Regulatory authorities from time to time point out that one of the lessons of the financial crisis was the importance of culture in financial services firms, often referred to as “tone from the top.” Around the globe, regulators continue to tighten regulations to force decision-makers at these firms to assume more individual responsibility for the actions they take on behalf of their firms. No more can executives plead lack of awareness of their firm’s questionable activities or hide behind a cloak of collective responsibility.
A variety of corporate governance and personal conduct rules have been adopted around the world including in the US, Ireland (CP86), Luxembourg (Circular 18/698), and Hong Kong (Manager In Charge Regime), all directed at increasing accountability for senior managers, as well as and the firms as a whole. However, the highest bar to date has been set by the Financial Conduct Authority (FCA) in the UK, where the Senior Managers and Certification Regime (SM&CR) requires executives and senior managers, as well as a large number of less senior firm employees deemed to hold critical jobs, to make promises about their actions and professional standards and raises the possibility of severe penalties, including fines and even jail time in the case of serious failings.
Asset managers get ready
The SM&CR is already in place for the insurance and banking industries in the UK, and it will begin to be implemented for in-scope asset managers on December 9, 2019, with firms required to comply with all aspects of the rules by December 9, 2020.
Since most asset managers operate on a cross-border basis, it’s important for any global manager with a UK presence to get their own firms moving on planning for and implementation of the SM&CR as soon as possible. Firms in the banking and insurance space – who are already operating under the regime – have indicated that the SM&CR has had major effects on employees from a process, training, contractual, and human resource perspective. It can affect the hiring process since there is a higher standard of due diligence required before taking on a senior manager under the new regime.
Three types of firms
Under the SM&CR, the FCA divides regulated firms, including asset managers, into three categories: enhanced, core, or limited in scope. A firm’s category is based on the nature, scale, internal organization and complexity of their business, with the toughest requirements falling on the enhanced firms and a proportionate ruleset on smaller firms. The FCA has provided a useful online “firm checker tool” to help asset managers determine which category they fall into.
- assets over £540 million
- liabilities over £380 million
- annual fees over £160 million
- custody of client money in excess of £425 million
- custody of client assets greater than £7.8 billion
The SM&CR will apply to a wide spectrum of individuals across the asset management sector from executives considered senior management functions (SMF) holders to non-executive directors (NEDs) and, for the first time, extend to “certification staff,” who may not be senior managers but are in “significant harm functions.” That could mean they are close to functions such as payment authorization, anti-money laundering, or Know Your Client operations, or are conducting tasks that have the potential to harm consumers or the market. In-scope individuals must physically certify acceptance and understanding of their obligations, which they may not have had to do before. The addition of these new responsibilities could lead to some unwanted friction between senior executives and those they report to. After all, for most executives, the job hasn’t changed but the consequences of messing up may be higher.
A statement of responsibility
Senior managers will be required to formally adopt and sign, along with the firm, a statement of responsibility, including the functions they hold which the FCA requires to be allocated to a SMF. The SMF will be subject to personal enforcement action if a violation takes place in their area of responsibility and it is found they failed to take the necessary remedial action that a “reasonable person” would take. Regulators have already imposed significant sanctions on banks under the SM&CR, so asset managers should take note as they look to nail down these new requirements.
In addition, each firm must draw up its own “management responsibility map,” that details who the senior managers are, what are their responsibilities, and what is included in the firm’s governance plan. The map must include all individuals within the management chain regardless of whether a particular individual resides in the UK, and it may also draw in any third-party vendors or outsourced individuals who form a significant part of the firm’s business model. There are firm rules enshrined in the new requirements relating to the reasonable steps that asset managers must take to ensure responsibilities are only delegated – if at all – to an appropriate person and that they retain effective oversight of the delegate always.
The SM&CR rules require firms to provide adequate training to SMFs, NEDs, and certification staff on their specific responsibilities both before the law takes effect in December and subsequently on an ongoing basis.
Senior managers also must be assessed by their firms as fit and proper for their jobs, that they are knowledgeable, and that they are capable. To prevent “bad executives” bouncing from one job to another, the FCA now requires firms to collect references for the past six years of employment before hiring a new employee as an SMF. Once on the staff, the FCA requires firms to report if they take disciplinary action if an individual is found to have violated the conduct rules.
Under the SM&CR, the UK will set the highest standards of personal accountability in asset management in the world. This is despite the fact that Brexit to some extent was touted as a means to facilitate less regulation and move away from Europe’s rigid regulatory framework. However, the implementation of the SM&CR shows there will be no loosening of the UK’s high regulatory standards post-Brexit, and the UK will, in fact, likely continue to be on the financial regulatory vanguard for the foreseeable future.