Managing risks and liabilities during changing financial regulatory and business conditions

By Toby Hannon | 28 October 2016

It is becoming increasingly challenging for financial services companies to compete effectively with the current and ever-changing regulatory landscape. 

Many regulations impact the way financial organisations make commitments or conduct transactions with their partners or customers. New and changing regulations require companies to find relevant contracts, review the affected language and identify excess cost, liabilities, risk and exposure that directly impact financial services organisations. Only then can business decisions be made to revise or novate the contract, renegotiate commercial terms or terminate to avoid non-compliance. This has to be done for all affected contracts, which could be in the tens of thousands, or even more for some organisations. 

This has become more apparent following the Brexit vote. Brexit may trigger, for example, a need to review and change currency and exchange rates, governing law and logistics terms within numerous contracts. Revisions to trade rules could also lead organisations to consider the impact on their business relationships. Proactive organisations are already starting their Brexit preparedness initiatives, and are realising it starts with a clear understanding of how these elements and many others are defined inside contracts.  

Of course, it’s not just Brexit. Changes in regulations in the financial services industry mean organisations must continually understand new regulations. It’s then down to them to implement appropriate changes by the stated deadlines to avoid penalties, fines, or worse. The former Bank of England governor, Lord Mervyn King, recently warned that UK financial regulations are too severe and, stating: “If you work in a bank, before you do anything, you must go and speak with the Compliance Officer.” The one global constant is the ever-growing strain this puts on financial institutions to keep up and comply. They must figure out how to comply with new rules and deal with audits without adding disproportionate cost and disruption to the organisation.

Large financial services firms will be impacted by many regulations. Global regulatory bodies are enforcing mandates to better control the solvency and recovery actions of banks and lending institutions in the case of future economic downturns. Several key mandates stem from the Dodd-Frank Wall Street Reform and Consumer Protection Act, signed in 2010 to reduce the potential for a recurrence of the recessionary economic conditions experienced in 2008 and 2009. The consistent theme across all solvency and resolution mandates is that large financial institutions must have a clear understanding of their contractual relationships and obligations as a foundational element of compliance initiatives.

Across global businesses, mandates are being imposed that also require an in-depth review of contractual terms and provisions to ensure compliance. Contractual insight supports critical business decisions and reporting. This may result in contract novation and repapering or restructuring, depending on the mandate, as well as allowing an organisation to meet changing regulatory mandates, in the best way possible.

Examples of regulations impacting all organisations include: 

  • IFRS 15: A reporting mandate issued by the International Accounting Standards Board (IASB) which changes the requirements of how organisations recognise revenue. The deadline for compliance is January 2018. The regulation is intended to more directly link the recognition of revenues with the actual consumption of goods and services. This will affect any company that takes consideration for its goods and/or services.
  • IFRS 16: Also released by the IASB, this revises how lease agreements are reported and carried on the books. The compliance deadline is January 2019. This will affect any company that leases equipment.

How can financial services companies manage the risks and liabilities?

Financial services organisations need to remain agile. It is critical for these organisations to have the ability to extract the appropriate real time data within an overwhelming amount of contracts in order to manage risk, reduce liabilities and compete effectively during times of change.

Previously, when mandates changed, organisations would have to perform manual reviews as a part of their compliance initiatives, which meant months or even years of contract analysis work and extremely high costs. However, organisations can now reduce the burden of the contractual review aspect of their compliance initiatives. By using automated contract discovery, data extraction, review and analysis, up to 80% of their time can be saved, providing significant savings. This is essential when organisations are faced with tight compliance deadlines and have to review and make strategic decisions on hundreds of thousands of contracts. 

Using artificial intelligence and an advanced machine learning framework, the automated solution can extract specific terms and provisions needed for regulatory compliance across all contracts. The framework can be taught by users to look for specific provisions and clauses.

A good example of this is IRFS16. For IRFS16 compliance, all contracts need to be located and the impact of the change in regulation needs to be determined. Knowing which of your contracts are effectively leases can be challenging. An automated contract discovery, data extraction, and data analysis solution will locate all contracts and centralise them in a repository. The system can extract, gather and validate lease terms from the contracts by identifying which have lease provisions or language. Some may require further analysis to determine if they meet the definition of a lease, especially those with significant services. This level of reporting helps business users understand the current environment and develop an optimal remediation plan.

Financial services organisations need automation to compete effectively in times of change. Complying with new regulations no longer needs to be such an arduous task. Using an automated contract review and analysis solution can ensure compliance with global regulatory mandates and help manage the overall risk against defined targets. It can dramatically shorten the time and reduce the cost of contract reviews, as well as help model and analyse the business impact before any changes are made. This results in better decisions on the best ways to achieve compliance.

By Toby Hannon, Vice President, Seal Software EMEA

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