Non-financial misconduct in the City

June 2024 | SPOTLIGHT | BANKING & FINANCE

Financier Worldwide Magazine

June 2024 Issue

Non-financial misconduct (NFM) in the financial services (FS) sector continues to be in the spotlight in 2024, with the recent publication of the Treasury Committee’s ‘Sexism in the City’ report highlighting that the FS sector still requires drastic change.

NFM covers myriad behaviours which, historically, and particularly when they took place outside of work, were either ignored or were purely dealt with as an ‘HR’ issue. As a result of the Financial Conduct Authority’s (FCA’s) and Prudential Regulatory Authority’s (PRA’s) recent proposals, such behaviours could now be viewed as a regulatory issue, not only in relation to the alleged perpetrator, but also a potential regulatory failure on the part of the firm and its senior managers.

What does this mean for firms and where do they stand when it comes to assessing allegations of misconduct?

Developing focus on NFM

In 2018, in response to a Women and Equalities Committee report on sexual harassment, Megan Butler, the then executive director of the FCA, wrote a well-publicised letter explaining the basis upon which the FCA sees sexual misconduct as falling within the scope of the regulatory framework.

Since that time, the regulator has published a number of speeches building on its view that all forms of poor behaviour will be seen as regulatory misconduct, “plain and simple” and that firms may be held accountable for not tackling poor conduct and allowing a toxic culture to develop.

In practice, as a result of the operation of the senior managers and certification regime, it is primarily firms (rather than the FCA) that are responsible for assessing their employee’s behaviour when considering they are suitable – or fit and proper – to perform their role and whether they are in breach of regulatory conduct rules.

The vast majority of NFM issues faced by firms are not clear cut. Issues such as unwanted attention, ‘banter’ that has caused offence or allegations of misconduct outside of work commonly arise. When it comes to assessing such behaviour, the regulatory guidance is not clear and FS firms have struggled to determine whether it falls within the regulatory arena or should be viewed as a purely ‘HR’ or personal issue.

Difficulties have been compounded by the fact that while the FCA has attempted to police and stamp out poor behaviour both inside and outside the workplace, the Upper Tribunal (the appellate body that reviews decisions by the FCA) has been more circumspect and has warned that one must not pass moral judgement on certain behaviours and criticised the FCA for not forging the ‘necessary link’ between an individual’s NFM outside of work and their fitness and propriety to perform their FS role.

As a result, the FS sector has been left in a state of disarray: some firms have taken a highly conservative approach to NFM, while others have viewed the same behaviour as entirely irrelevant to that employee’s professional standing.

FCA and PRA response

In September 2023, the FCA and PRA released their long awaited Consultation Papers (PRA CP 18/23 and FCA CP23/20) on diversity and inclusion in the FS sector, which included a series of proposals to tackle the issue. The FCA and the PRA are expected to publish their policy statement, including the final form of the regulatory requirements, later this year with implementation due in 2025.

The proposals include wide-ranging rules on diversity assessments, targets and reporting on progress to affect change as well as clarification on how firms should approach NFM, with rule changes to integrate NFM as part of staff fitness and propriety assessments and conduct rule breaches.

The proposed rules regarding NFM make it clear that firms are obliged to consider behaviour such as bullying, sexual misconduct and discrimination in the workplace and similarly serious behaviour in an employee’s personal life. The rationale for this is that where conduct is so “disgraceful or morally reprehensible or otherwise sufficiently serious”, it could undermine public confidence in the financial sector. The proposals also confirm that such behaviour will need to be disclosed as part of any regulatory reference request, to ensure that poor behaviour is not hidden when the alleged perpetrator moves firms.

Senior managers who ignore such behaviour in their teams could also find themselves in breach of the conduct rules.

At the same time, the proposed rules extend the factors that the regulator will consider when assessing the suitability of a firm under the ‘threshold conditions’ (the conditions that financial institutions must meet in order to operate in the UK) to take into account whether there have been tribunal or court findings that the firm (or connected persons such as a director) has engaged in discriminatory practices. This represents a drastic shift by the regulators.

The message for FS firms is clear: they must address and tackle allegations of NFM head on and, if they do not, the perpetrator, the firm, and any senior managers involved, may all find themselves under scrutiny.

Sexism in the City

In March 2024, the Treasury Committee released a follow-up report, ‘Sexism in the City’, to the one published in 2018. The report was damning: a lack of cultural change in the sector meant that very little has changed since the previous review. In particular, the committee stated that it was “shocking to hear how prevalent sexual harassment and bullying, up to and including serious sexual assault and rape, still are in financial services, and how poorly firms handle allegations of such behaviours”.

As part of its findings, the committee welcomed the FCA’s focus on NFM to “prevent ‘bad apples’ from being able to roll from job to job as they are able to do currently” and echoed the regulator’s position that there is a need for a zero-tolerance culture to be embedded in financial services firms and for senior leaders to ensure that “processes for handling complaints result in thorough investigations, protect those making the allegations, and result in appropriate consequences for those found to have perpetrated abuse or harassment”.

Interestingly, however, the committee recommended that the regulators drop the proposals relating to reporting and data and target setting, on the basis that “well run firms should be doing this anyway” and that such requirements have unclear benefits and do not necessarily drive cultural change. Instead, it recommended that the FCA publicise its whistleblowing hotline more widely so as to encourage victims of NFM to come forward and to make it clear that nothing (not even non-disclosure agreements) can prevent someone from reporting misconduct to the FCA or to the police.

So where does this leave firms?

The introduction of the proposed rules on NFM is timely and necessary, particularly in light of the findings of the Treasury Committee.

As yet, the FCA and PRA have not responded to the Sexism in the City report and they may, as a result of the recommendations, make some amendments to their proposals. Either way, it is unlikely that the proposals regarding NFM will change substantively from those set out in the consultation papers. If anything, the Treasury Committee’s view supports the regulators’ direction of travel.

The NFM proposals as currently drafted, however, raise more questions than they answer and the risk of inconsistency of approach remains.

Terms such as ‘bullying’ or ‘morally reprehensible’ behaviour are not defined and will mean different things to different firms. Many of the examples of NFM included in the proposals include a clear subjective element (e.g., “unwanted conduct that has… the effect of violating the dignity of another person”).

Firms may therefore need to make decisions that an individual lacks integrity purely as a result of the way their behaviour made another person feel. Given that senior managers of the relevant team may become the subject of rule breach themselves for not taking action to protect their team members, and that firms could be regarded as not meeting the threshold conditions to operate in the sector, there is also a real risk that firms may adopt an overzealous approach to allegations raised even when they are clearly unfounded.

The proposals also appear to hold those operating in FS to a higher moral standard than other sectors and this is likely to lead to increased litigation as individual fight against decisions made by their employers. This risk is recognised by the FCA. Nikhil Rathi, managing director of the FCA, cautioned the Treasury Committee that the FCA was at the “limit of its legal powers, and its ability to take action against individuals under its new proposals would at some point be tested in the courts”.

Firms must ensure that they are aware of the increased regulatory and employment risk that comes with dealing with allegations of NFM. It is critical to have clear processes in place for responding to allegations made, ensuring that it addresses the needs of any victims, whistleblowers and the alleged perpetrators, as well as ensuring that its regulatory obligations and duties are met.

As a result of the substantial burden placed on a firms’ HR, legal and compliance teams when dealing with NFM, firms should also train and upskill their teams so that they are better placed to tackle these sensitive issues and adopt (as far as possible) fair and objective decisions.

As the Treasury Committee stated, there is no silver bullet when it comes to tackling NFM. But firms should ensure that they are aware and comfortable with their new role in accelerating change and moving toward a more diverse and inclusive FS sector.

Sona Ganatra is a partner and Romans Vikis is an associate at Fox Williams LLP. Ms Ganatra can be contacted on +44 (0)20 7614 2544 or by email: sganatra@foxwilliams.com. Mr Vikis can be contacted on +44 (0)20 7628 2000 or by email: rvikis@foxwilliams.com.

Sona Ganatra and Romans Vikis

Fox Williams LLP