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What is happening?

Regulatory breaches can turn an otherwise attractive acquisition deal sour, and a look back in time at payday lender Wonga’s 2018 demise serves as a reminder of how important specialist regulatory due diligence on acquisitions can be.

What do you need to do?

In 2018, payday loans provider Wonga went into administration, buckling under the weight of compensation claims from customers and regulatory pressures on its business model. Until its demise, Wonga had raised over £100 million in funding from a number of well-known venture capital houses, many of which made significant losses as a result.

Thorough regulatory due diligence is vital for any investment firm when acquiring an FCA-regulated financial services business. This is particularly true for consumer-focused firms where the regulator perceives the potential for harm to retail customers. Wholesale firms have also been subject to large fines in recent years, so are not risk-free.

Regulatory issues unearthed as part of due diligence need not always spoil a deal, but a thorough regulatory due diligence report can tell you if remediation needs to be part of your plan and it can potentially provide leverage in your negotiations.

Due diligence should also encompass the regulatory environment and any risks arising from proposed or possible rule changes that could be made by the regulator during the holding period. Just as important as Wonga’s legacy issues were the regulatory horizon and the regulator’s plans at the time for the high-cost credit sector. The caps on costs and charges introduced by the FCA hit the profitability of all payday lenders and led to a dramatic reduction in the number of them operating in the UK.

As well as risks arising from legacy issues and regulatory change, the systems, controls, governance, and culture that a prospective target firm has in place at the time of acquisition can cause problems during the holding period. In the case of Wonga, its inadequate affordability checks early on led to large amounts of debt being written off at the FCA’s insistence.

It is imperative to identify at an early stage whether a target firm is FCA regulated or is carrying out activities that mean it should be regulated. If the business is regulated, ‘change in control’ should be at the front of a buyer’s mind, and the process for obtaining the required approval(s) can be a significant hurdle in terms of effort, cost and timing.

Below is a summary of the key characteristics and process of the UK’s change in control regime.

Controllers and prospective controllers of a regulated firm* must seek approval from the FCA before acquiring, increasing, or decreasing control over a firm that is authorised by the FCA and/or PRA.

*controllers are firms having 10% or over (for MiFID target firms or their parent undertakings) or 20% or over (for non-MiFID target firms or their parent undertakings) of the shares and/or voting power and/or exercising significant influence.

There is also an obligation on authorised firms to inform the FCA and/or PRA of any proposed or effected changes in control. Firms regulated by both the FCA and PRA will need to obtain approval from both regulators.

An application in respect of the acquisition (or disposal) can be submitted jointly by the buyer and the target, and it will need to be made as soon as a decision has been made to acquire control of an authorised firm.  It is accompanied by certain supporting documents, including:

• Post-transaction structure charts – showing the position of the target after the proposed change in control,
• CVs – for individual controllers and directors or members of corporate controllers,
• Proof of funding – such as accounts, bank statements, accountant’s statements, and loan agreements,
• Accounts – for any potential corporate controllers for the last three financial periods and approved, where possible, by an audit firm, and
• A business plan – when the controller is an individual, partnership, corporate or will become a parent undertaking of a target.

Insight from the team

“For many months now, we have been seeing a large amount of activity in the acquisition of FCA regulated firms. Many FCA regulated, as well as non-regulated, firms are requiring our expertise and knowledge; engaging us to conduct compliance due diligence on the targeted firms. With our expertise in the regulated requirements needed, the satisfied acquirers are frequently coming back to us to undertake acquisition due diligence on additional FCA regulated target firms. Due to the current economic uncertainty, I feel we will see an increasing volume of acquisitions activity and thorough regulatory due diligence will be vital”.

Alex Paschalis – Head of Investments

Are you currently looking at acquiring a regulated firm?

If you’re looking at acquiring an FCA- regulated firm, our expert team can help. We offer a range of acquisition due diligence services to help you fully understand the regulatory risk any transaction poses.

Working with us, you can be confident that all potential issues around your prospective transaction have been identified and highlighted in our acquisition due diligence report. You can also count on us for effective practical guidance on how best to resolve any issues uncovered.

If you’d like to know more about how we can help you with your regulatory due diligence or your change of control arrangements, or any other aspect of FCA compliance, our expert team is here to help.

Contact us today on 0207 436 0630 or email info@thistleinitiatives.co.uk.