NEGOTIATING IN A CONDUCT-FOCUSED REGULATORY LANDSCAPE

Michael Lally from the Gap Partnership puts the negotiation capability of banks under the spotlight and explains just how critical it is in the new world of heightened regulation.

Regulators of banks and financial services providers around the world are increasingly focusing on the conduct of those institutions and their employees in ensuring fair customer outcomes. The areas of scrutiny have included culture, senior management accountability, and selling and product governance. Could negotiation be the next to go under the regulatory microscope?

It’s been seven years since The Financial Services Act 2012 was passed, implementing a new regulatory framework for the financial system in the UK. This far-reaching Act was in response to the global financial crisis and resulted in the demise of the Financial Services Authority and introduction of two new regulators, the Financial Conduct Authority (FCA) and the Prudential Regulation Authority.

While the FCA was given significant powers, its explicit and specific focus on conduct represented the biggest change for the banks and financial services providers that it supervises. Previously, conduct was implicit and assumed, but the new regulatory body was tasked with explicitly defining conduct risk, including demanding a more evidence-based approach to how banks manage conduct risk.

Conduct can be defined as ensuring banks treat customers fairly and that they don’t interfere in the fair functioning of markets. This was in response to the banks’ role in the global financial crisis including the misselling of products and rigging of foreign exchange markets that hit the headlines of the business pages in too regular a fashion.

The new regulatory approach has led to sweeping changes. The Financial Services Authority’s Retail Distribution Review (RDR), for example, forced all financial advisers to disclose fees and charge customers separately for services.

Initially the design, delivery and selling of products and services and their suitability for the customers to which they were being sold was a big priority for the FCA. This included any customer remediation that banks needed to undertake for the misselling of products. A sharper focus on product governance, including how products are designed, managed, marketed and sold – and to whom – all became a laser-like focus for banks.

More recently culture, adequacy of systems and controls, ensuring senior management act in accordance with the firm’s policies and procedures through the Senior Managers Regime (SMR), and the use of management information (MI) in managing conduct risk have been scrutinized.

We have already seen the implications of non-compliance, with the FCA issuing significant fines to offending parties with clear expectations on what needs to be done to remediate process and procedures as well as client restitution.

The EU took this a step further, defining strict criteria around client classification within the MiFID 2 regulation framework that limited the types of product and services that could be sold to different client categories.

The U.S. regulatory landscape is a little more complicated given the breadth and remit of different regulators. However, the focus on conduct remains no less resolute, with both formal regulations and informal policy guidance on conduct coming from the Federal Reserve Bank of New York, the Department of Justice, the Securities and Exchange Commission, Financial Industry Regulatory Authority (FINRA) and the Consumer Financial Protection Bureau (CFPB).

More recently in Australia, The Royal Commission into Misconduct in the Banking, Superannuation and Financial Services Industry, also known as the Banking Royal Commission, shone a stark light on the misconduct in the sector through a series of brutal public hearings that resulted in significant reputational and financial damage for Australia’s leading financial institutions.

The final report published in February 2019 resulted in a number of recommendations similar to those

that the FCA implemented, including a focus on ensuring senior executives are more accountable for what is going on in their organization through the Banking Executive Accountability Regime (BEAR), clarity around the process for the design, delivery and maintenance of products, culture and governance, and the impact of remuneration policies on fair customer outcomes.

We surveyed a selection of banking professionals to provide a snapshot into how banks are looking at negotiation in the conduct focused regulatory landscape. The results are enlightening.

Within banking, negotiation remains a critical part of how business is done, with 69% of respondents saying they negotiated at least every week with a client. Yet, there is little evidence to suggest that banks have specific and consistent policies and procedures in place for how they negotiate, with 68% revealing their business had no clear policy or procedure for negotiation.

Often negotiation is a skill that it is assumed that every banker, whether a salesperson, lawyer, relationship manager, product owner or procurement manager, excels at, often without any formal training or assessment of their competency in this area when they are hired. It was still somewhat startling to see that 27% of respondents have had no formal negotiation training.

What’s more surprising is that within organizations, often commercial matters are escalated to senior executives, who have little or no internal alignment on the negotiation strategy or desired outcome and who may give up more value than is necessary in order to get the deal done. In our survey less than 5% of respondents include managing director level executives in their negotiation planning.

Interestingly 64% of respondents have seen significant changes made to sales process as a result of the regulatory environment, yet only 31% have seen significant changes to their negotiation processes and 14% have seen no changes at all to the way they negotiate.

In designing policies and processes for negotiation, banks have plenty they need to consider. Firstly, ensuring they set up an approach that is consistent with the strategy and culture of the organization. If a bank is looking to position itself as client-centric with a focus on fair outcomes for customer needs yet is approaching negotiation in a competitive manner that seeks to take value from their clients, then long term value and satisfaction will be eroded.

What is also important is the variables they are willing to trade. Often a client will have a view on what can be exchanged as they see a bank as a single entity, whereas banks will often have different business units with accountability across certain products and services, or there will be "business-wide" policies that will restrict the amount of variables that can be negotiated. Where possible, reviewing the variables in scope for a negotiation, within what is possible from a regulatory or legal standpoint, has the potential to maximize the value of any negotiation for both parties.

There is inherent risk within any negotiation, especially given there is a likelihood for some level of conflict. A thorough policy and procedure should help asses a bank’s negotiation risk appetite. From our respondents 32% always assess risk within their negotiation planning. Every negotiation will come with its own set of risks that should be assessed in terms of how likely and how serious they are, along with any preventative and contingent actions. Internal alignment on what those risks are and the appetite for a bank to continue with a negotiation within that risk framework is critical.

An explicit, evidence-based approach to managing conduct risk is the new norm – "don’t tell me, show me" is the new mantra. If negotiation is an implicit skill that is assumed and that staff are not being regularly trained on, are you really set up to prove to regulators that your negotiation policy and procedures are being adhered to?