SMCR+ View – November 2022

1. Non-financial misconduct (NFM) - FCA

We had a bi-lateral informal call with the FCA to discuss non-financial misconduct in the context of the Conduct Rules and specifically (1) the different scope of the COCON rules for solo-regulated firms and the FCA's policy intent, (2) what misconduct will have a sufficient nexus with the activities of the firm - e.g. misconduct at work parties and/or after parties of work parties, and (3) mental health and how firms should balance their employment and regulatory obligations with the personal circumstances of an individual.

Whilst there isn't anything concrete we can give firms, the FCA did say it was still considering giving NFM guidance as part of its D&I consultation paper proposed for next year. Until then, there is a general understanding from the FCA that NFM and mental health are particularly complex matters for firms to manage in the absence of specific guidance from the FCA and there is an acknowledgement from the FCA that this is a difficult area to navigate.

We are working with a lot of firms on their COCON breach assessment processes and Conduct Panel Terms of Reference. To hear more on this and/or our conversation with the FCA do let Emma Sutcliffe (Partner), Penny Miller (Partner) or Amy Sumaria (Supervising Associate) know.

2. Final Notices - FCA

• Related to the above, a Senior Manager Final Notice. Sadly, another instance of misconduct that is so egregious it doesn't really help firms with where the threshold for finding a lack of F&P sits. The individual was an SMF 29 for a Limited Scope firm and was involved in an altercation at a bar where, during this altercation, he used a machete to assault a security guard...resulting in a 3 year prison sentence. The FCA determined him to lack integrity and reputation given the nature and circumstances of the offences and the publicity around it (and despite him being genuinely shocked, ashamed and remorseful as to what had happened). It is obvious that the FCA have had to strongly connect this incident with reputational issues because it is not obviously a case about dishonesty or where there is a clear risk of harm between the criminal offence and the regulated role performed by the individual (cf. Frensham). The FCA repeatedly mention the publicity around the case and that news reports were readily identifiable upon an internet search of his name and they suggest that this is an aggravating factor to their decision.  

• An individual was found to lack F&P (honesty and integrity) after being convicted of conspiracy to defraud relating to EURIBOR submissions made at Barclays under his supervision. Aggravating factors included the relevance and materiality of the offence, the fact he was approved by the FCA when the offence was committed, the severity of the risk to consumers and financial firms and the confidence in the market. Note, this is pre-SMCR but there remains potential read across.

Please do get in touch with Richard Sims (Partner), Emma Sutcliffe (Partner), or Amy Sumaria (Supervising Associate) if you have questions on this or non-financial misconduct more broadly

3. DEI - FCA

Similar to previous FCA speeches, this one from Sheldon Mills highlighted how a more diverse and inclusive financial services industry, which is representative of the country and communities it serves, will further their objectives. He talks to the two sides of D&I: (1) internal representation within firms, and (2) the external side - i.e. having sufficient knowledge and understanding to serve a diverse society well. The FCA reminds firms that DEI is more than race and gender, it's also about social mobility, class/levelling-up and the intersectionality of all of these. The FCA refer to the growing evidence that a diversity of perspectives and thought and an inclusive culture, results in better judgements and decision making, and that gender diverse Boards receive fewer misconduct fines. Interestingly, they mention the Atrium NFM case from March's SMCR+ View and that they were pleased as to how Lloyd's responded.

They state that they received over 180 responses to their D&I discussion paper and suggest that the very long awaited D&I consultation paper will be published next year, but that firms can continue work in this space given the amount of work to do. Particularly, they highlight the benefits of collecting and using good D&I data (on more than just gender and ethnicity) and the FCA expect firms to actively monitor it and use it to address areas where intervention is needed. They highlight D&I strategies (again focussing on more than gender and ethnicity and focussing on all levels, not just senior leadership - this latter point was reiterated here in the FCA's most recent speech on culture) as being foundational in focussing minds and driving action across firms. Finally, the focus on inclusivity and the fact that often inclusion is not systematically approached alongside diversity within firms.

For more on DEI and to learn more about our D&I Toolkit, please contact Fiona Bolton (Partner) or Lauren Dickinson (Supervising Associate). You can also sign up to D&I View here.

4. Crypto and SMCR - Financial Services and Markets Bill 2022-2023 (Bill)

The revised Bill was published on 4 November 2022, including an amendment by HM Treasury to the definition of "investments" to include cryptoassets, for the purposes of both regulated activities and financial promotions. While this does not mean that cryptoassets will now be regulated, (as they will not become specified investments set out in the Financial Services and Markets Act 2000 (Regulated Activities) Order 2001 (RAO)), the amendments clarify that investments can include cryptoassets more generally (i.e. by including tokenised shares in the remit of 'shares' under the RAO). This also appears to lay the groundwork for the RAO and the Financial Services and Markets Act 2000 (Financial Promotion) Order 2005 (FPO) to be amended at a later date to specify certain (or all) cryptoassets - it would be at this point that firms carrying out certain (regulated) activities in relation to cryptoassets would require authorisation to do so - a significant shift from the current circumstances. This may, in turn, mean cryptoasset firms potentially fall within scope of the full suite of FCA rules, including the SMCR. This would be an enormous change for cryptoasset firms even if the impact may be mitigated by the transition period (which is expected to be fairly long).

And with that brief foray into cryptoassets, we'll refer you to our experts on the topic: George Morris (Partner), Douglas Robinson (Managing Associate) and Gordon Ritchie (Supervising Associate) should you have further questions. Sign up to Crypto View here.

5. Culture - FCA

Hot off the press is this speech from Emily Shepperd at the FCA. Nothing in it is new, but it reinforces the message that the FCA cares about culture because it drives conduct. The FCA have said that "to be a leader means to shape your organisations' culture rather than hiding behind HR". Specifically, the FCA expects senior leaders to nurture healthy cultures that are purposeful,  where employees feel psychologically safe to speak up and challenge, where firms have sound controls and good governance and remuneration doesn't encourage irresponsible behaviour. The FCA also see senior leaders' language as being critical to shaping culture. The FCA touch on crypto, ESG, the Consumer Duty, DEI and other bits in this speech, most of which we've covered elsewhere in this SMCR+ View.

Emma Sutcliffe (Partner) was also speaking at the City and Financial Global's 8th Annual Culture and Conduct Forum on: Intersectionality I: disaggregating the E, S and G of ESG and their individual implications for culture. For more on this please do reach out.

6. Consumer Duty - FCA

You'd be forgiven for not immediately relating Nikhil Rathi's "elephant in the jungle" reference to the Consumer Duty (Duty), but this is the turn of phrase used in his recent speech on the topic. We've previously given you a brief checklist on key SMCR uplifts required in relation to the Duty, and this will become even more important given the clear FCA commentary in this speech that when ensuring the Duty has been correctly implemented and consumer interests have been fully considered, the FCA will be holding firms, specifically Senior Managers and boards, accountable.

As outlined in the FCA's speech on culture, the Consumer Duty is expected to influence relevant firms to analyse their culture, ask questions about their purpose and the FCA are explicit that such change cannot be achieved by adjustments in governance, MI, and processes alone - the Firms' senior management need to clearly demonstrate what putting good consumer outcomes at the heart of their business means. Firms (and Senior Managers) which view the new Consumer Duty as simply a change to governance and processes are, in the FCA's view, doomed to fail from the start.

This will mean Senior Managers in particular will want to consider their reasonable steps in light of the Consumer Duty and consider, in advance of the July 2023 deadline, what enhancements may be required to their reasonable steps frameworks.

We are very well placed to advise on Consumer Duty. We have been instructed by nearly 40 clients to help them prepare for implementation. Please do get in touch with Penny Miller (Partner), Caroline Hunter-Yeats (Partner), or Rosie Davies (Supervising Associate) if you have questions on the intersection of the SMCR and the Consumer Duty, or if we can assist you with your Consumer Duty implementation more broadly. Sign up for Consumer Duty View here.

7.  Borrowers in Financial Difficulty (BiFD) following the Coronavirus pandemic - FCA key findings

"BiFD" doesn't have the best ring to it, but let's go with it for brevity. This month, the FCA published the key findings of their research on BiFD following COVID. All firms should consider the findings, but particularly those implementing the Consumer Duty and Senior Managers with responsibility for retail lending products (of the 65 firms involved, the FCA has asked 32 to make significant/material improvements to their processes so there's a high chance something in the report will be relevant and the FCA is clear that it expects firms to review the findings and make changes / remedy past failings, if necessary).

The four areas of focus are (1) engaging with customers before missing a payment and after missing a payment, (2) effectiveness of conversations with customers to enable the firm to understand their circumstances and deliver appropriate and tailored support, (3) helping customers to consider and access money guidance and debt advice, and (4) fees and charges. In relation to (2), the FCA stated that they were disappointed to identify many examples where there was a lack of oversight or control from firms, leading to poor outcomes for consumers. They observed examples of firms identifying issues but failing to rectify them which was worsened by a lack of management and senior leadership attention and by poor management information (MI) (which failed to highlight recurring issues, relevant trends and root causes).

This highlights the importance for relevant Senior Managers to ensure that they consider their reasonable steps (of which MI is one element) to ensure they effectively oversee their area of responsibility effectively. The FCA say they will be reviewing a further 40 firms in the coming months to make sure they are meeting their expectations, so this is important.

Please do get in touch with Penny Miller (Partner), or Caroline Hunter-Yeats (Partner) if you have questions.

8. FCA on AI in financial services

It's official...Artificial Intelligence (AI) is the gift that keeps on giving and is now a rolling agenda item of SMCR+ View. Recently, the FCA's Chief Data Information and Intelligence Officer, spoke on AI and outlined the central role that SMCR will play in managing the challenges posed by the use of AI in UK financial markets and the need for responsibility to remain with the firm - specifically, "machines don't have agency, humans do". This notion was reiterated in recent speeches from the FCA's CEO, Rolling Regulation Forwards, and from the FCA's COO and Executive Director of Authorisations, From Zeroes to Heroes. These speeches made clear that the SMCR (alongside the Consumer Duty) provides the FCA with an existing framework and set of rules to respond quickly to innovations, especially in the context of AI and other new technologies, and that whilst the FCA "can rage against the machine" (the FCA are almost as good as us with their puns...) responsibility for AI and algorithms lies with the leaders at the top of firms - the Senior Managers.

In October's SMCR+ View, we highlighted Discussion Paper 5/22 on AI and Machine Learning and the FCA is urging anyone interested in these topics to engage with it. The deadline for responding is 10 February 2023. If you have any questions please contact Minesh Tanna (Partner) and Angus Brown (Supervising Associate).

9. British Steel Pension Scheme - FCA

We are not going to dwell on this, but the FCA published Consultation Paper 22/22 and Policy Statement 22/14 relating to the British Steel Pension Scheme consumer redress scheme. In both there are references to relevant Senior Manager(s) providing an attestation and relevant individuals' roles under the Conduct Rules.

10. AML Final notice - FCA

In this Final Notice, the FCA has publicly censured the former CEO of Sonali Bank (UK) Limited. Whilst pre-SMCR and relating to a Decision Notice issued in 2018, there are lessons to highlight and be learned, particularly for the SMF 17 (MLRO) - note there was also a 2016 Final Notice in respect of the MLRO. Specifically, the FCA found a number of things in relation to the CEO and MLRO:

• Despite warnings from Internal Audit, the CEO and MLRO failed to establish systems and controls to monitor and manage the AML risks faced by the firm. The lesson? Senior Managers should ensure they take reasonable steps to remedy failings/weaknesses found by internal and external assurance reviews relating to their areas of responsibility rather than pushing them to one side.
• The MLRO failed to impress on senior management the need for further resources. The lesson? Senior Managers should consider the capacity and resources of their team and effective escalation through the firm's governance structures where needed and critical to managing risks.
• The MLRO continued to reassure the Board and senior management that the AML systems were effective. The lesson? Effective and robust Board reporting that is backed up by data and assurance reviews (e.g. Internal Audit) and that enables the Board to effectively join the dots is critical to effective oversight.
• There was a lack of clarity amongst staff of their responsibilities and the regulatory/legal expectations. The lesson? Appropriately tailored training is important to allow individuals to understand not only their responsibilities in respect of particular regulatory matters but the implications of not complying with the rules from a Conduct Rules (and, if relevant, F&P) perspective.

For more on this please contact Richard Sims (Partner).