The recent entry of Liverpool-based investment management and stock brokerage firm Blankstone Sington Limited into special administration has sent ripples throughout the wealth management market in the UK, triggering a wave of concern among investors, rival firms and third-party fund managers alike.
Investors are likely to have been left questioning the security of their underlying investments during a special administration process and other firms may well be fearing that this will rock confidence in their activities, especially given the volatile macro environment in which this market finds itself.
Traditionally a firm with an equities focus, Blankstone Sington, like many wealth managers, recently diversified its approach to take advantage of the growth in the alternatives’ sector especially commercial real estate securities. Their story underscores the importance of preparedness and vigilance at a time when stakeholders must remain attuned to liquidity issues, best practice in fund management, and prioritizing the protection of investor interests. It is also a reminder that it is a wise precaution to understand the special regulatory considerations that apply in insolvency situations relating to financial firms. As such, the Blankstone predicament offers various lessons to others in this space.
Facing financial issues
Blankstone is authorised and regulated by the Financial Conduct Authority (“FCA”) and is a member of the London Stock Exchange. Accordingly, the firm is required to comply with the General Prudential Sourcebook (GENPRU) and the Prudential Sourcebook for Investment Firms (IFPRU) as well as the EU Capital Requirements Regulation (CPR).
Prior to its financial downfall, Blankstone managed investments in excess of £470 million on behalf of its clients and counted HNW private individuals, charity trustees and institutions amongst its client base. Pre-pandemic it was an award-winning wealth manager, priding itself on “a robust investment management process that delivered outstanding performance versus peers” and “a differentiated offering to larger investment houses”.
Wealth management firms are now an integral part of the financial landscape in the UK, offering investors with the appropriate risk appetite attractive opportunities to diversify their portfolios. However, recent economic turbulence has meant some firms have experienced severe financial challenges.
When facing financial issues the board of a wealth management firm must consider various steps in order to address the situation and potentially achieve financial recovery, if possible. It is crucial to be proactive in addressing any financial issues, to cooperate closely with regulatory authorities, and to take the necessary steps to protect clients’ interests. These steps include:
- Financial assessment: A thorough financial assessment should be conducted to understand the extent of the issues and their causes. This should include reviewing financial statements, cash flow, and balance sheets.
- Regulatory compliance: Ensure that the firm complies with all relevant regulatory requirements. This may involve revisiting compliance procedures and addressing any past violations.
- Engage with the regulator: Investment firms must adhere to the regulatory framework set out by the FCA. Compliance with the FCA's rules and requirements is essential for navigating financial difficulties and maintaining investor trust. The board must contact the FCA to inform them of the financial issues and discuss potential actions that may be required to ensure compliance with regulatory obligations.
The Blankstone case exemplifies the importance of prompt engagement with the regulator when financial issues arise. The FCA intervened in Autumn 2021, when the firm flagged the loss of several key staff members which the firm was concerned would impact upon its ability to provide a normal standard of service. It was agreed that the firm would be temporarily restricted from (i) disposing of assets without written consent of the FCA; (ii) accepting new client money and custody assets from existing clients; and (iii) opening accounts for new clients without permission. These special measures were intended to help reassure clients that their assets remain safe and continue to be held in full accordance with the FCA’s rules.
- Identify causes and solutions: The board must act swiftly to identify the root causes of the financial issues, whether they are related to poor investment performance, compliance violations, client withdrawals, or other factors. A detailed plan should be developed for addressing these issues.
- Client communication: The board must maintain open and transparent communication with clients, keeping them informed about the situation, any changes in investment strategies, and any steps the firm is taking to resolve the issues.
- Capital raising and liquidity management: Adequate liquidity management is vital. The firm should explore options for raising additional capital, such as loans, equity investments, or lines of credit. The main objective of the board must be to focus on improving liquidity to meet immediate financial obligations.
- Cost reduction and operational efficiency: Reduce non-essential expenses and streamline operations to improve efficiency. This may include staff reductions, renegotiating contracts, or outsourcing certain functions.
- Risk management and portfolio re-evaluation: Re-evaluate investment strategies and risk management practices to align with clients' financial goals and risk tolerance. Consider diversifying portfolios and conducting stress tests.
- Legal and compliance expertise: Consult with legal and compliance experts to ensure that all actions taken are within the boundaries of the law and in compliance with regulatory requirements.
- Employee retention and morale: Maintain employee morale and reduce staff turnover to ensure continuity of expertise. Consider offering incentives and training programs to retain valuable employees.
- Continuous monitoring and adjustments: Continuously monitor the financial situation and progress of the recovery plan. Be prepared to adjust the plan as needed based on changing circumstances.
- Rebuilding trust and reputation: Over time, rebuild trust and reputation by delivering on promises, providing excellent service, and meeting clients' financial goals consistently.
- Professional guidance: Seek guidance from financial advisors, consultants, and experts who specialize in financial restructuring and the regulatory environment specific to England and Wales.
- Contingency planning: Develop contingency plans, including the possibility of mergers, acquisitions, or dissolution if the financial issues cannot be resolved satisfactorily.
Despite one of the aims of the temporary restrictions on Blankstones’ activities being to allow it breathing space to regroup and recover, it appears the business subsequently suffered withdrawal of funds from customers and fell to a pre-tax loss several months later. Ultimately Blankstone’s directors had no option but to place the company into special administration in October 2023.
The special administration regime (“SAR”) is a customized insolvency process designed for specific investment firms. It was introduced in 2011 in the wake of the 2008 financial crisis to address the insolvency and winding down of investment firms in a manner that protects the interests of customers and the stability of the financial system. The regime is applied to failed investment firms which hold clients’ money and/or custody assets under the FCA Client Asset rules. It ensures that the assets of a client are kept separate from the assets of affirm, so that, in the event of a firm’s insolvency, a client’s assets are protected and can be returned in a timely fashion.
As with ordinary administration, the process involves the Court appointment of administrators who assume control and oversee the firm’s operations.
The SAR process has three equally ranking objectives:
- To ensure the return of client assets (including money) as soon as reasonably practicable;
- To engage with market infrastructure bodies and regulators in a timely fashion; and
- To rescue the investment firm as a going concern or to wind it up in the best interest of the creditors.
Although the FCA plays a pivotal role in the process, it is not the regulatory authority for Insolvency Practitioners. The FCA continues to liaise with the special administrators throughout the special administration. As the special administrators are officers of the court, they will need to comply with all relevant insolvency law. The individuals appointed are authorised to act as Licensed Insolvency Practitioners by the Institute of Chartered Accountants in England & Wales (ICAEW).
In so far as the special administration of Blankstone is concerned, the special administrators have advised that they consider that the quickest and most cost-effective way for client assets to be returned to clients is by way of a transfer to a single broker regulated by the FCA.
Areas of litigation risk
The risk of litigation against wealth managers over negligence or breach of duties is a significant concern in the financial industry, exacerbated during times of financial difficulty or poor investment performance. The Woodford & Hargreaves Landsdown saga is a case in point. Although the Blankstone situation is somewhat different, the fact is that it too is likely to be poured over by claimant law firms looking for evidence of wrong-doing.
Typical areas of litigation risk for wealth managers include:
- Negligence in investment management: Wealth managers are responsible for making sound investment decisions on behalf of their clients. Negligence can occur if they make investment choices that are not in line with the client's objectives, risk tolerance, or are otherwise inappropriate.
- Breach of fiduciary duty: Wealth managers owe their clients a fiduciary duty, which is the highest standard of care. Breach of this duty occurs when a wealth manager puts their interests ahead of their clients. This could involve engaging in self-dealing, favouring certain investments for personal gain, or failing to disclose conflicts of interest.
- Inadequate due diligence: Wealth managers have a responsibility to conduct thorough due diligence on investment opportunities. Neglecting this duty and recommending investments without proper research can lead to allegations of negligence. This is especially true if the investments result in significant losses for the client.
- Failure to diversify: Diversification is a fundamental risk management strategy. If a wealth manager fails to adequately diversify a client's portfolio, leading to concentrated positions that result in losses, they may face legal action.
- Inaccurate or misleading information: Providing clients with inaccurate or misleading information about investments, potential returns, or associated risks can be grounds for litigation. Clients rely on the information provided by wealth managers to make informed decisions.
- Breach of contract: Wealth managers often have written contracts with their clients outlining the services to be provided. Breaching the terms of these contracts can result in allegations of breach of contract, leading to litigation.
- Lack of compliance with regulatory requirements: Failure to adhere to the regulatory requirements of bodies like the FCA can expose wealth managers to legal action. Compliance is crucial to avoid potential legal and regulatory penalties.
- Losses or unsuitable recommendations: If clients experience significant losses due to investment recommendations that were unsuitable for their financial situation or objectives, they may seek legal remedies.
- Conflict of interest issues: Wealth managers must manage and disclose conflicts of interest appropriately. If they fail to do so and clients suffer financial harm as a result, it can lead to allegations of negligence and breach of duty.
- Legal consequences: In the event of litigation, wealth management firms and their directors personally may face legal and financial consequences, including the payment of damages to clients, regulatory penalties, and reputational damage.
While the Blankstone situation has distinct characteristics in comparison to earlier high-profile incidents in the sector such as Woodford & Hargreaves Lansdown, it too serves as a salutary reminder for wealth managers to reevaluate their responsibilities and adherence to industry best practice especially given the headwinds currently impacting the financial landscape. Key imperatives are transparency, effective client communication, unwavering regulatory compliance, and astute risk management, in order to safeguard client investments, the business and to uphold the integrity of the investment market. However, it is always wise to seek professional guidance and have contingency plans.
This article was first featured in Professional Advisor on 10 November 2023.
For any questions related to the topics raised in this blog, please contact Kerri Wilson.