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The FCA’s new enforcement process – what will work, and what won’t

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Summary: On 1 February, the FCA announced important changes to its enforcement process, most of which take effect from 1 March 2017. We expect the structural changes to improve the prospects of firms/ individuals who are subject to FCA enforcement actions defending their positions effectively. We also welcome the changes to the Enforcement Divisions’ approach outlined in the paper, though we question how quickly those changes can be put into effect.

Background

Since HMT’s enforcement process review report was published over two years ago, we have been waiting in hope (rather than expectation) to see some constructive changes to the FCA enforcement process that would make it feel less heavily stacked in favour of the regulator. 

The existing enforcement process has too often proved itself to be unjustifiably regulator-friendly, with the FCA benefiting from the rising pressure upon firms and individuals (as fines have risen) to settle at the earliest possible stage in return for a 30% settlement discount. The structural advantages for the FCA that have been built into the enforcement process since 2005 (when the executive settlement discount was introduced) have, in our experience, given an unhealthy degree of power to the FCA Enforcement Division, which it has not always exercised responsibly.

Recently there have been signs of discomfort about this at senior level within the FCA – Mark Steward, the current FCA Director of Enforcement and Market Oversight, has been vocal about the need for the FCA to approach enforcement investigations with a genuinely open mind, rather than focussing on finding evidence that supports the case it wants to bring; Andrew Bailey’s October 2016 Mission Statement echoed some of these thoughts.

But now? There are more tangible grounds for hope, based on real structural change. Yesterday’s FCA Policy Statement by the PRA and FCA on their implementation of HMT’s enforcement process review set out a new mechanism (to be introduced from 1 March 2017) whereby firms and individuals will be able to secure a settlement discount, while continuing to contest key aspects of their case with the regulator, including before the Regulatory Decisions committee (RDC), an independent panel within the FCA which operates separately from the Enforcement Division.

Structural changes

Under the current executive settlement process, firms and individuals who are subject to FCA enforcement actions stand to receive a 30% “executive settlement” discount on the level of fine that would otherwise be levied if they settle their case within “Stage 1” - a 28-day period starting when they receive a draft Warning Notice from the regulator, and ending 28 days later (save for exceptional circumstances that would justify an extension – we see such exceptions extremely rarely). If no settlement is reached during Stage 1, there remains a right to settle for a 20% discount during Stage 2. Once Stage 2 has ended (on the last day for making written representations to the regulator in response to a Warning Notice), there is a final chance of negotiating 10% off the financial penalty if settlement is reached within Stage 3, which ends on the date that a Decision Notice is published.

The new settlement process retains the Stage 1 settlement period and also introduces the concept of a Focussed Resolution Agreement, under which the subject of the investigation and the FCA can agree on some aspects of the case, but disagree on others, and the subject can still retain a proportion of the settlement discount despite not reaching agreement with the FCA on all aspects. The amount of discount that can be retained varies – the discount will be 30% if the facts and breach are agreed upon, with only the penalty being contested; whereas if both liability and penalty are contested, the level of discount available will be between 15 and 30% (depending upon how much has been agreed between the FCA and the firm/person under investigation).

View a visual summary of the new enforcement process here.

We expect this to make a real difference for firms and individuals under investigation by the FCA who have good defensive arguments to make, but who would previously have felt under pressure to jettison those arguments in order to settle at an early stage and secure a 30% discount.

Cultural changes

The 1 February 2017 Policy Statement is also interesting in that it makes clear that starting an enforcement investigation with a pre-determined view of the likely outcome will – quite rightly - not be acceptable in the new world. The Policy Statement emphasises:

“The value of enforcement investigations as a forensic review of what has happened which then allows us to consider whether (and, if so, what) action should be taken by the FCA as a result.”

But significant cultural changes will need to happen at the regulator to make this new approach to enforcement a reality. In our experience to date, it is usual and apparently quite acceptable for FCA enforcement investigators to come into a new case with a clear view of the outcome – or at least the range of outcomes – they are seeking to achieve from it. This cultural change will be at least as challenging to implement at the FCA as the structural challenges to the executive settlement procedure described above.

Other process changes

The Policy Statement also sets out a number of more minor process changes that we expect to make life slightly less intolerable for firms and individuals who are subject to FCA enforcement investigations. The promise of regular case updates, 28 days’ notice of the beginning of the Stage 1 settlement discount window, and more information in the Memorandum of Appointment of Investigators as to the nature of the breaches alleged and the relevant facts relied upon by the FCA, is very good news. However, all this needs to happen in the context of a clear commitment by the FCA to complete investigations – particularly those into individuals’ conduct – within a much tighter timeframe. Such investigations routinely take 2-3 years; the FCA needs to give much greater thought to the impact of this upon an individual’s health, career and family life. The FCA has a moral duty to take care that its present focus on emphasising individual accountability does not have a blinkering effect, causing it to ignore the human cost of bringing regulatory enforcement action against individuals.

What needs to change next?

We welcome the FCA’s renewed focus upon improving the process of referring cases from Supervision to Enforcement, to make sure that such decisions are taken fairly.  We are concerned, though, that the proposals in this area have missed an important issue:

It is not at all unusual to see cases referred from Supervision to Enforcement on the basis of investigation reports – whether produced internally or externally – which criticise the conduct of individuals without affording those individuals any right of reply. This is patently unfair, and – even if the FCA keeps its word in relation to investigating matters fully before considering what outcome may be appropriate – risks unfairly subjecting individuals to the enforcement process without good reason.  We would like to see the FCA impose upon itself a blanket ban on initiating enforcement investigations into individuals based solely upon reports that have been prepared without giving the relevant individuals a right of reply. This small policy change would, in our view, make a real difference to the fairness of the enforcement process in relation to individuals. 

Continue the conversation

We’d be delighted to hear from you if you have comments on this piece or would like to discuss your views on regulatory enforcement more generally. 

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