Banking & Capital Markets. Banks: Prudential Regulation

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1 Banking & Capital Markets Banks: Prudential Regulation Updated December

2 Banking and Capital Markets Banks: Prudential Regulation Australia s economy has been in a period of expansion for over a decade and is showing few signs of slowing down at present despite the very recent volatility in global credit markets. This growth has been facilitated by a number of factors including the opening up of the financial sector facilitating broader competition and the stability of the financial sector due to the robust regulatory framework. Australia is now seen as an attractive location for global players wishing to access this expanding market as well as providing a stable platform for a regional base accessing the rest of Asia. The regulation process combines in-depth, up-front scrutiny of potential players through well developed licensing procedures with ongoing regulation following best practice international trends. The next stage in developing the regulatory framework in Australia is the implementation of Basel II. Services Provided by PwC Regulatory Assurance & Reviews Establishing or Expanding a Banking Presence in Australia Basel II

3 Regulatory Assurance & Reviews Regulatory Assurance PwC provides services to a number of local and foreign banking clients including: PwC is a leading provider of regulatory assurance services in Australia and provides deep experience in the work of providing audit assurance over regulatory matters this includes prudential reporting. PwC provides: Prudential audit services for bank audit clients. Undertakes APRA targeted reviews as requested by the client at APRA s direction. Regulatory Reviews and One Off Health Checks Given the increasing importance of regulatory matters, PwC provides: Audit and non-audit clients with one off regulatory reviews Specific health checks to provide early warning or management assurance over regulatory processes, controls and reporting Australia and New Zealand Banking Group Limited Commonwealth Bank of Australia GE Australia and New Zealand HBOS Australia Pty Ltd Macquarie Bank Limited National Australia Bank Limited St George Bank Limited Westpac Banking Corporation Adelaide Bank Limited American Express International Inc Bank of America Aust. Ltd Bank of Queensland Limited Bendigo Bank Limited Citi Credit Suisse Deutsche Bank HSBC Bank Australia Limited Investec Bank (Australia) Limited JP Morgan Australia Group Pty Ltd Members Equity Pty Ltd NM Rothschild & Sons (Australia) Limited Rabobank Australia Limited Reserve Bank of Australia RMB Australia Limited SG Australia Limited UBS Australia Limited

4 Establishing or Expanding a Banking Presence in Australia To undertake banking activities in Australia a player must first obtain approval from APRA (Australian Prudential Regulation Authority). Foreign banks may operate in Australia as either a branch or a subsidiary. A foreign branch bank is not entitled to operate a retail deposit business hence a player s business strategy will guide the type of bank license required. The benefit of this structure is a reduced burden of regulation. The process for obtaining a banking licence in Australia is both lengthy and involved. If the suite of products to be offered include broader financial services products, then other licenses such as an AFSL (Australia Financial Services License) may also be required. ASIC (Australian Securities and Investment Commission) oversees the granting of such licenses. Any business operating in Australia must register with ASIC under the Corporation s Law to obtain an ABN, which is used by the Australian Tax Office as well as other government bodies to collect taxes and monitor activities. PwC can assist with License Applications PwC has for a number of years provided advisory services to new market entrants and existing players wishing to expand their business activities. The globalisation of the Banking and Capital Markets industry has seen an increase by foreign bank clients for PwC s services to assist them with the bank branch/subsidiary and AFSL license application processes.

5 Basel II Basel II Banks in Australia are adopting Basel II from 1 January The relevant Prudential standards and guidance notes have been issued in final form following a lengthy drafting process. Much of the focus has been on the larger banks wishing to adopt the advanced approaches to Pillar 1 Credit and Operational Risk. However, it is now time for all banks, building societies and credit unions to ensure that they are in a position to comply with APRA s requirements for all aspects of Basel II including Pillar 2 Supervisory Overview and Pillar 3 Market Disclosure, as well as Pillar 1 Minimum Capital Requirements. Basel II Implementation Basel II implementation in Australia follows the international Basel II framework and timetable, with local variations where intended within the framework. Basel II is extremely complex; and whilst banks are expected to be compliant from 1 January 2008; the next 12 months will be a period of review and implementation. PwC supports our clients implementation programs in a number of ways. Pillar 1 Minimum Capital Requirements Model Validation and Data Quality, Process & Control Verification Pillar 1 focuses on modelling the amount of capital required for individually quantifiable and measurable risks such as credit, operational, market and non traded interest rate risk. There are two approaches to capital measurement available for ADI s depending on the complexity of their business the standardised approach and the advanced approach. An ADI must choose either the standardised or the advanced approach. Under the standardised approach ADI s apply the rules provided by APRA where as under the advanced approaches an ADI models the various assumptions based on its own internal data. Over the past couple of years PwC has been assisting clients in a number of areas such as Model Validation and Data Quality verification procedures for CEO s for APRA s accreditation processes, and more recently attestation of process controls and procedures over the parallel run process. Pillar 2 Supervisory Review Process Readiness Diagnostic and ICAAP implementation support The Supervisory Review Process is designed to ensure that ADI s have sufficient capital to support all the risks in their business and to encourage ADIs to develop and use better risk management techniques in monitoring and managing their risks. Pillar 2 does not rely on a prescriptive process but rather APRA will look at an individual ADI s ICAAP (Internal Capital Adequacy Assessment Process) and ensure that it is a robust mechanism for monitoring the ADI s overall capital requirements, with appropriate Board oversight. APRA will also employ its own methodologies: the PAIRS model and the SOARS framework in reaching its own conclusions as to the appropriateness of an ADI s level of capital. APRA will establish a Prudential Capital Requirement (PCR) for individual ADI which may be above the minimum 8% requirement. Over the last 2 years PwC has been assisting clients ensure they are Pillar 2 ready through the use of our unique 9 step methodology which assesses the ADI s ICAAP to ensure that it is a sound and rigorous framework that will meet APRA requirements. Pillar 3 Market Disclosure Implementation Requirements Identification Tools Market Disclosure under Pillar 3 differentiates between ADI s adopting the standardised approach to Pillar 1 and those adopting the advanced approaches, with latter requiring far more in depth disclosure around Pillar 1. The challenge for all ADI s is to provide the required information in a meaningful way, ensuring consistency across all public disclosures, such as Financial Statements, ASX Reports and Offer Documents as well as Basel II disclosure. PwC has developed a diagnostic tool to enable clients to identify Pillar 3 implementation requirements, having worked with a number of clients in their Basel II implementation programs. We continue to work with our clients to assist them understand and manage APRA s Pillar 3 reporting requirements; including alignment (where applicable) with other disclosure requirements such as AASB7 Financial Instruments Disclosures.

6 Key Contacts Sydney Marcus Laithwaite Partner, Financial Assurance +61 (2) Melbourne Jim Power Partner, Financial Assurance +61 (3)