New FCA guidance requires all PSPs to have a comprehensive wind down plan in place. Chris Laverty explains what this entails.
The Financial Conduct Authority (FCA) issued new guidance on 9 July 2020 that requires all payment service providers (PSPs), including both authorised payment institutions and e-money institutions, to have a wind down plan in place to manage liquidity and resolution risks.
This is part of new prudential risk management requirements for the sector, covering governance and controls, ongoing capital adequacy calculations, liquidity, capital stress testing and risk management procedures.
Following a temporary FCA suspension in June to protect customer funds, the announcement on 28 August that Wirecard will wind down its FCA-regulated business is a timely reminder of the relevance of this issue1.
Why the need for a wind down plan?
The payments sector has developed rapidly with an increasing number of market players.
In a statement, the FCA recognised that ‘some payments firms are unprofitable in the early stages while they seek to grow market share and many also rely on investor funds to remain solvent in the short-term’. COVID-19 means that ‘many firms will be facing decreased revenues that could be impacting their ability to operate as well as their growth plans’2.
The FCA, therefore, wants the sector to strengthen its prudential risk management and protection of customer funds. They anticipate that the new guidance will ensure PSPs have adequate financial resources to reduce the implications of a firm’s collapse on clients and the wider market, in particular that customer funds are returned in a timely manner.
This is especially important, given that customer funds held with PSPs are not covered by the Financial Services Compensation Scheme.
It is important to note that the FCA no longer considers having a wind down plan ‘best practice’. It is now a condition of authorisation.
What should a wind down plan include?
According to the FCA guidance, the wind down plan should facilitate the orderly winding-down of the firm’s business under different circumstances, including solvent and insolvent scenarios. In particular, the wind down plan should address the following:
funding to cover the solvent wind down of the firm, including the return of all customer funds
realistic triggers to start a solvent wind down, including triggers for a transition to third-party providers or continued services after the wind down
the need and time for any counterparties (ie merchants) to find alternative providers
realistic triggers to seek advice on entering an insolvency process
information that would help an administrator or liquidator to quickly identify customer funds and return them as a priority
They should be subject to a minimum annual review and prepared on a solo-firm basis.
Workstreams to consider
The following key workstreams will help PSPs build a comprehensive FCA wind down plan template:
Include realistic balance sheet and cash flow forecasts for each statutory entity, including different scenarios, showing solvency and liquidity forecasts. It is important to include an analysis of any exit costs. Detail how the firm will refund clients and complete requested transfers or payments.
Both internal and external risks should be considered, identifying key triggers that could be built into any management reporting. Firms should identify critical services that should be maintained during a wind down to minimise harm to clients and the wider financial market.
Prepare a stakeholder analysis to understand the full impact of any wind down on stakeholders.
Operations and estate
Review supplier arrangements and long-term contracts. Could further outsourcing bring more flexibility? Look at your ability to downscale estate costs in line with activity.
Firms need to detail who will retain regulated roles in the wind down period and ensure compliance during the entire process. Consider when authorisation will be cancelled and how long the wind down process will take. The FCA has indicated that nine months is a realistic timeframe.
Agree who the wind down director will be and ensure they will remain in situ for the entire timeline. Consider who will deal with updates, board approvals and notifications to the FCA.
Employees and resourcing
Understand that staff retention can be challenging and consider alternative flexible approaches to deliver resourcing requirements.
IT systems and data
Firms need to ensure continued access to critical systems. Consider whether to use existing systems or to migrate to a service provider’s system. If you are transferring data, are there any GDPR consequences to your wind down plan?
Tax and legal
A firm should consider the tax implications, both in terms of VAT and corporate tax, and unwind any group tax issues. Ensure that relevant insurance remains in place. Director responsibilities to both shareholders and creditors should be considered.
Develop a communications strategy that supports the desired outcomes. Consider the timing and circumstances of when to engage with the FCA.
Firms should act now to comply with these new FCA requirements, both on safeguarding customer funds and prudential risk management. When preparing a wind down plan, PSPs should take time to assess their response. By considering early warning indicators that would trigger a wind down, PSPs can improve their ability to implement recovery options, as well as identifying areas where a new approach could improve existing operation or financial structures.