2019.

NAB has been involved in multiple cases in the Royal Commission thus far:

  • Round 1 – Consumer lending (commenced on March 13, 2018)
    • In her closing address, Senior Counsel Assisting stated that it was open to the Commissioner to make multiple findings of misconduct by NAB and that NAB engaged in conduct that fell below community standards and expectations in relation to NAB’s Introducer Program relating to home loans in Greater Western Sydney from 2013 to 2016.
      • NAB has acknowledged breaching statutory obligations in some but not all instances identified by Counsel Assisting.
  • Round 2 – Financial advice (commenced on April 16, 2018)
    • In her closing address, Senior Counsel Assisting stated that it was open to the Commissioner to make multiple findings of misconduct by NAB in relation to misconduct by a single financial advisor and that the conduct was attributable to a broader culture of the financial advice business within NAB.
  • Round 3 – Loans to small and medium-sized enterprises (commenced on May 21, 2018)
    • In his closing address, Counsel Assisting stated that it was open to the Commissioner to find that NAB had engaged in misleading or deceptive conduct, been in breach of the Code of Banking Practice, engaged in conduct that fell below community standards and expectations and failed to adhere to its own policies, in respect of its conduct regarding a single small business highlighted as a case study.
  • Round 4 – Financial services in rural and remote communities (commenced on June 25, 2018)
    • In her closing address, Senior Counsel Assisting stated that it was open to the Commissioner to find that NAB engaged in conduct that fell below community standards in relation to a single Queensland cattle farming family borrower and that the conduct was the product of a specific culture within NAB.
  • Round 5 – Superannuation (commenced on August 6, 2018)
    • In his closing submission, Counsel Assisting stated that it was open to the Commissioner to make multiple findings that NAB-controlled entities (including NULIS Nominees (Australia) Limited (the RSE Licensee for the MLC Super Fund and MLC Superannuation Fund), and MLC Nominees Pty Ltd) engaged in misconduct in relation to charging fees for no service, charging fees to deceased member accounts, grandfathering of trailing commissions and in relation to MySuper products. Counsel Assisting also invited the Commissioner to find that these entities engaged in conduct that fell below community standards and expectations, including in its representations to the Australian Securities and Investments Commission (“ASIC”). Counsel Assisting also invited the Commissioner to find that the alleged misconduct may be attributable, at least in part, to the culture and governance practices within the NAB Group overall.
      • In its response, NAB stated, among other things, “NAB and NULIS fully accept the seriousness of the matters which were the subject of breach reports tendered before the Commission concerning [Plan Service Fees] and [Adviser Service Fees]. These events involved previously acknowledged and reported instances of misconduct, and conduct falling below community standards and expectations, and should not have occurred … While NAB and NULIS accept several of these findings, a number of others are not open on a fair reading of the evidence.”

Other issues

NAB has otherwise been under regulatory and legal scrutiny for various practices in the past year:

BBSW manipulation

On November 20, 2017, ASIC announced it had accepted an enforceable undertaking from NAB in relation to NAB’s bank bill trading business and their participation in the setting of the Bank Bill Swap Rate (“BBSW”), a key Australian benchmark and reference interest rate. This is following declarations made by the Australian Federal Court on November 10, 2017, that NAB had attempted to engage in unconscionable conduct in connection with the supply of financial services in attempting to seek to change where BBSW was set on certain dates, on 12 occasions from 2010 to 2012. The Court also declared that NAB failed to do all things necessary to ensure that it provided financial services honestly and fairly. The Federal Court imposed pecuniary penalties of A$10 million on NAB for the attempts to engage in unconscionable conduct in respect of the setting of BBSW. The Court also noted that NAB would give an enforceable undertaking to ASIC which provides for NAB to take certain steps and to pay A$20 million to be applied to the benefit of the community, and that NAB would pay A$20 million towards ASIC’s investigation and other costs.

Overcharging interest on home loans

On December 19, 2017, ASIC announced that NAB had refunded A$1.7 million to 966 home loan customers after it failed to properly set up mortgage offset accounts. NAB conducted an internal review after receiving customer complaints. This review found that between 2010 and 2017, NAB had not linked some offset accounts to broker originated loans, which resulted in those customers overpaying interest on their home loan. NAB reported the issue to ASIC, and engaged PwC to review the remediation program and NAB’s compliance systems to prevent a similar error from occurring in future.

Inadequacies in wholesale spot FX business

On June 28, 2018, ASIC announced that it had accepted a variation to an enforceable undertaking from NAB relating to its wholesale spot foreign exchange (“FX”) business, which NAB had originally made in late 2016. In late 2017, NAB provided ASIC its proposed remediation program. An independent expert subsequently reported on such, noting significant deficiencies regarding NAB’s governance, risk management and compliance framework, policies and procedures, risk management practices, and human resource management. The independent expert also concluded that it was unable to complete its assessment of the remediation program’s effectiveness because NAB had not finished designing items to be included in the remediation program. The variation of the enforceable undertaking imposes an additional undertaking on NAB to prepare an updated program that adequately addresses all required components, which will be reviewed by the independent expert.

Poor financial advice

On August 8, 2018, ASIC announced that NAB had either paid/offered compensation or estimated/provisioned future compensation of approximately A$72 million in total remediation for failing to provide financial advice to customers while charging them ongoing advice fees.

Additionally, on September 6, 2018, ASIC announced that it had commenced civil proceedings in the Federal Court of Australia against NULIS and MLC Nominees, in relation to fees charged for no service (these issues were also raised in Round 5 of the Royal Commission as summarized above). Specifically, ASIC alleges that NULIS and MLC Nominees misled members of MLC MasterKey Super products and deducted approximately A$33 million Plan Service Fees from 220,000 members of MLC MasterKey Business and MLC MasterKey Personal Super who did not have Plan Adviser. ASIC also alleges that NAB deducted approximately A$67 million Plan Service Fees from 300,000 members of MLC MasterKey Personal Super where Plan Advisers were not required to provide services and members did not receive services (or any services they could not otherwise obtain for free). NAB’s Chief Legal and Commercial Counsel Share Cook said NAB was still assessing the details of the case and that NAB would “consider carefully the allegations that have been made … [NAB respects] the work of our regulators and will work with ASIC on these matters.”

NAB had previously announced on July 26, 2018 that NULIS would stop the Plan Service Fee from MCL MasterKey Personal Super member accounts from September 30, 2018 and that all members would be fully refunded for Plan Service Fees they had paid. NAB also announced NAB Financial Planning and NAB Direct Advice would, from January 2019, no longer accept grandfathered commissions from NAB Wealth superannuation and investment product providers.

Glass Lewis commentary

In relation to the Royal Commission, we note that the Royal Commission is ongoing and that many of the open findings regarding NAB are in dispute. However, shareholders may wish to assess the materiality of the open findings that NAB has accepted, in particular the fees-for-no-services practices.

The BBSW outcome is concerning and, like at Westpac and ANZ, speaks to the historic acceptable risk tolerance at NAB’s trading desks.

The overcharging of mortgage customers is problematic, suggesting an insufficient attentiveness to customers’ needs. Additionally, these practices in effect artificially inflated revenue in the reporting periods in which the infractions took place.

The variation of the enforceable undertaking relating to NAB’s FX business raises concerns, not just with regard to the underlying deficiencies of its practices but also the bank’s apparently lethargic approach to designing a remediation program.

The fees-for-no-service scandal is particularly problematic because of the nature of the infringement as well as the number of customers and the size of the fees taken. We note that this practice artificially inflated revenue in the reporting periods in which the practices occurred.

As with other Australian financial institutions, investors will want to assess the materiality of these practices and determine where accountability should lie when considering how to vote at NAB’s AGM in December 2018.

Daniel J. Smith is General Manager, CGI Glass Lewis.

By |September 24, 2018|Blog|Comments Off on Australian Financial Institutions in the Hot Seat – NAB