The Consumer Duty – the price and value outcome

The underlying premiss of the price and value outcome rules is that that the price of products and services must be proportionate to their value. Customers should be confident that the firm they deal with (and each other firm in the value chain) has taken steps to ensure that the product or service represents fair value. And fair value isn’t just about the price of a product or service. Under the rules, the focus is on the relationship between the price the customer pays to the overall benefits they can reasonably be expected to obtain from a product. A low-priced product or service might not deliver fair value.

Along with the proposals relating to customers in vulnerable circumstances and customers with protected characteristics, the price and value outcome rules seem to me to be the most challenging aspects of CP21/36, A new Consumer Duty: feedback to CP21/13 and further consultation (issued on 7 December 2021), and the ones where adjustments are, particularly, needed before final rules and final guidance are issued. My thoughts on the proposals are set out below.

Carrying out a value assessment

Firms are required to assess whether a product or service represents fair value to the customer and that requires a value assessment: an assessment of the benefits consumers can reasonably expect from a product or service against the price paid. There are a number of points in relation to value assessments in the following sections but the starting point is what firms need to consider.

Rather than being prescriptive, the FCA has said that firms have discretion to decide on the factors they use in carrying out the assessment, provided there remains a reasonable relationship between the total price of the product or service and the benefits the customer receives. When exercising that discretion, there are three factors firms must take into account, points firms may choose to include and references to other points that firms might want to consider (e.g. customer research, testing or use of internal data).

Firms must consider:

  • The nature of the product or service, including the benefits provided or that may reasonably be expected and their qualities;
  • Any limitations that are part of the product or service (e.g. limitations on the scope of cover, in the case of insurance products); and
  • The expected total price customers will pay, including all applicable fees and charges over the lifetime of the customer-firm relationship.

They may also consider:

  • The costs firms incur to manufacture and/or distribute the product or service (including the cost of funding, in the case of, for instance, loans);
  • The benefits received by consumers and the utility of the product or service to them;
  • Market rates and charges for comparable products and services;
  • Possible savings from economies of scale that could be shared with customers;
  • Possible returns from investment products or services; and
  • Any assumptions on credit or other risk the firm is exposed to.

It isn’t clear whether this last point refers to risk-based lending or cost of capital. For reasons referred to in a later section, I think it’s probably about cost of capital but it would be helpful for the FCA to clarify the point.

The benefits received by customers

Benefits consumers can reasonably expect to receive from a product or service is one part of the value assessment and this needs to be considered by both manufacturers and distributors. In each case, there’s a strong link between the price and value outcome and the products and services outcome, with benefits, price and value being considered when designing a product or service.

Manufacturers need to:

  • Consider the benefits to be offered (as part of the price and value outcome) when designing products to meet the needs, characteristics and objectives of the target market. Different products and services will have different benefits, which will have an impact on the value assessment.
  • Identify what features and benefits customers find valuable and design the product or service by reference to those. This requires market research within the target market and could result in an initial proposal for a product or service being re-cast if that research suggests that consumers don’t value the proposed features or benefits (or don’t value them sufficiently) or if the value assessment shows that the price and value outcome rules wouldn’t be complied with.

Distributors need to understand the value the product or service is intended to provide (based on information from the manufacturer) and the impact the distribution arrangements have on that value. So, they will need to consider:

  • The benefits the product or service is intended to provide;
  • The quality of service the distributor provides (which will be part of the ‘value’); and
  • Whether any remuneration the distributor receives would result in the product or service ceasing to provide fair value.

There are three other points to note in particular:

  • Benefits received by the customer seem to be restricted, quite tightly, to what’s provided for under the product or service; they don’t seem to include the more indirect or longer-term benefits a customer might receive as a result of having the product or service. Let’s look at two examples:
  • A customer takes out a mortgage to buy a residential property as their main residence. Over time, that property increases in value and the customer receives the benefit of that increase in value. Without the mortgage, the customer wouldn’t have been able to buy the property and receive the additional money from the increase in value. The purpose of the mortgage was to fund the purchase of the property and that objective has been met. But the ancillary benefit of the increase in value isn’t taken into account because the property isn’t treated as an investment.
  • Compare that with where a customer invests in a regulated collective investment scheme (or other regulated investment) with a view to receiving an increase in value over time. In that case, the purpose of the product or service is to receive a return on the investment. The expected return will, presumably, be taken into account in some form and a product or service might be considered to provide poor value if the customer doesn’t receive a positive return on the investment.

I’m not saying that all borrowing should be considered for incidental benefit but there are some cases – and a mortgage to purchase property is an example – where it seems appropriate to consider the wider benefits a customer can, potentially, receive. This will be difficult to quantify and there’s also the potential for a property or other asset falling in value. However, there’s a risk that the value assessment will be construed (potentially, quite significantly) away from firms if ancillary benefits aren’t taken into account in some form.

  • Because ‘value’ is considered widely, it includes (for instance) whether the features and benefits of a product or service are suitable for the customer, whether the customer can use, fully, all of the features and benefits of the product or service, levels of customer support provided and the quality of communications and information provided to the customer. A product or service that doesn’t meet the needs of the customer it’s sold to, causes foreseeable harm or frustrates the customer’s objectives is unlikely to offer fair value whatever the price. This point also shows the link between the price and value outcome rules and the cross-cutting rules that make up part of the new Consumer Duty.
  • There are quite a number of references to remuneration in CP21/36. The FCA doesn’t limit the remuneration firms can receive or specify all of the types of remuneration to be taken into account. However, it’s clear that remuneration over the lifetime of the product or service will be taken into account when determining the price paid by the customer and may have a significant impact on whether the product or service represents fair value to the customer. This is a clear shot across the bows of firms that include ‘high’ remuneration as a cost of providing a product or service.

The price charged to customers

The focus, here, is principally on manufacturers; for distributors, the emphasis is on remuneration (see above).

Manufacturers need to consider all the costs and charges the consumer may pay for a product or service over time:

  • Charges at the start and end of the product or service lifecycle.
  • Fees and charges the customer may incur over the life of the product or service. This is an important point, as it includes any interest, fees and charges the customer may incur in relation to late payment or arrears especially if the target market (or, perhaps, a customer group within the target market – CP21/36 isn’t clear on this) includes consumers with a poor credit rating. It also isn’t clear if any such interest, fees and charges would also need to be taken into account where customers have a thin credit file, particularly where they have features in common with customers with a poor credit rating. What constitutes a poor credit rating also isn’t clear and it may be that firms will have to determine this for themselves, probably erring on the side of caution.
  • Where a product is intended to be provided as part of a package (with other products – or, perhaps, with a linked product or offer; that isn’t clear either), firms need to consider the value of each component product or service and the overall value of the package. I assume that, where customers can pick-and-mix products or components, each potential permutation will have to be considered.

Other points to note are considered in the following sections.

Non-financial costs to consumer

Non-financial costs to consumers are interpreted widely and they may include:

  • The time and effort it takes consumers to access, assess and act to buy, amend, switch or cancel a product or service. However, there are no steers from the FCA about whether it’s reasonable to assume that customers will, generally, amend, switch or cancel a product or service (or do more than one of those) or the proportion of customers that will need to do this before this ‘price’ needs to be taken into account. Firms will need to determine thresholds and approaches for themselves, document the justification for the decisions they reach and keep the position under review.
  • Firms’ use of consumer data where consumers knowingly or unknowingly ‘pay’ with their data, privacy or attention. This seems to apply where firms use consumer data but care will be needed if data isn’t, currently, being used but there are plans to do that in the future. It’s unclear how any quantitative assessment will work and what amount would be put to, say, the amount of ‘attention’ given by a customer and the use a firm puts to that. I’m also unclear how these activities can be forecast, in any meaningful way, over the lifetime of a product or service, particularly where customer service and support is likely to alter in the future. Firms will need to document what they assume will be in place, including the scope of customer service and the level of support offered, and ascribe a monetary ‘price’ to this.

Differential prices to different groups of customers

My view is that CP21/36 contains conflicting messages on whether there can be differential pricing to different groups of customers.

  • There are clear statements in the draft non-Handbook guidance that the price and value outcome rules don’t require firms to charge all customers the same amount.
  • However, the draft guidance also states that where firms charge different prices to separate groups of customers, they should consider whether the price charged for the product or service provides fair value for an average customer in each pricing group, while having regard to whether any customers who have characteristics of vulnerability may be disadvantaged. As one of the characteristics of vulnerability includes financial difficulty, my view is that it’s likely to be hard for firms to justify risk-based pricing without a clear and unqualified message from the FCA that this is acceptable. Based on the draft guidance, I don’t know whether that will be forthcoming.

The customer groups affected is a key point to consider. The draft guidance says that firms have to be particularly careful where groups that share protected characteristics may be disadvantaged and any differential outcomes need to represent fair value, as well as being compatible with obligations under the Equality Act 2010. Care also needs to be taken with differential pricing that may exacerbate susceptibility to receiving poor value on the part of customers with vulnerable characteristics.

Other points in relation to differential pricing are as follows:

  • Servicing fees, as a percentage of the size of the loan, investment or savings, are said to result in some customers paying substantially more than others even though the costs of providing the service and the benefits consumers receive may be similar. The draft guidance says that, in these cases, firms should consider whether the price consumers in different groups pay is reasonable relative to the benefits they receive. The ‘groups’ referred to here are probably the groups within the target market set by the firm but that’s not clear in the context of the relevant section of the draft guidance.
  • Other consumer outcomes are to be considered where there’s differential pricing:
    • Do consumers receive relevant information to understand the implications of differential pricing in the context of the benefits they receive?
    • Do firms’ customer service standards support customers making decisions where there’s different pricing (for instance, moving to a new rate available or the period to fix a rate)?

To summarise, firms need to consider whether there’s fair value to consumers in respect of all products and services and differential pricing increases the risk that products and services don’t represent fair value, particularly where consumer groups include customers in vulnerable circumstances and customers with protected characteristics.

When should fair value be assessed?

In the case of manufacturers, the value assessment should be carried out at the product or service design stage in order to ensure that the price represents fair value for a foreseeable period. What that ‘foreseeable period’ is depends on the nature of the product or service, its term, when it renews or comes under review and other factors – perhaps also including any break clauses, attrition rates and when customers can generally be expected to switch to another product or service.

In the case of distributors, the value assessment should be carried out at the point of sale, considering:

  • Whether the distributor’s own distribution charges (including remuneration) represent fair value; and
  • Whether the overall product or service proposition provides fair value to the customer (relevant to the final firm in the distribution chain if there’s more than one distributor).

The proposals also include a requirement to assess, on an on-going basis, whether the product or service provides fair value. This will be part of the regular review of the product or service under the product and service outcome rules.

Monitoring

It’s proposed that firms will review the value of a product or service throughout its lifecycle. The frequency of reviews depends on the nature and complexity of the product or service, any indications of customer harm, the distribution strategy, the cycle of product or service review under the product and service outcome rules and other factors. It’s expected that a range of information will be taken into account and firms will need to ensure they have systems in place to collect whatever information they consider is needed.

Governance

Throughout this article, there have been references to firms needing to make decisions and determinations in order to implement the rules and guidance in respect of the price and value outcome. As with other consumer outcomes, firms will need to put in place a governance framework that allocates responsibilities, provides oversight, sets policy, defines procedures, makes and evidences both decisions and decision-making, provides for management information and specifies the assurance and controls programme to monitor implementation and application. That framework will also need to fit with the governance frameworks for other consumer outcomes and the Consumer Duty more generally.

Innovation and competition

The Consumer Duty is seen as a tool to promote both innovation and competition, with competition being seen as a factor encouraging fair value for consumers. High pricing is seen as a potential indicator that some non-price element of fair value (e.g. transparency, simplicity of terms, ease of exit) isn’t operating properly. Apart from the points about a competitive market, the examples given here give us a message about what the FCA would like to see in the retail financial services market: simple products and services that are easy to understand, compare and leave (by switching to a competitor) and that are transparent and low-cost. This is consistent with messages in CP21/36 in relation to other consumer outcomes.

Firms are encouraged to innovate and there’s an acknowledgement that ‘additional benefits’ might justify a higher charge. But where there are savings from economies of scale which could be shared with customers, it’s expected that firms will take those into account when assessing the fair value of a product or service.

There’s been comment in the media and from industry groups that the Consumer Duty proposals could result in firms withdrawing from sections of the market. This would seem to be a risk, in spite of the FCA’s encouragement to innovate.

This article is intended to provide general information about recent and expected items that might be of interest. It does not provide or constitute, or purport to provide or constitute, advice relevant to any particular circumstances. Legal or other professional advice relevant to any particular circumstances should always be sought.

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