In the first part of our Consumer Duty series of briefings last month, The Consumer Duty: What does it mean for financial services firms and consumers? , we explored what the Consumer Duty is, who it will impact and the work that financial services firms need to undertake to determine the scope of the Duty as it applies to their product offerings.
In this briefing, we consider the next FCA deadline on the horizon:
30 April 2023: product manufacturers should have completed all reviews necessary to meet the outcome rules for existing open products and services so they can share the required information with product distributors and identify where they need to make changes.
It is critical that firms understand the full extent and implications of this requirement and the steps necessary to comply with it because:
- Product Distributors will not be able to meet their obligations under the Consumer Duty unless they are provided with the information they require from manufacturers on time.
- Product Manufacturers will not be able to make the changes they need to meet their obligations under the Consumer Duty unless they complete all reviews necessary to meet the outcome rules for existing open products and services on time.
Whilst the concepts of product distributor and product manufacturer will be familiar to investment firms and firms in the insurance sector, they will be new concepts for other firms.
So, for the purposes of the Consumer Duty, who are product manufacturers and product distributors and why does it matter?
- Manufacturers: firms that create, develop, design, issue, manage, carry out, operate or (for insurance and credit purposes only) underwrite a product or service. More than one firm may be involved in the manufacture of a single product: it is possible to have co-manufacturers.
- Distributors: firms that offer, sell, recommend, advise on, propose or provide a product or service. An independent financial advisor is typically a distributor.
And of course, a firm may be both:
- A product manufacturer may also distribute its own product, for example, a retail bank may have a range of lending products which it markets and provides to its own customers.
- Distributors can be co-manufacturers if they, for example, set the parameters of a product and commission other firms to build it.
This is important because a firm that is a product manufacturer and/or product distributor is in scope of the Consumer Duty even if it does not deal directly with retail customers provided that:
- it is in a “distribution chain” with an end retail customer; and
- its activities “determine or materially influence retail customer outcomes”.
So, what is a “distribution chain”? What constitutes “material influence”?
The FCA does not define either. Instead, it offers guidance:
All firms that can control retail customer outcomes need to take responsibility for their actions, regardless of the relationship with the customer.
That is a laudable objective but inevitably leaves important unanswered questions. Accordingly, in the absence of industry consensus or further regulatory guidance, firms will have to find answers for themselves and determine – as a question of fact - whether they are in (a) a distribution chain(s) and (b) whether they have a material influence over retail customer outcomes.
And unfortunately, as we highlight below, it is not necessarily easy to determine whether a firm is in a distribution chain with an end retail customer and, if it is, whether it has the necessary degree of influence over the outcome that customer receives.
Are you in a distribution chain?
There are some obvious examples of distribution chains:
- an insurance broker (product distributor) sells a home insurance policy to a retail customer which is underwritten by an insurer (product manufacturer);
- an investment bank (product manufacturer) develops a retail structured product which is distributed by a private bank (product distributor) to its retail customers.
But distribution chains are less familiar concepts in other sectors and there are fundamental gaps in the regulatory guidance to answer the urgent and relevant questions of both product manufacturers and distributors.
For example, the FCA has given guidance that “Another example of a firm in a distribution chain in the payment sector may be the credit institution that safeguards the funds of payment or e-money institutions” but does not suggest the factors that would help banks determine whether they are in fact in a distribution chain when they are safeguarding funds. What about chains of custody? A private bank providing custody to a high net-worth individual is clearly in scope of the Consumer Duty but what if that private bank uses another entity as sub-custodian? Is the sub-custodian in a distribution chain?
What about investment banks that manufacture investment products but are unaware of whether those products may eventually be distributed to retail customers by another firm? What if component parts of those products are used to create a new retail product?
And what about portfolio managers acting on behalf of pension funds?
Despite the fact the pension funds and trustees of pension funds are typically regarded as professional clients, the FCA has included beneficiaries of occupational pension scheme in the definition of “retail customer” for the purposes of the Consumer Duty so firms providing services to pension schemes will need to consider how they are impacted by the Consumer Duty too.
And if you are in a distribution chain, do your activities have a material influence?
To be in scope of the Consumer Duty a firm in a distribution chain that is not dealing directly with a retail customer must determine or materially influence:
- the design or operation of retail products or services, including their price and value;
- the distribution of retail products or services;
- the preparation and approval of communications that are to be issued to retail customers; or
- customer support for retail customers.
Whether a firm has the required degree of control over the above aspects of the customer journey is a question of fact based on matters such as their role in the distribution chain and the amount of discretion they have in practice. This may be easier to determine than the ‘distribution chain’ question.
The FCA has given some guidance to firms managing pension money: a firm is unlikely to have a material influence when it is operating according to a mandate determined by another firm or only managing part of a portfolio of a defined benefit scheme.
So, firms must establish:
- are they a product manufacturer or distributor or both?
- are they in a distribution chain?
- do they exercise the required degree of influence in that distribution chain?
Only then, can they comply with the next FCA requirement: manufacturers should share information with distributors by 30 April 2023.
Accordingly, in-scope firms in a distribution chain need, as soon as possible, to be clear about their position in it, particularly:
- are they information providers, information recipients or both?
- how will the information be provided and in what format?
- when will the information be provided?
In our next briefing, we will explore what needs to be done to comply with the April 2023 deadline. If you need advice on the Consumer Duty and meeting its requirements, please contact our regulatory expert, Alex Carr: email@example.com
 See paragraph 2.17 of the FCA Final Non-Handbook Guidance FG22/5
 See paragraph 2.15 ibid.