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Regulatory Reform: 7 Critical Questions for Financial Services Firms

The full impact of the 2010 legislative overhaul of U.S. financial services regulation will emerge through extensive rulemaking in the year ahead. Eleven government agencies will together promulgate some 250 rules that will implement the Dodd-Frank Wall Street Reform and Consumer Protection Act, at least doubling the number of requirements banks must meet. Despite uncertainty over the ultimate form and scope of the rules, smart financial services companies are moving ahead to prepare. Dodd-Frank is law, and many key provisions will be implemented regardless of how the next months’ proceedings play out and political winds blow. The Volcker Rule will alter how banks trade and invest. The Collins Amendment will intensify capital requirements. The Lincoln Amendment will require some banks to spin off their swap desks.

A bias for action is understandable given the substantial new requirements and potential opportunities associated with reform. But companies could be making decisions and taking actions that prove to be ill advised once rules are issued. We have identified seven critical questions related to strategy, customer and counterparty disruptions, structure, and technology that board members and senior executives of financial services firms should consider as they measure the effectiveness of their regulatory reform programs.


1. Is the firm approaching the new regulatory order as a “permissions and prohibitions” challenge or an opportunity to take market share? Some firms are waiting for the rules to be finalized before making changes in how they organize and run their business. Their plan is to execute their strategic, business organizational and technical transformations once the rules are set in stone. Other firms are being more aggressive. They see opportunities to capture market share and gain advantage by moving into jurisdictions that allow and even encourage activities such as trading that will likely be constrained or barred in the U.S. Is your firm operating with a global strategy to enter new markets and gain share? Have you explicitly considered where you might lose share and how you would guard against that? Do you have the personnel and operations to execute the strategy? How will your firm meet the technological requirements of doing business across jurisdictions around the world?

2. Does your firm see its global growth rate gated by its ability to enforce a control program of full transparency and accountability? International Financial Reporting Standards (IFRS), Basel III and country-specific rules create a complex compliance and reporting landscape for financial services firms. Requirements can differ – sometimes significantly – from country to country, and even regulation to regulation. In the emerging global environment, data from different countries will have to roll up in a highly transparent and trackable fashion. Regulators will want the ability to trace data from the reports they receive back through the originating sub-ledgers to ensure that source numbers adhere to the appropriate accounting standards and rollups are controlled. In addition, regulators will no longer ask for reports and data only. They will want to know about the processes that generate data, the controls governing those processes, and the people who execute those controls – the burden has shifted toward demonstrating compliance rather than simply reporting compliance. Will your firm be able to enforce controls and produce the reports necessary to keep compliance issues from impeding growth?

Customers and counterparty disruptions

3. Does your firm intend to implement a “one-touch” strategy to communicate and integrate changes into its customer base to minimize customer dissatisfaction and attrition? Customers will need to provide more information about their risk tolerance and capitalization and what they are and are not willing to invest in. Counterparties will need to prove they have the collateral, licensing and corporate structure to execute certain transactions. Buy-side clients will see opportunities to renegotiate contracts in light of the structural changes in the securities industry. Individual retail clients will be affected by rule changes in ways that will be difficult to understand. Do you have a one-touch or “light touch” plan that enables you to gather the information from customers and counterparties that you need to implement an optimized change management and communications plan?

4. Does your firm have a “high-touch” program to reengineer its supply chain with its vendor partners based on permissions and prohibitions? Firms will need to make dozens of modifications in their customer and counterparty relationships as rules evolve and permitted and prohibited activities are identified. Some of the changes will require painful discussions in which you explain why you can no longer take someone’s business, or why a customer or counterparty has to post more collateral or open its books more so you can report to regulators. Is there a strategy to track and assess the impact of the shifting business models of participants in the financial supply chain? Do you have a high-touch strategy to maintain your relationships and communicate changes without having to continually ask for additional modifications and requirements?


5. Does your firm intend to move its talent, hire new talent or partner with industry utilities as it moves operations into jurisdictions that permit domestically prohibited transactions? The shift of deal flow and volume to new markets will put severe pressure on labor resources. Firms will need to deploy teams to places where they can legally and ethically operate to meet short- and long-term goals. Will your people be willing to move, both your talented traders and executives and the back-office people who handle daily clearing and settlement and management reporting? Will you have the capacity to handle the transaction flows in the new hubs you establish? Have you explored shared services and emerging utility offerings that might ease the burden of shifting talent needs globally?

6. How is your firm going to balance its shared services and utilities strategies with orderly liquidation requirements globally? Regulatory reform creates a conundrum for financial services firms. They have to optimize their business models in terms of shared services and utility usage based on regulatory permissions, yet be able to liquidate the organization in an orderly fashion at the request of a regulator. A firm may concentrate its organization in one place, yet still need to widen it into operating units that can get the work done. How will you rationalize your new operating model with orderly liquidation obligations? Will your shared services strategy require creating or joining a utility that you can join and leave based on your optimal legal entity structuring?

Data and Technology

7. Does your firm intend to convert its systems to meet transparency requirements based on uniform legal entity and product identifiers or map its systems to the new standards? Financial services firms will have to adhere to a global standard for legal entity and product identification. In addition, U.S. and European regulators will require almost instantaneous access to transactions and counterparties, something no bank can do today. Mandates such as these present both threats and potential benefits for firms. One threat is that meeting transparency requirements through uniform identification could provide competitors with insights into your thinking and strategies. Another concern is simply not knowing what the government will do with this information. On the other hand, having the opportunity to gain insight into the legal entities you are doing business with and the specific products involved can support creating previously unachievable, robust risk management models. Will you be able to convert to these new standards, or will your firm rely on mapping to them for regulatory purposes? What types of immediate benefits will your firm realize from having a standard data definition when conducting transactions in the marketplace?

The importance of acting now

While many requirements of the new regulatory environment are still to be determined, sweeping changes are inevitable and already happening. Leading firms are addressing this major shift by taking a comprehensive, strategic view. They are establishing global program management offices to guide activities across securities operations, investment banking, corporate finance, and operations and technology. By doing so, they are strategically positioning themselves to gain market share worldwide by taking advantage of their strengths in jurisdictions where they are permitted to operate. They are gaining transparency into the lowest level of their organization to understand where risk is concentrated internally, within counterparties and in the financial system overall. By addressing the seven questions presented here, your firm can begin to follow suit. View the Regulatory Reform White Paper.

It's your turn now. Which question did you find most interesting? How would you answer these questions? Do you agree these seven questions are the most critical questions related to strategy, customer and counterparty disruptions, structure, and technology that board members and senior executives of financial services firms should consider?

Please add your wisdom, critique, feedback via comments.


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