The regulator returned to the issue of conflicts of interest last month, with a hefty fine and a ban for a non-executive director who failed to disclose a potential conflict between her directorships and consultancy business.
In this particular instance, the £154,800 financial penalty and ban from any role in financial services were imposed following a perceived lack of integrity by the NED in balancing her roles relating to two mutual societies versus her desire to obtain consultancy work from a US investment manager.
The case highlights the need for conflicts to be carefully and sensitively managed, and makes it clear that in the early days of its creation, the FCA really mean business in this area. As many of us know, it is impossible to avoid conflicts altogether, they arise continually throughout our industry. The issue then is about prevention, where possible, and, where not, management of those conflicts that do arise.
To go back to the basic obligation imposed upon us all, the FCA’s Principles of Business state that a firm must manage conflicts of interest fairly, both between itself and its customers, and between customers and other clients.
The FCA handbook requires that firms must have effective arrangements in place for preventing and managing conflicts of interest. If the firm is a member of a group, a conflicts of interest policy must take into account any potential conflicts arising from the structure of the group and the business activities of the separate members. A good example of this situation might be where a discretionary manager has a separate financial advice arm.
To focus on the conflicts policy, the first requirement is that this sets out the circumstances that may give rise to a conflict. Specific reference is made to situations where an individual may perform two or more roles, for example, trading for clients and also entering proprietary transactions.
Secondly, the policy must have associated procedures in place to manage these conflicts. This would include rules regarding the flow of information to ensure that this does not harm clients, steps to limit the potential for one individual to exercise undue influence over another and controls on an individual’s involvement in activities where a conflict may arise.
To take a few examples, a director who had a financial interest in a third party with whom his firm were considering an outsourcing contract would be expected to disclose the interest and, probably, to abstain from the board debate and vote on acceptance of the contract. And an investment manager who becomes aware of certain positive financial data regarding an issuer would not be expected to purchase shares in that company ahead of making an investment on behalf of this clients.
There is a lot of common sense in this area; making decisions on whether a conflict arises and how it should be managed are influenced heavily by a gut instinct that following a particular course of action is the right thing to do.
Aside from certain provisions relating to corporate finance activities (including the support of the traditional Chinese wall environment and watch lists), there are also specific and detailed rules dealing with investment research and research recommendations. It is essential that those who are active in this area are aware of and adhere to these requirements. For example, those producing research are subject to stringent rules banning them from obtaining inducements from issuers and must ensure that each research recommendation is fairly presented.
In summary, whilst the penalties imposed by the FCA in the recent case do highlight the need for robust conflicts of interest policies, as members of the financial services industry it is in all of our interests to robustly deal with issues in this area. The integrity of our business is called into question when conflicts problems arise and, in many cases, simple common sense will suggest the right answer to the problem.
Tracy Coghill is compliance officer at City Asset Management