There"s a perception that increased regulation is forcing firms in the Channel Islands out of business, but is that really the case? Orlando Crowcroft investigates
It"s no secret that financial services firms in the Channel Islands have faced a marked increase in regulation over the past decade, both from authorities inside the islands and from overseas.
New laws such as the US Foreign Account Tax Compliance Act (FATCA) and mirroring legislation in the UK have forced smaller firms to bring on more staff to beef up compliance departments, shrinking their bottom lines in the process.
Marcus Pallot, a Partner at Carey Olsen in Jersey, cites trusts as one area particularly affected. “The stresses and strains placed upon the smaller trust companies are such that there"s a marked increase in people being taken on in compliance, which is an increase in the non-fee-earning centres of these businesses,” he explains
The immediate result of this is that many of those smaller trust companies have found themselves either merging or being subsumed by bigger companies. Indeed, mergers and acquisitions have been increasing steadily in both Jersey and Guernsey over the past five years. In Q2 2014, Jersey was home to 36 M&A deals including two of the quarter"s top 10 overall deals, according to Appleby.
“It"s more difficult for the smaller, independent trust companies to maintain a back office to the standard the regulators expect without defraying costs over a wider base. That"s why I think we"ve seen consolidation in that sector. So we are seeing a greater level of M&A activity among the fiduciaries,” says Maurice Moses, a Partner at EY.
Shaky ground
Other companies haven"t been quite as fortunate and have gone out of business because they can"t meet the standards now required by regulators in both islands: “All of a sudden you move into a position where you need to have people who are qualified, people with standards, who abide by the law and by codes of practice and some people have not been able to adapt to that,” says Carey Olsen"s Pallot.
In other cases, firms have muddled through at the outset but as a result of proper investigation by the either the Jersey or Guernsey Financial Services Commissions, problems have been found and businesses have either been closed or forced to transfer their operations elsewhere. “Businesses haven"t gone bust because of increased regulation, but they might have had to shift or transfer because they can"t meet the regulatory standards,” Pallot adds.
Mathew Newman, a Partner at Ogier in Guernsey, recalls the case of Kingston Management in 2009, where Guernsey"s regulator wanted the offshore firm to pay a substantial sum of money to a consultant to advise on its AML and take on practices and procedures to bring them up to the required regulatory standards. The firm couldn"t fund it and was put into administration, with most of the underlying client funds and trusts transferred to an existing fiduciary provider in the Isle of Man.
That said, Newman feels cases such as this are rare. He says it"s nearly impossible to get statistics on the number of companies that go into administration in Guernsey each year, but that it"s no more than two or three a month. Many of these, in his experience, are in the real estate sector.
“Most of the companies we deal with are property-holding companies, mainly in the UK or Europe, which have taken out substantial loans where the property portfolio has depleted in value. The lenders wish to enforce their security and see administration in Guernsey as being an effective route to doing that by extracting value from the existing assets.”
Winding up
But there have been some smaller fiduciary and trust companies that have opted to wind up business in the face of increasing costs and regulation. While "winding up" isn"t the same as going bust - or insolvent - it is effectively a company coming to the end of its life because it can"t afford to go on. Adrian Rabet, Accountant at Moore Stephens in Jersey, says there"s been an increase in this practise in the islands.
A stricter regulatory environment has also seen companies increasingly using insolvency experts to wind up business. As Rabet says: “That"s the regulatory environment and the fear factor. The regulators expect people to wind things up in the best possible way. If it"s a risky type of investment that"s come to the end of its life, a lot of people are now putting it through to people like me to wind up.”
Most feel that as regulation increases, the M&A activity, windings up and occasional insolvencies will continue, but that as Jersey and Guernsey continue to try to protect their position on the OECD white list, this is a necessary and largely positive thing.
Moses believes that while it is difficult for the companies involved, it"s necessary. There has been some anger over laws that are seen to have been imposed from overseas - such as FATCA - but on the whole regulation is needed for the islands to keep their image intact. “It"s the world we live in, sadly, and we just have to cope with that,” Rabet says.
The only negative aspect of these changes is that as smaller companies either get swallowed up by bigger firms - or go out of business - the Channel Islands" reputation in the private client sector could suffer. In the past, a wealthy client may have called and been able to speak to an employee that they may have worked with for years, but the bigger the company, the less likely that is. However, some would argue it"s a small price to pay if it means meeting the regulatory requirements.
Time for change
A number of lawyers and industry experts in Jersey are pushing for changes to laws governing insolvency in the island to make it easier for companies to wind up and introduce a system of administration, which currently doesn"t exist.
Unlike in Guernsey, which has had an insolvency law for over a decade, Jersey has no system of administration. This means that when a company goes bust, the entire process is dealt with by the courts and the Viscount"s Department instead of being handed over to a third-party administrator, as happens in the UK.
Consultation on a new law not yet published has been drawn up, and industry experts such as Marcus Pallot, a Partner at Carey Olsen, are hoping new rules come into force to make the island an easier place to do business.
“Jersey has a few problems with its insolvency regime. In the UK or US, if you have a business that is in trouble you can go into administration. In Jersey we don"t have that. You"re either trading insolvent, or shut and bust - there"s no middle ground,” he says.
“There"s no opportunity to give yourself a second chance, so some businesses have shut because people aren"t prepared to take the risk of committing criminal offences or being personally liable when they are running businesses that otherwise may have been able to have been rescued.”
Maurice Moses, a Partner at EY, agrees. He feels that changes to the insolvency regime in Jersey would give peace of mind to both international and local firms, and possibly even bring more business into the islands.
“We want the insolvency regimes in both islands to be up there with the best. If they"re understood, it will encourage more people to use the Channel Islands as a base for their financing activity. If there"s a transparent way of getting your money back out when things aren"t good, you are more likely to put it in at the outset,” he said.
A consultation paper on a new insolvency law in Jersey is currently with the Chief Minister"s Department, but at the time of writing hasn"t yet been released for public consultation.