This article was written by Rachel Couter (dispute resolution and contentious regulatory partner) and Olivia Short (dispute resolution and contentious regulatory trainee).
On 14 April 2016, the Financial Conduct Authority (FCA) and the Prudential Regulatory Authority (PRA) published their consultation paper proposing various changes to the enforcement process in response to the following three publications:
HM Treasury's “review of enforcement decision-making at the financial services regulators”, dated 18 December 2014;
the PRA’s and FCA’s joint report, “the failure of HBOS", dated 19 November 2015; and
Andrew Green QC’s “report into the FSA’s enforcement actions following the failure of HBOS”, dated 19 November 2015.
The suggested reforms are underlined with a desire to increase the level of transparency and efficiency for those subject to the enforcement process. Comments have been requested by 14 July 2016. The main proposed substantive changes relate to the settlement process and the ability to “leapfrog” the Regulatory Decisions Committee (RDC) and refer the matter straight to the Upper Tribunal. These are considered in more detail below, together with proposals to increase transparency within enforcement proceedings, but there are further proposals to improve the referral process as well as to increase cooperation between the two regulators when the same matter is of relevance to both.
Settlement is the key area where changes are proposed. The main changes are two-fold and relate to (i) the discount available for early settlement and (ii) the possibility of partial settlement of a regulatory enforcement action (termed a "focused resolution agreement").
Currently, the FCA operates the following tiered discount scheme, reducing the amount of a financial penalty depending on when a settlement is reached:
Stage 1: 30% reduction if settlement is reached between the start of an investigation and the point at which the FCA has sufficient understanding of the issues to make a reasonable assessment of the appropriate penalty, and has allowed a reasonable opportunity to reach agreement about the amount of the penalty;
Stage 2: 20% reduction if settlement is reached between the end of Stage 1 and the date when the period for making written representations in response to a warning notice has expired (or the date when written representations are made if sooner); and
Stage 3: 10% reduction if settlement is reached between the end of Stage 2 and the date when a decision notice is given. Settlement after Stage 3 will result in a zero reduction.
The proposal is that Stages 2 and 3 should be abolished going forward. Consequently, any settlement after the end of Stage 1 will result in no discount. To counter-balance the effect of the abolishment of Stages 2 and 3, the FCA has proposed that 28 days’ notice of the commencement of the Stage 1 period be given in order for appropriate arrangements to be made and for there to be pre-Stage 1 without prejudice preliminary meetings (rather than extending the normal Stage 1 period of 28 days, which will only happen in exceptional circumstances) at which the FCA will explain its view of what went wrong and the subject of the investigation will be given the opportunity to indicate the extent to which they agree with outline findings and where they believe there are factual errors or inadvertent mistakes.
Whilst rarely used, the abolishment of discounts at Stages 2 and 3 will make it even more important for the FCA to ensure that it gives those subject to investigation adequate information as to its thinking of the nature and the gravity of the breach and a sufficient opportunity for the subject to put its side forwards together with proper consideration of any competing views. This is particularly the case given that, under the current proposals, if settlement is not reached at Stage 1, there will be no incentive for the subject of the investigation not to proceed to a full hearing before the RDC.
Partly contested cases: "focused resolution agreement"
The FCA is proposing to make available the possibility of retaining the ability to obtain a discount for early settlement in circumstances where the subject of the investigation accepts the facts relevant to the enforcement action and all issues of whether those facts amount to a breach or more than one breach but disagrees with the proposed regulatory outcome, whether it be the amount of the penalty or other action, namely public censure, prohibition order or suspension, restriction, condition or limitation. Only the appropriate regulatory outcome would proceed for determination before the RDC.
This proposal is a positive advancement for those subject to enforcement proceedings with a likely financial penalty: they will be able to benefit from challenging the level of the financial penalty or other regulatory outcome proposed whilst at the same time reassured by their ability to rely on a 30% discount potentially further to reduce their penalty.
As alternatives to the focused resolution agreement, the FCA has considered, but is not currently proposing to adopt (although it remains interested in receiving comments), the following possibilities:
the subject agrees to the facts relevant to the proposed enforcement action but retains the ability to contest that those facts give rise to the breaches as alleged by the FCA; or
the subject agrees to some but not all of the issues relevant to the enforcement action, such as (some of) the facts, (some of) the breach(es) or (part of) the appropriate regulatory outcome, but retains the ability to contest further issues.
The second possibility seems less workable in practice as it is unlikely to give rise to much efficiency over a full disputed case and it raises difficult questions as to what percentage discount should be applied to the issues that have been accepted. The former, however, seems eminently workable in practice as avoiding the need to address any of the facts, but just the consequences of those facts, and should be amenable to some discount being applied given the reduction in work that will need to be undertaken by the FCA.
“Fast Track” access to the Upper Tribunal
The other key area where changes are proposed to the enforcement process is access to the Upper Tribunal. In particular, the consultation paper proposes to allow:
a party, who has received a warning notice, to elect not to make representations to the RDC but to proceed straight to the Upper Tribunal (the FCA will issue a decision notice in substantially the same form as the warning notice); and
a party to proceed straight to the Upper Tribunal prior to the issue of a warning notice by the RDC (the FCA will issue both warning and decision notices at the same time).
These proposals will allow those who might feel that the FCA has “simply got it wrong”, but will not be persuaded otherwise, to proceed immediately to have the issue heard within a tribunal environment, with all the benefits that can bring, notably oral testimony and expert evidence. The downside of course is that Upper Tribunal proceedings are lengthy and costly and some regulatory issues can benefit from being tested in the less formal context of oral and written representations to the FCA and / or the RDC.
Transparency within the enforcement process
As indicated above, the consultation paper suggests a number of proposals which aim to improve transparency within the enforcement process. The main proposals are as follows:
to provide further detail as to why a reference to enforcement has been made, including the referral criteria applied in coming to that decision;
to hold the scoping meeting a little later in the investigation than currently to allow the FCA to be in a position to share its indicative plans on the direction of the case, including the likely timing of key milestones and next steps in the investigation;
to provide periodic updates to the person under investigation on at least a quarterly basis covering steps taken in the investigation to date together with proposed steps going forward and indicative timelines. This should help to appease some of the frustration felt by those under investigation who often are left for significant periods of time without any update from the FCA;
to ensure that sufficiently senior staff are involved in settlement discussions; and
to make it clear that factors that will be taken into account when considering a request to extend time to respond to a warning notice or preliminary investigation report include the legal and factual complexity of the case, and the existence of any factors outside the firm’s or individual’s control that would materially impact on their ability to respond within the normal period (and, in the case of the response to the warning notice, whether there has already been an opportunity to respond to a preliminary investigation report or whether the case has substantially changed from the case set out in the preliminary investigation report).
Whilst the FCA has consulted on its proposed reforms to the settlement process and the introduction of a fast track procedure, the PRA will be consulting on these issues later this year once the Bank of England and Financial Services Bill has passed through Parliament.
To have your say, share your comments on the consultation paper by completing the relevant response form. Responses are due by 14 July 2016.