Including updates on a new FSB task force, transaction reporting under MiFID, a review of the Financial Conglomerates Directive and a review of the Acquisitions Directive


FSB encouraging improved risk disclosures

The Financial Stability Board (FSB) is aiming to improve market confidence in the disclosures of financial institutions by establishing the private-sector led Enhanced Disclosure Task Force (EDTF), which is tasked with developing principles for improved risk disclosures. Bob Sullivan, PwC's Global Banking and Capital Markets leader, will be a member of the EDTF.

The EDTF will follow up on some outcomes of an FSB roundtable event in December 2011, which highlighted key areas where industry participants, including investor, banking and insurance representatives, would welcome enhanced qualitative and quantitative risk disclosures. These areas include:
  • improving the relevance of risk disclosures about the governance and risk management strategies of a firm, by linking disclosures to the firm’s business model or making the disclosures comparable to information shared internally by a firm for risk management purposes
  • using executive summaries for key risk categories and making risk disclosures specific to each firm rather than boiler plating disclosures as a simple compliance exercise
  • enhancing credit risk disclosure within a firm, including disclosing off-balance sheet and joint venture structures and counterparty exposures
  • improving transparency around liquidity and funding risks that a firm faces, including the firm’s contingent lending commitments and liquidity buffers volumes
  • disclosing the firm’s earnings resilience, particularly in the current low interest rates environment
  • Increasing comparability and reconcilability between unaudited Pillar 3 information and the audited financial statements of firms – possibly through aligning the presentation of Pillar 3 disclosures and financial statements
  • Disclosing stress testing results in financial reports and indicating whether or not the external auditor had reviewed these results.
The EDTF plans to develop common principles based on current market conditions through dialogue with existing standard-setting bodies, such as the Basel Committee on Banking Supervision (BCBS), International Accounting Standards Board (IASB), US Financial Accounting Standards Board (FASB) and International Organisation of Securities Commissions (IOSCO). The FSB expects output from the ETDF to be published in October 2012.


Views differ on application of the Acquisitions Directive

Respondents to the European Commission’s consultation on the effectiveness of the Acquisitions Directive (Directive) largely felt that the Directive had met its objectives to promote more equal treatment of domestic and cross-border acquisitions across the EU. The Directive was implemented in 2007 and required the European Commission (EC) to review the application of the Directive and report on this to the European Parliament and European Council by March 2011, so the EC is a year late in carrying out this review. To facilitate the preparation of this report the EC published a consultation paper in December 2011.

The EC received feedback from a number of EU regulators, individual firms and trade associations. Not surprisingly, views differed between the EU regulators and industry participants as to potential changes to improve the effectiveness of the Directive. For example, EU regulators requested an extension of time limits for complex cross-border transactions, whereas industry participants requested time limits be shortened, especially for intra-group transactions.

Similarly, all EU regulators that responded to the EC’s consultation stated that the European Supervisory Authorities (ESAs) should have no increased role in the prudential assessment of target and acquiring firms in cross-border acquisitions. This may reflect concerns about further ESA encroachment on national powers. In comparison, industry participants advocated increasing the ESAs’ involvement, perhaps reflecting their view that the Directive is not always consistently applied by EU regulators. This may partly explain a number of industry respondents urging for the Directive to be replaced with a Regulation. On the other hand, EU regulators responding believed that the Directive is being applied uniformly across the EU.

Looking forward, most respondents suggested additional assessment criteria could be added, such as assessing the impact any acquisition may have on the stability of the financial system. In addition to national supervisory assessments, cross-border acquisitions can be subject to EU competition rules and assessments. However, experience has shown that a combined micro-prudential and competition-based assessment is not always sufficient, e.g. in the situation with Fortis. Presumably, cross-border acquisitions by banks will feature in the EC’s upcoming proposal for bank resolution regimes (expected in June 2012), but other issues relating to systemic risk may need further consideration.

Overall, the feedback received suggests that this exercise will lead to future legislative changes to the Directive: the Commission’s report to Council and the European Parliament should provide an early indication of what these changes are likely to be.


ESMA seeking to harmonise transaction reporting across the EU

The Markets in Financial Instruments Directive (MiFID) was implemented in 2007, and sought to establish a European transaction regime where investment firms would submit transaction reports to their competent authority in relation to all financial instruments traded on regulated markets. Before MiFID went live, the Committee of European Securities Regulators (CESR) produced non-binding guidelines covering specific issues relating to transaction reporting, including transaction reporting by branches of passported firms. Subsequently in 2010, it developed further guidance on reporting of over-the-counter derivative transactions because a number of Member States had extended reporting requirements to OTC derivatives, and it was felt that some level of harmonisation was required in order to ensure that data shared between regulators on such transactions could be meaningful.

However, the current MiFID regime permits national supervisors to collect diverse information in transaction reports, leading to difficulties in data comparability and increased reporting costs to firms. ESMA (and prior to that CESR) have had experience in the operation of the Transaction Report Exchange Mechanism (TREM) which has highlighted some of the issues involved. ESMA believes that early steps to improve data comparability are important.

On 7 May, ESMA published a call for evidence to seek input from interested parties on what a harmonised EU transaction reporting regime should look like, including reporting in relation to OTC derivatives. This review by ESMA could become guidelines under MiFID or, depending on timing, may inform implementing measures under MiFID II. Alternatively, ESMA guidelines may constitute a first step to more comprehensive harmonisation mandated by MiFID II. It is therefore key that firms engage in the process at this early stage to ensure they are happy with the outcome. A properly harmonised transaction reporting regime will improve cross-market supervision and enhance the single market in the EU, but perhaps more importantly, should improve efficiency and reduce costs for firms operating on a cross-border basis. However, there will be also costs involved in any changes of the current regime and industry input is essential to ensure that these are minimised. Interested participants should respond to this call for evidence by 4 June 2012.


ESAs recommend expanding scope of FICOD to unregulated entities

With only limited revisions to the Financial Conglomerates Directive (FICOD I) adopted last year (Directive 2011/89/EU), the Commission has launched the process for a much wide-ranging review of the regime. In February this year, the Commission launched a high-level consultation, the responses to which were due by 19 April 2012. However, its preparations have been underway for some time. A year earlier, in April 2011, it issued a call for evidence to the Joint Committee of the European Supervisory Authorities (ESAs) to embark on the preliminary assessment as to whether a more comprehensive review is warranted.

On 14 May 2012, the ESAs issued a consultation paper, drawing from the Commission’s call for evidence to look at three areas of FICOD in particular:
  • the scope of its application, particularly whether non-regulated entities should be included in scope
  • internal governance requirements and sanctions for FICODs
  • supervisory empowerment, in particular the necessary legislative provisions if the parent entity in a non-regulated holding company
The ESAs’ consultation paper deals with scope, governance requirements, the addition of an ‘ultimate responsible entity’ and strengthening the sanctions and enforcement regime under FICOD.

On scope, the ESAs suggest that a conglomerate’s financial activities should be supervised, regardless of whether the activities are performed by a regulated or non-regulated firm. This approach may bring a number of financial conglomerate holding companies into scope, giving them additional responsibilities. It would also include special purpose vehicles, the use of which is commonly cited as having exacerbated the financial crisis. Despite their off-balance-sheet nature, firms using them did not reduce their reputation risk, and in many instances were forced to bring them back on balance sheet. Bringing them into the scope of FICOD would mean they will be supervised regardless of whether or not they are formally regulated. The consultation also considers whether institutions for occupational retirement provisions (IORPs) should be in or out of FICOD’s scope. The ESAs want to understand the potential impact of bringing them within scope.

The consultation suggests introducing a new term in FICOD, the ‘ultimate responsible entity’, which would be defined as ‘the legal entity steering and controlling regulated entities belonging to the financial conglomerate’. Adding this term would capture those firms that are not specifically regulated already in their home Member State but control firms that are regulated. If the ‘ultimate responsible entity’ is located outside the EU, over which the EU can operate no control, the proposal is to capture the highest entity within the EEA which meets the criteria of being an ‘ultimate responsible entity’. The ‘ultimate responsible entity’ would be in charge of providing consolidated accounts for the whole financial conglomerate and would be a reference point for supervising the financial conglomerate. The ‘ultimate responsible entity’ might also be in charge of ensuring the financial conglomerate has a consistent assessment, measurement and valuation of the risk profile of the conglomerate, thereby ensuring a single methodology is used.

Harmonising enforcement and sanctions regimes across the EU is a key topic at the moment for the EU, with specific sanctions requirements being introduced in all new legislative proposals. The ESAs note that FICOD allows an enforcement regime to exist, but does not specify how it should function, allowing disparate regimes to exist across Europe. A harmonised regime will mean changes to current practices, where financial conglomerates are supervised in line with their primary business sector (e.g. banking or insurance activities). The ESAs believe a strengthened and harmonised sanctions regime will be beneficial for firms to ensure they have a risk strategy that is coherent and consistent with their business model. The new regime may be applied to both regulated and non-regulated entities within the financial conglomerate, in line with other proposals to widen the scope.

Helpfully, the ESAs are giving a reasonable period for responses, until 13 August 2012. This consultation heralds possible legislative proposals (perhaps as early as next year), and the proposals will need to be factored into ongoing questions around organisation structures, engendered by changing prudential requirements, recovery and resolution plan requirements, and the current EU review of bank structures. However, its impacts could be wider than the banking industry.