PS 09/14 was published at the end of July and provides feedback on the proposals relating to the approved persons regime set out in CP 08/25 as well as setting out the final rules. A briefing on CP 08/25 can be found here.
The key points announced in PS 09/14 are as follows:
- Relevant individuals at the parent or holding company level who exercise significant influence over the UK authorised firm will need to become approved by the FSA where the parent or holding company is not EEA regulated. UK authorised firms with parent undertakings and holding companies that are not EEA regulated, especially those which operate matrix management structures involving decisions being made at the group level, will need to review their management structures. This is discussed in more detail below.
- The FSA has decided to postpone proposals to clarify the role of non-executive directors as it wishes to take into consideration the recommendations made in the Walker Review as well as the review being undertaken by the Financial Reporting Council (FRC) whose final report is due later in the year.
- Firms will need to assess whether or not their proprietary trading staff will need to obtain approval from the FSA. By virtue of their ability to commit the firm's money, the FSA's view is that all proprietary traders have the potential to be able to exercise significant influence on the firm. However, the FSA has acknowledged in feedback that this does not mean that all proprietary traders are likely to exercise significant influence.
- More controlled functions may apply to UK branches of third-country firms.
- The reference requirement which had previously only applied to CF 30 (customer function) has been extended so that a reference is now required in relation to the application for approval of all controlled functions.
The changes took effect on 6 August 2009, with a transitional period of six months in relation to some of the changes.
Extending the scope of controlled functions to parent undertakings and holding companies For a detailed analysis of the proposals in this area, most of which remain as set out in CP 08/25, please see the Herbert Smith briefing on CP 08/25. As mentioned above, the only significant deviations from the original proposals are:
- The removal of the word "opinion" so that only individuals whose "decisions and actions" are regularly taken into account fall within the extended regime. This is helpful as it removes a certain amount of ambiguity from the requirement.
- The FSA has included guidance explaining the need for an "arrangement" to exist in order for a function to be brought within the FSA's remit.
The need for an arrangement or contract
Section 59(1) and (2) of the Financial Services and Markets Act 2000 (FSMA) provide that approval is necessary in respect of a controlled function which is performed under an "arrangement" entered into by a firm in relation to a regulated activity. "Arrangement" is defined in section 59(1) FSMA as "any kind of arrangement for the performance of a function which is entered into by a firm with another person and includes the appointment of a person to an office, his becoming a partner or his employment…".
The FSA accepts that there will be cases where a person performing roles equivalent to the director or non-executive director functions will not require approval where he does not have an "arrangement" or a contract permitting the performance of these roles with the UK firm. However, the FSA goes on to say that it expects that, in general, a person who performs these roles will require approval. This is because the FSA expects that a firm that allows major decisions to be taken by a group decision-making body will be doing so on the basis of a formal delegation from the firm's governing body. This delegation would amount to an arrangement for the purposes of section 59 FSMA. This sounds odd.
Is it really the case that UK firms habitually enter into formal delegation arrangements with its parent in this way? Most probably not, especially when considering some of the examples given by the FSA as to when someone might be carrying on the director function (please see the Herbert Smith briefing on CP 08/25 for the full list of examples). For example, when an individual at the parent company "exercises significant influence by way of his involvement in taking decisions for that UK firm" (SUP 10.6.5 (2) G), one would not normally expect this to be the result of a formal delegation from the UK firm's governing body.
SUP 10.3.4 G already sets out guidance that a person could perform a controlled function where there is no written contract, but where the arrangement arises, for example, by "conduct, custom and practice". In most group structures, whether or not the structure is one of matrix management, it is much easier for an "arrangement" to be construed by "conduct, custom and practice". The FSA would have done better by focussing on this guidance rather than assuming that there is generally a formal delegation from the UK board to its parent or holding company.
Groups wishing to avoid the extended approved persons regime may wish to consider reviewing and reconfiguring their corporate governance structure now. This may take the form of ensuring that all decisions are taken autonomously by the UK firm without influence from the parent or holding company. Non-EEA regulators may not be happy with this arrangement if it means that the parent company ceases to have a good understanding of the risks being undertaken by the UK business. Firms may consider moving potentially affected individuals out of the parent or holding company and into associate companies or other subsidiaries. It is also worth considering whether or not there really is an "arrangement" in place between the potentially affected individual and the UK firm before applying for approval. The FSA is encouraging firms to contact the FSA before submitting applications in order to ensure a consistent application of the regime.
The FSA still believes that only around 200 individuals will be affected by this change. It does not explain how it came to that number. In any case, all UK firms with a UK, non-EEA or unregulated EEA parent or holding company will need to spend time and resource reviewing their corporate governance structures and consider whether or not any individuals at the parent or holding company level require approval from the FSA. These firms will need to start identifying those individuals now as applications will need to be filed by early November. All relevant individuals will need to be approved by 6 February 2010.
Newly approved individuals will need to familiarise themselves with the FSMA regulatory regime. Failure to comply with the approved persons regime could result in the FSA taking various measures, including fining the individual concerned or requiring that the relevant individual no longer perform a role with significant influence over the authorised firm. The FSA has also stressed in PS 09/14 that refusals or revoked approvals are published and may have consequences for individuals in their home state.