Related party transactions were a key concern of the Royal Commission in the context of all financial services organisations. This paper outlines a thought-leading approach to managing and avoiding conflicts of interest in the context of related parties.
Purpose
The purpose of this note is to draw out aspects of the legal and regulatory requirements and expectations in respect of related party dealings by a superannuation trustee. Inadequate or poor management (notably not avoidance) of conflicts of interest was a key focus of the Royal Commission and in some respects reflects a further development of legal, regulatory and community expectations in respect of superannuation trustees’ dealings with related parties.
This note expands on some of those issues and suggests where further consideration needs to be given to understand, assess and, where appropriate, meet the emerging regulatory and community expectations of complex financial services conglomerates where a superannuation trustee is receiving services from related parties. Areas commented upon include recognition of both the trustee and corporate personal capacities of a trustee; the issues around commission payments from fee revenue; and different approaches to assessing the need to “avoid” rather than “manage” a conflict.
Background
It is well recognised that the typical modern institutional superannuation fund or RSE is a “virtual” institution. This reflects the fact that many trustees outsource functions to, or acquire products and services from, related party or third party service providers. These may include fund administration, investment management and asset consulting, custodial services, insurance and advice for members.
RSE licensees are trustees, and therefore fiduciaries. In considering such “virtual” arrangements, in addition to requirements arising from fiduciary obligations, RSEs are subject to additional legal and regulatory controls and expectations in relation to the management or avoidance of conflicts of interest.
See the Appendix for an outline of relevant material, provisions and extracts
Fiduciary Obligations
RSE duties as trustee include certain ‘core’ obligations, such as the duty to keep and render accounts; the duty not to allow a conflict between duty and interest; the duty not to obtain an unauthorised benefit from the trust; and the duty to adhere and carry out the terms of the trust deed.
APRA’s Expectations – Superannuation Industry (Supervision) Act 1993 (Cth) (SIS Act), Prudential Standard (SPS 251) and Prudential Practice Guide (SPG 251)
Where a conflict exists between the trustee’s or its associate’s duties to, or the interests of, beneficiaries (on the one hand) and the trustee’s or its associate’s duties to another person, or the interests of the trustee or an associate (on the other hand) then the trustee must give priority to the duties to, and interests of, beneficiaries.
The trustee must also ensure that the duties to beneficiaries are met despite the conflict, that the interests of beneficiaries are not adversely affected by the conflict and that they comply with prudential standards in relation to conflicts. This may involve “avoiding” the conflict.
Recent APRA Guidance
In late May 2018, APRA provided further guidance to RSE licensees on conflicts management arrangements in relation to outsourcing to related parties. In a letter dated 29 May 2018 to RSE Licensees from APRA Deputy Chairman Helen Rowell, APRA articulated its expectations in a series of relevant recommendations. The recommendations were that RSE licensees: undertake rigorous market-based benchmarking of pricing and services prior to engaging a related party service provider, including utilising independent advice and assessment where appropriate; that decision-making by RSE licensees on the use of related party providers is documented, including assessing materiality and demonstrating that the arrangement is in the best interests of members; that RSE licensees review their conflicts management frameworks to ensure they are current and appropriately reflect existing related party arrangements; and that RSE licensees review their processes for ensuring that arrangements with related party service providers are accurately reported as ‘associates’ on the relevant reporting forms and consistent with the reporting form guidance.”
ASIC’s Expectations – Corporations Act and Regulatory Guide 181 – Licensing: Managing conflicts of interest
ASIC also has and enforces expectations around conflicts of interest management. An AFS licensee must: do all things necessary to ensure that the financial services covered by the licence are provided efficiently, honestly and fairly; and have in place adequate arrangements for the management(controlling or avoiding) of conflicts of interest that may arise wholly, or partially, in relation to activities undertaken by the licensee or a representative of the licensee in the provision of financial services as part of the financial services business of the licensee or the representative; comply with the conditions on the licence; and comply with the financial services laws.
The Regulatory Guide sets out: ASIC’s general approach to compliance with the statutory obligation to manage conflicts of interest in s912A(1)(aa) (the conflicts management obligation); and guidance for licensees generally on controlling and avoiding conflicts of interest.
Emerging Issue #1 – Two capacities of Trustees
In commentary and discussion of conflicts of interest in the context of “for profit” retail superannuation funds occasionally insufficient recognition is given to the circumstance that a trustee will normally have two capacities. One capacity is as a trustee holding trust property for the benefit of members. The other is as a “profit making” entity, often forming part of a corporate group, seeking to make a profit conducting the business of a fiduciary (as normally contemplated in the relevant trust deed) and holding property and incurring obligations not as a trustee, but in its personal corporate capacity.
Often the distinction is clear. Payments out of the trust fund are clearly trust payments and regard must be had to all trustee duties. Trust expenses can include the operating expenses, tax payments for members, custody fees and asset management fees. Of note, adviser service fees paid as a fund expense would also be subject to trustee duties because they are paid out of member funds. Similarly, corporate tax paid by the trustee is a payment on personal account. Dividend payments from the trustee to its shareholders are also payments on the personal corporate account and are not paid out of trust property.
Fees or revenue of the trustee share dual aspects. The fee is deducted by the trustee out of member funds. That deduction requires the proper exercise of trustee powers and duties – the deduction and payment must be properly authorised. But at the point at which the fee is properly paid, the proceeds of the fee are received by the trustee in its personal corporate capacity and held as a distinct asset (no longer part of the trust fund or trust property). Henceforth properly considered to be part of the revenue of the trustee and used in the calculation of the profit of the trustee as regards its personal corporate capacity.
Related party transactions need to be aware of and carefully manage this distinction and possible dual capacities. Three scenarios require separate consideration and different approaches to managing the conflicts inherent in the transaction. The first scenario is where the related party is providing services to the trustee in its trust capacity (impacting members directly or indirectly) and is being paid from trust funds. This clearly requires the full force of management and controls to ensure the conflict is appropriately managed or otherwise avoided. Examples would include asset management or custody of trust assets or members services. The techniques to manage and control the conflict would need to ensure members’ interests were prioritised. The second scenario would include where a related party is providing services to the trustee in respect of its personal capacity. Examples would include a related party providing tax or accounting services in respect of the personal corporate capacity of the trustee. Any approach to conflicts of interest management would need to have regard to the fact all parties were part of the same corporate group and issues of pricing would not adversely impact members, but rather dividends and receipts by shareholders.
The third scenario is more complicated in that it considers where the related party is paid from the proceeds of the personal corporate account of the trustee, but the services that are provided impact either the trust fund or members. The interests and duties (and possible conflicts) manifest in different degrees at different points. Where there is a revenue or expense transfer from one corporate account to another corporate account within the same corporate group, the nature of the conflict is arguably mitigated. But the conflict as to the adequacy and appropriateness of the service standard actually delivered and impact on members is another matter altogether. One way to consider the issue is how does variation in contract terms (for example price) actually impact members? While the impact may not be direct, it may be indirect.
Notwithstanding for this third scenario this is a conflicts analysis and asks what type of controls or mitigants are appropriate, it is necessary to consider other requirements as well. Third party terms (including as to price in this context) may be a requirement of the law or regulation in any event (for example see section 109 of the SIS Act). Other reasons may exist for third party pricing, including understanding where the true economics of the relevant stage of the value chain arise. Also, there may be organisational policy or gaols, corporate governance or taxation related requirements that require such terms.
Emerging Issue #2 – Commissions and similar corporate account payments
There is considerable confusion as to the relevant trustee duties when considering commission payments (in the current context “grandfathered commissions”). These payments were historically considered to be “distribution” expenses and rewarded sellers or advisers for selling the product and the persistency of the sale where the product was readily replaceable (eg insurance or investments). In the context of superannuation, the payments are typically not made out of trust assets or property, but rather out of the corporate personal account of the insurer or trustee. Subject to limited qualifications, because the payments are not made from trust property, there are no trust duties or obligations relevant to these payments.
Qualifications include:
1. the payment of commission fees directly from trust assets. For example, a contribution fee. Disclosure and how those fees are deducted and paid need to reflect the authority to deduct the fees and any representations around those deductions. All within the context of the trustee exercising proper powers and conforming with trustee duties; and
2. other conditions may apply, for example the AFSL licence condition to operate the business “honestly, fairly and efficiently”. The example could cut across duties of equity amongst members where different members are paying effectively different fees.
3. decisions to reduce or rebate for the benefit of members a fee (or commission) either at the point of deduction from trust assets or from the corporate account necessarily involves trustee duties and obligations, including equity considerations between members or classes of members.
Emerging Issue #3 – How to assess when to avoid?
A conflict of interest must be either managed or avoided. APRA and ASIC and the relevant legislation articulate the requirement differently, but the essential principle is the same. If a conflict of interest or duty cannot be managed so that members’ interests are prioritised, it should be avoided. The issue arises as to how to apply the choice (what are the assessment process and decision criteria) to determine whether the conflict can be managed or indeed, whether it must be avoided. So what is a satisfactory control or mitigant and what is not, - whether this is purely a question for the trustee to be determined as a matter of risk appetite and acceptance, or whether there is a firm compliance requirement where trustee acceptance is not relevant?
One source of confusion has been the role of disclosure and consent. Traditionally adequate disclosure and consent and/or approval by the trustee has been considered satisfactory for the management of some conflicts. But this rule should not be applied across all conflicts as dealing to the appropriate control of those conflicts including the possible impact of those conflicts.
Upon reviewing the advice and requirements of APRA and ASIC I suggest the key issues are as follows:
1. a thorough understanding of the nature and possible extent of the conflicts. What the conflict is and how it may arise to the detriment of members. So consideration of all scenarios and the range of possible detriment to members.
2. this includes the interests of the members and all other parties or stakeholders (related or otherwise). Both as to nature and extent.
3. What processes need to be in place to ensure that the detriment to members is not realised?
What controls or mitigants need to be in place (designed appropriately and operating effectively) to ensure that members do not suffer.
4. If there is a risk that the controls may not be fully effective, what needs to happen to ensure they are effective at all times? If that is not possible, or prohibitive in cost, how is that the case and what is the residual risk profile for (any) members suffering any detriment? Is this a decision of prudential assessment where there are benefits and risks to members, whether as a single cohort or between cohorts?
5. This analysis needs to be understood and verified for and on behalf of the Trustee.
6. Disclosure of risks of conflicts, without the analysis outlined above, is unsatisfactory in seeking to ensure member interests are prioritised over all other interests and that the interests of the beneficiaries are not adversely affected by the conflict. This is because there are no steps taken to ensure that the conflict is not realised to members’ detriment. Disclosure and consent without more involve knowledge of risk, not the management of the risk.
7. Given the above, the trustee needs to assess whether it is acting in conformance with its duties and requirements, including acting in the best interests of members as well as ensuring the prioritising of members’ interests and that the interests of the beneficiaries are not adversely affected by the conflict.
8. If the trustee does not assess that it can act to ensure member best interests as well as ensuring the prioritising of members’ interests and that the interests of the beneficiaries are not adversely affected by the conflict, then the trustee must avoid the conflict and seek alternative suitable arrangements.
It is noteworthy that the recommendations and advice from APRA referred to above provide a perspective on related party transactions that conforms to the framework outlined above as to both content and process. External market benchmarking goes to rigorous analysis of third party terms – what a good outcome for members would look like. External parties commenting on and assuring that research and knowledge; materiality assessment (presumably of the possible impact on members (if the controls do not operate effectively)); and requiring the decision making by the Trustee to be documented – this all goes to explicit and verifiable decision making criteria and analysis of the nature and extent of the conflicts and ensuring the prioritising of the interests’ of members and that the interests of the beneficiaries are not adversely affected by the conflict .
Emerging Issue #4 – Implications for avoiding conflicts where certain services are provided by a related party?
The process and assessment criteria outlined above are more readily able to be implemented in some circumstances rather than in other circumstances. The information, process and assessments required will in fact vary depending on the services being provided. For example, procuring asset management services from a related party should readily be able to be compared with a third party and market terms. This enables any variation or approach – both as to the nature and extent of any conflict, to be more readily assessed, including the ability to track and monitor performance and replace that related party.
Compare that circumstance with an in-house administrator or entity providing management services to the trustee. Is there a market for price, terms and service standards for those services? Is the provider readily able to be replaced? Can the nature, likelihood, and consequences of a failure to address the conflict be assessed? If not, what processes and controls need to be in place to ensure that any possible conflicts are controlled and managed appropriately and members interests prioritised and that the interests of the beneficiaries are not adversely affected by the conflict and that the trustee can assess and verify that is the case? If the trustee cannot assess that it can act to ensure member best interests as well as prioritising members’ interests, then the trustee must avoid the conflict and seek alternative suitable arrangements.
In this alternative context the nature, role and activities of the Office of the Trustee can be specified in a more comprehensive and clear manner. The Office of the Trustee as the “mind” and “arms and legs” of the trustee can act as the control and verification agent to ensure the relevant controls and mitigants are in place and effective. Again, if those controls and mitigants (including the role of the Office of the Trustee) are not able to be put in place or be effective, certain activities should not be outsourced by the trustee and there should be no reliance upon the role of the Office of the Trustee. Rather, the trustee would in-source those activities and conduct those activities through its own staff and subject to its own direction and in that way avoid the conflict associated with the related party.
Conclusion
This note has sought to draw out aspects of the legal, regulatory and community requirements and expectations in respect of related party dealings by a superannuation trustee. Particularly in the context of the adverse commentary and findings of the Royal Commission in respect of retail superannuation funds.
The analysis of a range of issues supports further consideration and application of more definitive criteria as to when trustees should avoid conflicts of interest, particularly in respect of related party dealings. The methodology articulated provides a basis for assessing whether and how trustees should control or in fact avoid such conflicts.
Damian Murphy (May 2019)
Appendix
Sources of obligations in respect of conflict of interest management with related party transactions.
General Law
Superannuation trustees are: … obliged to act honestly and in good faith, to act in what they consider to be the interests of the members, and to act for proper purposes and upon relevant considerations. In Metropolitan Gas Co v Federal Commissioner of Taxation (1932) 47 CLR 621 at 633, Gavan Duffy CJ and Starke J said that the Trustees of a pension scheme “are, of course, in a fiduciary position under the trust instrument, and must exercise their powers honestly and reasonably in the interest of contributors. Otherwise, we apprehend, they would be controlled by a Court of competent jurisdiction”.
As a fiduciary, the trustee is subject to the fiduciary proscriptions, generally described as the ‘no conflicts’ and ‘no profits’ rules. These have been stated as two proscriptive obligations imposed by equity. Those obligations are, unless the fiduciary has the informed consent of the person to whom they are owed, first, not to obtain any unauthorised benefit from the relationship and, secondly, not to be in a position where the interests or duties of the fiduciary conflict, or there is a real or substantial possibility they may conflict, with the interest of the person to whom the duty is owed.
The effect of the prohibitions in the superannuation context is that the trustee cannot use its position to derive a benefit or advantage for itself or another person that is not expressly authorised by the governing rules unless it has the fully informed consent of all affected members. Further, it cannot act in circumstances where there is a real and sensible possibility of a conflict arising between its personal interest, or duty to another person, and its duty to act in the interests of the beneficiaries.
Of note, as Edelman J points out in Australian Securities and Investments Commission v Drake (No 2): Fiduciary duties are shaped, and can be modified, by the trust instrument or an underlying contract. For instance, in Kelly v Cooper [1993] AC 205 at 215, the Privy Council held that no breach occurred since the contract of agency envisaged that the fiduciary might have a conflict of interest. The decision in Kelly v Cooper was applied by Lord Browne-Wilkinson in Henderson v Merrett Syndicates Ltd [1995] 2 AC 145 at 206 where his Lordship said that “[a]lthough an agent is, in the absence of contractual provision, in breach of his fiduciary duties if he acts for another who is in competition with his principal, if the contract under which he is acting authorises him so to do, the normal fiduciary duties are modified accordingly”.
Superannuation Industry (Supervision) Act 1993 (Cth) (SIS Act)
Section 52 and 52A of the SIS Act contain covenants to be (or taken to be) included in the governing rules of a regulated superannuation fund that bind, respectively, the RSE licensee and its directors. The covenants in s 52(2) apply to the trustee and are:
(a) to act honestly in all matters concerning the entity;
(b) to exercise, in relation to all matters affecting the entity, the same degree of care, skill and diligence as a prudent superannuation trustee would exercise in relation to an entity of which it is trustee and on behalf of the beneficiaries of which it makes investments;
(c) to perform the trustee’s duties and exercise the trustee’s powers in the best interests of the beneficiaries;
(d) where there is a conflict between the duties of the trustee to the beneficiaries, or the interests of the beneficiaries, and the duties of the trustee to any other person or the interests of the trustee or an associate of the trustee:
(i) to give priority to the duties to and interests of the beneficiaries over the duties to and interests of other persons; and
(ii) to ensure that the duties to the beneficiaries are met despite the conflict; and
(iii) to ensure that the interests of the beneficiaries are not adversely affected by the conflict; and
(iv) to comply with the prudential standards in relation to conflicts;
The covenants in s 52A, which apply to RSE licensee directors, are:
(a) to act honestly in all matters concerning the entity;
(b) to exercise, in relation to all matters affecting the entity, the same degree of care, skill and diligence as a prudent superannuation entity director would exercise in relation to an entity where he or she is a director of the trustee of the entity and that trustee makes investments on behalf of the entity’s beneficiaries;
(c) to perform the director’s duties and exercise the director’s powers as director of the corporate trustee in the best interests of the beneficiaries;
(d) where there is a conflict between the duties of the director to the beneficiaries, or the interests of the beneficiaries, and the duties of the director to any other person or the interests of the director, the corporate trustee or an associate of the director or corporate trustee:
(i) to give priority to the duties to and interests of the beneficiaries over the duties to and interests of other persons; and
(ii) to ensure that the duties to the beneficiaries are met despite the conflict; and
(iii) to ensure that the interests of the beneficiaries are not adversely affected by the conflict; and
(iv) to comply with the prudential standards in relation to conflicts;
Section 65 of the SIS Act deals with lending to members and s 66 with acquisitions of assets from related parties. Sections 67 and 67A deal with borrowing, and Part 8 with in- house assets. An in-house asset is a related party loan or investment; the market value ratio of in-house assets cannot exceed 5%.
Section 109 requires that investments be on arm’s length terms. Section 109(1) provides that a trustee or investment manager of a superannuation entity must not invest in that capacity unless:
(a) the trustee or investment manager, as the case may be, and the other party to the relevant transaction are dealing with each other at arm’s length in respect of the transaction; or
(b) both:
(i) the trustee or investment manager, as the case may be, and the other party to the relevant transaction are not dealing with each other at arm’s length in respect of the transaction; and
(ii) the terms and conditions of the transaction are no more favourable to the other party than those which it is reasonable to expect would apply if the trustee or investment manager, as the case may be, were dealing with the other party at arm’s length in the same circumstances.
Section 109(1A) goes on to provide that if:
(a) a trustee or investment manager of a superannuation entity invests in that capacity; and
(b) at any time during the term of the investment the trustee or investment manager is required to deal in respect of the investment with another party that is not at arm’s length with the trustee or investment manager;
the trustee or investment manager must deal with the other party in the same manner as if the other party were at arm’s length with the trustee or investment manager.
Section 102 of the SIS Act requires that the trustee include in any investment management agreement ‘adequate provision to enable the trustee ... to require the investment manager ... to provide appropriate information as to the making of, and return on, the investments; and to provide such information as is necessary to enable the trustee, or the trustees, of the entity to assess the capability of the investment manager to manage the investments of the entity’ and to require the investment manager to provide the information ‘whenever it is necessary or desirable to do so’.
Section 58A is headed ‘Service providers and investments cannot be limited to particular persons or associates’ and includes the following:
Service providers
(2) A provision in the governing rules of a regulated superannuation fund is void to the extent that it specifies a person or persons (whether by name or in any other way, directly or indirectly) from whom the trustee, or one or more of the trustees, of the fund may or must acquire a service.
Investments in entities
(3) A provision in the governing rules of a regulated superannuation fund is void to the extent that it specifies an entity or entities (whether by name or in any other way, directly or indirectly) in or through which one or more of the assets of the fund may or must be invested.
Financial products
(4) A provision in the governing rules of a regulated superannuation fund is void to the extent that it specifies (whether by name or by reference to an entity) a financial product or financial products:
(a) in or through which one or more of the assets of the fund may or must be invested; or
(b) that may or must be purchased using assets of the fund; or
(c) in relation to which one or more assets of the fund may or must be used to make payments.
Section 58B is headed ‘Service providers and investments’. It is important because it excludes the application of the fiduciary prohibition to certain transactions entered into by the trustee. It applies if a trustee of a regulated superannuation fund ‘does one or more of the following: (a) acquires a service from an entity; (b) invests assets of the fund in or through an entity; (c) invests assets of the fund in or through a financial product; (d) purchases a financial product using assets of the fund; (e) uses assets of the fund to make payments in relation to a financial product’.
Subsection 58B(2) is to the effect that ‘the general law relating to conflict of interest does not apply to the extent that it would prohibit the trustee, or the trustees, from doing’ any of those things, as long as the trustee does not contravene the SIS Act or any other Act; a legislative instrument made under or any other Act; the prudential standards; the operating standards; the governing rules of the fund; or the SIS Act statutory covenants.
Prudential Standards
RSE licensees are also subject to APRA prudential standards, including those made under Part 3A of the SIS Act. These standards have force of law and set out certain minimum capital, governance and risk management requirements.
Prudential Standard SPS 251 Conflicts of Interest
Paragraph 18. An RSE licensee must have a conflicts management policy that is approved by the Board. At a minimum, the conflicts management policy must include controls and processes applying to all responsible persons and all employees of the RSE licensee for:
(a) identifying and monitoring all potential and actual conflicts;
(b) avoiding conflicts where required to do so;
(c) where there is a conflict, managing that conflict, or ensuring that the conflict is managed in accordance with the requirements to give priority to the duties to, and interests of, beneficiaries in sections 52(2)(d) and 52A(2)(d) of the SIS Act;
(d) ensuring that appropriate action is taken in the event of a conflict arising, including on-going evaluation of management of the conflict and provision for escalation or alternative action if required;
(e) recording in the minutes of Board, board committee and other relevant meetings details of each conflict identified and the action taken to avoid or manage this conflict; and
(f) processes for the development and maintenance of the registers required in paragraphs 15(c) and (d).
Paragraph 19. An RSE licensee’s conflicts management policy must include processes for undertaking regular and thorough enquiry to identify all conflicts arising from the RSE licensee’s relationship, or the relationship of a responsible person or employee, with an existing or prospective service provider or adviser, including those conflicts that have the potential to affect the service provider’s performance in respect of the obligations undertaken for the RSE licensee’s business operations
Prudential Practice Guide SPG 251 – Conflicts of Interest
Paragraph 3. A conflict has the potential to prevent an RSE licensee from performing its duties by placing it in a position where it may deliberately or inadvertently prefer the interests of another person to those of a registrable superannuation entity’s (RSE’s) beneficiaries. Alternatively, a person or firm undertaking a material business activity for, or otherwise advising, an RSE licensee may have a conflict that could affect the nature or quality of the advice given or service provided.
Paragraph 10. In APRA’s view, an effective conflicts management framework is one that mitigates and manages the risk that a conflict may result in an RSE licensee acting improperly to the detriment of its beneficiaries. It would also mitigate and manage the risk that an RSE licensee may be perceived to have acted improperly, which may affect the reputation of its business operations.
Paragraph 28. Recording relevant duties and interests enables an RSE licensee to demonstrate that it is taking steps to enable it to identify all potential or actual conflicts of interest. The next key stage in the conflicts management process is avoidance and, if avoidance is not possible, management of potential and actual conflicts. In APRA’s view, the act of declaring that a relevant duty or interest has resulted in a conflict is not in and of itself sufficient to manage that conflict. It is APRA’s expectation that an RSE licensee would ensure that it is able to clearly demonstrate that the actions that it has taken in response to a potential or actual conflict are prudent and defensible.
Paragraph 30. APRA recognises that, in some circumstances, an RSE licensee may identify conflicts that it has determined are so acute or pervasive that they cannot be managed, or are of a kind where the general law requires avoidance. In these circumstances, an RSE licensee may determine that it has no option but to take steps to avoid the conflict.
Paragraph 31. In avoiding or managing conflicts associated with a relevant duty or interest, an RSE licensee may decide it is necessary or prudent for the person to relinquish the duty to another person, dispose of the interest or cease their role with the RSE licensee.
Paragraph 34. The conflicts of interest covenants interact with the tied service provider override in section 58A of the SIS Act. This override requires an RSE licensee to disregard any provision in the governing rules that purports to require the RSE licensee to use a particular service provider or providers. This enables the RSE licensee to consider other potential service providers, investment vehicles or financial products, including entities that are not associated with the RSE licensee. Section 58A does not prevent an RSE licensee from using or continuing to use an associated service provider, but the RSE licensee must continue to comply with the conflicts of interest covenants, as well other relevant covenants and duties.
Corporations Act - ASIC Licence requirements - section 912A(1)
(1) A.financial services licensee must:
(a) do all things necessary to ensure that the financial services covered by the licence are providedefficiently, honestly and fairly; and
(aa) have in place adequate arrangements for the management of conflicts of interest that may arise wholly, or partially, in relation to activities undertaken by the licensee or a.representative of the licensee in the provision of financial services as part of the financial services business of the licensee or the representative; and
(b) comply with the conditions on the licence;
(c) comply with the financial services laws; and
(ca) take reasonable steps to ensure that its representatives comply with the financial services laws;
ASIC Regulatory Guide 181 – Licensing: Managing conflicts of interest (August 2004)
The policy sets out: ASIC’s general approach to compliance with the statutory obligation to manage conflicts of interest in s912A(1)(aa) (the conflicts management obligation); and guidance for licensees generally on controlling and avoiding conflicts of interest.
RG 181.18 The conflicts management obligation (see RG 181.16) and the obligation to operate efficiently, honesty and fairly are interconnected. A licensee is unlikely to comply with the efficiently, honestly and fairly obligation if they have inadequate conflicts management procedures. Conversely, having adequate conflicts management arrangements will help licensees comply with their other obligations, including the obligation to operate efficiently, honestly and fairly. It will also help licensees establish and maintain a reputation for integrity in the provision of financial services.
RG 181.20 The three mechanisms that licensees would generally use to manage conflicts of interest are: (a) controlling conflicts of interest; (b) avoiding conflicts of interest; and (c) disclosing conflicts of interest. For guidance on controlling and avoiding conflicts of interest, see Section B. For guidance on disclosing conflicts of interest, see Section C.
RG 181.21. The conflicts management obligation is more than simply a disclosure obligation: the obligation is to have adequate arrangements in place to manage conflicts of interest. We expect that licensees will generally use the three mechanisms of controlling, avoiding and disclosing conflicts. Disclosure alone will often not be enough to manage a conflict of interest.
RG 181.30 To be adequate, conflicts management arrangements must successfully identify conflicts of interest and control the effects of those conflicts on the provision of financial services so that the quality of those financial services is not significantly compromised. Licensees should monitor whether their conflict management arrangements successfully do this.
RG 181.35 Licensees should ensure that their internal structures and reporting lines enable them to effectively manage conflicts of interest. It is important that internal structures and reporting lines support a licensee’s management of conflicts of interest. Licensees should consider how their organisational structure, physical layout and reporting processes affect their conflicts management.
RG 181.50 Adequate disclosure means providing enough detail in a clear, concise and effective form to allow clients to make an informed decision about how the conflict may affect the service being provided to them. We expect disclosure by licensees to focus on material conflicts. RG 181.51 Disclosure helps clients to assess the service they are being offered in light of the licensee’s own interests and to decide on the extent (if any) to which they will rely on the service. Having adequate arrangements in place to manage conflicts of interest ‘will include ensuring that there is adequate disclosure of conflicts to investors, who can then consider their impact before making investment decisions’: see the Explanatory Memorandum to Corporate Law Economic Reform Program (Audit Reform and Corporate Disclosure) Bill 2003 at para 5.597.
RG 181.58 As set out in RG 181.22, the conflicts management obligation applies equally to services provided to retail and wholesale clients. What constitutes appropriate disclosure to a client (whether retail or wholesale) will depend on all of the facts and circumstances. We recognise that, in some cases, the disclosure a licensee needs to give to a wholesale client to comply with the law will be less detailed than is required for a retail client. The following factors should be considered in assessing the disclosure that should be provided to a client: (a) the level of financial sophistication of the client; (b) the extent to which third persons are likely to rely, directly or indirectly, on the service (e.g. where advice is given to a wholesale client in circumstances where it is likely to be passed on to retail clients); (c) how much the client already actually knows about the specific conflict; and (d) the complexity of the service.
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