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Legal Update

UK FCA Provides Guidance to Compliance Officers to Help Avoid Breaching Principles

3 June 2015
Mayer Brown Legal Update

The Financial Conduct Authority's ("FCA") Final Notice setting out its decision to ban Peter Johnson, a former compliance officer of Keydata Investment Services Ltd ("Keydata"), from any function related to a regulated activity (the "Final Notice") 1 is a reminder to compliance officers and other approved persons that their regulatory obligations may require them to stand up to senior management forcefully and provides some guidance to individuals who are working in a firm that is not complying with regulatory rules or principles. The Final Notice, published on 19 May 2016, will be particularly relevant for those individuals that are subject to the individual conduct rules that became effective from 7 March 2016 under the Senior Managers Regime and Senior Insurance Managers Regime.

As well as banning Johnson from performing a regulated activity, the FCA publicly censured him in the Final Notice for failing to act with integrity and misleading the then Financial Services Authority ("FSA") on a number of occasions. The FCA decided not to impose a financial penalty because Johnson was in financial hardship. Had this not been the case, the FCA said that it would have fined Johnson £200,000.

Background to the Final Notice
Keydata went into administration on 8 June 2009 and was dissolved on 2 July 2014. Prior to its administration, Keydata had £2.8 billion of its own and other institutions' investment products under administration. During the Relevant Period 2 Keydata designed, launched and distributed four high-risk investment products to invest primarily in US senior life settlement policies. Over 37,000 investors purchased the products, investing £475 million. The Financial Services Compensation Scheme had to pay investors over £330 million as a result of Keydata's dissolution. In 2011, Margaret Cole, then Managing Director of the FSA, described traded life policy investments as "high-risk, toxic products" and subsequent FSA and FCA guidance is that such investments should not be sold to retail investors.
Johnson's failings were considered by the FCA to be "of the most serious nature in light of the significant level of consumer detriment" arising from the sale of Keydata's products. The Final Notice was published because Johnson withdrew his reference to the Upper Tribunal. Proceedings will continue in the Upper Tribunal in respect of references made by Keydata's former Chief Executive Officer Stewart Ford and Keydata's former Sales Director, Mark Owen, against whom the FCA is seeking to impose penalties of £75 million and £4 million respectively.

During the Relevant Period, Johnson held Controlled Functions 10 (Compliance Oversight), 11 (Money Laundering Reporting) and 30 (Customer). The FCA found that Johnson failed to act with integrity in breach of the FCA's Statement of Principle 1 by:

    • failing to take steps recommended by professional advisers on a number of matters, including those to mitigate: unclear, incorrect and misleading financial promotions; Keydata's inadequate due diligence and the risks of an investment portfolio not performing and not being effectively managed;
    • failing to ensure that investors and Independent Financial Advisers were aware of the risks to their investments;
    • failing to take adequate steps to stop Keydata from marketing and selling products until effective remedial action was taken;
    • recklessly failing to take adequate steps to ensure that Keydata explained or mitigated the risk to investors and that material circulated gave investors an accurate impression of the risks associated with the product portfolio;
    • deliberately misleading the FSA in a compelled interview in relation to information regarding the income payments on certain products.

Johnson was also found to have failed to deal with the regulator in an open and cooperative way, in breach of Principle 4 because he:

    • made misleading representations to the FSA in two compelled interviews;
    • misled the FSA at a meeting by withholding information regarding problems with the performance of the products;
    • was aware that a spreadsheet provided to the FSA by Keydata was likely to mislead the FSA;
    • failed to notify the FSA at any stage that the products were not performing, that there was a risk of failure in the investment portfolio or that it may not perform as investors expected;
    • failed to take adequate steps to prevent Keydata continuing to market the products as fulfilling the Individual Savings Account Regulations when it was highly likely the products did not.

Johnson's Actions
The FCA noted that Johnson was not aware of the detailed discussions regarding the fact that products were not performing and that there was a risk of failure of the portfolio. The FCA also emphasised that Johnson was not a director of Keydata and in general could not control its actions or failures to act. He was also not informed by the directors of Keydata of some relevant matters concerning the performance of the investment products and was carrying out "significant compliance functions" with which the FCA has not identified any concerns. However, despite this, Johnson was still found to have had enough information, obtained from professional advisers and elsewhere, to notify the FSA and ensure steps were taken to protect investors from the risks to which they were exposed.

Johnson was aware of the issues and risks concerning Keydata's products but he failed to take action to mitigate them. In correspondence with Ford, Johnson articulated that he was "duty bound as Compliance Officer" to report the fact that Keydata's financial promotions in relation to the products were unclear and misleading but failed to do so. Johnson also sent emails alerting board members to the fact that Keydata should inform investors of the risks to their investments in the portfolios but Johnson did not ensure that the board of directors took steps to ensure investors were informed. The FCA said that Johnson's behaviour was reckless and in one case deliberate; he had demonstrated he was not fit and proper and "failed to demonstrate a readiness and willingness to comply with the requirements and standards of the regulatory system", leading ultimately to consumer detriment.

What Can Compliance Officers Do?
The FCA said that as Keydata's Compliance Officer, it was Johnson's role to make it clear to the board of directors that in order to comply with its regulatory duties they should take steps recommended by professional advisers to address the deficiencies identified and to address the risks to consumers to mitigate loss.

The FCA said that the steps that Johnson could have taken to ensure that the board of directors committed to considering or addressing the actions that Keydata could or should take to mitigate the potential loss to investors included:

  1. refusing to sign off the financial promotions for the products; and/or
  2. making it clear that if the Keydata board of directors did not commit Keydata to taking these actions, Johnson would have no alternative but to resign from his position and/or notify the FSA of the issues.

This case follows that of Anthony Wills 3 former compliance officer at Bank of Beirut (UK) Ltd who was fined £19,600 in March 2015 for providing misleading information to the FCA, despite the FCA recognising that Wills was influenced by senior management after Wills reported that he was not provided with sufficient resources and was under pressure from senior management to be "careful" in his communications.

The cases of Wills and Johnson are a reminder that the FCA will be unsympathetic to individuals who deliberately bend rules or mislead the regulator, however much they feel under pressure from senior management to do so. The FCA recognises and expects that in some cases individuals may have no option but to resign their position and in all cases expects individuals to fully and frankly report significant matters to FCA supervisors. Individuals who do feel forced to resign because of pressure from the firm to breach regulatory obligations may be entitled to maintain a claim for constructive dismissal and to seek damages for unfair dismissal, breach of contract and in some cases, they may also assert that they have been treated adversely because they were whistleblowers.

1 The Final Notice can be found here:
2 The Relevant Period ran from 26 July 2005 to 8 June 2009.
3 The FCA issued its Final Notice against Anthony Wills on 4 March 2015


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