Does this pass your pub test: Super manager refunds members with their own money

They’re words that will almost certainly come back to haunt him. 

Jaws dropped when Chris Kelaher, the managing director of superannuation and investment firm IOOF, was revealed at a hearing of the Royal Commission into Misconduct in the Banking, Superannuation and Financial Services Industry in August to have claimed the company passed the “pub test” when it used  superannuation fund members’ own money to compensate members for a $6.1 million overpayment blunder

And on December 6, the Australian Prudential Regulation Authority (APRA), which polices the financial services sector, showed that it felt very differently to Kelaher about the results of the putative pub test. The regulator announced it would seek to ban three IOOF executives, including Kelaher, and two directors from running super funds in future, accusing them of a “significant breach” of corporate law.

That news was followed by an announcement on Monday that Kelaher, along with IOOF Chairman George Venardos, would step down to fight APRA’s legal action against them. As a company, IOOF, meanwhile, remained defiant, with Allan Griffiths, a non-executive director who moved into an acting chairman role to stand in for Venardos, slammed the APRA case as “misconceived”. 

So, what’s behind the legal case that’s wiped more than a third of the value from one of Australia’s better-known financial companies? 

What’s it all about?

In May 2009, Questor, a subsidiary of IOOF, accidentally overpaid some super fund members to the tune of $6.1 million. Questor recognised its blunder in 2010, but Kelaher told the royal commission that the IOOF board did not find out what had happened until late 2012 at the earliest. In October 2012, the incident was reported to the Australian Securities and Investments Commission (ASIC) but the company did not notify the superannuation members affected by the overpayment.

Instead, it decided make good investors who were negatively impacted by taking $1.6 million from the investors’ own super fund’s risk reserve and using it to compensate them. APRA requires all super funds to set aside .25 percent of assets under management to protect fund members against the risk the fund should suffer an operational failure such as having poor internal processes, as well as from external risks.

What happened at the royal commission?

The commission hearing in August revealed a letter written by Kelaher, in which he reportedly told APRA that IOOF’s actions passed the “pub test” when it used the fund’s own money to compensate members for the losses they suffered.

Writing in April 2017 in response to APRA having raised concerns concerns that IOOF’s Questor subsidiary had acted inappropriately over the overpayment incident, Kelaher argued in his letter that no fund member had complained about the repayment solution, 

“In terms of the so-called pub test, which in these circumstances is a proxy for members’ best interests, it is the board’s view that the test has been passed,” his letter read.

During a public hearing of the royal commission, Michael Hodge QC challenged Kelaher: “Can I suggest it would be impossible for members to make a demand or a complaint because they didn’t know what Questor was doing?”.

But Kelaher stuck to his guns under the questioning, insisting that IOOF had fulfilled its “primary goal” of restoring members accounts by compensating them.

“Institutions like ours are constantly being confronted with community expectations,” the IOOF MD said. “At the end of the day, the aspiration was to return the member to his whole position and compensate him for the period outstanding, and that’s something that we did, and that’s what people would resonate with.”

Hodge then suggested that the company could have used its own cash to repay the members, but Kelaher responded by saying he believed the company acted in the “best interests of the members”.

APRA takes action against IOOF for failing to act in best interests of superannuation members: https://t.co/ovByPKxQ9f

— APRA (@APRAinfo) December 6, 2018

How has APRA responded?

The regulator released a statement on Friday confirming that it would pursue several legal actions against IOOF entities, directors and executives for “failing to act in best interests of superannuation members”.

APRA is seeking to disqualify both Kelaher and Vernardos, along with CFO David Coulter, company secretary Paul Vine and Gary Riordan, the company’s general counsel.

“APRA’s efforts to resolve its concerns with IOOF have been frustrated by a disappointing level of acceptance and responsiveness to the issues raised by APRA, which is not the behaviour we expect from an APRA-regulated entity,” APRA Deputy Chair Helen Rowell said.

“The actions we are now taking are aimed at achieving enduring change to ensure that the trustees of the superannuation funds operated by IOOF fully meet their obligation to put the interests of members ahead of all other interests. Furthermore, the individuals included in the proceedings have shown a lack of understanding of their personal and trustee obligations under the SIS Act and at law, and a lack of contrition in relation to the breaches of the SIS Act identified by APRA.”

What’s happened to IOOF shares?

Shares in OOF, which had hit a 52-week high of $11.38 each, finished at $4.34 on Tuesday, a drop of almost 62 per cent. The stock suffered a fall of of almost 36 per cent on December 6 alone, after the APRA case was announced. 

Motley Fool, the popular Australian investment site, predicted that the pain was likely to be far from over for IOOF’s shareholders.

Writing for Motley Fool, Brendon Lau argued on December 10 that APRA was no doubt keen to make IOOF a “whipping boy”, with the regulator having come in for considerable criticism itself during the royal commission over its alleged failures to protect consumers from dodgy financial companies.

Add to that the fact that a deal for IOOF to buy ANZ’s super business was likely to fall through in the wake of IOOF’s legal troubles, that a management shake-up  would almost certainly be needed at IOOF and that IOOF could probably expect a wave of class actions from disgruntled super members and/or investors, and there was a poor outlook for the stock, Lau concluded.

Does IOOF’s actions pass the pub test according to you?