The recently published FCA report will change the UK fund management’s corporate governance landscape forever, following a broader global trend.
The UK’s Financial Conduct Authority (FCA) published one of the most eagerly anticipated regulatory reports in recent memory on 28 June. The publication of the Asset Management Market Study – Final Report ended the regulator’s two-year assessment of the UK asset management industry. In its final report the FCA restates concerns initially raised in its interim report regarding weak price competition, investors’ lack of understanding of costs, and the lack of competition in the UK’s investment consulting segment.
Industry Welcomes the Final Report
The report has garnered global attention since the FCA is usually at the forefront of regulatory thinking and they addressed emotive issues such as the profitability of asset management and the “closet tracker fund” debate head on. The FCA states that £109 billion remain in funds that hug benchmarks but charge high fees for their “active” management and don’t provide investors with the best value. Several regulators have assessed “closet trackers” but none as of yet have framed explicit regulations to address. In some quarters it is predicted that the FCA may do so in its ongoing policy goal to achieve better value for UK consumers. Overall, the final report has been welcomed by the industry as many of the more alarmist predictions ultimately did not come to fruition. However, this report may also spur other regulators to confront the issues raised, as the FCA’s opinion is generally held in high regard internationally.
Governance Underpins Most Aspects of Final Report
The final report is accompanied by a consultation paper (CP 17/18) focused on governance and board of director responsibilities. While this element has not garnered nearly as much attention as the “All in Fee” for example, this proposal may have the largest and most immediate impact to UK authorised fund managers. Entities in scope for the proposals include authorised fund managers and management companies of UK domiciled funds and depositories of UCITS and AIFs.
The FCA suggests the following corporate governance enhancements:
- Appointment of at least two independent non-executive directors to board of asset managers
- Strengthen asset managers’ duty to act in best interest of their investors, including an “obligation to consider value for money”
- Increase individual accountability by imposing the Senior Managers Certification Regime to the chairpersons and possibly all board members of fund manager boards
- Require boards to make it easier for investors to switch share classes, particularly to move existing investors into cheaper or better suited share classes
The FCA estimates that applying the above requirements would require the asset management industry to employ at least an additional 480 independent directors within the proposed transition period. But, the pool of candidates with the requisite ability may be difficult to access in short order, on top of the additional cost of hiring those directors. This is likely to ignite a fervent search by UK asset managers for candidates with the right blend of skills to act as independent non-executive directors to their firms as it has in other fund domiciles that have imposed similar board composition rules.
Hopping on the Bandwagon
While the FCA is usually at the forefront of regulatory change, in relation to enhancement of its fund governance regime, the UK is playing catch up to the US, Ireland, and the EU. In the US, the controversial Department of Labor’s Fiduciary Rule imposes a “Best Interest Contract Exemption” to remove conflicts of interest and ensure advisors are always acting to the benefit of investors. Last year, the Central Bank of Ireland concluded a multi-year assessment of board governance requirements including the composition, capacity, and capability of the board members of Irish Funds and Management Companies within its Consultation Paper 86.
The upcoming MiFID 2 requirements effective January 2018 contain detailed rules on organisational design and insist that firms only appoint individuals with “the requisite skills, knowledge and expertise” to act as a director. Also, MiFID 2 places new obligations on boards to ensure the product approval and ongoing surveillance of product sales ensure products are sold appropriately with the best interest of the client always a main priority.
On 13 July, ESMA published its opinion on the relocation of firms from the UK to the EU27 post-Brexit which also contained a sharp focus on corporate governance responsibilities and appropriate organisational design.
The FCA requests comments on CP 17/18 by 28 September 2017. In the meantime, UK asset managers should review the current composition of their boards against the FCA proposals to prepare for the change. Impacted firms should also get a jump on seeking out the best talent from the market who may represent a good fit, since it’s likely there will be a stampede of interest towards those candidates.