In our last article we talked about the FCA's 2018 discussion paper on transforming culture in financial services.
The paper is too long to cover in any depth here, but it remains a good (CPD) read for all senior managers in what is still a very early period of the senior managers and certification regime (SM&CR).
Yet there is one aspect of the paper that's worth highlighting in particular.
The FCA talks about culture in financial services as a key root cause of conduct failings, and it defines culture as the behaviours and mindsets that characterise an organisation.
As mentioned in our last article on governance, under the SM&CR the FCA will be focusing on what it calls the four main drivers of behaviour:
1) A firm’s purpose
3) Approach to rewarding and managing people
4) Governance arrangements
Here, we'll look at the approach firms should consider taking when it comes to rewarding their people under the SM&CR.
First, a look at the wider context of what drives behaviour.
The push and pull factors
The FCA's discussion paper includes an essay from Banking Standards Board chief executive Alison Cottrell, on the topic of whether there is a 'right' culture.
Her essay argues "a good culture is about more than ensuring good people don’t do bad things – it’s about enabling good people to do better things."
“First, good cultures will tend to be characterised by a shared sense of purpose across the firm (focused, in a financial services context, on the customer) and strong alignment between this and the firm’s values, incentive structures and other policies and procedures. Consistency matters.
"Second, when people behave at work in a way they wouldn’t normally countenance at home or with friends, this is likely to reflect one or more of three types of factors:
- the ‘push’ factors from pressure or stress (such as a fear of failing to meet targets or expectations, or of losing face, status, job, friends, respect, purpose; the impact of exhaustion on judgement) – compounded, if sustained, by health implications;
- the ‘pull’ factors of reward and incentives (financial or non-financial, explicit or implicit), as well as perceptions of fairness; and
- the ‘people’ factors – most notably, the wish to conform (‘if I’m the only one seeing or thinking this, it must be me that’s wrong’), loyalty to or trust in colleagues and leaders, a sense of superiority to those outside the group, and numerous other all-too-human biases.
"The way in which those responsible for a firm manage, reward, incentivise, equip and communicate with those who work in it, will shape the dynamics and coherence of the group as a whole. Management matters.”
Delving into those 'push' and 'pull' factors a bit more, FCA rules and final guidance set out that where there are staff incentives or policies around remuneration and performance management within a business:
- There must be quality measures and not just quantity measures in place
- Penalties for poor performance have to be fair
- The same level of bonus should be available for quality as quantity
Good and poor practice
The FCA has set out examples of poor practice to highlight where there may be an incentive for a firm's culture to be driven by sales volumes, or where staff may be influenced to concentrate on the volume of sales rather than the quality of business written.
Examples from the regulator's review work included:
- A firm had seven targets, one of which was quality and the other six related to volume of sales
- Advisers knew which client files were to be checked and how frequently they were going to be selected, making some classes of business known to be seldom reviewed
- A firm carried out a monthly appraisal focusing on 12 different volume of sales measures. There were no quality measures or discussions of quality, and only a brief reference to client feedback
- A firm made a small deduction to the bonus of any staff member who achieved below a certain benchmark score. However, an adviser who sold a high volume of sales could earn up to 30 per cent more than an average adviser. Even with the small deduction, it was still possible for a high producer to earn substantially more than an average producer
- A firm rewarded staff on volume of sales, and they could earn an additional 5 per cent based on quality measures. This meant the emphasis was still on sales volume, and in comparison the quality element was insignificant.
But the regulator did also highlight good practice, where the focus was as much if not more based on the quality of the advice and services provided:
- Firms paid staff bonuses based purely on the results of quality assurance (QA) assessments for a sample of their work. These were scored for client experience and the bonus paid to line management was based on the QA results of their team, re-enforcing the focus at all levels on achieving the right client outcomes
- A firm paid a fixed salary plus bonus purely on the results of a client telephone-based survey carried out by a third party
- Each month a firm did QA reviews to assess the advice process followed and the outcome achieved for the client
- A firm set staff targets on achieving a minimum of a 95 per cent quality score. Quality scores were discussed at the start of the appraisal and formed the basis of objectives and one-to-one discussions. The focus was on quality scores, client outcomes and employee development
- Supervisors were able to listen in on calls without the adviser being aware, so supervisors could hear actual behaviour
- Files selected for review were done randomly, so advisers wouldn't know which files would be chosen.
The regulator also said that if firms were devising incentive or performance management programmes, care should be taken not to create conflicts of interest, including for non-advising staff.
For example, it's easy to see how a supervisor rewarded solely on the sales volume written by advisers could create a conflict of interest.
But equally, if a paraplanner or complaint investigator is rewarded solely for the number of reports they write, or the speed of handling a complaint, this too could create a very different conflict.
Ultimately, under the SM&CR there's never been a better time to review your firm’s incentive schemes.
It's worth making sure these create an environment where the quality of work and not the quantity is the focus.
This is in turn will lead to positive client outcomes, which should be at the centre of any incentive scheme.