Introduction
In 2007, the European Union Capital Requirements Directive (‘CRD’) introduced consistent capital adequacy standards and an associated supervisory framework based on the Basel II Accord within the European Union. The CRD was implemented in the United Kingdom (the “UK”) by the UK Financial Services Authority (the “FSA”) Prudential Sourcebook for Banks, Building Societies and Investment Firms (“BIPRU”). It comprises three elements:
Pillar 1 | the minimum capital requirements of firms to cover credit, market and operational risk; |
| Pillar 2 | the requirements for firms and regulators to assess the need to hold additional capital to cover risks not covered under Pillar 1. Pillar 2 is also known as the Internal Capital Adequacy Assessment Process (“ICAAP”); and |
| Pillar 3 | a set of disclosure requirements which enable market participants to assess information on firms’ risk management controls and capital position. |
The information set out herein represents IND-X Securities Ltd’s (the ‘Company’, which is authorised and regulated by the FSA) Pillar 3 disclosure. Its aim is to encourage market discipline by allowing market participants to assess key pieces of information on the Company’s capital, risk exposures and risk assessment processes. Future disclosures will be issued on an annual basis and published as soon as practicable after the publication of the Annual Report and Accounts.
Background of the Firm
IND-X Securities Ltd is a limited company registered in England and Wales under number 4571666. It is authorised and regulated by the FSA (regulated number 473146) as a BIPRU 125K Firm and is wholly-owned subsidiary of IND-X (Holdings) Ltd. Since 2010, IND-X (Holdings) Ltd is a majority-owned subsidiary of Leading Asia (Holdings) Ltd, an investment bank based in Hong Kong. Other operating subsidiaries in the IND-X Group include IND-X Securities (Asia) Ltd, a Hong Kong based broker dealer, which is regulated by the Securities and Futures Commission.
The Company provides an execution hub and commission share platform for the management of the unbundled equity execution process. The Company operates in most of the major equity markets globally and its CSA product is branded PORT. The company provides execution services and CSA platform to institutional investors only.
Governance
The IND-X Group is directed by the Board of IND-X (Holdings) Ltd, which is ultimately responsible for the risk management regime. It comprises three executive directors, of which one also sits on the Board of IND-X Securities Limited, and Board meetings are held at least once per year at which operations and financial reports are considered. Day-to-day risk management responsibilities are delegated by the Board to the subsidiary Boards and subsidiary Chief Executive Officers. A compliance function exists, which reports to the CEO and Board where relevant, on any significant internal control failures that have occurred and on the quality of internal policies, controls, processes and monitoring procedures in place to deal with risk, making recommendations for improvements where applicable.
The key elements of the Company’s management and financial controls are as follows:
Control Environment - Presence of a clear organisational structure and well-defined lines of responsibility and delegation of appropriate levels of authority.
Financial risk management - The Company has in place a risk management framework that seeks to limit adverse effects on its financial performance. The Company does not use derivative financial instruments to manage interest rate costs and, as such, no hedge accounting is applied.
Risk Management - Business strategy and plans are reviewed by the Board.
Financial Reporting - A comprehensive system of budgets and forecasts with monthly reporting of actual results against targets for the whole of IND-X Group is in operation.
Control Procedures and Monitoring Systems - Authorisation levels, procedures and other systems of internal controls are documented, applied and regularly reviewed.
The directors are responsible for formulating, reviewing and approving the Company’s strategy, budgets, major items of capital expenditure and senior personnel appointments. The directors are also responsible for preparing the financial statements in accordance with applicable United Kingdom law and United Kingdom Accounting Standards (United Kingdom Generally Accepted Accounting Practice).
The directors are required to prepare financial statements for each financial year which fairly present the financial position of the Company, its financial performance and cash flows for the period. In preparing the financial statements, the directors are required to:
- select suitable accounting policies and then apply them consistently;
- make judgments and accounting estimates that are reasonable and prudent;
- state whether applicable UK Accounting Standards have been followed, subject to any material departures disclosed and explained in the financial statements;
- prepare the financial statements on the going concern basis unless it is inappropriate to presume that the company will continue in business.
The directors are responsible for keeping adequate accounting records that are sufficient to show and explain the Company’s transactions and disclose with reasonable accuracy at any time the financial position of the Company and ensure that the financial statements comply with the Companies Act 2006. The directors are also responsible for safeguarding the assets of the Company and for taking reasonable steps for the prevention and detection of fraud and other irregularities.
The Board of IND-X regularly conducts reviews of the internal controls and risk management across the group through its compliance function. The Global Head of Compliance reports any findings and suggests any improvements to the control environment to both the Chief Executive Officer, and where relevant the Board.
The process and systems of internal control are designed to manage, rather than eliminate, the risk of failure to achieve the Group’s objectives, and can therefore only provide reasonable and not absolute assurance against material misstatement or loss.
The Company’s principal financial instruments are inter-company loans with other companies within the Group and cash held via its commission share management functions. The Company has other financial instruments such as trade debtors and trade creditors that arise directly from its operations. The Company’s policy is not to enter into any derivative transactions such as interest rate swaps or financial foreign currency contracts.
The Board reviews the Company’s funding and capital structure from time to time. The Company has no interest-bearing liabilities, excepting the inter-company loan, and has no current intention of assuming such liabilities.
The Company’s employees are supervised by the directors and they are not permitted to be involved in any activities which could be seen as conflicting with the Company’s provision of independent investment advice to its clients. All client-facing sales traders are approved persons (for conduct of financial services business) by the FSA and no employee is permitted to speak to clients or brokers until they are properly licensed for such activities. Conduct of staff and their activities are subject to strict compliance procedures laid out in the Company’s compliance manual and Group policies and instructions.
Staff remuneration is not linked to dealing or other activities which are carried out as a result of the execution service or CSA activities they provide.
No employee of the Company may carry out any personal account dealing which could create a conflict of interest and affect the impartiality of the Company’s execution service. Any proposed personal account dealing by employees is subject to pre-approval by a director of the Company and no dealing which could create a conflict of interest between the Company’s employees and its customers is permitted. The Company does not hold securities on its own account.
The Company has no other regulated or unregulated business activities which conflict with its provision of independent execution or commission management. The Company does not publish or distribute investment research.
Certain disclaimers may be included in Company material where appropriate.
The IND-X Group operates a centralised treasury function which invests the group’s surplus cash holdings in a spread of bank deposit accounts.
Risk Management Framework
IND-X has two mutually interdependent, but complementary aims;
- Duty to provide a quality service whilst ensuring fair treatment of clients; and
- Duty to secure a satisfactory return.
Risk is an inherent part of IND-X’s business. IND-X’s objective is not to eliminate risk but to manage risk to an acceptable level. Effective risk management assists the delivery of strategic objectives, management of potential threats and aid capital planning. A core objective of IND-X’s risk management framework is the continuous identification, assessment, mitigation, monitoring and reporting of risk. The framework is based on three lines of defense:
- Risk Management and Control, including the identification, control, monitoring and mitigation of risk;
- Risk Oversight and Governance; and
- Independent Assurance.
This model is applied to all risks which could have a significant negative impact on the IND-X Group if they were to materialise. Such material risks are reviewed and reassessed at least annually and are covered in IND-X’s Group Policy on Material Risks.
IND-X’s compliance function is primarily responsible for supporting the business to ensure that the Company’s activities are conducted in accordance with regulatory and client requirements. This is partly achieved through the existence of a risk-based monitoring program. This program, which is updated annually, sets out the monitoring reviews to be undertaken and ensures that compliance resources are focused on the areas perceived to be of greatest risk. Compliance issues reports to senior management and monitor recommendations to ensure they are followed up and implemented as appropriate. Compliance maintains specific policies and procedures in relation to employee conduct, which are contained either within the Compliance Manual or specific policy documents. All employees are required to sign a statement that they have received and read these documents.
Risk Categories
The most significant risk categories for the Company are:
Operational Risk
Operational risk is defined as the risk of loss arising from inadequacies or failures in a firm’s internal processes, people and systems or from external events, including legal risk. IND-X is aware that operational risk can never be eliminated, but seeks to minimise the probability and impact of operational events.
IND-X manages this risk through applicable controls, processes and procedures, including clear organisation structure, well-defined lines of responsibility and delegation of appropriate level of authority, and through loss mitigation techniques, including use of insurance. To date it has not experienced a claim for loss from any client or third party arising from poor advice or other negligence. The Group carries D&O insurance (up to GBP 1 million single claim or in aggregate) with FSA regulated insurers.
Policies, procedures and internal controls ensure compliance with laws and regulations. Further assurance is provided by IND-X’s compliance function. The Group outsources much of its IT environment to high quality external vendors and the Company’s data is backed up on a daily basis. The Company has also established disaster recovery procedures, which are well established and reviewed annually by the compliance function.
Two of the Company’s key operations are product and execution. Orders placed for execution by IND-X are received by various means, mainly electronically via FIX directly from the counterparty or manually via sales traders. These are then routed onward, electronically, for execution. Orders received electronically are issued an electronic “acknowledgement” message and a call back is arranged if requested by the client. Manual orders are entered and a dual call back process is in place to ensure order details are entered into the system correctly. Fidessa is currently used as the OMS platform and this is periodically reviewed to ensure it remains fit for purpose. Fidessa currently operates via an internet based platform via local data centers and sales traders have 24/7 connectivity if required.
Credit Risk
Credit risk is defined as the risk of financial loss arising from a counterparty or client failing to meet its obligations to repay outstanding amounts as they fall due. There are no significant concentrations of credit risk. The maximum exposure to credit risk is represented by the carrying value of each financial asset, in the main trade debtors, in the balance sheet. The Company manages this risk by having a client base widely spread among high quality institutional clients and credit controls are performed on each client. To further minimise the risk, trades are normally settled on a “delivery/receipt versus payment” basis, meaning cash and stock move at the same time. Also, IND-X does not conduct trading/hold securities on its own account.
Liquidity Risk
Liquidity risk is the risk that a firm, although solvent, either does not have available sufficient resources to enable it to meet obligations as they fall due. For IND-X, this risk mainly concerns:
- Counterparty risk exposure from a client or fund not being able to pay fees;
- Risk of a significant or unplanned corporate expense;
- Risk of the Company becoming loss-making and draining cash resources.
IND-X manages this risk by having a comprehensive budgeting and forecasting process with monthly reporting of actual results against targets. Company expenditure is predictable and generally evenly spread from month to month and cash resources are managed as part of the IND-X Group’s centralised treasury function. To ensure client and counterparty confidence, the Company will hold sufficient liquid assets to meet liquidity pressure resulting from unexpected circumstances. This is monitored by the Group’s treasury function. The Company’s primary objectives when managing capital (share capital plus reserves) are to safeguard its ability to continue as a going concern and to comply with its regulatory obligations.
Market Risk
Market risk is the risk that arises from fluctuations in values of, or income from, assets or in interest or exchange rates. As noted previously, the IND-X Group does not undertake any principal trading for its own account. As a result, it is not exposed to any significant market risk which would arise from such. The Company has some exposure of foreign currency as the Group receives foreign exchanges for much of its revenues. The foreign currency exposure is monitored and controlled by the Group’s treasury function. The main financial asset of the IND-X Group is its cash deposits. The deposits have floating interest rates (which generate interest based on LIBOR) and are therefore exposed to fluctuations in interest rates. To manage this risk, interest rates are fixed in advance for periods that the Board considers appropriate to the prevailing circumstances. While changes in interest rates will affect the Company’s income, they should not pose a significant risk to the Group.
Capital Resources and Requirements
The company assesses its capital adequacy to support current and future activities in a number of ways. Pillar 1 capital adequacy is monitored daily for compliance with capital requirements and is reviewed formally by the Group’s Finance Committee on a monthly basis. The Company assesses internal capital adequacy, as required by Pillar 2, on a quarterly basis.
At 31 March 2010 the Company’s regulatory capital (Tiers 1, 2 & 3, comprising share capital and reserves, less a deduction for intangibles) was £619k
| IND-X Securities Ltd £’000 | |
| Tier 1 capital | |
| Permanent share capital | 4 |
| Share premium account | 1,572 |
| Perpetual non cumm pref shares | 1,500 |
| Profit & loss account | (2,457) |
| Deduct: Intangible assets | 0 |
| Total Tier 1 capital after deductions | 619 |
| Lower Tier 2 Capital adjustments | 0 |
| Total Tiers 1 & 2 Capital | 619 |
| Upper Tier 3 Capital adjustments | 0 |
| Total Tiers 1, 2 & 3 Capital | 619 |
The Board has considered how much additional capital would be required in the event of a winding up. It has concluded that the Company has sufficient surplus net assets, backed by bank deposits, for an orderly winding down of the business and repayment of all creditors and a surplus to the shareholders, after expenses.
Accordingly, the Board considers that the Company has sufficient resources to meet foreseeable and unforeseeable probable risks.
Compliance with Pillar 2 (ICAAP)
The Group undertakes an Internal Capital Adequacy Assessment Process (ICAAP), which is an internal assessment of its capital needs. The Board has considered the impact of an economic downturn on (i) the Company’s financial position and on (ii) its business plans. The Company is well-capitalised; its cost base is fairly predictable and is within the Board’s control. The Board believes that the Company can cope with the current and unprecedented downturn in economic activity. Should income drop to an extent that significant and/or sustained losses are forecast the Board will take steps to reduce the cost base accordingly or could resolve to stop trading and liquidate the business.
September 2010