The Capital Requirements Directive (“CRD”) and the Alternative Investment Fund Managers Directive (“AIFMD”) established a regulatory capital framework across Europe governing the amount and nature of capital that financial services firms must retain. In the United Kingdom, CRD and AIFMD are implemented by the Financial Conduct Authority (“FCA”) and Prudential Regulatory Authority (“PRA”), which maintains rules and guidance through the General Prudential Sourcebook (“GENPRU”) and the Prudential Sourcebook for Banks, Building Societies and Investment Firms (“BIPRU”).
The framework consists of three Pillars:
• Pillar 1: this sets out the minimum capital amount that meets the firm’s credit, market and operational risk;
• Pillar 2: this requires the firm to assess whether its Pillar 1 capital is adequate to meet its risks and is subject to annual review by the FCA; and
• Pillar 3: requires disclosure of specified information about the underlying risk management controls and capital position
Kennet Partners Limited is not part of a UK consolidation group and is authorised and regulated by the Financial Conduct Authority on a standalone basis. The firm is a BIPRU 50k Limited Licence Firm and thus subject to BIPRU 11.
In line with the framework, Kennet Partners Limited has provided details on capital, risk exposures, risk assessment processes, capital adequacy and the remuneration policy other than those details that are exempt for reasons of materiality and proprietary or confidential information.
These disclosures are reviewed by the board and updated on an annual basis. The risks the Firm is exposed to are monitored regularly and this disclosure will be updated and published more frequently if there are material changes to the business or risk profile.
• Pillar 1
The Firm has assessed the minimum amount of capital required which is calculated using the “Standardised Approach” which is the higher of (i) sum of credit risk and market risk; and (ii) Fixed Overheads Requirements (“FOR”). Kennet Partners Limited has determined that the highest requirement is the FOR and that the Firm has a regulatory capital surplus.
Pillar 1 Requirement
Credit risk 134
Market risk 13
Fixed overheads requirement 505
Total Capital Requirement 505
Total Capital Resources 1,404
• Pillar 2
The Firm conducts an Internal Capital Adequacy Assessment Process (“ICAAP”) in accordance with BIPRU 2.2.5 which is reviewed by the Board on an annual basis. The risk appetites and exposure of the Firm are assessed in this document along with some stress and scenario testing. The ICAAP report has determined that the Pillar 2 capital requirement is lower than the FOR identified in Pillar 1 and so there is no further capital requirement.
The main risks identified in the ICAAP are:
1. Operational Risk
Operational risk is the risk of loss resulting from inadequate or failed internal processes, people and systems, or from external events, including legal risk. The Firm has implemented a control environment in order to address risks identified.
2. Business Risk
Business risk is the possibility that the Firm will have lower than anticipated revenues resulting from a decline in funds under management or make investments on behalf of clients which do not deliver the anticipated returns. Business risk is influenced by numerous factors, including reputational damage, key man events, competition, the overall economic climate and government regulations.
In the course of the risk identification and assessment process, the Firm has identified the following as being the most pertinent aspects of business risk:
(a) Long term nature of Funds raised – this provides a high degree of certainty on revenues.
(b) Failure to raise future funds – the Board and senior management regularly monitor performance of the funds managed and continually assess the likelihood of raising future funds. Further, the Firm has a scalable business model, allowing it to be able to react quickly and effectively.
© Removal of GP in respect of any Fund – this would directly impact the Firm’s income stream. The Firm has the ability to manage its cost base if the business is in long term decline.
3. Liquidity Risk
Liquidity risk is financial risk due to uncertain liquidity within the overall heading of operational risk. The Board considers that liquidity risk is of importance to the stability of any business to warrant detailed consideration. Liquidity risk is managed by the following specific controls:
• Preparation of budgets covering the short and medium term (quarterly for the current year and annually for the next 2 years),
• Monitoring of current cash levels and of short term cash requirements.
The Firm’s liquidity risk is reduced by the following factors:
• Its business model is profitable and predictable,
• Fee income is generally received in advance and there is a history of prompt of payment,
• Bonuses are made at the discretion of the Board and are not contractual. They can therefore not be granted if there are any liquidity concerns.
4. Market Risk
Market risk is the risk that arises from macroeconomic events and which may impact the Firm’s income.
The Firm is subject to market risk in relation to a long-term macro-economic downturn at a global, national or regional level. The potential difficulty in raising new funds would directly impact the Firm’s income. As the management fees are not linked to assets under management, there will be no immediate impact on income associated with funds no longer in fundraising.
As an AIFM investment firm, the Firm is required to conform to the AIFM Remuneration Code as set out in Chapter 19B of Management Arrangements, Systems and Controls (SYSC) of the FCA Handbook. The objective of the Remuneration Code is to ensure that all regulated firms and their related parties have:
i. robust governance arrangements in place,
ii. established remuneration controls for Members whose professional activities could have a material impact on the risk profile of their firms, and
iii. prepared qualitative and quantitative disclosures of their remuneration policies
The Firm has not formed a Remuneration Committee. Instead, the Firm has adopted a remuneration policy which has been determined by the Board, who have considered its remuneration arrangements fully and formed the view that there are no remuneration-related matters that have any regulatory capital impact on the Firm.
For the year ended 31st December 2018, the Firm has identified 4 code staff based on the criteria that they are all Control Persons and Executive Directors of subsidiary entities. The firm’s aggregate emoluments amounted to £685k.
The Remuneration Policy has been established to promote sound and effective risk management, and to align remuneration with the firm’s business strategy, objectives, values and long-term interests.
The Board considers on an annual basis whether the remuneration structures are appropriate for the Firm to act in the best interests of its clients. No staff member is unilaterally responsible for setting their own remuneration. In addition, the variable aspect of the remuneration of BIPRU Remuneration Code Staff is flexible and considered annually for its suitability and thus entirely discretionary.