21 December 2022
On 12 September 2022, the FCA published a decision notice explaining its conditional approval of the proposed acquisition of Link Fund Solutions Ltd (LFS), a subsidiary of Link Group, by Dye and Durham. LFS managed the LF Woodford Equity Income Fund (WEIF). Since June 2019, the FCA has been investigating the circumstances relating to the suspension of the WEIF. Having concluded that it was likely that LFS could be required to pay a redress payment of up to £306 million, the FCA required the proposed controllers to agree to make available funds not exceeding £306 million to meet any shortfall within LFS to cover the redress payments it may be required to make.
One of the stock-in-trades of a financial services lawyer is advising on change in control requirements for the acquisition or disposal of FCA or PRA authorised firms. The principal obligation in the change in control regime, which is set out in Part XII of the Financial Services and Markets Act 2000 (FSMA), is found in s.178 FSMA. This requires a person who decides to acquire or increase control over a UK authorised firm to notify and obtain the prior consent of the relevant regulator before the change in control occurs. It is a criminal offence to fail to notify the regulator or to complete a transaction without the regulator's consent.
Control is determined on the basis of whether the controller holds shares or voting power in the authorised firm or a parent undertaking of the firm exceeding a particular threshold, which is determined on the basis of the activities the firm undertakes. A person can also be a controller if as a result of having power or shares in the authorised firm or a parent of the authorised firm if can exercise significant influence over the management of the UK authorised firm. The notification by the proposed controller to the regulator is referred to as a "s. 178 notice".
As part of its assessment of the proposed change in control, the regulator must assess the suitability of the proposed controller and the financial soundness of the acquisition in order to ensure the sound and prudent management of the UK authorised firm and must have regard to the likely influence of the proposed controller on the UK authorised firm; it is required to disregard the economic needs of the market.
The regulator may approve or reject the proposed acquisition. If it approves the acquisition, then this will either be unconditionally or with conditions. It is a criminal offence to proceed with an acquisition in breach of conditions that the regulator has imposed.
s. 187 FSMA sets out the basis on which the regulator can impose conditions. It can only do so where if it did not, it would propose to object to the acquisition or there is direction from the FCA to the PRA or vice versa that approval of the transaction should not occur unless it is subject to conditions.
s.185(3) FSMA provides that regulator may only object to an acquisition, if there are reasonable grounds for doing so on the basis of a number of prescribed matters (referred to as "assessment criteria") or if the information provided in the s.178 notice is incomplete.
The assessment criteria are listed in s.186 FSMA and include factors such as the reputation and financial soundness of the s.178 notice giver, the ability of the FCA to supervise any group created that will be created as a result of the change in control, and whether there are any financial crime implications of the change in control. s. 186(d) relates to whether the UK authorised firm will be able to comply with its prudential requirements (including the threshold conditions relating to all of the regulated activities for which it has permission). This threshold condition includes the appropriate resources threshold condition, which is set out in paragraph 2D of Schedule 6 to FSMA.
When assessing the proposed change in control, the FCA concluded that the total sum of redress that LFS would be required to pay may exceed its currently available resources. This would put in danger its ability to comply with its prudential requirements (including the appropriate resources threshold condition). The proposed controllers indicated to the FCA that while supportive of the unitholders of WEIF achieving redress, they were not at that time able to commit to provide LFS with the additional resources beyond its own resources, prior to the completion of the proposed acquisition to. Consequently the FCA reached the view that there was an unacceptable risk that were the acquisition to complete, LFS would not be able to meet its prudential requirements (including the appropriate resources threshold condition) and there was as a result a significant risk to the sound and prudent management of LFS i.e. on the basis of the assessment criteria, it would have objected to the proposed acquisition.
To mitigate this risk, the FCA decided that the change in control should be approved subject to the condition that should LFS be required to pay redress and the amount of redress is greater than its available resources, monies will be made available to LFS by the proposed controllers to ensure that LFS can pay the shortfall. As required by FSMA, the FCA communicated its decision to the proposed controllers by way of a warning notice. While the proposed controllers submitted representations to the FCA asserting that the FCA should not make the proposed acquisitional subject to conditions, the FCA decided it was nonetheless appropriate to do so.
The acquisition did not in the end complete. In an announcement to the market published on 20 October 2022, Link Group said that it intended to commence a process to "explore divestment options for the Link Fund Solutions business, which includes Link Fund Solutions Limited…". Following the September decision notice, it is reasonable to assume that any future proposed acquirer is likely to face the same condition should the FCA require LFS to make redress payments and LFS is unable to pay these in full.
The Financial Services and Markets Bill 2022/23 (Bill) includes an amendment that will widen the regulators' ability to impose conditions. In addition to the two existing grounds ((a) if the regulator did not impose conditions, it would object to the acquisition and (b) in response to directions from the other regulator), the regulator will also be able to impose conditions where it appears to the regulator that is desirable to impose the conditions in order to advance any of the regulator's objectives (subject to disregarding the economic needs of the market).
The Bill is currently with the House of Lords having completed its committee and report stages and third reading in the House of Commons. It is expected to get the Royal Assent in spring 2023.
The FCA's decision regarding LFS is a timely reminder that when it comes to determining a change in control application, the regulators have significant powers to attach conditions to any approval that they may give. Proposed acquirers should undertake sufficient due diligence regarding the prudential requirements of any authorised firm, particularly where that firm may be under scrutiny from the regulators because of alleged historic misconduct. While it is too early to assess the full impact of the proposed changes in the Bill, on paper it will widen the basis upon which a conditional approval may be given and therefore could lead to more conditional approvals.
This article was first published in Law360.
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