Regulatory Rumbles: Materiality In The Efficiently Obligation

• Published date: 19 March 2024
• Subject Matter: Finance and Banking, Financial Services
• Law Firm: Herbert Smith Freehills
• Author: Mr Michael Vrisakis, Tamanna Islam and David Kim

Snapshot

The efficiently, honestly and fairly (EHF) obligation in financial services continues in its place as one of the most elusive obligations under financial services law.

We are of the strong view that some degree of materiality has to apply to the "efficiently" limb. This is particularly given its place as a licensee conduct obligation with potentially serious consequences for breach.

We favour the following interrogatory approach:

1. First, range: Ask how many people were impacted by the incident?
2. Second, duration: Ask how long did the incident continue for?
3. Third, identification: How was the incident discovered; e.g. through external factors such as a complaint or an internal factor such as a compliance audit/check (which of itself might be an indication of an efficient ecosystem)?
4. Fourth, cause: Ask what the cause of the incident was. Were the reasons avoidable or unavoidable? Systemic or isolated human error?
5. Fifth, remediation and aftermath: How was the incident dealt with, both in terms of remediation and preventative measures?
6. Sixth, severity: Ask what was the severity and impact of the incident? Was there an unfairness aspect?

Background

As we have discussed in previous articles on the EHF obligation, neither the EHF obligation nor relevant case law offers any real sense of whether a materiality threshold applies. However, an increasingly topical issue for licensees is whether a materiality threshold applies to the "efficiently" limb of the EHF obligation. This is extremely relevant as, without prejudging the answer, if some materiality threshold does not exist, then reports of any inefficiency would seem to be extremely onerous (and impractical).

In this context, the weight of judicial interpretation does seem at the present time to gravitate towards a compendious obligation. This said, in the opinion of the authors, the trend towards a singular, non-compendious obligation is not over (and noting also the reform proposal from the Australian Law Reform Commission to entrench a non-compendious formulation in the legislation).

It is in the context of these developments that we consider the applicability of materiality to the efficiency obligation.

It does stand to reason that some degree of materiality should apply. For example, if in the context of providing financial advice, the vast bulk of statements of advice were issued correctly but only a handful were not, it seems fairly uncontroversial that this would not constitute a breach of EHF, subject to the application of the principle discussed below - namely in this case, was there a very severe impact on the handful of customers affected?

Towards resolution of the applicability of an efficiency materiality threshold

Neither the EHF obligation nor the relevant case law offers any clear sense of whether a materiality threshold applies. A breach of the EHF obligation in this sense is like piercing an invisible veil and licensees are understandably struggling to grapple with this invisible threshold.

In our view, as flagged, it...