The Office of the Superintendent of Financial Institutions ("OSFI") is working hard to maintain Canada’s ranking as one of the soundest banking markets in the world. As such, SIT believes that the OSFI approval process for prospective banks and trust companies will not get any easier in the short term. This is good. After all, Canada was one of the few developed countries that did not have a single bank failure during the 2008 financial crisis. As a banking software vendor, we were thankful for OSFI’s prudence.
If you’re a company seeking OSFI approval to become a bank or a trust company, our advice is simple. Talk to an expert who’s been through the entire OSFI approval process many times. As a banking software vendor, we can ensure your banking platform meets the challenge. After all, our system is installed at dozens of OSFI-approved financial institutions. But you need more than a solid banking platform to be approved by OSFI.
To help gain an appreciation for the OSFI approval process, SIT interviewed Philip Buxton, a financial industry professional with years of experience helping prospective banks and trust companies gain OSFI approval.
Philip Buxton is the head of Buxton Financial Advisory Corporation (“Buxton Financial”), a corporate finance and banking consulting firm. Prior to founding Buxton Financial in 2004, Buxton was the CEO of the Canadian banking subsidiary of a major US-based bank, having established that bank’s platform in Canada. Buxton Financial has worked on over a dozen assignments with several domestic and foreign institutional clients, ranging from obtaining banking charters to assisting in significant investments in the banking industry. Philip Buxton can be reached by phone at 905-639-4196 or by email at email@example.com.
For more information, visit the Buxton Financial website.
SIT: "Could you give us a sense of today's regulatory landscape for organizations that are applying to open a new financial institution or wanting to obtain a new license?"
Philip Buxton: "Sure. Julie Dickson, head of OSFI, has gone on record stating that OSFI will be increasing its oversight of the risk management practices in financial institutions. As such, new institutions applying for a license will be subject to the increased scrutiny. I like to characterize the landscape as one of thoroughness, given the risks."
SIT:"Is OSFI losing its appetite to license new financial institutions?"
PB: "No, they’re just being appropriately cautious. In my experience, OSFI is neutral in this respect. It neither promotes nor discourages new competitors from entering the market. Its mandate is simply to ensure that those who do enter have what it takes to operate on a solvent basis. After all, it’s the finance minister that must answer to Canadians about sufficient banking competition, not OSFI."
SIT:"I've heard you repeatedly mention the notion of quality in an application. Can you expand on that?"
PB: "OSFI is looking for quality in all respects: quality of the business plan, the executives, the board, the capital, and more. As an example, let's look at quality of capital. Common equity is held in higher esteem than preferred shares. And preferred shares, in turn, are held in higher regard than subordinated debt or any other form of debt."
SIT:"When you say ‘quality of the board’ and ‘quality of the executives,’ do you mean to say it’s political?"
PB: "No. Not in my experience. I find it to be a dispassionate assessment of the senior executives and their banking experience to date. Other factors include the experience of the board members, the business plan, the competitive landscape, and other business factors. Another large part of the assessment of the application is how risk factors are addressed–things like credit risk, reputation risk, strategic risk, concentration risk, operational risk, and market risk, to name a few."
SIT:"Can you give us an overview of the process?"
PB: "There are really two consecutive parts of the process. The first part is the process required to obtain your Letters Patent of Incorporation. Once you’ve received your Letters Patent of Incorporation, then the next step is the receipt of the Order to Commence and Carry on Business. After you’ve obtained your Letters Patent, you have approximately twelve months to get your operation up and running to receive your Commencement Order."
SIT:"So tell us more about the requirements to receive the Letters Patent of Incorporation. Let’s use a bank as an example."
PB: "The Bank Act and the Trust and Loan Companies Act are both very similar, as both pieces of legislation are based on the same principles of good governance. The requirements to obtain OSFI approval are set out in Part III of the Bank Act, starting at Section 22, and Part III of the Trust and Loan Companies Act, starting at Section 21. In both Acts, there are sections listing ‘matters for consideration’ by the Minister of Finance in granting Letters Patent. At first glance, the list can appear to be relatively simple. However, in my experience, this is where most of the effort is required. If your application is incomplete, there will be a lot of back and forth with OSFI. This can be inefficient and can increase both the frustration level and the cost in the long run. And it’s not only missing information that can affect your chances; you also need to ensure the information contained within your application is of sufficient quality and depth. As an example, if you submit a business plan for a trust company and it looks like every other trust company’s business model, you should be prepared to revisit this business plan to ensure you are communicating any unique competitive advantages, or a sufficiently differentiated and compelling business model."
SIT:"And speaking of trust companies, if you’re a deposit-taking institution, don’t you need CDIC approval as well? And what about provincial jurisdictions?"
PB: "Yes, if you’re applying to be a federally incorporated bank or trust company that’s going to take deposits, you’ll need to obtain CDIC approval. However, that approval is, in effect, a part of the application process through OSFI. Banks don’t need to be provincially licensed, as they are governed by federal law. However, you will find that some provinces require trust companies to be registered to do business in the province and to pay an annual registration fee. The registration process is generally a formality and should not be particularly burdensome."
SIT:"There were rumours some time ago that there were dozens of organizations applying for licenses yet there were few, if any, Notices of Intention to Apply in the Canada Gazette. Why is this?"
PB: "We are aware of a number of applicants. However, not all applicants get to the stage of publishing their notices. I suspect many of these applicants have not yet reached this point or are revisiting their plans. In the past, applicants would work with OSFI until OSFI was satisfied as to the completeness of the application and at that point would give the nod to applicants to publish. Today, OSFI asks applicants to publish the Notice of Intention first, and include in that Notice a proviso that approval is not assured. Many companies can start talking to OSFI, and even go as far as submitting a draft application. The onus is now on the applicants to decide for themselves whether they believe their chances of success are strong enough, which may affect the timing for publication."
SIT:"The application details, as referred to in the OSFI Instruction Guide, seem to be thorough. Are there any questions that aren’t included in the Instruction Guide?"
PB: "Most experienced bankers would have an appreciation for the requirements as set out in OSFI’s Guide, but yes, there are items that are not referenced in the guide. For example, in the past couple of years, OSFI has required all banks to go through an Internal Capital Adequacy Assessment Process, also known as an ICAAP. Any new applications for Letters Patent must include this type of analysis, even though it is not specifically referenced in the OSFI Instruction Guide. It includes stress tests for such events as a 30% decline in real estate valuations, a 200 basis point interest rate shock, and more. OSFI has an ICAAP template that is available to help guide prospective applicants. This ICAAP submission should address the risks the institution is subject to, the steps it takes to mitigate those risks, the amount of capital it should apply to support those risks, and it’s overall appetite for risk. In the stress testing process, OSFI also expects prospective financial institutions to include reverse engineered scenarios that could possibly breach OSFI’s target capital levels."
SIT:"What are some of the other areas that organizations struggle with?"
PB: "Applicants targeting a retail client base may have difficulty with the amount of customer business they hope to acquire over time. They are up against pretty formidable competition from the major Canadian banks and some of the foreign banks. In these circumstances, OSFI will probably require the applicant to undertake a market survey of their target client base to validate their business plans. You also really have to do a thorough analysis of your strengths and weaknesses. And it has to be realistic. Weaknesses are not fatal if they are appropriately mitigated. And if they aren’t acknowledged, don’t assume OSFI won’t take notice. Part of a consultant’s role is to ask the challenging questions in advance, so that you’ve had a chance to address these issues before discussing them with OSFI."
SIT:"What is the most challenging concept in the approval process?"
PB: "I’d have to say it’s the understanding of a supervisory framework concept that’s predicated on a risk-based approach. There’s a laundry list of risks that must be explained, as per the OSFI Instruction Guide. These include issues such as the depth of top management and the board of directors, risk management practices, internal audit, compliance, terrorism, and money laundering monitoring, to name a few. There’s also the notion of risk as it applies to operations, systems, business continuity plans, markets, and more. These must all be clearly understood by OSFI before an application can be approved."
SIT:"As a banking software vendor, I have to ask you about a banking software platform. What role does that play in the application process?"
PB: "Oh yes, we can’t overlook a word from our sponsor. (Smiles.) The choice of banking platform is important, of course. It must be proven. Portfolio Plus is installed at dozens of OSFI regulated financial institutions. That speaks for itself. But many executives forget that the operational platform consists of much more than the banking platform. It includes processes like business continuity, network security, privacy, and more. So even though Portfolio Plus is a proven solution, the operational plan must address the challenges that go beyond the banking platform."
SIT:"Once OSFI has been satisfied that your draft application for a letters patent approval is complete and there are no more questions, what's next? What happens when the Letters Patent of Incorporation are issued?"
PB: "When the minister signs the Letters Patent, the financial institution comes into existence, but it isn’t yet active and open to the public for business. For this you need to complete the next step, which is to obtain the Order to Commence and Carry on Business. An institution has up to twelve months to obtain its Order. As this is a complex process of putting staff, systems, and controls in place and then testing them to ensure they work, when you think about it, twelve months is a short time. For this reason, OSFI tries to address as many issues as possible in the Letters Patent process, so that the risk of not obtaining the Order is minimized."
If you have any comments or questions regarding this interview, or about obtaining a banking system, please contact SIT at 905-640-0808 or by email.
Philip Buxton (see profile at beginning of interview) can be reached by phone at 905-639-4196 or by email at firstname.lastname@example.org
Portfolio Plus includes modules for: loans, term deposits, investments, retail banking, point-of-sale (POS), ATM, web banking, accounting and more. Need to integrate with other banking systems? No problem. You can always utilize the advanced XML and messaging capabilities of Portfolio Plus to ensure you can bring your legacy systems into the future.