Mutual deferred shares – a panacea to the sector’s difficulties?

What has happened?

In August HM Treasury (HMT) issued draft regulations that will enable mutual insurers to raise capital under the powers in the Mutuals’ Deferred Shares Act of 2015.  The consultation on the draft regulations was open until 30 September 2016.  We submitted a response to the consultation the key points of which are summarised below.

"In our opinion, the potential difficulties that traditional with-profits mutuals might have in dealing with the FCA could limit the number of participants to but a handful of firms."

In addition the Financial Conduct Authority (FCA) has issued a draft consultation on the marketing and administration of mutual deferred shares in its Quarterly Consultation No.14 CP16/21. The FCA proposals appear non-controversial and we do not consider them further in this article.

Should firms take advantage?

The proposals appear reasonable and, subject to meeting specific criteria, will allow firms to tap into additional capital markets to fund investment and growth.  But there are two crucial aspects that could prevent a large take-up of the new powers.

First, any application by a mutual to issue deferred shares must be approved by both the Prudential Regulation Authority (PRA) and the FCA with the application including a clear exposition on how distributions on the shares would be determined in future.

This in itself is sensible, and all mutuals would carry out such work in any event to justify the issuance of such capital. However, there is a risk that the regulators may use any application to re-open issues such as those around Chrysalis and 'Members’ Capital'.  This could result in lengthy, expensive discussions that may not be fruitful.

Second, as discussed in the consultation, the tax implications both for the mutual and for the owners of the new instruments are far from clear with little indication of how this uncertainty is going to be resolved.

Who might use the new powers?

HMT says that “up to 10 of the larger firms” could take advantage of the regulations, and “a large mutual could raise between £70 million and £100 million of additional capital to grow the business”.

In our opinion, the potential difficulties that traditional with-profits mutuals might have in dealing with the FCA could limit the number of participants to but a handful of firms.  The powers therefore seem to be of most value to non-profit mutuals operating in the health and other general insurance markets.  However, such players will need to be able to convince potential investors that they have a compelling business case that can support the financing of the new capital.

In summary the draft regulations are welcome but, to be a success, the regulators and tax authorities will need to cooperate and allow firms to take advantage of the new powers without imposing extensive and unnecessary constraints.


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