Capital Requirements Directive Pillar 3 Disclosure. Western Asset Management Company Limited December 2008

Transcription

1 Capital Requirements Directive Pillar 3 Disclosure Western Asset Management Company Limited December 2008

2 Background Under the 2006 Capital Requirements Directive ( CRD ), a revised regulatory framework was created across the European Union. This was implemented in the United Kingdom by the FSA through the creation of the General Prudential Sourcebook ( GENPRU ), and the Prudential Sourcebooks for Banks, Building Societies and Investment Firms ( BIPRU ). The framework consists of three pillars: Pillar 1 sets out the minimum capital requirements for credit, market and operational risk; Pillar 2 requires us and the FSA to express a view on whether additional capital needs to be held for risks not covered by Pillar 1; Pillar 3 requires us to publish details regarding our risk management processes, underlying risks, and capital position. The rules in BIPRU 11 set out the provision for Pillar 3 disclosure. This must be done in accordance with a formal disclosure document. This document meets that obligation. The rules provide that we may omit one or more of the required disclosures if we believe the information is immaterial. Materiality is based on the criterion that the omission or misstatement of any information would be likely to change or influence the decision of a reader relying on that information. In addition, we may also omit one or more of the required disclosures if we believe the information is proprietary or confidential. Proprietary information is that which, if it were shared, would undermine our competitive position. Information is considered to be confidential where there are obligations binding us to confidentiality with our customers, suppliers and counterparties. Western Asset 2

3 Scope and Application of Directive Requirements Western Asset Management Company Limited ( WAMCL or the Firm ) is an investment manager, authorised and regulated by the Financial Services Authority ( FSA ), principally providing fixed-income investment management services to external clients, including central banks, pension funds, corporations, public bodies and to clients of affiliates. WAMCL is a wholly-owned subsidiary of Western Asset Management (UK) Holdings Limited ( WAMHL ). The two firms form a UK consolidation group ( Group ) under FSA rules. Capital resource requirements take into account both companies and are primarily driven by WAMCL, as WAMHL has no operational activities. Both WAMCL and WAMHL are indirect subsidiaries of Legg Mason, Inc. ( Legg Mason ) a U.S. financial services holding company. WAMCL operates as part of the Western Asset Management Company ( Western Asset ) family of companies. Western Asset 3

4 Risk Management Approach Western Asset places a high priority on risk management through its functional structure, governance processes, monitoring and reporting activities, and emphasis on employee integrity and values. As a part of Western Asset s business structure, we, WAMCL, are a part of a firm-wide risk management approach and framework. A combination top down and bottom up approach is in place to monitor and assess the risks the firm is actively taking on or is faced with due to its line of business. From the top down Western Asset expresses its risk appetite in its strategy, business plans, and risk management philosophy. Western Asset s Operations Committee and Operational Risk Oversight Sub-Committee continually assess current and planned strategic, operational and financial activities and their associated risks. Regular weekly, monthly and quarterly reporting provide management with detailed information about risk exposure and experience. From a bottom up perspective, an enterprise risk framework is utilised to monitor and assess risks. Reflective of the firm s low risk appetite, all risks are catalogued and scored for each Western Asset department and office. This bottom-up approach focuses on risk identification, assessment and response at the department and entity level. Department management and the Enterprise Risk Department identify and assess key risk exposures to meeting goals and objectives. In the assessment process, risks are reviewed on a gross or inherent risk level and also on a net or residual risk level after factoring in the control environment. Based on the gross and net risk scores, risk response and mitigation activities may occur. Our senior management is committed to managing applicable risks to the business and maintaining an effective internal control structure including proper monitoring and reporting of such risks. Through independent lines of reporting for risk management and operations, our risk governance policies are designed to provide objective assessments and monitoring of risks. Risk monitoring and reporting processes involve reviews at least annually and give consideration to the amount and type Western Asset 4

5 of risk that management regards as appropriate for it to accept in order to fulfil its business objectives and operate within regulatory constraints. The Firm s Board of Directors regularly reviews risk issues with senior management. Western Asset 5

6 Risk Types WAMCL is solely engaged in the business of providing investment management services for its clients. We have no exposure to insurance and securitization risk, and have low exposure to market, credit and liquidity risk as noted below. Our main exposures are to business risk and operational risk. Market Risk WAMCL s exposure to market risk is limited to foreign exchange fluctuations related to accounts receivable and payable in major global currencies other than our functional currency (US Dollar). This risk has been factored into our Pillar 1 and 2 calculations. The exposure is minimal and mitigated by monthly balance sheet revaluations and projections as well as by currency hedging. Credit Risk Our exposure to credit risk is limited to third-party receivables from clients and exposure to banks where we maintain deposits. The majority of clients are invoiced quarterly and pay within three months. Strong internal controls exist in terms of reporting and follow-up on aged invoices. Cash is held with investment grade institutions with significant reserves. Liquidity Risk We have consistently maintained sufficient liquid resources to meet our obligations. Cash flow and capital forecasting is performed on a regular basis. Excess cash is held on deposit or in interest bearing demand accounts at institutions with an investment grade credit rating. Western Asset also maintains an unsecured line of credit with an investment grade institution. Business Risk The Firm operates in a very competitive industry subject to the economy and fixed income markets. Like any business, we are exposed to risk resulting from general business and economic conditions which can lead to a reduction in assets under Western Asset 6

7 management and decreased management fees. While this risk is somewhat mitigated by our position in the industry and long-term track record, management considers business risk factors in planning and decision-making and has modelled various economic scenarios such as poor performance in relation to competitors, a downturn in the broad fixed income markets and employee turnover. Operational Risk Operational risk includes those risks or events that could impact the Firm s people, processes and technology in such a way as to impact the achievement of our goals and objectives. As an asset manager, the bulk of our risk management efforts are focused on operational risk. Significant human and systematic resources are in place to mitigate exposure to these risks. We are structured with a single focus of successfully managing fixed income portfolios for our clients. As a result, our risk management activities are focused on understanding, monitoring and mitigating business and operational risks to the extent feasible in order to maintain a low risk profile in these areas. Western Asset 7

8 Capital Resources and Requirements The Firms regulatory capital (comprising share capital & reserves, less a deduction for intangibles, i.e., Tiers 1, 2 & 3) was $68.6 million at 31 March 2008 and $70 million for the Group. All figures stated herein are in United States dollars. WAMCL GROUP ($000 s) ($000 s) TIER 1 CAPITAL Permanent Share Capital $ 100 $ 13,000 P&L account & other audited reserves $ 61,567 $ 30,783 Perpetual non-cumulative preference shares $ 10,950 DEDUCTIONS FROM TIER 1 Intangible Assets ($ 4,014) ($ 3,550) LOWER TIER 2 CAPITAL Long Term Subordinated Debt $ 20,116 TOTAL TIERS 1 & 2 CAPITAL $68,603 $ 60,349 UPPER TIER 3 CAPITAL Short Term Subordinated Debt $ 9,701 TOTAL TIERS 1, 2 & 3 CAPITAL $68,603 $ 70,050 In accordance with GENPRU R (calculation of variable capital requirement for a BIPRU firm), the Firm s Pillar 1 fixed overhead requirement ( FOR ) is $11.8 million, and the Group s is $12.3 million for the year ended March 31, The FOR is calculated based on three months audited expenditure less discretionary amounts and revenue related commissions and fees. Market and credit risks are not material to the Firm, and therefore the Pillar 1 market and credit risk capital requirements are not disclosed. Western Asset 8

9 Compliance with Pillar 2 Under Pillar 2 of the FSA s capital requirements, the Firm has undertaken an assessment of the adequacy of capital based on all risks to which we are exposed. This was assessed in our Internal Capital Adequacy Assessment Process ( ICAAP ). As part of the ICAAP, we considered risks to capital combined with stress testing and scenario analysis of operational and business risks as well as an assessment of costs to wind down the business. This analysis concluded that the Firm has adequate capital to withstand unexpected losses arising from these risks. Western Asset 9