Loyalty To Members In A Conflict Zone
At arms-length and in the best interests of beneficiaries…
The scale of Australia’s $2.7 trillion superannuation industry carries a gravity like attraction to the prospect of lucrative commercial gain for service providers such as administrators, investment managers, custodians, financial advisor groups, and insurers.
The commercial interests of these important service providers to the superannuation system can create a conflict with those of the beneficiaries of superannuation funds (just as the interests of the trustee can also conflict with those of the beneficiaries). It is increasingly important that trustees of superannuation funds are adept at managing conflicts of interest if public trust and social licence is to be reinforced.
The Royal Commission into Banking and Financial Services has illuminated the importance of trustee loyalty to the interests of members as beneficiaries. Commissioner Hayne used plain and simple terms in referring to greed as the dominant force underlying many of the instances of misconduct, including in situations where the interests of a service provider or related party may have taken priority of the interests of beneficiaries.
When the trustee of a superannuation fund is loyal to the interests of the members, greed must be relegated to the back seat. Loyalty is all about managing conflicts of interest, and trustees have specific legal obligations of loyalty.
Loyalty at general law includes the rule against self-dealing, a long-held principle of trust law requiring a trustee to not place itself in a position where personal interests conflict, or may potentially conflict, with their duties as trustee.
However, trustees of superannuation funds aren’t required to adhere to such a proscription when outsourcing to material service providers - as the SIS Act excludes the general law related to conflicts of interest in these situations.
The gap left by the general law proscription has been filled with the statutory covenant - imported into the trust deed of all superannuation funds - requiring trustees to give priority to the interests of, and duties owed to members over their own interests or the interests of any related or third parties.
And while there has been no judicial interpretation of the SIS Act requirement to prioritise the interests of beneficiaries, a conservative approach is not only warranted but better aligned to community expectations of a mandatory life savings system.
Equally important in managing the potential of conflicts in dealing with related party service providers is the obligation not to enter into a contract that would prevent the trustee, or hinder the trustee in, properly performing or exercising the trustee's functions and powers as trustee.
Proper exercise of functions and powers can be read simply as meaning the exercise of those powers in a manner which prioritises the interests of beneficiaries.
In a conflict zone like this, the road can appear perilously bumpy for superannuation trustees who might attempt to trade-off their own interests or the interests of related parties with those of members.
A complex web
The web of relationships between superannuation trustees and the material service providers such as administrators, insurers, custodians and investment managers can be complex, with contractual and equity relationships existing between almost all superannuation trustees and material service providers.
The case studies in the round five hearings of the Royal Commission raised the fundamental question of whether vertically integrated corporate structures result in a situation where a trustee is “hopelessly conflicted”?
The supply chains of superannuation funds are complex, and this complexity inevitably creates situations of conflicting interests. Where a trustee is owned by a company which is also contracted to provide a service, it is supremely important that the structural conflict is prudently managed.
The meaning of the law is clear, that such arrangements are to be at arms-length and in the best interests of members. Superannuation trustees should take away a greater awareness of the importance of ensuring that robust controls are in place to manage structural conflicts.
Managing such conflicts isn’t necessarily a hopeless pursuit, but it does require the regular use of competitive tenders and independent assessment when reviewing contractual arrangements involving a related party, ensuring that incentives for performance exist, and adopting objective monitoring and reporting on performance.
Ensuring that there is operational separation in transactions of heightened conflicting interests can also improve the way in which such structural conflicts are managed.
As the superannuation industry starts to move beyond the period of uncertainty about the outcomes of the Royal Commission to one where the issues are visible, it’s apparent that there might be plenty to be gained by ensuring that conflicts are being appropriately managed, especially those involving related entities.
Regards
Jonathan
Jonathan Steffanoni - Principal Consultant, Legal and Risk
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