The draft products and services outcome rules set out in CP21/36, A new Consumer Duty: feedback to CP21/13 and further consultation, issued on 7 December 2021, appear to cover familiar ground. The Financial Conduct Authority refers to the rules providing a range of requirements, including the need for firms to:
- Ensure that the design of the product or service meets the needs, characteristics and objectives of consumers in the identified target market;
- Ensure that the intended distribution strategy for the product or service is appropriate for the target market; and
- Carry out regular reviews to ensure that the product or service continues to meet the needs, characteristics and objectives of the target market.
However, the products and services outcome rules and the non-Handbook guidance relating to them provide challenges for firms as currently drafted. This article considers some of the points arising from the rules and guidance.
Needs, characteristics and objectives (of the target market)
It’s been standard practice for some time to consider whether a product or service meets the needs of the target market. The products and services outcome rules follow that approach but also highlight:
- The characteristics of the target market, requiring firms to understand their customers – and potential customers – that make up that market. This includes being able to identify customers with characteristics of vulnerability and those with protected characteristics under the Equality Act 2010. These are key areas of emphasis under the Consumer Duty and use of the word characteristics, and its playback to customer vulnerability and the Act, is unlikely to be a coincidence. (As an aside, note the new expressions customers with characteristics of vulnerability and customers in vulnerable circumstances, replacing the old expression vulnerable customers and fitting better with the reference to characteristics when considering the target market.)
- Reference to the objectives of the target market is partly aligned with the cross-cutting rule that firms must enable and support retail customers to pursue their financial objectives. By not including “financial” before “objectives” it seems that broader customer objectives need to be considered but the FCA hasn’t issued any guidance on that point. Clarification would be helpful.
The importance of the target market and granularity
Defining the target market for the product or service is a key component of the products and services outcome rules. But firms need to consider the target market at a sufficiently granular level, having regard to the characteristics, risk profile, complexity and nature of a product or service. The more complex or niche the product or service, the greater the specificity that’s needed when defining the target market. Other points are set out below.
- It’s unclear whether the target market is to be set first, with a product or service being designed for the target market, or a product or service is developed and the target market for that product or service is then set. The FCA refers to the latter but it would seem to me that either is workable, with the product or service being adjusted and the target market being refined.
- The FCA’s suggestion that firms consider groups of customers the product or service isn’t intended for is a useful one but bear in mind the particular phraseology the FCA uses – groups of customers whose needs, characteristics and objectives the product or service is generally not compatible. It’s vaguer – less black-and white; in-or-out – and uses customer needs, characteristics and objectives as the reference points.
- See the section below regarding customers with characteristics of vulnerability and customers with protected characteristics when defining the target market.
- And see the further section below regarding significant changes to a product or service and needing to re-define the target market
Manufacturers and distributors
The products and services outcome rules distinguish between manufacturers (who create, develop, design, issue, operate or underwrite a product or service) and distributors. There are different requirements for each and bear in mind the points set out below.
- There may be more than one manufacturer in respect of a product, even where the two firms are within the same group. Where this happens, there needs to be a written agreement allocating responsibilities between each manufacturer.
- A manufacturer can also be a distributor.
- Manufacturers are required to set a distribution strategy as part of the ‘manufacture’ of it, allowing them to select both distribution channels and appropriate distributors.
- A distributor might distribute products where the manufacturer falls outside the scope of the Consumer Duty but the distributor still needs to take reasonable steps to comply with its obligations.
- Manufacturers and distributors are expected to co-operate with each other, exchanging information to allow them to perform their duties, bearing in mind data protection and other obligations to which they are subject.
- All of these processes and arrangements will need to be documented clearly, consistent with policies, internal governance and systems.
Customers with characteristics of vulnerability and customers with protected characteristics under the Equality Act 2010
When designing a product or service, a manufacturer must ensure that:
- It meets the identified needs, characteristics and objectives of consumers in the identified target market,
- So that the product or service doesn’t adversely affect customers,
- To prevent or mitigate customer harm.
Part of this assessment should consider the impact on customers in vulnerable circumstances. Bear in mind that the FCA considers that:
- Anyone can become vulnerable at any time and that firms will therefore need to design products and services to be flexible and capable of being adapted; and
- When designing products and services, firms need to consider what might happen in the future. Although that appears to be mentioned in the context of investment products and services (where past performance can be a factor to consider), my view is that the FCA intends the point to have wider application, particular when considering the position of customers who find themselves in vulnerable circumstances at a future date. Greater clarity would be helpful.
One of the key areas of concern is that customers with characteristics of vulnerability and customers with protected characteristics under the Equality Act 2010 will receive outcomes that aren’t as good as those received by other customers. This is a key point in the FCA’s Guidance for firms on the fair treatment of vulnerable customers, issued in February 2021. The needs, characteristics and objectives of customers in vulnerable circumstances and customers with protected characteristics under the Equality Act should be considered at all stages of the design process and products and services that are approved under that process should meet those needs, characteristics and objectives and seek to avoid harmful impacts. However, establishing whether products and services meet the needs, characteristics and objectives of customers in vulnerable circumstances and customers with protected characteristics under the Equality Act depends on the full range of expected circumstances being identified and, in some cases, establishing what the range of potential future circumstances might be. This is likely to be challenging for firms and it would be helpful for firms to be obliged to take measures that are more within their control.
It would also be helpful to have a clearer steer from the FCA about what it’s expecting to see – in relation to this and the related point about what will constitute outcomes as good as those experienced by other customers. The current draft guidance doesn’t make it clear what this means (and it’s also relevant to other consumer outcomes under the Consumer Duty). Not all customers will receive exactly the same outcome in respect of the same product or service; that’s normal, but a level of deviation doesn’t seem to be acceptable. These points are difficulties under the Guidance for firms on the fair treatment of vulnerable customers too; they aren’t specific to CP21/36.
I’d like to make it clear that these comments are not directed at the position of customers in vulnerable circumstances and customers with protected characteristics under the Equality Act; I support steps to protect them and ensure that they achieve good outcomes. The comments are directed at the lack of clarity regarding the proposals in CP21/36 and the difficulties I think there are likely to be in practice in complying with the provisions as currently drafted.
Review and changes to products and services
Firms must carry out regular reviews to check:
- How products and services function in practice;
- Whether the target market (and, presumably, the needs, characteristics and objectives of the target market) are altering; and
- Whether the product or service can be improved.
The review will need to consider whether the customer groups that have been identified within the target market remain valid and whether the needs and objectives of customers in vulnerable circumstances and customers with protected characteristics under the Equality Act are being met. Manufacturers and distributors will both have to carry out reviews. Distributors, in particular, will need to provide information to manufacturers so they can establish whether the distribution strategy is effective and the target market is being reached.
Not surprisingly, action is to be taken to mitigate the situation if any circumstances are identified that may adversely affect customers (including particular groups of customers, and customers in vulnerable circumstances and customers with protected characteristics under the Equality Act). The mitigating action required will depend on the particular circumstances identified but the FCA gives examples:
- Making changes to the product or service;
- Amending the distribution strategy before making further sales;
- Offering existing customers the option to leave the product or service without additional cost; and
- Providing appropriate mitigation of any harm suffered.
A package of measures might be needed and there’s likely to be a cost to the firm. It will be important to set out criteria for review, aligned with the product or service approval process, and a review schedule that’s sufficiently frequent to be meaningful and to nip any issue in the bud. A decision will also need to be made about who should carry out the review – probably the business but probably not a quality assurance function.
Whether in response to points identified or for other business reasons, changes may be made to products and services and the product and service outcome rules apply where significant changes are being made, as they do to new products and services. Under the guidance document, a change is ‘significant’ if it has a potential impact on the customer – for instance, if a feature is added or removed, if there are changes to the target market or any significant change is made to the terms and conditions. It seems that ‘significant’ is to be construed from the perspective of customers (or customer groups, including customers in vulnerable circumstances and customers with protected characteristics under the Equality Act), rather than from the firm’s perspective. It is also worth bearing in mind that what’s ‘significant’ may evolve over time, particularly as the target market alters, along with customers in vulnerable circumstances and customers with protected characteristics under the Equality Act.
Existing products and services and consideration of the back book
The products and services outcome rules apply to existing products and services sold to new customers, as they do to new products and services manufactured after the rules come into effect. This means that firms will need to review all products and services currently offered and sold. Any review of existing and back-book products and services should consider compliance with the price and value outcome rules and the ability of the firm to comply, in the future, with the customer support outcome rules as well as the product and service outcome rules. The results of the review may lead firms to retire products and services and offer new products and services in their place, to make changes or to continue them unaltered.
As mentioned in the Consumer Duty Overview article, it would be helpful to have more clarity from the FCA about whether the new standards are to be applied across the whole of the customer journey or whether customer outcomes will be assessed in two stages and by reference to two standards: before the Consumer Duty came into effect and after the Consumer Duty came into effect. This point is likely to affect decisions whether to retire, adjust or continue products and services.
Governance
Product governance will almost certainly need to be taken up a level to meet the new requirements. There will need to be clear policies and procedures, allocation of responsibilities, oversight, monitoring and review work, reporting (with appropriate qualitative and quantitative MI) and records to evidence what’s been done. The governance framework will need to be established at an early stage in the work so that the work programme complies with that framework. It will also need to fit with the governance frameworks for other consumer outcomes and the Consumer Duty more generally.
Links to other outcomes and the cross-cutting rules
Although this article considers the products and services outcome, that outcome shouldn’t be considered in isolation. As I’ve mentioned in a few places, the price and value outcome will be particularly relevant and, essentially, runs alongside the products and services outcome. The cross-cutting rules are also relevant – see comments above.
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.