Why regulators roasted Commonwealth Bank of Australia again

Amid the Royal Commission storm, regulators have dealt another blow to the financial sector.

On Tuesday, the Australian Prudential Regulation Authority (APRA) published an inquiry into the Commonwealth Bank of Australia (ASX: CBA) that leaves the new CEO Matt Comyn plenty of work to do to improve the company’s structure and culture.

About the inquiry

Recent conduct issues with CBA – including failure to comply with anti-money laundering measures leading to legal action by AUSTRAC – prompted the regulator’s inquiry: a broad investigation, conducted over six months, aimed at identifying shortcomings that threaten the standing and reputation of Australia’s largest bank.

The result was a 110 page report. The authors – former APRA chairman John Laker, career banker Jillian Broadbent, and former ACCC chairman Graeme Samuel – acknowledge CBA’s financial strength. However, they note, it’s precisely its continued financial success that infused the institution with a sense of complacency, particularly in dealing with non-financial risks – i.e. operational, compliance and conduct risks.

What was in the report?

According to the report, CBA’s approach to non-financial risks is characterised by a cumbersome decision-making process, unclear accountability and insufficient oversight by the board, and supported by an under-resourced compliance function.

The report includes 35 recommendations, summarised as follows:

  • more rigorous governance of non-financial risks;
  • exacting accountability standards reinforced by remuneration practices;
  • upgrading the authority and capability of the compliance function;
  • a greater focus on customers; and
  • a cultural change from reactive and complacent to striving for best practice in risk identification and remediation.

What’s next?

CBA entered into an Enforceable Undertaking with APRA to ensure the recommendations are implemented. The bank will also appoint an independent reviewer to report to APRA on their progress.

Furthermore, the agreement prescribes that CBA adds $1 billion to its operational risk capital. The adjustment reduces CBA’s 31 December 2017 Common Equity Tier 1 capital ratio from 10.4% to 10.1%.

Early in July, CBA will announce the remediation plan agreed with APRA.  The company’s annual result release on August 8 will provide an estimate of the financial cost of the plan for FY19.

Foolish takeaway

The report was very harsh, but I think CBA was relatively well positioned to receive the blow. With the new CEO stepping in just a few weeks ago, and some remedial action already underway following AUSTRAC’s legal proceeding, recommendations come at a time when the company can credibly say it will change things.

At the time of writing, shares in CBA were up 1.6% to $73.

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Motley Fool contributor Tommaso Autorino has no position in any of the stocks mentioned. The Motley Fool Australia has no position in any of the stocks mentioned. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Scott Phillips.

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