Ecsponent Financial Services, a subsidiary of struggling JSE-listed private equity and financial services group Ecsponent Limited, is under investigation by the Financial Sector Conduct Authority (FSCA) for marketing “high risk” preference shares in the holding company to pensioners.
Gerhard van Deventer, head of enforcement at the FSCA, confirmed this to Moneyweb on Wednesday.
He said the authority has been investigating Pretoria-based Ecsponent Financial Services “for several months” and noted that the inquiry was not directly linked to its parent company’s recent financial woes.
Moneyweb reported in February that Ecsponent Limited had defaulted on paying out around R188 million to preference shareholders. The group also posted a record operating loss before taxation of R1.98 billion on Friday (April 17) for its half-year to December 31, 2019.
Van Deventer said the FSCA’s preliminary investigation into Ecsponent Financial Services has been completed and that it is awaiting a response from the company related to the findings. The investigation came in the wake of the authority receiving “a few complaints” over the last year.
“While the original nature of the complaints did not have much merit, it was clear from one complaint that the company was not conducting proper suitability testing when it sold the higher-risk preference shares largely to pensioners,” he said.
Van Deventer noted that Ecsponent Financial Services is an authorised financial services provider registered with the FSCA and that the company is a full subsidiary of the listed entity Ecsponent Limited.
“It is important to distinguish between the two entities. Ecsponent Limited is not regulated by the FSCA, and we did not investigate it, except only to the extent that we needed to establish the risk rating of its preference shares. Ecsponent Financial Services on the other hand is regulated by the FSCA,” he explained.
“We did investigate this financial service provider … . Our main issue was and is that it marketed and sold Ecsponent Limited shares to the public, basically without considering the suitability of the financial product to the clients,” he said.
Van Deventer believes this is in contravention of Section 8 of the Financial Service Provider (FSP) General Code of Conduct, which prescribes procedures for suitability testing.
“In practice this means that the FSCA expects financial service providers, when advising clients, to consider the risk rating of the product, and then match it with the risk appetite of the client, or more importantly, the risk that the client can afford … . Put simply, a high-risk product is not suitable for a retired person … who does not have a proper spread of investments,” he noted.
“We considered the preference shares of Ecsponent Limited, a relatively small listed entity, in terms of market cap on the JSE. We also obtained expert evidence with reference to the financial position of Ecsponent Limited,” he added.
“The upshot of this was that the preference share, as a result of both the company-specific financials and the nature of a preference share, was considered a high- or higher-risk financial product, only suitable for a wealthy investor, and even then as only a small part of [their] portfolio,” said Van Deventer.
He said that Ecsponent Financial Services had aggressively marketed and sold the preference shares of its holding company, in most cases, to members of the public who could ill afford the risk.
“To add to the tragedy, Ecsponent Limited’s preference shareholder base displays a bias towards older persons, often retired. This was most likely because the preference shares provided a monthly income, which was popular among pensioners,” he explained.
“Unfortunately, these monthly dividend payments depended on the company showing a profit. Many of the clients were told that the capital was ‘guaranteed’, but once again that only works if the company is making profits and can repay the investment,” he added.
Following Ecsponent Limited first announcing in February that it would default on its payment obligations to a batch of preference shareholders, which included not being able to pay out dividends, Moneyweb has received a few complaints and enquiries from worried pensioners.
“I have invested several million rand in their preference shares and now don’t know what’s going to happen. It’s very scary because I am in my seventies and can’t afford to lose out on my retirement savings,” one pensioner confided to Moneyweb on condition of anonymity.
“If I had known how risky this thing was, I would have never invested. Now we are being told that Ecsponent Limited want to convert our preference shares into ordinary shares, but there is a lot of uncertainty and I am yet to receive a detailed proposal,” added the pensioner.
Meanwhile, Van Deventer says that the FSCA intends to take “significant enforcement action” against Ecsponent Financial Services.
“We have informed the company that it failed in its duty of good faith and due care towards its clients. We await their feedback, before the matter can be finalised,” he said.
He pointed out that any financial services provider that “materially contravened” industry rules could face having its licence revoked and significant administrative penalties.
Moneyweb could not reach Floris Slabbert, the head of Ecsponent Financial Services, for comment. However, Ecsponent Limited CEO George Manyere confirmed that the group is aware of the FSCA’s investigation.
Manyere said it was disclosed in “Note 19” of Ecsponent Limited’s interim results, released on April 17.
“As is the case in the financial services industry, which is regulated, Ecsponent Financial Services has been subjected to various inspections and investigations by the regulator … . It has cooperated fully and this is the case with any current engagements going on with the regulator,” he said in an emailed response.
“The FSCA has provided Ecsponent Financial Services with their preliminary findings and the company is currently in the process of considering these, prior to re-engaging with the FSCA. The final outcome of the ongoing investigation remains uncertain and dependent on further deliberation with the regulator,” he added.
Manyere said Ecsponent’s preference shares were marketed through Ecsponent Financial Services as well as through a network of independent financial advisors.
“The Financial Advisory and Intermediary Services Act [Fais] as well as the Fais General Code of Conduct, compel financial advisors to adhere to strict compliance obligations when advising clients on investments,” he added.
“Regulation requires clients to sign off on these compliance documentations and they also receive a copy thereof. Strict sanctions apply against any financial advisors who do not comply with these regulations.
“Ecsponent Financial Services is not in a position to provide more information at this stage until the investigation has been concluded,” he said.