David Heard examines the minutiae of the FSA's "change in control" procedures, and asks what these rules mean for insurers and intermediaries

There are several features of interest in the FSA's "change in control" procedures, previously known as Form A procedures. In particular, those relating to changes in control of insurance entities - both insurers and intermediaries - where detailed FSA requirements apply.

It is well known that the FSA's regulatory remit extends to ensuring that those people controlling regulated firms satisfy the relevant regulatory 'threshold' conditions - as to suitability, in particular.

In any change-of-control situation, there are at least three parties involved: the regulated firm being controlled, the outgoing controller and the incoming controller.

Precise definition
Control is, at first glance, a fairly simple notion. However, there is much "devil in the detail" and the precise definition of controller, as stated in the FSA handbook, merits careful attention.

In the case of insurers, the threshold is effectively 10% of the voting control through shareholding. This definition of controller is expanded to include persons who are able to exercise significant influence over the management of the entity concerned. In the case of insurance intermediaries, the line is drawn at 20%. And in each case shareholdings and 'influence' are viewed on a consolidated basis between affiliates and associated persons.

Furthermore, by virtue of the fact that the FSA regards regulated entities in a chain of corporate ownership as having several controllers, there are provisions in the rules that require clearance for changes in control of controlling parent companies.

FSMA procedure
The prior approval of the FSA is a statutory pre-requisite to a change in control taking effect - part XII, Financial Services and Markets Act 2000 (FSMA). Furthermore, the provisions of the FSA handbook impose an obligation to notify the FSA as soon as a regulated firm becomes aware of any changes in its control. It should also be noted that notification to the FSA of a decrease in control to the point where an entity ceases to be a controller is also required.

The FSA encourages informal discussions as to a prospective change in control, on a strictly confidential basis, prior to any formal notification being submitted. Indeed, the FSA considers that such discussions should take place before any formal agreement is entered into (whether or not the agreement is conditional upon FSA approval).

The FSA also stipulates that those discussions should take place before any person purchases options, warrants or other instruments, the exercise of which would result in a change of control.

Following initial discussion with the FSA - typically led by the regulated firm itself but often at the initiative of either the outgoing or incoming controller - a formal application for a change of controller is required. The FSA's "change in controller" forms have been simplified in the recent past and the procedure has been streamlined.

Under FSMA, the FSA has a period of three months within which to respond to an application for a change in control (no response means deemed approval). There are no charges imposed by the FSA in respect of an application for change in control - although with the trend towards a "user pays" charging structure, this cannot be ruled out for the future.

The FSA either approves the proposed transfer of control or issues a warning notice indicating that it does not approve. During the FSA's consideration of the application, it may on its own initiative gather further information and it may, in extreme cases where there is a significant change proposed for the regulated firm's activities, require a business plan to be submitted.

The FSA will also consult with any other regulators involved. It should be noted that with the exception of the business plan requirement, these FSA enquiry activities do not result in an extension of the three-month timeline.

Finally, notwithstanding the grant of FSA approval to a change in control, there is a further obligation imposed by the FSA handbook to notify actual completion of the change in control when it actually occurs.

The FSA's rules impose an obligation on the regulated firm to notify the FSA; on the outgoing controller to notify the FSA of it ceasing to be a controller; and on the incoming controller to apply for and be granted approval to assume control.

Under the form of previous Form A procedure, this required a considerable amount of cooperation and collaboration between vendor, purchaser and target. While under the new "streamlined" procedure, such collaboration is much less essential, it is still nevertheless a useful mechanism for ensuring the smooth conduct of the process.

Such collaborative obligations should extend to attendance at FSA discussions and meetings together, information sharing and a mutual obligation to endeavour to obtain FSA approval for the change in control within a stipulated timeframe.

In view of the fact that FSA approval to a change in control will almost inevitably be a condition precedent to completion of the transaction, it will almost always be in everyone's best interests to ensure all appropriate measures are taken to procure fulfilment of the condition precedent. Accordingly, these obligations should, in most cases, be drafted in quite strong terms.

FSA deliberations
In considering an application for change in control approval, the FSA will examine the position of the new controller (on a consolidated and "chain of companies" basis) to ensure satisfaction of the relevant threshold conditions as applicable to controllers.

What that means is that the FSA will want to ensure that any new controllers are suitable to fulfil the role of controller of a regulated entity and in particular that they are "fit and proper" persons as detailed in the threshold conditions. Detailed information on and FSA investigation of the controller and its affiliates and associates results.

In addition, a change of controller will frequently lead to a change of management within the regulated target. This, of course, will give rise to its own issues and in particular individuals within the regulated target who will assume "controlled functions" will have to be approved persons with the FSA.

Furthermore, as mentioned above, where a significant change is intended in the operation of the regulated entity, the FSA may well require a business plan to be submitted as to the proposed operations.

' David Heard is partner and head of UK financial services group at Reed Smith Rambaud Charot

Significant issues
The following points should be noted:

  • In some cases a change in controller will be obvious, (for example, the acquisition of 100% of the shares of a regulated entity by an unconnected third party). However, this will not always be the case and one has to look carefully at the definition of 'controller' as it appears in the FSA handbook
  • It should be observed that there are notification/approval of obligations imposed by the FSA on all three entities concerned (that is, the regulated target, the outgoing controller and the incoming controller)

  • It is important to ensure that there are strong cooperation and collaboration provisions included in the transaction document to facilitate the process
  • The suitability of any incoming controller will be scrutinised closely by the FSA

  • Criminal offences are prescribed by FSMA regarding any failure to notify a change in control within 14 days of becoming aware of it.