The Financial Conduct Authority has published proposed guidance on the use by firms of compromises to manage their liabilities. Compromises include arrangements with creditors and/or shareholders, such as Schemes of Arrangement, Part 26A Restructuring Plans, and Creditors Voluntary Arrangements (CVAs).

The Guidance is aimed at FCA-regulated firms that seek to limit their liabilities by using these company or insolvency law techniques. The Guidance warns that firms could face assertive action if proposals unfairly benefit them at the expense of their customers. Sarah Pritchard, Executive Director of Markets at the FCA, states:

“Under existing company and insolvency law, firms have options to limit their liabilities. When making use of these, they still have a responsibility to treat their customers fairly. We will take action against firms that don’t meet this obligation”.

The move comes in response to an increase in the number of firms developing proposals to deal with significant liabilities to consumers, particularly redress liabilities.

In response to various requests, the FCA has said it is unlikely to issue ‘letters of non-objection’ to firms’ restructuring proposals. The FCA will instead consider proposals on a case-by-case basis applying the criteria set out in the Guidance, and will communicate concerns to the firms, and to the courts where appropriate. The FCA will also consider whether regulatory action is warranted.

The Guidance covers four areas:

i) Engagement with the FCA

The Guidance envisages that a firm proposing to enter into a compromise should be required to notify the FCA immediately, and should engage with the FSCS at an early stage. The Guidance lists minimum information that firms should provide to the FCA, including an explanation as to how the liabilities subject to the compromise arose.

ii) FCA assessment of compromises

The FCA explains its suggested approach to assessing proposed compromises, together with the factors it will consider when deciding what action to take. Proposals will be assessed against the FCA’s statutory objectives and rules, including the Principles for Business – particularly Principle 6 (treating customers fairly), Principle 7 (customers information needs) and Principle 8 (managing conflicts of interest).

Unsurprisingly, the most important consideration is treating customers fairly, including the outcome they would receive compared to other stakeholders, and whether the firm has put forward the best proposal possible for customers. The FCA will be looking to firms to provide as much funding as possible to satisfy customers’ compensation claims. A failure to do so could result in the FCA objecting to a firm’s proposals in court, and/or taking regulatory action.

iii) FCA participation in court process

The Guidance explains how the FCA will decide whether to participate in any court process. For example, the FCA will consider (amongst other things), whether the proposal fairly balances the interests of all creditors, the number and type of creditors subject to the compromise, and whether the firm has provided the FCA with adequate information for it to perform its assessment on the compromise.

The FCA appreciates that as a regulator the court will inevitably be interested in its views. The question of whether to participate in a court process will form part of the FCA’s initial assessment of the proposed compromise. When it objects to a proposal, the FCA may make representations at the hearing of an initial court application (to convene a meeting of creditors) and/or the hearing of an application for court sanction of a proposal.

iv) Use of supervisory tools/regulatory action

Finally, the Guidance explains when and how the FCA may use its powers to respond to the conduct of a firm proposing a compromise. The FCA will consider whether it is appropriate to take regulatory action against the firm and/or its senior management, and will “not hesitate to use [its] regulatory tools if appropriate to do so“. For example, the FCA may:

  • consider enforcement action for past conduct that caused the liabilities giving rise to the compromise;
  • impose requirements on a firm to take specific actions (such as appointing new management);
  • vary the firm’s regulatory permissions to restrict business; or
  • impose additional prudential requirements.

Comment

The pros and cons of FCA intervention in restructurings of regulated firms’ liabilities can be finely balanced. The FCA is understandably concerned to ensure that compromise mechanisms are not misused to give customers a poor outcome relative to other stakeholders, particularly where a firm’s financial difficulties arise from redress liabilities due to failure to meet regulatory requirements. But in our experience misjudged action can serve only to derail an orderly compromise, leading instead to a disorderly insolvency and far worse outcomes for customers. Once finalised, the Guidance will shape the FCA’s future approach to these difficult situations. Firms are able to provide their views on the proposed Guidance until 1 March 2022.