Lessons from CBI findings on fund management companies have broader application

The Central Bank of Ireland has released (27.10.20) the findings that arose from its thematic review which assessed how fund management companies have implemented the Central Bank requirements in this area – termed the CP86 framework.

While the findings are naturally of particular relevance to the fund management sector, there are lessons that financial services firms right across the spectrum can draw from this Central Bank review.

The Central Bank review was unusual in its scale and duration – covering all 358 active fund management companies and took place over a period of 18 months, involving over 30 Central Bank staff during the course of the review.

There were three elements to the review, consisting of:

1. an industry questionnaire;
2. a desk-based review; and
3. onsite reviews.

The Central Bank looked specifically at three aspects of fund management companies’ responsibilities: investment management, risk management, and organisational effectiveness.

One of the initial findings made by the Central Bank was that while some fund management companies were able to demonstrate that they were largely compliant with the framework and met the Central Bank’s expectations in many respects, the review found that a significant number of previously authorised fund management companies have not yet fully implemented the framework.

Key findings to emerge from the review

The Central Bank made findings under seven different headings, as now outlined.

1. Resourcing - The review found many instances where fund management companies authorised before the Guidance was introduced did not have appropriate levels of resources in place to ensure effective implementation of the framework.
2. Designated Persons – The Central Bank identified significant shortcomings in relation to how some Designated Persons discharge their roles.
3. Delegate Oversight – The review also found that many fund management companies failed to fully implement the Guidance in the area of delegate oversight.
4. Risk Management Framework – The findings under this heading related to the existence, within a significant number of firms, of deficiencies in the risk management framework. The review found that many firms did not have in place an entity specific framework, an entity specific risk register and/or defined risk appetite.
5. Board approval of new funds - Not all fund management companies could evidence approval by the Board of the launch of sub-funds. The review also found some instances where the Board was approving the investment fund / strategy just prior to launch, and related to that, the Central Bank also found an absence of discussions to set or agree the proposed strategy of the fund.
6. Director for Organisational Effectiveness - The Central Bank identified weaknesses across a large number of fund management companies in how the Organisational Effectiveness Director performs the role. In many cases there was no evidence that meetings were conducted, there were no formal records of meetings with the Designated Persons, and also an absence of formal reporting to the Board.
7. Governance and Culture – The Central Bank identified a number of findings in other areas not specifically covered by the current guidance. Such findings included:

• the non-appointment of a CEO at the vast majority of fund management companies. This led the Central Bank to question how larger firms can be considered to have appropriate demonstrable substance while lacking a senior executive with responsibility for the day to day running of the business;
• that two-thirds of fund management companies have at least one Independent Non-Executive Director (INED) with a tenure greater than 5 years, while 28% of fund management companies have at least one INED with a tenure greater than 10 years. Companies are expected to consider the appropriateness of the continued use of the INED designation where the INED is in place for such a prolonged period of time; and
• a significant gender imbalance on the Boards of fund management companies. Of the 1,654 directorships across the companies, only 266 or 16 % of director roles are held by women.

Next steps for fund management companies

The Central Bank has already commenced supervisory engagement with certain fund management companies where specific concerns have been identified. Many of those firms will be required to implement risk mitigation programmes. The Central Bank has indicated that it is reviewing some of the more serious findings and that this may give rise to enforcement action.

All fund management companies are asked to critically assess their day to day operational, resourcing and governance arrangements against all relevant rules and guidance, taking into account the findings of the review and to implement a time-bound plan for making the necessary changes to ensure full compliance with all aspects of the Guidance.

The Central Bank has signalled that it will conduct a further industry wide review in 2022 – something for the sector to look forward to.

Lessons that can be drawn for the wider financial services sector

Anyone who closely follows the supervisory activities of the Central Bank, will see some recurring themes emerge from these findings. Again, we see the Central Bank make findings in relation to the adequacy of firms’ risk management frameworks, alighting in particular on the absence in companies of an entity specific framework, the absence of an entity specific risk register, and the absence of a defined risk appetite.

We also see findings in relation to the failure of companies to fully engage or involve the Board in respect of significant proposals. The Central Bank makes reference to there being, in some cases, an over-reliance on group entities. We also see the Central Bank make findings around the failure of companies to document certain matters, and to retain appropriate evidence. Again, we see the Central Bank allude to the need for firms to demonstrate their substance, the need to review the independence of directors, and also the need for much improvement to be made in relation to gender imbalance, especially at Board level.

The Central Bank’s findings arising from the thematic review may be found at this link:

https://www.centralbank.ie/docs/default-source/regulation/industry-market-sectors/funds/industry-communications/dear-chair-letter---thematic-review-of-fund-management-companies-governance-management-and-effectiveness---20-october-2020.pdf