Pillar 3 Disclosure

INTRODUCTION

The European Capital Requirement (“CRD”) and Alternative Investment Fund Management (AIFMD) Directives ("the Directives") establishes a revised regulatory capital framework across Europe governing the amount and nature of capital which credit institutions and investment firms must maintain. In the United Kingdom, the Directive has been implemented by the FCA in its Handbook of rules and guidance, including in particular in the Prudential Sourcebook for Investment Firms (“IFPRU”) and the Interim Prudential Sourcebook for Investment Business (“IPRU (INV)”).

The CRD Directive's framework consist of three 'Pillars':

  • Pillar 1
    This sets out the minimum capital amount that meets the firm’s credit, market and operational risk.
  • Pillar 2
    Requires the firm to assess whether its capital is adequate to meet its risk that are not covered by Pillar 1 and is subject to review by the FCA.
  • Pillar 3
    Requires public disclosure of qualitative and quantitative information about the underlying risk management controls and capital position of a firm.

The AIFMD adds further capital requirements based on the Alternative Investment Fund (“AIF) assets under management and professional liability risks.

The CRD set out the provision for Pillar 3 disclosure. This document is designed to meet Harwood Capital LLP’s ('the Firm or LLP”') Pillar 3 obligations under Part Eight of the CRR by setting out the Firm's risk management objectives and policies.

We are permitted to omit required disclosures if we believe that the information is immaterial such that its omission or misstatement would not be likely to change or influence the assessment or decision of a reader relying on that information for the purpose of making economic decisions.

In addition, we may omit required disclosures where we believe that the information is regarded as proprietary or confidential. In our view, proprietary information is that which, if it were shared with the public, would undermine our competitive position. Information is considered to be confidential where there are obligations biding us to confidentiality with our client, suppliers and counterparties.

We have made no omissions on the grounds that it is proprietary or confidential. 

Frequency and location of disclosure

Disclosures will be issued on an annual basis, at a minimum, and will be made available on Harwood's website.

Entity

Harwood Capital LLP is registered and authorised with the FCA. It is the only entity within the Harwood Capital Management group of companies to be FCA registered. Harwood Capital Management Limited, a Designated Member of the LLP, and the top company of the Harwood group of companies has substantial cash resources and these resources are available to the other companies within the group as and when required.

GOVERNANCE ARRANGEMENTS, THE MANAGEMENT BODY AND COMPETENCE

The Senior Management Team meet on a regular basis and at least quarterly. Such meetings have a formal agenda which countenances enterprise wide issues and the risk appetite of the business. The meetings demonstrate how the Senior Management Team, oversees and is accountable for the implementation of governance arrangements and ensures the effective and prudent management of the firm, with due consideration to the appropriate and proportionate segregation of duties and the prevention of conflicts of interest.

The Firm considers that appropriate policies are in place to ensure the fitness and properness of all staff, including the members of the senior management body. All members of the Senior Management Team are experienced industry professionals and any senior appointments are subject to the approval of the management body with due consideration to the reputation, fitness and experience of the candidate as well as the long term strategic goals targets of the business.

All members of the Senior Management Team are full time and have disclosed any outside business interests.

Initial on ongoing assessments of the competence of staff are conducted, and all members of the senior management team and other FCA approved persons are required to attest to their ongoing compliance with the fitness and properness obligations of the FCA approved persons’ process.

On an ongoing basis, all staff including the Senior Management Team undergo training on a variety of regulatory topics on a bi-annual basis.

RISK MANAGEMENT

The Firm has established a risk management process in order to ensure that it has effective systems and controls in place to identify, monitor and manage risks arising in the business. The risk management process is overseen by the COO, with the Senior Management team taking overall responsibility for this process and the fundamental risk appetite of the firm. The Head of Compliance has responsibility for the implementation and enforcement of the Firm’s risk principles.

Senior Management meet on a regular basis and discuss current projections for profitability, cash flow, regulatory capital management, business planning and risk management. Senior Management engage in the Firm’s risks though a framework of policy and procedures having regard to the relevant laws, standards, principles and rules (including FCA principles and rules) with the aim to operate a defined and transparent risk management framework. These policies and procedures are updated as required.

The Senior Management team has identified that operational and market risk are the main areas of risk to which the Firm is exposed. Annually the Senior Management team formally review their risks, controls and other risk mitigation arrangements and assess their effectiveness. 

A formal update on operational matters is provided to the Senior Management team on a quarterly basis. Management accounts demonstrate continued adequacy of the firm’s regulatory capital are reviewed on a regular basis. 

Appropriate action is taken where risks are identified which fall outside of the Firm’s tolerance levels or where the need for remedial action is required in respect of identified weaknesses in the firm’s mitigating controls. The LLP’s Designated Members have identified the principal risks to which the Firm is exposed. They are as follows: 

Operational Risk

This is defined as the risk of loss resulting from inadequate or failed internal processes, people and systems or from external events, including legal risk.

The Firm places strong reliance on the operational procedures and controls that it has in place in order to mitigate risk and seeks to ensure that all personnel are aware of their responsibilities in this respect.  

The Firm has identified a number of key operational risks to manage. Probably the greatest risks are dealing errors and potential breaches of investment restrictions on private clients' mandates both of which would require the LLP to make good any losses. Other operational risks include the failure of a third party service provider (see Credit/Counterparty risk below for mitigation), key man risk, the potential for serious regulatory breaches and market abuse. 

The investment restrictions and any breaches are checked daily and immediate action is taken if necessary. No substantial dealing errors have occurred during the last seven years so no specific capital allocation has been made in respect of dealing errors. However, the Harwood Capital Management Group maintains Professional Indemnity cover of £10 million at all times.

The Group also ensures that appropriate policies are in place to mitigate these other operational risks.

Market Risk

The primary risk faced by the LLP in this area is of a significant and prolonged downturn in equity markets causing a large reduction in the funds under management which would, in turn, affect performance fee and management fee income.

 The LLP ensures that it has sufficient capital and reserves to cover short term loss of profitability and in such an event, would take steps to reduce the cost base.

 Notwithstanding the above, the Firm takes no market risk other than foreign exchange risk in respect of its accounts receivable and cash balances held in currencies other than GBP.

No specific strategies are adopted in order to mitigate the risk of currency fluctuations.

Credit/Counterparty Risk

There is the risk that a third party will default on a financial obligation or that fraud could be committed by an employee of one of the counterparties used by the LLP. The LLP performs service reviews of those counterparties on a regular basis, at least annually, and will spread its exposure to mitigate the risk.

The number of credit exposures relating to the Firm’s investment management/broker clients is limited. Management fees are drawn monthly from the funds managed and performance fees are drawn annually where applicable. Commissions are settled promptly at the conclusion of a transaction.

The Firm considers that there is little risk of default by its clients. All bank accounts are held with large international credit institutions.

Given the nature of the Firm’s exposures, no specific policy for hedging and mitigating credit risk is in place.

REGULATORY CAPITAL RESOURCES

As at 31 December 2016, the LLP's Pillar 1 capital requirement was £33,707,000 as determined by its Fixed Overhead Requirement ('FOR'). Capital Resources as at 31 December 2016 were £99,951,000 being Members' Capital.

As reported at 31 December 2016:

 

31 December 2016

 

£’000

£’000

Member's Capital

 

78,396

Credit risk

105,960

 

Market risk

11,410

 

Fixed overhead requirement (“FOR”)

33,707

 

Total requirement (limited to fixed overhead requirement)

 

£33,707

Projected Pillar 1 Surplus

 

£90,201

 

Key factors driving the Group’s regulatory capital position

The Pillar 1 total risk exposure is driven by the sum of exposures relating to credit risk and market risk.  As at 31 December 2016, approximately 70% of this total risk exposure was driven by investments held by entities within the group in equity and debt instruments.  The Group continually monitors these investments to ascertain whether an incremental Pillar 2 risk exposure is required.

The Group also continually monitors the fixed overheads requirement (“FOR”) based on historical actuals and revised forecasts to ascertain whether an incremental Pillar 2 risk exposure is required to be held against it.  The Pillar 1 FOR is formally updated once the year-end accounts are audited.  Currently, the estimated cost of an orderly wind down is twice that of the FOR, but this amount remains lower than the sum of risk exposures for credit risk and market risk.

Conclusion and acknowledgment

Having considered all the risks relevant to the Group, Management Committee believe that a total risk exposure of £95.7 million is appropriate for the nature, scale and complexity of the Group’s current activities and committed future plans and that the total risk exposure of the Group is equal to its Pillar 1 & Pillar 2 exposures.

The Group acknowledges the requirement to maintain adequate financial resources at all times in accordance with Principle 4 and IFPRU 2.2.1 R.

Therefore as at 31st December 2016, the LLP held capital in excess of its capital resources requirement which is expected to continue for the foreseeable future.

CODE STAFF REMUNERATION DISCLOSURE FOR THE YEAR ENDED 31 MARCH 2016

Given the LLP’s size and relatively low complexity there is no separate remuneration committee within the Firm. Decisions regarding remuneration are undertaken by the Chief Executive and Chief Operating Officer, with input from other members of the Management Committee.

The Firm is a Limited Liability Partnership in which many staff are partners, necessitating CF4 approval and making them a significant influence function. The Firm has decided to treat all partners as Code Staff, on the basis that they impact the risk profile of the Firm. In addition to the partners, the Compliance Officer (who is also the MLRO), is also treated as Code Staff.

The Firm has defined itself as a Proportionality Tier Four investment firm and adopted a proportioned approach to remuneration policy, dis-applying certain provisions where appropriate, in accordance with FCA guidance.

Remuneration policy

The Firm is authorised and regulated by the Financial Conduct Authority as an IFPRU Limited Licence Firm and, so, it is subject to FCA Rules on remuneration.  These are contained in the FCA's Remuneration Codes located in the SYSC Sourcebook of the FCA’s Handbook.

The Firm's overall policy is that the remuneration of senior managers and other staff whose actions have a material impact on the firm's risk profile ("Code Staff") should comply with the FCA's Remuneration Code, with an appropriate balance being struck between financial performance and risk management. In particular:

  • A significant portion of the remuneration of Code Staff is variable based primarily on the Firm’s financial and service performance (on behalf of its clients). In addition, the Firm considers each individual’s overall performance, using applicable criteria to motivate and reward success. However, the proportion of variable pay is limited, to ensure that it is feasible for no bonus to be paid in years where business performance does not merit this;
  • Personal reviews of Code Staff are carried out at least annually to assess their performance in meeting individual and strategic objectives. These reviews are reflected in compensation adjustments which take effect from 1 April each year as well as in awards of variable pay; and
  • No member of Code Staff is involved in deciding his or her own remuneration. 

The policy in relation to the various elements of remuneration structures for Code Staff is set out below:

(a) Basic salary

Basic pay for all employees is market related thus ensuring a competitive salary that fairly reflects the market rate, skill, experience and expertise for the role. Individual development and progression is reflected through the annual salary and personal review processes.

(b) Variable pay

Variable pay is comprised of year-end bonuses and/or a share of performance fees. Year-end bonuses are awarded on the basis of overall job related performance and the attainment of established goals. Management gives significant weight to the Firm’s revenues and overall investment performance (on behalf of its clients) when determining the amount of such year-end bonus awards. Conversely, such policies are designed so that key investment personnel are paid lower compensation levels in years when the Firm does not perform as well on behalf of its clients.

Aggregate remuneration data

Based on general proportionality, Firms with distinct business divisions should provide this disaggregated information but may exclude this where no such divisions exist. The Firm considers it appropriate to consider the functions of investment management and trading as being within the same business division. All Code Staff are deemed to be Senior Management.

The total aggregate remuneration attributable to Code Staff for the year ended 31 March 2016 was £725k. Their total fixed pay was £496k. Their total variable pay not subject to deferral was £229k.

We may omit required disclosures where we believe that the information could be regarded as prejudicial to the UK or other national transposition of Directive 95/46/EC of the European Parliament and of the Council of 24 October 1995 on the protection of individuals with regard to the processing of personal data and on the free movement of such data.

We have made no omissions on the grounds of data protection.