By Scott Donald, UNSW

SYDNEY: 20 OCTOBER 2013- Much is expected of independent directors.  They are expected to bring not only judgment untainted by conflicts of interest, but normative, experiential and cognitive diversity.  Moreover, their very presence is expected to discipline the conduct of the other directors with whom they serve - If not a panacea for poor governance, then at least a very potent agent for positive change. 

When those advantages are added to the potential to dilute union influence on superannuation fund boards, it is little surprise that a Liberal government would be keen to see more ‘independent’ directors on superannuation fund boards.

Of course the government’s plans are not without precedent.  The Cooper Review recommended that boards contain a majority of ‘non-associated’ directors.  This was partly inspired by a lack of imagination.  The Review needed a constructive alternative to a model of fund governance (the equal representation model) that it found had become increasingly dysfunctional.  In particular, it found that entrenched directors and nominating bodies had become a constraint on both talent acquisition by boards and on fund consolidation.  So, if not representative directors, then what?  Independent directors was an easy answer.

But independent from what?  The SIS Act defines independent directors as those who are not members of the fund, an associate or employee of a member-sponsor or a representative of a trade union or other association of members or employers.  But this definition is relevant to the equal representation rules imposed in Part 9 of the Superannuation Industry (Supervision) ('SIS' ) Act and has no application to trustee boards in the retail sector in which the funds are often part of a vertically and horizontally integrated financial services conglomerate.  So there is no reference to independence from parent companies or from in-group service providers and the like.

The Cooper Review was alive to the complexity and diversity of the industry (and the inadequacy of the definition in the SIS Act).  It recommended that ‘non-associated’ directors were to be

‘free of connections to, or associations with, employer sponsors, the appointor (other than by reason of the appointment itself), entities related to the trustee, employer groups, unions, service providers and should not be current or former executives of the fund or a related entity.’

It was a wide definition.  Indeed it was so wide that there were very real doubts how many suitably qualified individuals would qualify as ‘non-associated’ in practice. 

There are of course a great many other definitions of 'independence'.  The ASX definition covers substantial shareholders and their officers, current and recent employees, current and recent consultants, advisers and suppliers, and others with a material contractual relationship (other than the directorship).  Closer to home, the Financial Services Council ('FSC’), requires that the Chair of the board of a trustee company must be independent, the Board must comprise a majority of independent directors and Board meetings require a majority of independent directors to be quorate.  Independence is specifically defined to exclude current (or recent) employees of the trustee company, any related companies, or any material professional providers.  No mention of other stakeholders. There is however an additional overarching requirement on all directors that that be

‘free from any interest and any business or other relationship which could, or reasonably could be perceived to materially interfere with the director's ability to act in the best interests of the [trustee’s] beneficiaries.’

Perhaps reflecting the current state of flux, the Australian Institute of Superannuation Trustees (‘AIST’) and Association of Superannuation Funds of Australia (‘ASFA’) are currently reviewing their governance principles, including (presumably) their position on director independence.

The only thing that all (bar those responsible for drafting the SIS Act) can agree on is that independence does not mean independent of the fund.  Even the courts agree.  As Lindsay J pointed out in the Drexel Burnham Lambert case, the presence of directors who are also members on the boards of occupational pension (superannuation) schemes is inherent in their design.  It does not of itself give rise to insurmountable conflicts of interest so long as those directors who are also members have due regard for the interests of all members, and not simply those of the class of members to which they belong.  There may even be some upside in the directors having ‘skin in the game’ as it were.

The key perhaps is to be honest about what the ‘independence’ initiative is trying to achieve.  If it is about diversity, then it is misguided.  Gender diversity is greater in superannuation boards, perhaps as a result of the nomination process paradoxically, than it is in corporate life generally (though it is still far from where it could be).  Experiential diversity is likewise almost certainly greater on superannuation boards thanks to the equal representation structure.  And, as Professor Wheeler has argued cogently, structural approaches to independence are no guarantee of cognitive diversity.

Then again it may simply be an attempt by the new government to attack the role played by unions in the governance of superannuation funds.  That of course shows a lack of due respect both for the admonitions of Megarry V-C in Cowan v Scargill that trustees must not bring union policy to the board table, and for s58 of the SIS Act  that trustees must not act under dictation.  But even if history is allowed to suggest that the realities of outside influence persist notwithstanding these legal impediments, does imposing structural independence actually address the issue effectively?  Not really.  Two thirds of each board will still be appointed by outside stakeholders.  Moreover the new ‘independent’ directors will presumably have to be appointed through some process that includes input from the non-independent directors.  So the new appointees may not have formal ties to unions or employer groups, but they will know who to thank for their appointment.  This appointment of ‘independents’ by those already nominated under the equal representation rules hardly addresses the issue of factionalism and voting blocks.

And therein lies the problem.  The problem is with the appointment process, not the structure.  The idea of elected directors has been floated several times, but is repeatedly rejected for being impractical in the superannuation context.  Members are simply too apathetic to participate, runs the argument.  Member democracy could of course be seen as one means of inspiring member engagement, but as the experience on any number of corporate board shows, not all forms of member engagement are constructive. 

There appears to be no easy answer to the problem.  Everyone wants the directors of super fund boards to be careful, diligent and skilful.  We want them to act in the interests of the members of their funds - all their members.  We also want them to be accountable (up to a point) for their actions.  But the law already expressly provides for all those things.  Imposing ‘independent’ directors on super boards won’t change that.  If the new appointees are more highly skilled, or are drawn from a new talent pool, then the boards to which they are appointed might benefit, but how are these admirable individuals to be sourced?  More importantly, is it realistic to assume that they can be independent of those responsible for their appointment?  It would be wonderful if it works, but it is hard to be optimistic.  If there is indeed a problem in governance related to the lack of independence on trustee boards, we need to answer these two questions before embarking on yet another regulatory change.  Otherwise the change will be symbolic, and no more.