[co-author: Ellie Rees]

On 20 May 2019, the FCA published findings from its multi-firm review into the supervision by principal firms of their appointed representatives (“ARs“) in the investment management sector (“Investment Management Sector Review“).

This review was conducted following the publication in July 2016 of the FCA’s Thematic Review TR16/6: Principals and their appointed representatives in the general insurance sector (see our blog post here for more details) (the “General Insurance Thematic Review“) which identified a number of shortcomings in the control and oversight of ARs by their principal firms. The FCA states that while the Investment Management Sector Review was focussed on the investment management sector, the findings may also be relevant to principals and ARs operating in other sectors of the UK financial services industry.

Interestingly, similar concerns to those raised in the General Insurance Thematic Review have again been set out by the FCA, as summarised in the Dear CEO letter sent by its Director of Wholesale Supervision, Investment, Wholesale & Specialists Division, Megan Butler, to the chief executive officers of principal firms with ARs operating in the investment management sector:

“Our review identified significant shortcomings in relation to principal firms’ understanding of their responsibilities for, and the level of control and oversight of, ARs. Many principals did not identify conflicts of interest inherent in this business model or make attempts to manage them. This risks harm to consumers and to the market arising from the activities of ARs operating in this sector“.

Once more, it was found that principal firms had weak or under-developed governance arrangements in place, including a lack of effective risk frameworks, internal controls and sufficient resources. In particular, this time the FCA identified that some principals may not be holding adequate financial resources for liquidity and capital.

Starting with the AR on-boarding process, it was found that some ARs were able to conduct activities outside of the principals’ core areas of expertise and some principal firms, through the use of generic contracts for ARs, permitted an AR to undertake activities over and above what their business model required. There were also failings found in respect of product governance arrangements in place such that firms were no able to demonstrate that products offered by ARs had been designed in the best interests of consumers.

Reliance on high-level attestations from ARs and a lack of challenge in relation to information submitted by ARs contributed to a finding that most principals had not put in place appropriate controls to monitor the activities of their ARs. Likewise, it was found that no principal firm that was studied was regularly reviewing their ARs’ websites, which in some cases contained non-compliant financial promotions and had inaccurate information about the AR’s regulatory status.

The findings explicitly called out the use of “Regulatory Host” firms i.e. networks that allow small businesses to operate as ARs under the regulatory umbrella of the principal firm without necessarily having any other relationship with the principal. This practice is also seen in the insurance sector and was highlighted in the FCA’s General Insurance Thematic Review as “not inconsistent with our regulatory framework, but can create issues when a firm regards itself as primarily offering a compliance service to its ARs, rather than as an authorised firm owning all of the regulatory risks arising from its ARs’ activities“.

As a result of the Investment Management Sector Review, the FCA has intervened in a number of principal firms in the sample including through the imposition of requirements on their regulatory permissions to either remove or to stop on-boarding ARs, asking principal firms to de-register their ARs and commissioning two FSMA section 166 skilled persons reports.

What does this mean for general insurance firms?

Whilst the results of this review are not directed at general insurance firms, the similarity in findings almost three years on from the General Insurance Thematic Review should act as a reminder to all firms that have ARs, particularly those with multiple ARs, of the need to have adequate oversight and control of their operations.

In addition, since the General Insurance Thematic Review the Senior Managers & Certification Regime has come into effect requiring more transparent allocation of oversight and management responsibilities, resulting in greater personal scrutiny of the relevant Senior Managers in question and of the allocation of the business functions and activities of the firm. In particular, the FCA found several examples in the Investment Management Sector Review where none or only some of the directors and other individuals performing relevant controlled functions within ARs had been approved to undertake such functions.

In this context, insurers with ARs should be particularly mindful of assessing whether the current reporting lines and allocated responsibilities are appropriate and ensuring that the impact on group governance / matrix management arrangements are adequately considered and documented.

Given the findings of the Investment Management Sector Review, the topic of ARs and their oversight is likely to remain an area of supervisory focus for the FCA. 

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