With November giving way to December it is again that time of the year when some, if not most, credit institutions in the EU are awaiting or processing their results and remedial action points stemming from the Supervisory Review and Evaluation Process (SREP). The SREP process itself has been evolving rapidly over the past couple of years − starting as a national-centric process, with the national competent authorities (NCAs) influenced by Basel III, to becoming one that is shaped by supervisory approaches in the Banking Union. SREP, as employed by the European Central Bank (ECB), acting in the lead of the Banking Union's Single Supervisory Mechanism (SSM), has changed some areas of how Banking Union Supervised Institutions (BUSIs) are assessed. This Client Alert looks at some of the key themes for supervised institutions from the SSM's SREP 2019 process.

SREP as a supervisory tool

At its heart the thinking behind the SREP appears to be fairly straightforward − the ECB-SSM and/or the relevant NCA(s) draw up, on an annual basis, their assessment of a given credit institution, based on four pre-defined components (business model, internal governance and risk management, capital and liquidity risks). Some key changes of quantitative aspects following the 2018 findings 1 have also led to improvements in qualitative aspects 2, which have flowed into SREP 2019 and reflect the ECB-SSM's more joined-up work, which takes into account findings from thematic reviews and sector/horizontal benchmarking.

The assessment outcomes result in the so-called SREP capital demand − the Pillar 1 regulatory capital requirements (i.e. the minimum capital calculated to cover market, credit and operational risk) and the Pillar 2 additional capital and/ or qualitative requirements (the Pillar 2 Requirements and the Pillar 2 Guidance), as well as the capital conservation buffer.

The formal timeline for carrying out this process is equally straightforward − Q1 and Q2 are reserved for carrying out most of the assessments based on data inputs from the previous year, while the joint supervisory teams (and/or NCA) have Q3 and Q4 to formalize and communicate the new SREP requirements.

As described, this annual process should be smooth sailing for most credit institutions or at the very least not full of surprises, considering that: (i) it is predominantly based on issues/ considerations already discussed, in one form or another, as part of the ongoing supervisory dialogue; (ii) the SREP outcomes are traditionally pre-discussed in workshops, where draft versions of the final documentation is usually also provided; and (iii) it has been an annual process and by now most credit institutions have a fairly good understanding of how much regulatory capital they should have. Nevertheless, most BUSIs as well as NCAs (and by extension ECB staff members) should already have 15+ years of experience, given that SREP was first introduced under Basel II in 2004 3. Furthermore, the process has been significantly streamlined, as the NCAs used to perform the SREP reviews based on the respective national requirements, while the introduction of the SSM and Basel III brought a single SREP framework and methodology.

Against this background, why is SREP so dreaded by most of the affected institutions? One may think that the answer is simple − the SREP outcomes dictate how much capital a credit institution must hold, and provides a number of other requirements with regard to the way risk is managed. But the reason is deeper than that, SREP, certainly as used by the ECB-SSM is effectively a supervisory scorecard of past performance and what remedial measures, quantitative and qualitative, firms need to implement.

Geography and timing matter

Having a single framework and methodology has not necessarily resulted in a clearer or simpler process for the affected credit institutions, including those that are BUSIs, given the SSM's own approach. This is particularly true in relation to cross-border groups and credit institutions with significant subsidiaries and/or branches based in other Member States (and beyond), given that the consolidated supervisor, which in the Banking Union is the ECB-SSM, is tasked with ensuring that the appropriate coordination and cooperation with the various other competent authorities within the EU, as well as third-country supervisory authorities, is in place. This approach aims for authorities to establish a joint view and to reach inter alia joint supervisory decisions regarding SREP, as prescribed in Art. 113 CRD IV, as amended.

These considerations also apply to those BUSIs and their Banking Union operations that have been subject to the ECB-SSM's 2019 Liquidity Stress Test (LiST) and their operations. The outcomes of LiST, as it is designed, are not intended to directly influence capital assessments, rather they only indirectly influence the SREP score for risk management and governance that flows into Pillar 2 requirements. However, the fact that the ECB-SSM is much more joined up in bringing its findings together means much more supervisory scrutiny and possible pressure for remedial actions for Banking Union and non-Banking Union/EU operations alike. The same considerations on LiST also apply in the ECB-SSM, taking into account its findings from its pan-European benchmarking of BUSIs' approaches to the internal capital adequacy assessment process (ICAAP).

Aside from the obvious implications that Brexit might have for cooperation on, and recognition of, approaches on SREP requirements for a number of BUSIs' operations on both group level, as well as UK subsidiary/branch level, there are a number of other issues that may arise. For instance, when considering the adequacy of own funds and determining additional own funds requirements, the competent authorities should at the very least be in agreement on whether certain deficiencies identified are common across all entities or not. Although this should be easy to determine, there is a certain degree of discretion with regard to how the SREP methodology is applied/interpreted and the individual entity's needs. Consequently, not only the BUSIs might find it difficult to navigate the maze of supervisory expectations on group/sub-group/entity level, but also the consolidated supervisor might find it challenging in terms of reaching an agreement and issuing a joint supervisory decision, let alone coordinating with third-country supervisory authorities in terms of general supervisory expectations.

This complex process of (non-) cooperation, together with the political and economic pressure that comes with the SREP outcomes, often leads to delays in communicating the actual requirements. Thus, credit institutions may find themselves in a situation where they are well into Q1 of the following year, but the relevant SREP decision has not been issued yet. Furthermore, there is a certain level of uncertainty as to what the assessment "cut off" date really is. On the one hand, the SREP assessment is usually based on data as per the previous year-end. However, the assessments seem to take into account also the relevant developments thereafter.

What this means in practice is that a credit institution might receive its final 2018 SREP decision in Q4 2019 or even in Q1 2020, when the information on which the assessment is based is somewhat outdated (e.g. as per 2018 year-end), or the information might be right up to date with the issuing of the final version (e.g. Q3 2019). Consequently, some of the requirements (namely the qualitative ones) may no longer be fit for purpose. In addition, credit institutions may find it difficult to manage some of the identified issues as either the market, strategy or overall model of the institutions may have changed, or alternatively some of the deficiencies may have already been mitigated (given the significant time-lapse) but in a manner that is not necessarily in line with the supervisory expectations.

The overall SREP framework does provision for avoiding situations as the one described above, given that the preliminary observations are usually shared already mid-year, allowing for a credit institution to react appropriately and already start working towards remediating some of the deficiencies. Furthermore, institutions are provided with a draft version of the SREP decision and, as for other supervisory instruments, they are given the opportunity to provide comments.

Priorities for supervised firms following SSM SREP 2019

In practical terms, BUSIs are likely to find that the ECB-SSM's interest in and supervisory scrutiny of internal governance and risk management topics have increased. That, along with its expanded use of benchmarking as a key metric of supervisory performance, will likely merit some consideration and adjustment of relevant documentation and non-documentation workstreams, as the SSM stresses the qualitative aspects of SREP in a much more joined up and technical way.

This in many ways does deliver on the ECB-SSM's communication to market participants that its decision-making processes on SREP would be more transparent, consistent and risk-sensitive across SSM firms and be more reflective of its (multi-) annual supervisory priorities. 4. This in some ways also marks the SSM, in its fifth year, becoming more confident but also in tune with its supervisory abilities and (expanding) mandate.


Notwithstanding the built-in safeguards, the SREP outcomes can come as a surprise to supervised institutions. Therefore, it is important that BUSIs seek legal support throughout the process to ensure that certain issues are addressed in a timely fashion, both internally and externally. This is notably the case once the final SREP assessment is provided, considering that BUSIs can only provide comments regarding the accuracy of the data but not the assessment as presented in the draft version. Furthermore, every SREP decision suspends the previous one, which implies that supervised institutions need to act swiftly to ensure compliance in a timely manner. In addition, they need to provision for the appropriate management of outstanding issues and identified deficiencies, as the ECB and the NCAs monitor the remediation progress closely and often expect detailed follow-ups and even encompassing remediation programs.

As a result of the issues discussed above, traditional remediation efforts will (likely continue to) spin over the "lifetime" of several SREP reiterations and will require a comprehensive issue management framework (including governance, legal support, oversight, etc.) to ensure compliance with the SREP requirements, as well as to avoid any subsequent ECB decisions, which may impose additional requirements in the event that the BUSI fails to meet its SREP obligations.

Finally, BUSIs, especially those with cross-border activities, specifically with non-EU operations, may wish to seek legal counsel to be able to manage any requirements and/or remediation programs that affect them on a group/sub-group/entity level, as certain NCAs across the EU have country-specific rules. BUSIs with cross-border activities may need to manage deficiencies on several levels, where local and/or consolidated supervisors demand to have the issues managed locally, to not share information beyond the borders of the specific location and/or to adhere to additional local regulatory requirements. Regardless of the supervisory touchpoints on SREP, whether SSM-led or not, the supervisory tone of the competent authorities is increasingly focusing on qualitative standards in addition to its much more established track record in reviewing quantitative metrics.

Our Eurozone Hub lawyers are assisting a number of BUSIs in dealing with SREP-related supervisory dialogue and how this impacts workstreams beyond internal remediation processes. If you would like to receive further analysis on any of the issues raised herein with regard to documentation and non-documentation workstreams, please contact one of our Eurozone Hub key contacts.


1 See coverage from our Eurozone Hub here.

2 Including application of European Banking Authority Guideline EBA/GL 2018/03

3 See Part 3, Second Pillar – Supervisory Review Process, Basel II: International Convergence of Capital Measurement and Capital Standards: a Revised Framework https://www.bis.org/publ/bcbs107.htm

4 See our Eurozone Hub's Navigating 2019 and Navigating 2020 publications

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