In the following guest post, Francis Kean takes a look at the possibilities for director prosecutions under the UK Fraud Act and explores the possible D&O insurance implications of future prosecutions. Francis is a Partner, Financial Lines, at McGill and Partners. A version of this article previously was published as a McGill client alert. I would like to thank Francis for allowing me to publish his article as a guest post on this site. I welcome guest post submissions from responsible authors on topics of interest to this blog’s readers. Please contact me directly if you would like to submit a guest post. Here is Francis’s article.
In a recent statement the Financial Conduct Authority said that it intended to pursue some of Carillion’s ex executive directors on the basis that they “recklessly misled” markets and investors over the deteriorating state of its finances before the company collapsed into liquidation. It is two years since Carillion ceased trading with debts of £7 billion making it one of the largest corporate collapses in the UK.
Despite this statement of serious intent, the FCA has itself attracted criticism for the seemingly glacial pace of the investigation. Prem Sikka, professor of accounting and member of the House of Lords commented that: “the regulator has taken two years to do little or virtually nothing.” The reality, I suspect, is that there will have been plenty of activity behind the scenes from the FCA and considerable inter-action with the relevant directors during this period. Although no directors have yet been named, the FCA says that its investigation is continuing and the criticisms it makes are specific. It alleges for example:
“At material times, the relevant executive directors were each aware of the deteriorating expected financial performance within the UK construction business and the increasing financial risks associated with it,” and that:
“they failed to ensure that those Carillion announcements for which they were responsible accurately and fully reflected these matters. The FCA considers that Carillion and the relevant executive directors acted recklessly.”
Section 4 of the Fraud Act 2006
Whilst it would be wrong to try to predict the outcome of this or any other regulatory investigation, a sobering possibility for directors facing similar allegations to those outlined above is that they might one day have to face a prosecution under Section 4 of the Fraud Act 2006 for fraud by abuse of position. The ingredients of this offence require that a person:
occupies a position in which he was expected to safeguard, or not to act against, the financial interests of another person
- abused that position
- intending by that abuse to make a gain/cause a loss
Interestingly, the offence can be committed through omission so a failure to disclose information to shareholders if “reckless” could constitute a relevant ingredient. Moreover, the Law Commission, in expanding on its understanding of the term “position” in Section 4 made it clear that, in its view, it included a position of trust or one “which carries more than a moral obligation.” That would certainly encompass the position of company director.
The term “abuse” is not defined in the Fraud Act and would therefore be given its ordinary meaning. It is also worth noting that for the purposes of the offence, It does not matter whether a person is successful in their attempt, or indeed whether an actual gain or loss is made.
What Does “Dishonestly” mean?
If company directors were to face a criminal charge under Section 4 of the Fraud Act 2006, the court would have subjectively to discover the defendant’s own knowledge or belief of the facts. It would make no difference whether such belief was reasonable, only that the defendant genuinely held it. Once this has been established, it would be for the jury objectively to consider whether the defendant’s conduct met the standards of honesty held by ordinary decent people. This is according to the test laid down by the Supreme Court in 2017 in Ivey v Genting Casinos. And as Lord Hughes in his judgment in that case said:
“There is no reason why the law should excuse those who make a mistake about what contemporary standards of honesty are, whether in the context of insurance claims, high finance, market manipulation or tax evasion”.
So it may not be enough for a director faced with a charge under section 4 of the Fraud Act to say that he held a genuine belief that the relevant disclosures to the market were sufficiently accurate and complete. These would all be facts for a jury to determine.
Back to the Future?
It remains to be seen how Section 4 of the Fraud Act might be used against directors in future. In deciding whether to prosecute, the stakes are high not just for company directors but for the prosecutory authorities as well. The Serious Fraud Office has suffered some notable defeats in its attempts to pursue company directors in recent years. The collapse of the trial against former executives of Tesco in 2018 following the deferred prosecution agreement with Tesco itself and the SFO’s failure to secure a prosecution in the case against the former CEO of Barclays are two high profile examples. Another striking feature of such high profile cases is quite how long they take. Remember the FCA’s investigation into the conduct of HBOS executives? It is now 12 years after that bank’s failure and the report has yet to be published. All we can know for certain is that the investigatory process tends to be long, complex and expensive.
Are There any Lessons Here for Your D&O Insurance?
A clear and obvious difference between the Tesco’s and Barclays cases and that of Carillion is the fact that Carillion went straight into liquidation. On that basis indemnification by the company of its directors was no longer possible . To that extent, such D&O insurance cover as the Carillion directors may have enjoyed will, from that point, have become the only show in town. No two D&O policies are the same (and that is especially true in this challenging hard market) but we would nevertheless highlight three areas from a director’s perspective which would be worth checking in this context:
With whom do I share my limit? Given that regulatory and criminal investigations tend to work from the bottom up (i.e. from the executives nearest the problem area upwards to the board) and that the insurance is paid out on a first come first served basis, how confident can I be that there will be enough limit left for me if I am a senior non-executive director?
Although investigations can be lengthy, complex and expensive how confident am I that I will benefit from access to independent legal advice at a sufficiently early stage so as not to compromise my defence in later civil criminal or regulatory proceedings? In other words, do I understand the relevant triggers for cover under my policy?
If the company which I serve becomes insolvent, do insurers seek to impose any special restrictions or limitations on the extent of the defence or investigation costs which relate specifically to the insolvency. (You might think this is counter intuitive on the basis that this is when you most need the policy but beware because these limitations can be disguised as extensions to cover which are subject to severe sub-limits.)