Observations on wind-down planning: liquidity, triggers & intragroup dependencies
Posted on 25 May 2022
The FCA has published their thematic review (dated April 2022) on wind-down planning across various different business models, focussing on liquidity needs, intra-group dependencies and wind-down triggers in light of the on-going COVID-19 pandemic.
A core focus of the review was how liquidity is considered within the context of each firm’s wind-down plan. The FCA found that, whilst firms considered their capital needs for a wind-down, they often failed to consider liquidity. Specifically, the FCA identified the following three issues which may arise in the context of a wind-down situation which they advised should all be considered when quantifying liquidity:
- Cashflow timing mismatches – firms need to accurately map the liquidity trajectory of inflows and outflows during the wind-down period, identifying periods of mismatches and liquidity shortfalls.
- Net cash impact of wind-down – firms need to assess the net cash impact of their wind-down and evaluate if they are likely to be net cash positive or negative at the end of the process.
- Starting wind-down from an already stressed cash position – firms should assess what their wind-down starting cash position would be in different scenarios and not assume they will enter wind-down in their current financial position.
The FCA also assessed firms which are members of groups, finding that inadequate considerations were being given to what impact the firm’s group membership would have on its ability to wind-down. The FCA have advised that firms should consider their intra-group interconnectivity, or where the operations / activities of the firm involve other legal entities within the groups financial and non-financial support, in order to assess the impact of these on their wind-down capabilities.
Where reliance on members of the group in a wind down is found, firms should plan for how this inter-connectedness can be unwound or mitigated in the event of a wind down. The FCA observed that failure to do so creates a significant risk that scenarios involving financial or operational pressure on the group could result in a disorderly failure of the regulated firm.
Wind down triggers, or initiation points from which the firm should consider whether a wind-down is required, were also considered as part of the review. The FCA observed that many firms had failed to adequately consider an appropriate range of wind-down trigger metrics (eg capital resources) and that the calibration of wind-down triggers was often not justified. The review advised that firms should be able to demonstrate they have considered an appropriate range of quantitative triggers which have thresholds which, once reached, trigger a decision point for the Board. Additionally, firms should consider how these triggers interact with each other and conduct stress testing and reverse stress testing which illustrate the firm understand their business model vulnerabilities.
The FCA’s review has found that most wind-down plans, processes and risk management frameworks remain “at an early stage of maturity”, with many failing to meet the minimum expectations as outlined in the FCA’s ‘Wind-Down Planning Guidance’. Firms have been advised to consider the observations contained within the review when evaluating their own wind-down planning. The FCA have also emphasised the need for firms to actively test the outcomes of their wind-down plan, stating this “is the best way of showing the firm’s Board / governing body, as well as the FCA that the plan and process is credible and operable”.