The loss of key personnel can have a devastating effect on a financial institution, especially small investment advisory firms. In a worst-case scenario, the loss forces the firm to shut down and leaves clients without a financial advisor to manage their money. The North American Securities Administrators Association (“NASAA”) addressed the loss of key personnel by state-registered investment advisers through the adoption of Model Rule 203(a)-1A, which governs businesscontinuity and succession planning. The NASAA’s Guidance on Business Continuity and Succession Planning for State-Registered Investment Advisers, which accompanies the Model Rule, is a good resource for the investment adviser preparing or revising a business continuity plan. The NASAA’s Guidance helped us formulate this advice on preparing for the loss of key personnel.
For purposes of Model Rule 203(1)-1A, “succession plan” means a plan for a situation in which a key person is unexpectedly unable to perform functions for the investment adviser. The focus is on unexpected events that result in the loss of key personnel. According to NASAA, the best interests of clients are served when an investment adviser has procedures for continuing day-to-day operations or smoothly winding down business in the event of death, disability, or incapacity.
How to Prepare for the Loss of Key Personnel
We present below a series of questions that an investment adviser should answer, or at least consider, when preparing the section of its business continuity plan covering the loss of key personnel.
- How will clients be informed of the death or disability of key personnel?
- Who will make the notification?
Clients’ Actions Following the Loss of Key Personnel
- What does the firm expect its clients to do in the event of a loss of key personnel?
- Has the firm communicated its expectations to clients so that they know in advance how they should respond upon receiving notification that the firm lost key personnel?
- Should this information be included in the firm’s Form ADV Part 2A, the firm’s advisory agreement, or other document provided to clients?
Continuation of Service
- Will the firm continue to service client accounts after the loss of key personnel?
- If an equity owner dies, what will happen to the firm? Will the business be sold to the partner’s family or heirs? Will the business buy out the partner’s family or heirs? Will the firm take on the late partner’s heirs as associates? Will any of these individuals need to be registered?
- Will the firm adopt an “internal” or “external” succession plan? In an internal plan, advisory responsibilities are transferred to another representative at the firm. In an external plan, the management of client accounts is transferred to another firm.
- Will the loss of key personnel, or subsequent events arising from the loss, result in the assignment of advisory contracts? If so, how will the firm obtain each client’s consent before the assignment?
- Will the firm reorganize under a different name with different management?
- Who will update the Form ADV? Does this person have IARD account access?
- How will the successor access the firm’s books and records (including the electronic records)?
- Who will update the custodian (broker-dealer, bank, etc.)? Does the custodian require this contingency to be arranged in advance?
- If the loss of key personnel is a temporary disability, will the firm or representative be able to restore his or her previous accounts?
- Will the firm close down?
- Has the firm communicated to individuals (g., attorneys, accountants, spouses) how to dissolve the firm in the case of death or permanent disability of the firm’s key personnel?
- Do any of these individuals need to be registered?
- Who will inform the custodian (g., broker-dealer, bank)? Does this person have authorization on the firm’s account? Does the custodian require this contingency to be arranged in advance?
- Who will file the Form ADV-W to terminate the firm’s registration? Does that person have IARD account access?
- Who will store the firm’s books and records for the required retention period?
- How will clients know how to contact their custodians?
- Will the firm recommend a new firm? If not, do the clients have the expertise to take control of illiquid, low volume, volatile, or hedged positions that had previously been managed by the firm (g., private placements, options, micro-cap stocks)?
- Will the firm want to set up a possible replacement firm? If so, will the new firm contact the clients? Does this require prior client consent to share information? How and when will the new firm execute new contracts with clients?
- Will the business liquidate?
Sole Proprietors and One-Person Firms
- If the firm is a sole proprietor (or has a single investment adviser representative), will clients be able to manage their own affairs (including buying and selling securities, if necessary, under prevailing market conditions) until such time as they can engage a new investment adviser?
- If the firm manages assets, do clients know the location of all of their assets and how to gain access to their accounts?
- If the firm manages a fund and something happens to the managers, will the fund be liquidated?
- If so, how will liquidation be initiated? Who will notify the liquidator?
- If not, what will happen to the fund?
Refunding Unearned Fees
- If the firm charges fees in advance, what is the process for refunding unearned fees?
- Is the firm required to notify regulators of its business continuity plan and changes thereto?
- If so, how will the firm inform its regulators of the business continuity plan and changes thereto?
Planning for the loss of key personnel often evokes unpleasant feelings about death, disability, or incapacitation. This planning process, however, serves to protect the interests of clients, employees, and family members. We urge those firms that have yet to adopt a succession plan to consider the importance of addressing the loss of key personnel.
For more posts regarding a Business Continuity Plan, please see Business Continuity-Weather-Related Events, Business Continuity Plam: Pandemic Preparedness, and Business Continuity and Transition Plans for RIAs.