Old business, old customers, old liabilities - and HSBC is still paying
In today's news it is reported that HSBC will not only have to meet the costs of four file reviews, the FSA Enforcement process, the resulting fine of £10.5m and compensation of nearly £30m
... but will now also extend the scope of its past business review (PBR) to consider cases of mis-selling dating back as far as 1991. The £9m apparently paid by HSBC to buy NHFA (the relevant subsidiary) in 2005 now looks like a very bad deal indeed. One can only speculate what due diligence was then undertaken.
The FSA's Final Notice was issued on Monday, heralding the largest ever retail fine for inappropriate investment advice provided by NHFA to 2,485 (mostly elderly) customers to invest in asset-backed investment bonds to fund long-term care costs. The third of the four file reviews conducted found unsuitable sales in 87% of cases. The total invested was nearly £285m and the PBR relating just to sales during the relevant period (July 2005 to July 2010) will cost approximately £30m in compensation alone. That figure is likely to increase substantially.
According to the Final Notice, the failings in the suitability of advice were "serious, systemic, and persisted" over a long period. Today's news indicates just how long. Although suitability is determined relative to the specific circumstances and objectives of a particular investor, it is possible to have systemic failings in the processes by which advice is given. In NHFA's case, there was no consistent approach to assessing ATR or the use of suitable risk profiling questionnaires, and template suitability letters used standard paragraphs rather than being tailored to the individual customer and even contained inaccuracies in the standard wordings and out of date or irrelevant information.
Like Coutts and Credit Suisse before, the FSA identified as an aggravating feature HSBC's prominent position in the retail consumer market. It is understandable that the biggest firms bear the heaviest regulatory burden but this argument suggests smaller firms should be forgiven for more. A recent case relating to technical CASS rule breaches suggests no such leeway is granted.
The HSBC Final Notice also identifies a number of issues concerning the management and oversight of NHFA within the HSBC Group which meant that the mis-selling was not detected until July 2009. These included that NHFA's business was in a highly specialised area and the complexity of its business and associated risks were not assessed and managed adequately and, since its aquisition in 2005, little progress had been made in integrating NHFA's operations into those of the wider HSBC Group. Following the acquisition, reliance was placed on NHFA's policy of compliance reviews for all sales before they were processed with the result that the standard compliance process was itself not scrutinised by HSBC until 2009. The eventual introduction of the CF00 parent entity SIF will mean any such future criticism could be directed at individuals on a main group Board or, in light of yesterday's consultation paper on NEDs, the non-execs too.
The costs, both financial and reputational, have been significant. The Final Notice made headline news because of its size, HSBC's profile and the unfortunately unattractive feature that NHFA's typical customer was elderly - with an average age of almost 83, many of whom were sold investments with terms beyond the customer's life expectancy at the point of sale.
HSBC's response has been to pay more and more. It volunteered to implement a customer redress programme before being referred to Enforcement. Had it not, it probably would have been criticised for that too. Coutts, for example, was criticised in its Final Notice last month for failing to take prompt and effective action to address the failings identified. "For example, it did not carry out a review of past sales ... to determine whether ... risks had been adequately highlighted to customers and whether they received a suitable recommendation to invest ...". This was the first express criticism in a Final Notice (of which I am aware) for failure to conduct a PBR. Given the new rules and particular consumer-focussed burdens being placed on NEDs, I anticipate more criticisms like it.
The costs (legal, consultants and management time) incurred already by HSBC will have been significant in their own right. It followed its compliance review in 2009 with an internal report issued in March 2010 and then initiated a file review of 380 cases, followed by a third party file review of another 22 cases and finally a third party review of 529 cases. The Enforcement process would have been a further cost on top of all that had gone before.
HSBC's compliance report of March 2010 described 8 significant issues which are set out in detail in (and were probably the basis for) the FSA's Final Notice . It serves as a reminder to compliance departments that the ultimate audience for compliance reports could be the FSA and eventually the wider world.
I do not know whether HSBC is broadening the scope of its PBR out of a sense of obligation, to protect its reputation or because the FSA has required it (or a combination of all three), but it is clear that the pain goes on. The FSA - and public at large - will have little sympathy.
Yesterday the FSA published its speeches to the NED Conference on Delivering Fair Treatment for Consumers with stark warnings about fair outcomes affecting the reputation and 'bottom line' of firms. The Head of Department for Conduct Supervision, Nausicaa Delfas, said "The increasing level of fines from Enforcement cases might dominate the press headlines, but it is the cost of 'putting the wrongs right' that really impacts a firm - getting conduct 'wrong' can be very expensive." She cited the examples of Lloyds' £3.9bn provision for PPI mis-selling and Coutts' £6.3m fine and the PBR required in respect of AIG investments of over £1.4bn. She finished her speech with the threat: "We will be taking an ever greater focus on Boards, NEDs and executive senior management."
The FSA may be ending the year on a high but it means the industry has much to worry about in 2012; even before the formal creation of the FCA, which promises much more of the same.