Banks told to strengthen borrower monitoring procedures after Arena collapse

Earlier this week, the Prudential Regulation Authority (PRA) wrote to the chief risk officers at regulated banks in the asset finance sector, setting out a number of weaknesses it had identified after Arena entered administration in November 2021. At the time of its collapse, the outside broadcast firm owed £282 million to its creditors.

The PRA said a large number of UK lenders had connections to Arena and suffered large losses on asset finance loans made to the failed group as a result. It later emerged that the loans were based on non-existent assets, leaving lenders with no recourse to recoup their money. The regulator said the total exposure across all Arena’s lenders was disproportionate to the size of company, raising questions over how robust the banks’ credit risk management frameworks – and wider controls in the asset finance sector – had been.

The PRA asked banks for their findings on their lessons learned from the event and the improvements they could make to their credit risk management frameworks to avoid a repeat in future. Its letter (9 pages / 231KB PDF) sets out observations for all banks to use as a learning tool, particularly those heavily involved in asset finance. The PRA said banks’ risk appetite limits were inappropriately calibrated and they had given too many loans to a single borrower, adding that losses could have been reduced if lending levels had been more appropriate.

Katie McCaw of Pinsent Masons said: “The PRA’s observations make it clear that banks must have robust policies and processes in place to support their asset finance businesses. This goes beyond properly calibrated lending limits and transaction volume and size limits, to encompass enhanced know-your-customer and underwriting processes, asset inspection procedures and carrying out additional checks prior to further drawdowns.”

“We expect the PRA’s letter to lead to banks implementing more robust procedures across their asset lending businesses, to protect against any possible repeat of the consequences of Arena’s failure. Clear roles and lines of responsibility are needed, especially within banks’ asset management teams, to ensure borrower monitoring and better information-sharing.”

Banks told the PRA that assets used as security for their lending were not adequately inspected and verified, partly due to access limitations during the pandemic, and that asset suppliers were not vetted. The PRA said the use of GPS trackers attached to assets – to show their actual location and proof that they exist, were being considered – but acknowledged that the cost implications would need to be “balanced against the return”.

Account management lacked active oversight and robust control processes and automated transaction monitoring and data capabilities were insufficient, the PRA said. It added that industry engagement on information-sharing and better fraud control is needed, and suggested that the creation of an industry-wide asset register would help to ensure authenticity of assets as securities and protect from duplicate or false references in asset-based lending.

Pippa Whitmore of Pinsent Masons said: “The PRA’s letter highlights that anti-money laundering and know-your-customer checks are not sufficient on their own, and should be accompanied by enhanced controls over suppliers, better account and portfolio management and more efficient information-sharing among banks’ internal departments.”

She added: “The suggested creation of an industry-wide asset register is welcomed as bringing an additional layer of transparency and authenticity in the use of assets as security, and protection against fraud and operational risk. However there are clear cost implications for banks in some of the key actions recommended in the PRA’s letter”.