/>iThe Financial Conduct Authority (FCA) and Prudential Regulation Authority (PRA) have recently published consultation papers on a package of measures to promote diversity and inclusion (D&I) in the UK financial sector, aiming to achieve healthier firm cultures, reduce groupthink, unlock new talent from individuals with underrepresented characteristics, and address consumer needs (jointly, the “Consultations”).
The FCA’s consultation paper CP23/20 (the “FCA Consultation”) focuses on D&I with the aim of ‘working together to drive change’, while the PRA’s Consultation CP18/21 (the “PRA Consultation”) focuses on D&I in PRA-regulated firms.
The Consultations follow the FCA and PRA’s joint discussion paper dated 2021 (DP21/2), where both regulators identified that “diversity and inclusion are critical to [their] work on culture and governance, particularly for boards and senior management”. It is worth noting that the FCA Consultation is also in line with the FCA’s three-year strategy (the “FCA Strategy”), where it highlighted that accelerating the pace of change on D&I was one of its priorities. The Consultations, while delayed in their publication (they were originally anticipated in September 2022), are important and their significance cannot be overstated.
Despite DP21/2 being joint, the PRA and the FCA have published separate consultation papers to address the impact of the specific proposals on their respective rules and guidance. However, the Consultations have been developed in parallel to develop a consistent and coordinated set of proposals. The focus of this article will be on the FCA Consultation.
As currently proposed, the new requirements under the FCA Consultation can be categorised under the policy areas listed in the subheadings below. The FCA Consultation acknowledges that D&I requirements cannot be implemented through a ‘one size fits all’ approach and therefore proposes that new rules be implemented across the sector in a ‘proportionate manner’, with different rules applying to different firms depending on their size.
1. Non-Financial Misconduct
In-scope firms: All FSMA firms with Part 4A permission and, where relevant, Threshold Conditions and existing chapters of the FCA Handbook apply. This includes all FCA regulated firms and to their personnel. They will not apply to the US parent of a UK regulated firm, or to US based personnel (unless they also happen to be providing services to, or they are senior managers or certified staff of the FCA regulated firm).
The FCA Consultation proposes to integrate non-financial misconduct on issues such as bullying, sexual harassment and discrimination into fitness and propriety assessments (for individuals performing a Senior Management Function (SMF) or a certification function), the FCA’s Conduct Rules and the suitability guidance on the Threshold Conditions for firms to carry on regulated activities. Specifically, the FCA Consultation proposes to:
- revise the FCA Handbook to explain in more detail how non-financial misconduct in work and personal life could be relevant to fit and proper tests. The FCA Consultation provides that such misconduct may show that an individual lacks ‘moral soundness, rectitude and steady adherence to an ethical code’, which in turn raises doubts as to whether they will follow the requirements of the UK regulatory system.
- expand the scope of the FCA’s Conduct Rules to make clear that it covers serious instances of bullying, harassment and similar behaviour towards fellow employees and employees of group companies and contractors. These rules are also proposed to be amended to provide guidance on the types of behaviour would fall within the proposed new scope versus what would be out of scope because it relates to an employee’s personal or private life. It is worth noting that the FCA makes it clear that not every instance of misconduct will necessarily amount to a breach – factors to consider when deciding whether there has been a breach include whether the conduct is repeated, the duration of the conduct, and the extent of the impact on the subject. If disciplinary action is deemed appropriate, the FCA will consider all relevant sanctioning powers, including public censure and financial penalty.
- expand the guidance on the Suitability Threshold Condition. As an example, the FCA states that it would include offences relating to a person or group’s characteristics (such as sexually or racially motivated offences), and tribunal or court findings that the firm, or someone connected with the firm (such as a director), has engaged in discretionary practices.
Similarly, the PRA is proposing to amend its Prescribed Responsibilities (PRs) for culture, to include responsibility for the development and implementation of D&I strategies. While responsible SMFs would play leading roles according to their PRs, and be ultimately individually accountable, the PRA makes it clear that business areas across the organisation would be expected to contribute to firm culture and the implementation of D&I strategies. The PRA Consultation clarifies that where firms are not within scope of the culture PRs, at least one SMF should have responsibility for the implementation of the firm’s D&I strategy.
2. D&I Strategies
In scope firms: Dual-regulated CRR and Solvency II firms of any size (firms to which the CRR or Solvency II parts of the PRA Rulebook apply) and all other FSMA firms with a Part 4A permission who have 251 or more employees, excluding all Limited Scope SM&CR firms (Large FCA Firms).
The proposals apply only to employees that carry out their activities from a UK establishment. For overseas firms, the proposals apply only to activities of the firm that are carried out from the UK establishment.
The FCA Consultation proposes in-scope firms to develop an evidence-based D&I strategy (the D&I Strategy) that must contain, as a minimum: (1) the firm’s D&I objectives and goals; (2) a plan for meeting those objectives and goals and measuring progress; (3) a summary of the arrangements in place to identify and manage any obstacles to meeting the objectives and goals; and (4) ways to ensure adequate knowledge of the D&I strategy amongst staff.
The FCA Consultation further proposes to allocate the D&I Strategy’s maintenance and oversight to the firm’s board and require firms to make their D&I Strategy easily accessible and free to obtain. By way of a suggestion, the FCA provides that a firm’s website is likely to be an ideal platform to meet this requirement.
3. Setting D&I Targets
In-scope firms: All FSMA firms with a Part 4A permission with 251 or more employees, excluding Large FCA Firms. The proposals apply only to employees that carry out their activities from a UK establishment. For overseas firms, the proposals apply only to activities of the firm that are carried out from the UK establishment.
Most notably, the FCA Consultation proposes to set diversity targets to address underrepresentation within their firms. The FCA further states that it expects firms to set targets at board, senior leadership, and general workforce level. It is worth noting that the FCA Consultation does not mandate which demographic characteristics should be covered when setting their targets, but does suggest that firms must consider the context in which they operate.
The FCA Consultation also proposes in-scope firms to publicise their targets and their progress towards them annually and to report on progress to the regulator.
4. Reporting Requirements
In-scope firms – depends on the reporting requirement. However, the proposals apply only to employees that carry out their activities from a UK establishment. For overseas firms, the proposals apply only to activities of the firm that are carried out from the UK establishment.
The FCA Consultation will require all FSMA firms with a Part 4A permission to report their average number of employees, to enable the regulators to monitor which firms will be in and out of scope of the various D&I requirements.
Further, the FCA Consultation proposes that Large FCA Firms and CRR and Solvency II firms with 251 or more employees will be annually required to collect and report to the regulators in numerical figures, data across a range of demographic characteristics, inclusion metrics and targets via a single regulatory return to the FCA and PRA on the RegData platform. Failure to submit such data could result in supervisory and enforcement action, in addition to an administrative fine.
Similarly, the PRA Consultation includes monitoring and record-keeping requirements for in-scope firms, and their management bodies to monitor the implementation of targets and strategies and the progress towards achieving them.
Next steps
The Consultations close on 18 December 2023. Both regulators expect to review the feedback and develop final regulatory requirements in 2024. The regulators propose that any changes would become effective 12 months after the publication of the final rules in order to give firms time to prepare.
The FCA Consultation, the PRA Consultation, the Strategy and DP21/2 are available here, here, here and here, respectively.
