A key observation in the Royal Commission’s final report into misconduct in Banking, Superannuation and Financial Services, is the connection between culture, conduct and reward writes Michael Williams Partner, Deloitte Financial Services Human Capital practice leader. Commissioner Hayne clearly places the blame for misconduct in the financial services industry at the feet of boards and senior management. He identifies the root cause as a profit driven culture with inadequate systems of risk management and governance, which ultimately reflects a failure of leadership. The report outlines several specific recommendations on culture and remuneration, including that: APRA play a stronger role in supervising culture and remuneration systems, principles and practices. Remuneration systems focus on both financial and non-financial risk, including conduct, and be regularly assessed for effectiveness. Entities establish a system to assess culture, understand strengths and weaknesses and their root causes, and be able to demonstrate the outcomes achieved through interventions. Executive accountability, and so executive culture, be informed by professional expectations and an expansion of the Banking Executive Accountability Regime (BEAR). Hayne exposed the very worst of the industry over this past year. While the recommendations clearly direct boards and executive teams to take a very real focus on building robust cultures, the answer may lie in how they translate organisational purpose and values into everything that they do. Leaders who ask far-reaching questions such as ‘Is the experience of our customers, people and shareholders really aligned with our stated purpose?’ and ‘How do our structures, governance and other organisational mechanisms impact our culture?’ will be well positioned to take the right actions. The reality is that a strong and ethical culture not only prevents misconduct – it enables the organisation to thrive. Such a culture requires a clear and consistent tone at every level. It builds capability in good decision-making, and provides the whole organisation with the courage and responsibility to speak up and challenge. It requires every person in the organisation to understand, in the words of Lieutenant General David Morrison: “The standard you walk past is the standard you accept.” Boards will need to lead the discussion In this ‘new era’ where organisations must ask ‘should we?’ rather than ‘could we?’, boards will need to consider their organisations will be assessed both in the moment and in the future. To date, the focus on measuring culture has been limited to measuring risk culture, ‘the way we do risk around here’, as directed by CPS 220. In the future, entities will need to understand the risks arising from all aspects of culture – that is ‘the risk of the way we do things around here’ – to ensure they can fully understand and address the root causes of misconduct. To lead the conversation effectively, boards will need to develop both the skills and mechanisms to measure and monitor culture, and to take action where necessary, for example when assessing executive performance. This may require a rethink of the structure of board committees to understand non-financial risk in a more holistic, integrated way, rather than through disconnected committees that focus on narrow dimensions of culture and conduct. Boards will also need to look at themselves and consider the skills around the table. This can mean recruiting diverse talent with different skill sets and perspectives to those that currently reside on Australian financial institutions’ boards. Most boards and senior management accept they need to take action in respect of culture, yet they struggle to understand it and often send inadvertent messages. The truth is that every approach can have unintended consequences. This is why it will be so important to establish mechanisms to monitor both culture and its associated outcomes. Remuneration An important component of managing culture is to consider how performance and remuneration models drive employee focus and discretionary effort. By aligning espoused purpose and values to the reality that people experience each day, and experimenting with different remuneration models, it will be possible to design approaches that motivate people to do more of the right things, and stop doing the wrong things. At the very least, short term, profit-based incentives will be replaced with longer term, broad-based measures for upper levels of management. They need to drive purpose-aligned decision-making for the benefit of a wider group of stakeholders, and which reward outcomes that, very often, only materialise years after the decisions were made. For front line staff, the way we measure performance through truly balanced scorecards and reward achievements will need to evolve significantly to achieve their intended goals. The short-term impacts of these changes could mean that executives default to meeting the ‘minimum standards’. If they do, it will be a missed opportunity, because in the long term, truly purpose-led organisations will be the winners. For more commentary from Deloitte on the Royal Commission click here.