We have done a short summary of the key Financial Conduct Authority (FCA) findings on consolidation in the advice and wealth management sectors. 

There is a lot more to these findings than meets the eye. Indeed, this is in so many ways the new FCA at work. This is not a consultation and there are no new rules. FCA argues that complying with their best practice is just doing what you should be doing anyway under the principles and rules. 

The content of the findings are really significant though and the implications easy to miss. 

Biggest issues to note 

First, the FCA is arguing that groups with clear structures, strong governance and risk management are likely better placed for sustainable growth. So far so good but then the bombshells. The first of these relates to debt to equity structures and putting debt into groups above the level of the consolidation group and relying on the latter to pay dividends upwards to repay the debt. The FCA appears negative about these structures. The problem is of course that they are so embedded in the private equity structures which we and many others work on. There is usually a topside stack which is offshore for tax purposes and leverage is often introduced as part of the acquisition. 

Whilst not banning these structures the FCA's comments give real pause for thought and are a warning sign. We have been aware of the possibility of going higher than the consolidation group for years or for a Pillar 2 add on to be imposed on the consolidation group topco if the FCA has concerns about double leverage or the more general debt to equity structure. However, in reality these powers have been rarely used and if the debt funding has been within market norms the FCA has not usually challenged them. Query how far this paper marks a major departure from this position. This would have implications not just in the advisory and wealth sectors but through the PE acquisition world into the UK regulated sector.  Anything that brings group structures above the consolidation group into quasi consolidation would be a major threat to deal structures so this is something to definitely keep an eye on. 

The second and less controversial comments from the FCA relate to guarantees by regulated entities in relation to acquisition debt and charging of regulated entity assets. We have always advised against this although the rules have never been spelt out. The FCA has come out against this practice so probably broadly in line with market practice. 

Then the FCA returns to the question of group risk and risks posed to the consolidation group from the broader group. Whilst this risk is not new the language around needing to look at risk on an "integrated basis" even outside the consolidation group causes concern. The question in my mind is how much this is a creeping form of consolidation. The points on deduction of goodwill are nothing new but the broader comments on how offshore topcos can undermine the financial resilience of regulated groups is new and worrying. 

The FCA finishes its findings with more regular fare: good due diligence pre and post deal, managing integration properly and a clear growth strategy combined with good systems and controls and documentation. There is, however, a little twist in the tail in relation to conflicts where the FCA reinforces its neutrality approach in relation to the range of services offered to clients. 

In practice, this means that where there are discretionary management, advisory and execution only options or mixes within these clients [sense?] should be offered what is in their interests and not what the advisers are incentivised to give them. It is not clear if this is just looking at comparisons within the group or outside as well but in any event this is often easier said than done. However, the concept is hard to argue with.

A tale of two halves

To summarise, I think that this paper is a tale of two halves. 

One half reinforces what we all know: good planning, systems and controls and documentation are needed to make a deal work. Nothing to see here in terms of the findings one might say. 

The second half though is very different. This is the commentary on debt/equity structures and the need to look beyond the consolidation group. It is not clear to me what impact this will have on real structures if any but this is a set of findings the industry needs to be aware of given the implications.