The note will be of particular application to in-house counsel within regulated firms who are involved with inter-group service arrangements and/or third party service arrangements relating to “critical services”. Critical services are those services that need to be available to one or more business units of a firm or entity of a group in order to provide functions critical to the economy.
These new rules will come into force from 1 January 2019.
Models to which the rules apply
The rules focus on the following three models used to deliver critical services to regulated firms:
- Model 1 - one or more business units provide critical services;
- Model 2 - third party outsourcing provider provides critical services; and
- Model 3 – a group company provides critical services.
Key operational and contractual areas
Firms to ensure operational arrangements supporting critical services facilitate recovery and resolution – key considerations for regulated firms will include:
- Facilitating recovery – will the resolution continuity wording in regulated firms’ third party outsourcing arrangements be supportive of recovery execution? The rules widen the requirement for UK banks to not just facilitate resolution scenarios but also recovery scenarios;
- Facilitating separability and restructuring – do regulated firms’ operational and contractual arrangements allow for this? Arrangements where critical services are not distinct “service lines” but part of an overall managed service could obstruct separability – on the basis that to provide for separability of such services (e.g. only critical services to continue in a resolution scenario / remaining services to cease) may be complicated due to cross-subsidisation between services, no distinct charges for the critical services and shared resources used to deliver both critical and non-critical services – some of these arrangements may require restructuring to allow for this separability.
Contractual Service Provisions – key considerations for regulated firms will include:
- Firms to document critical services they receive – even for Model 1, regulated firms are still expected to document critical services provided by business units of regulated firms, as well as transition arrangements in resolution. This is likely to necessitate a mapping exercise of critical services provided by business units of regulated firms, an approach advocated by the PRA in the final rules;
- Charging Structures – even for Model 1, regulated firms are required to ensure arm’s length charging structures with internal business units so that such structures could form the basis for an external contract if the critical services provider is restructured following resolution.
Access to Operational Assets – key considerations for regulated firms will include ensuring access to operational assets not proprietary to regulated firms in circumstances where the critical services provider enters into stress or resolution. In addition to the usual escrow provisions, regulated firms may need to consider a wider range of tools to secure access in these circumstances e.g. step-in rights in respect of a provider’s supply chain arrangements. This would also need to be structured in a manner that mitigates the risk of an office holder “voiding” such arrangements.