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RELEVANT TO FINANCIAL INSTITUTIONS' D&O

Non-financial misconduct (“NFM”) is  increasingly a focus for UK regulators

 

ESG has rarely been out of the news in the last 3 years. Whilst debates about the “E” continue, and the “G” is not really in dispute, the focus here is on the “S”, the focus on which has come comparatively late in the day compared to the others. It’s topical now with quite a few recent developments to talk about. 

 

The Social piece is a broad church and can be loosely described as the way a firm interacts with its people and the wider community.  In the workplace this most obviously involves diversity and inclusion but can also be about trading partner selection and ethical sourcing, among other things. 

 

The FCA has historically been less active in the Social area given queries over how it impacts financial risk, but it is now catching up. Its primary focus is on what it calls Non-Financial Misconduct.

 

NFM – What Is It?

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The FCA has described NFM as misconduct including bullying, sexual or racial harassment or any other discrimination in a work related context. The asset management industry has been facing some high profile and rather unwelcome scrutiny in this area specifically.

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Odey Asset Management

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Going on right now is the Odey Asset Management scandal in which its founder, Crispin Odey, has been accused of sexual harassment by some 20 women employed over a period of 25 years, at the asset manager he founded, Odey Asset Management.

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The fallout has been so serious the asset manager closed its operations last year. After an investigation it has more recently been cleared of wrongdoing by the FCA.

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Mr Odey – also well known for his strong pro-Brexit stance, and large financial donations to Reform UK and to Boris Johnson personally, in shades of Harvey Weinstein, was fired by his own firm in June last year when the scale of his alleged harassment came to light.  One of the allegations, repeated by several women, is that he lured them to his house under a work pretence where he would greet them in his dressing gown.

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He has since survived a criminal prosecution for sexual assault but is still being investigated by the FCA in respect of whether he is fit and proper to work in the financial services industry, and is facing multiple civil lawsuits alleging sexual harassment, and various degrees of sexual assault. 

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How prevalent is NFM in Financial Services?

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In January this year in response to a Freedom of Information request, the FCA disclosed information that suggested the number of whistleblower reports received from UK asset management firms increased appreciably in 2023 – to 172.  This included notable increases in respect of sexual harassment and culture: there were 8 whistleblowing complaints of sexual harassment in asset management firms (compared with none in the two previous years) and 20 whistleblowing complaints relating to culture (up on prior years). All the other complaints related to financial misconduct issues.

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Also, partly in response to the Odey scandal a Parliamentary Treasury Committee examined barriers faced by women in the financial services sector in the “Sexism in the City” Inquiry, whose report was published in March this year. The FCA and PRA gave evidence to this inquiry partly to foreshadow the steps they are now taking (see below) which were not resoundingly endorsed by the Parliamentary Treasury Committee’s report.  The Report did acknowledge as follows:

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“There is an important role for regulators to play in ensuring that firms tackle sexual harassment. We welcome the proposals by the Financial Conduct Authority and by the Prudential Regulation Authority to strengthen their regimes for tackling non-financial misconduct, including sexual misconduct. We note, however, that the regulators are constrained by their legal powers to take action, and acknowledge that they cannot take action in financial services that goes further than allowed for in wider employment and criminal law.”

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What is the current UK legal position on NFM?

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On a most basic level such conduct may be criminal, in which case if reported to them, the police will investigate (it was the FCA that reported Mr Odey to the police); or an employment matter in which civil claims may be brought against the firm and any relevant individuals for sexual discrimination, with potentially unlimited damages. Individuals would likely face disciplinary action by their employers. In the case of serial or systemic failures, the firm may lose the support of its trading partners, the share price could be harmed, and there could be D&O claims.

 

In terms of financial services specifically and the FCA, the position is quite nuanced, and this is probably one reason why more regulation is on the way. The FCA has struggled with the question of how and to what extent such behaviour is related to an individual’s professional competence.  Going back to Mr Odey again, he appears to have been an extremely competent asset manager with whom his investor clients would have had few complaints. How does the FCA square this with the fact he may have been a sex pest around the office?

There are two ways in which NFM plays out under the FCA’s remit currently –

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1. If an individual is a Senior Manager or is Certified then they can be investigated and found to be not Fit and Proper to perform regulated activities, and fined.  This is going on with regard to Mr Odey at the moment. As the founder and brain behand the asset manager and presumably a main board member he was obviously a senior manager.

 

This has been the primary route taken by the FCA in such cases to date, although it has generally found people to be not fit and proper where there is no work connection to any serious wrongdoing (not in Mr Odey’s case obviously). An example would be a Senior Manger convicted of an offence not obviously connected to their work.

 

A firm that has failed to act properly in the face of a serial issue might also be found to be unfit to perform regulated services – this was the thrust of the FCA’s investigation into Odey Asset Management.

 

2. Most individuals working in financial services as well as the firm are subject to the FCA’s Conduct Rules. Any individual and the firm that employs them may therefore be in breach of the Conduct Rules, in particular the obligation to act with integrity (Rule 1). This has not been a fertile area for action by the FCA to date, partly due to queries over whether the existing rules sufficiently embrace non-financial misconduct matters.

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NFM – what are the proposed changes?

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The FCA, many who feel were stung into action by the Odey affair, released their proposals for beefing up their approach in this area in the Autumn of 2023 in a Consultation Paper CP 23/20.  They are sticking to the two prong approach outlined above:

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  1. Fitness and Propriety regime for Senior Managers and Certified personnel – here they are looking to more firmly state that bad behaviour outside of the work context may still be an indicator that someone is not fit and proper to work in regulated services. An example might be that someone acting dishonestly in covering up an unrelated crime cannot be trusted in a regulated environment. This change will not make any difference to misconduct that clearly IS related to professional work as Mr Odey’s alleged conduct was.

  2. The Conduct Rules to which most people in financial services are subject, will be changed to add a new rule relating specifically to serious instances of bullying, harassment, and similar behaviour towards fellow employees.  Except in the case of Senior Managers or Certified persons, it is the firm that will be sanctioned for a breach of the rule by an individual, not the individual themselves, who would nevertheless be subject to the usual disciplinary and other legal processes already outlined above.

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The Sexism in the City report did not resoundingly endorse these proposals querying whether they went far enough. For instance – what is the difference between “serious” bullying or harassment and non-serious bullying or harassment? The report also criticised the widespread use of Non-Disclosure Agreements and the lack of guidance about the FCA’s whistleblowing line neither of which are tackled in the recommendations.

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The final rules have not yet been published but have been promised later this year (although in light of some of the comments in the Sexism in the City report it is possible these will be subject to some revision and delay). 

 

Are there any other recent developments in this area?

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Yes, a couple. While we wait for these new rules, earlier this year, an FCA Information Request letter was sent out to all London market insurers and brokers, and City banks and stockbrokers asking for statistics about historic NFM, their nature, whether involving senior manager level, and the outcomes – together with information about D&I policies – and they were given just a month to do so.

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This was meant to just a first wave, with asset managers and others following, however, possibly in light of comments in the Sexism in the City report it appears no more portfolio letters have yet been sent. The FCA says it is not looking to take action against individual firms based on the answers given, it is to inform its future approach to NFM. In doing so though it is inevitably sending a signal to firms to clean up their act.

 

NFM – What is Lloyd’s doing?

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Not asset management, but unsurprisingly where the FCA treads, Lloyd’s tends to follow. Hot on the heels of the FCA’s Information Request, Lloyd’s has very recently published its own consultation on “poor conduct and behaviours in the market” (see Lloyd’s Bulletin Y5443 Market bulletin (lloyds.com)). This includes proposed updated and more explicit financial and non-financial misconduct rules and processes. Interestingly, there is express reference to the misuse of alcohol and drugs. The  Consultation closes on 16th December 2024.

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A word about publicising FCA Investigations (NFM or otherwise)

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A related and potential very significant development is an FCA Consultation launched in March this year – CP24/2.  This included proposals for fundamental change to the way announcements are made when the FCA is investigating a firm – for any misconduct – financial and non-financial. 

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Currently the FCA does not announce when it opens an enforcement investigation against a firm or individual. Usually, announcements are only made once a decision to bring enforcement proceedings has been made, following an investigation – in line with the principle “innocent until proven guilty” and bearing in mind the reputational impact an investigation has.

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The FCA is now proposing to make an announcement when it opens such an investigation and provide updates on them, giving the firm only 24 hours’ advance notice of the announcement. This will include publishing the identity of the firm (but NOT any individual) that is the subject of the investigation.  Announcements will be subject to a decision making process and not automatic, but when made, will only amplify the effect of the harder stance being taken on non-financial misconduct, as such announcements could be extremely damaging for the firms concerned, even where no action is eventually taken.

 

The FCA’s Consultation on CP24/2 closed on 30 April. However, The House of Lords’ Financial Services Regulation Committee, chaired by Lord Forsyth of Drumlean, wrote to the FCA on 18 April to express a number of concerns about the proposals contained in the consultation. The letter stated that:

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“the Committee intends to take evidence on this proposal and asks that you do not take further steps to implement this change until it has had the opportunity to do so and reach a final conclusion.”

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The Committee then sought further views on the proposals. This consultation closed on 4 June and the findings are presently awaited.

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The public response to the FCA’s proposals has been almost universally negative.  The FCA tried to go down this road in 2013 and backed down so it may be more determined to push on with it this time. Watch this space.

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