The FCA has fired a “warning shot” over advice firm acquisitions in a new report that has found issues with suitability and client communication.
Money Marketing first revealed in December 2015 the FCA had asked consolidators to provide information on how they treat clients gained through acquisitions, and if those investors were automatically shifted into a centralised investment proposition once deals were completed.
In the nine-page review published last week, the FCA targeted six firms for assessment out of nine it had identified as client acquirers. The six firms were not named in the review.
Consolidators have had a busy start to the year already, with AFH acquiring three firms, Fairstone buying another, and Bellpenny starting an independent advice arm with its latest purchase.
The advice market should brace itself for more activity, with national advice firm Perspective Financial securing £10.1m in refinancing from NatWest and Succession Group receiving a £25m investment boost from an HSBC loan and its existing shareholders last year. However, questions remain over the lessons learned so far and how the regulator monitors the market.
‘Consistent’ suitability issues
In the review, the FCA found none of the six firms assessed could consistently show clients’ needs were suitably considered in the acquisition process. It said while firms focused on the commercial benefits of a deal, they did not focus enough on how clients were impacted by the acquisition.
Conflicts of interest were examined, with the FCA seeing situations where the acquiring firm offered to pay more money when clients held specific investments.
One vertically integrated business is said to have told an advice firm within the past 12 months it would pay more on its earn-out clause based on moving
assets into its centralised investment proposition.
The review also highlighted issues with client communication, including details of services and charges for the new firm not given to clients after the acquisition and clients not being told they could opt out of ongoing services from the acquiring firm.
During the review, the regulator discovered firms had acquired client banks in circumstances where the original client agreement to provide and charge for ongoing services was no longer valid for services offered by the new firm.
It said firms did not always make sure they had the agreement of the client before arranging for facilitated adviser charges to be redirected to their own bank accounts.
Money Marketing has seen a Bellpenny client agreement that sets out the charges for a review of an “acquired portfolio”. The client agr-eement says after an acquisition, Bellpenny reviews a client’s products for suitability with a view to the client “requiring an ongoing service”. Bellpenny charges a minimum review fee of £975 for an acquired portfolio, with a maximum charge of 3 per cent of funds under review, depending on the complexity of the review.
The agreement says Bellpenny will inform a client if their requirements are more complex and where a higher fee might apply before it starts working for the acquired investor.
‘Clear and fair’
Money Marketing sought to find out the proportion of Bellpenny’s acquired clients that had “complex” requirements, how the business justifies its fees, and if there is any discretion in the charges. The firm declined to comment on its client agreement.
A Bellpenny spokeswoman says: “We are committed to ensuring our charges are clear and fair for the services we provide and in line with the RDR and adviser charging rules. We discuss and agree the costs of our services fully with clients before starting any work on their behalf.
“We do not comment on any matter in regards to our private relationship with the FCA but are happy to confirm we view the relationship extremely positively and currently Bellpenny has no outstanding or ongoing issues requiring both our attentions.”
Fairstone chief executive Lee Hartley says his firm was not part of the FCA review.
Hartley says the business’s acquisition strategy protects the client so they are not indirectly subsidising the cost of the purchase.
He says: “In our model there is no increase to the client charging structure that is already in place, there is no compulsion to adopt a specific fund range or platform, clients continue to benefit from whole-of-market choice and the quality of existing client servicing must be maintained.”
Chief executive of Standard Life-owned national 1825 Steve Murray also confirms his business was not part of the review.
He says the review was “useful clarification” and the focus on ensuring clarity for the customer was the right approach from the regulator.
Murray says with the four acquisitions 1825 has announced so far, the business has bought shares in the acquired company in a way which meant there was no need to immediately change the engagement letters or terms for the client.
He says: “We see that as a real positive because that allows us to take our time to transition clients when they are ready and when the businesses are ready and we can do that at the right pace for clients as well.
“Clearly if other firms are doing asset transfers, that means at the point you’re moving those client contracts between legal entities the FCA is saying you need to be clear if those terms are changing and communicate very clearly what that change is.”
Caught out on commission
Threesixty managing director Phil Young says some of the procedural issues arising through consolidation are more likely to be a result of “ignorance rather than malice” on the part of a small advice firm.
He says some smaller firms have been caught out in the past by treating an adviser charge as if it was trail commission.
Young says: “With trail you could shift it across because it was a contract between the advisory firm and the provider so there wasn’t a need to involve the client in it.
“Apart from the fact the provider facilitates, so it looks like trail commission, the provider has got no involvement in acquired firms; they are not privy to the contract between the two. The only contract is between the adviser and the client.”
Gbi2 managing director Graham Bentley says the review shows viewing client banks as commodities remains a concern.
Bentley says acquiring firms will likely come across clients who use funds, model portfolios or discretionary fund management solutions they do not use.
He says: “There is the potential for people to be moved because it suits the consolidator rather than whether it suits the customer. At the end of the day treating a whole client bank in that way is not the way individual customers would expect to be treated. All the reasons they went through to get the model portfolio, the fund recommendations or the product they got under the original arrangement with the adviser you would expect to be maintained, otherwise what you get is churning.”
A ‘sensible’ review
Despite the review highlighting bad practice from consolidators, none of the six businesses have been referred to enforcement. Indeed, the paper says feedback was given to the firms assessed in the review and all the firms have taken action to improve their practices.
Independent consultant Rory Percival says: “The points in the review were all very clear and sensible. The FCA was quite specific about what it wanted firms to be doing. Not only consolidator firms, but any firm taking on another
firm or a client bank should find it really useful.
“I don’t think this is going to be high on the regulator’s radar because there’s lots of things they can look at. There’s a few issues but not disastrous; that’s the tone for me.”
Independent regulatory consultant Richard Hobbs called the review a “warning shot” to consolidators who will need to be able to show
that they thought about treating customers fairly.
Hobbs says: “It is not about what they actually did but about the evidencing of what they did. If there is not a clear audit trail to a soundly made, reasonably argued decision, then firms leave themselves open to risk.
“A lot of this is about governance. When the FCA produces these sorts of medium-calibre warnings, very often, the issue is around the governance surrounding the decision. It is not pointing to specific instances of inappropriate or inadequate behaviour they are just warning the market that this could be a problem.”
Bentley agrees consolidators must show they have considered clients’ interests as well as the commercial benefits of a deal.
He says: “It is the principle that if you have potentially huge client banks being moved there is quite clearly the potential for the customer to be forgotten in the greater scheme of things. The consolidator is not doing it out of the goodness of their heart because they believe they can give better advice than the other company. They are buying a business and a revenue stream and they need to understand revenue stream is entirely based on keeping the client satisfied by making sure it is not keeping the client in the dark.”
AFH declined to comment. Succession and Attivo did not respond to requests for comment.
EY senior adviser Malcolm Kerr
The consolidator market has got the potential to deliver for consumers on the basis that if firms merge or become acquired, then there are economies of scale to be had. Also, over time, larger firms should be able to negotiate discounts and cheaper share classes, and some of them are doing that already. But the fact remains most business decisions are taken based on improving profitability, rather than improving customer outcomes.
It is clear one of the concerns the FCA has is acquired clients being shoehorned into an investment proposition that generates revenues for the acquirer.
Anyone in this space needs to first of all be confident acquired clients have signed up for the ongoing advice charge, understand what it is and that they can exit the arrangement if they wish to. What is more, any investments generating revenue for the acquirer need to be backed up by documents explaining why this is in the clients’ interests.
One of the subtle points emerging from all this is whether there is an actual conflict of interest among consolidators, or a perception of a conflict of interest.
Dealing with that perception is just as important as documenting suitability. This is difficult to do, as people on the outside will look at it with a degree of scepticism and question the motives behind particular deals.
One of the more worrying aspects of what the FCA found was the integration of acquired businesses is incomplete.
Firms have been inefficient and casual with the process of getting clients to understand the services they are getting and what they are paying, and obviously that has got to be remedied.
Overall the FCA review is a very measured and concise piece of work. The regulator is on the front foot in recognising this as a
potential problem, and is basically drawing some lines in the sand. The consolidator market is still quite an embryonic one.
The FCA is probably looking ahead to five years down the line, and wants to ensure large consolidator firms can clearly demonstrate their business strategies have improved customer outcomes. I imagine the regulator will revisit this topic in the not too distant future.