finex global

DIRECTORS & OFFICERS NEWS UPDATE

IN ThIS ISSUE2 The Perils for Senior Management of Being “Involved”

with Bribery and Corruption

3 Corporate Manslaughter Charges in the Public Sector

5 When Your Director is Tried in Absentia

7 Cyber Crime Attracts New Life Sentence in the UK

9 New UK Law Targets the Puppet Masters

11 Challenging the “Murder on the Orient Express Defence”

13 The Benefits of Seeking “Appropriate” Legal Advice “at the Right Time”

Francis Kean an Executive Director in Willis’ FINEX Global is a regular blogger on WillisWire, sharing his expertise with readers.

Francis specialises in insurance for Directors’ and Officers of companies. He joined Willis in 2010 and has 25 years of experience as a leading litigation lawyer specialising in Professional Indemnity, Financial Institutions and Directors’& Officers (D&O) Liability in the London insurance market.

We have pulled together Francis’s blogs from the last quarter and put them in to this easy to read bulletin.

Bribery and corruption is alive and well. That’s the depressing but perhaps unsurprising finding of a new report by the Organisation for Economic Co-operation and Development (OECD) analysing more than 400 cases worldwide involving companies or individuals over a 15 year period. Yet it wasn’t this that caught my eye nor indeed any of the following worthy but predictable conclusions of the report:

_ Almost two-thirds of cases occurred in just four sectors: extractive (19%); construction (15%); transportation and storage (15%); and information and communication (10%), or

_ the average value of each bribe was USD 13.8 million or.9% of the total transaction value and 34.5% of the profits of the relevant company, or

_ intermediaries were involved in 3 out of 4 foreign bribery cases. These intermediaries were agents, such as local sales and marketing agents, distributors and brokers, in 41% of cases, or

_ in 69% of cases, sanctions were imposed by way of settlement between the defendant and the national law enforcement authorities rather than as result of a criminal trial

No, what gave me pause for thought was the following comment by OECD Secretary-General Angel Gurríain a speech when the report was launched:

Bribery cannot be blamed on rogue employees. In over half of the cases studied, senior management – and even CEOs – were involved in corrupt behaviour or were at least aware of it. Companies can no longer play the victim.

Passive involvement?Well, of course it’s no surprise that corruption can occur at any level within an organisation. Also, anyone actively “involved” in corruption can expect and be entitled to no sympathy. The real question though is where this finding (and the underlying reality) leaves other board

members not perhaps themselves actively involved in corruption but who, with the benefit of forensic hindsight, might be accused of passive involvement by not doing enough to prevent it.

For example in the UK, there is an especially dangerous (insofar as those passive board members are concerned) combination of two statutes, which does not get the attention it perhaps deserves. The first is of course The Bribery Act itself but—at least so far as individual directors, are concerned, provided that their “involvement” has not extended to “consent or connivance” in the bribery—they should not be prosecuted under that Act. Mere neglect is not enough.

But what if there is a credible suspicion of bribery raised at board level perhaps as a result of whistle-blower activity?

That is where the POCA or the Proceeds of Crime Act comes into play. This is complex stuff but in essence, Section 330 of POCA makes it a criminal offence in the regulated sector if someone knows or suspects, or has reasonable grounds for knowing or suspecting, that another person is engaged in money laundering and fails to disclose this to the proper authorities.  “Money laundering” is the process by which the proceeds of crime are converted into assets which appear to have a legitimate origin. Since a bribe would create “the proceeds of a crime”, it follows that if an otherwise innocent director has reasonable grounds for suspecting bribery to have occurred but sits on his or her hands, he or she runs a risk of prosecution not under the Bribery Act but instead under POCA.

If there is as much “involvement” in bribery at senior management level as the OECD estimates, the risk of collateral damage in the form of criminal prosecutions of those “asleep at the watch”, rather than those who “consented to or connived” in it, is probably greater than is generally realised.

The Perils for senior ManageMenT of being “involved” wiTh bribery and CorruPTion

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CorPoraTe ManslaughTer Charges in The PubliC seCTorIt was always perhaps more a question of “when” rather than “if”, but Maidstone and Tunbridge Wells NHS Trust now has the dubious distinction of being the first National Health Service Trust in England and Wales to be charged with corporate manslaughter.

The charges relate to the death of a woman at Pembury hospital in Tunbridge Wells after giving birth on 9 October 2012. Two doctors have also been charged with gross negligence manslaughter. Newspaper reports suggest that an international arrest warrant has been issued for one of the doctor who is believed to be abroad. The first hearing in the case is scheduled to take place on May 1, 2015 at Sevenoaks Magistrates Court.

I offer no opinion on the facts of what is plainly a tragic and serious case. That said, I think it is of interest and general importance to remind ourselves as to the nature of the challenge facing prosecutors to make a charge of corporate manslaughter stick particularly against a large organisation such as this.

Under the Act an organization is guilty of an offence if the way in which its activities are managed or organized by its senior management causes a person’s death, provided that there was also “agross breach of a relevant duty of care owed by the organization to the deceased.”

The term ‘senior management’ is defined in section 1(4) to mean those persons who play a significant role in the management of the whole or a substantial part of the organisation’s activities. But as the Crown Prosecution’s own guidelines make clear: “neither ‘significant‘ nor ‘substantial‘ are defined but the former is likely to be limited to those whose involvement is influential and will not include those who simply carry out the activity.”

the guidelines continue:“When considering a prosecution under the Act, it is essential to obtain an organogram of the organisation in order to identify senior management and to use that information to determine whether a substantial element of the breach was at a senior management level. The test of senior management is wider than the former ‘controlling mind’ which effectively

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restricted the offence to actions of directors. A regional manager would probably count but this may itself depend on the number of regions, the number of higher tiers of management, the diversity of the organisation’s activities and his own job description.”

According to their website, the Maidstone and Tunbridge Wells NHS Trust operates from two main clinical sites and offers other small community based and satellite services. It employs some 4750 people. As such it is one of the larger “organisations” to have faced corporate manslaughter charges in the UK. Accordingly, the question as to the degree of alleged responsibility among specific tiers of management within the Trust for the “gross breach” of duty of care needed to secure a conviction seems likely to be an important element of the case.

It is likely that a lot of time and money will already have been spent by the Crown Prosecution Service in investigating the Trust’s systems and controls and that, in that context, a number of Trust employees will have been formally interviewed. Although individuals members of management cannot themselves be charged with an offence under the Act, the financial and reputational consequences for the organization are so serious that the career implications for those involved cannot be underestimated.

In that context it is well worth thinking about the relevance of D&O insurance cover. Paradoxically, some policies cover the defence costs associated with a prosecution against an individual member of management – inherently unlikely at least in the UK- but do not always cover the investigation costs – very much more likely in the event of a death. As always, it pays to read the small print.

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It is perhaps too easy to dismiss the claims as mere aberrations. According to The Times reports, though, it appears that the only way the executive concerned was able to overturn his conviction was to appear in person at his appeal. That appearance was something which itself would have needed to be handled very carefully to avoid further mishaps.

I am no expert on Egyptian justice system but I hazard a guess that the original criminal charges flowed from civil claims (however wrong-headed) originally made by the former Egyptian partner and that the criminal convictions were simply procedural inevitabilities based on the fact the cases were undefended.

Fancy a sPell in an egyPtian jail?Perhaps unsurprisingly the answer from each of the senior executives of a major UK retailer concerned was an emphatic no. Nevertheless, according to recent reports in The Times, both had been sentenced in absentia to lengthy jail terms. How could this happen? And what lessons does this bizarre episode have for D&O insurance?

the caseThe case relates to a retailer’s attempt to open stores in Egypt some 15 years ago. The deal went sour and the local Egyptian partner brought several claims alleging (among other things) that one of the executives concerned had travelled to Egypt in July 2014 and attempted to seize cheques written by the former partner. The fact that

(a) neither of the board members were employed by the company when the original acquisition took place and

(b) that neither was in fact in Egypt in July 2014 but instead in London doesn’t seem to have counted for much

Indeed it seems to be the case that the executives had no prior notice of the claims.

when your direCTor is Tried in absenTia

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_ Is “arrest” a trigger for cover in the absence of a claim?

_ Is the extradition cover general enough to cover extradition from anywhere to anywhere?

_ Are there unhelpfully restrictive sub-limits applicable to the relevant cover?

_ Is insurer’s consent a precondition to cover? (It may not be practical to obtain such consent quickly enough).

The absence of notice prior to the convictions is certainly an unusual feature here but the principle of convictions being made and upheld in absentia is much more common.

The real danger for the executive concerned was, I suspect, that if in the future he found himself travelling through Egypt or any country with which Egypt had an extradition treaty, he could have been at risk of arrest or imprisonment.

the danger For directorsApplying that logic further it is not beyond the bounds of possibility that other company CEOs innocently travelling around the world on company business could similarly find themselves being arrested on the basis of just such unwelcome attention.

So what lessons should we draw from this less than fanciful scenario in a D&O context? This is by no means an exhaustive checklist but the following points spring immediately to mind:

_ If arrested in a foreign country, are there D&O funds on tap locally to pay for legal costs?

_ If the “claim” relates to old facts (as did this one) would the policy nevertheless respond?

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It’s not hard to conjure up a range of horror story scenarios, each more lurid than the last, by reference to every one of the headings listed above. The only limiting factor is probably our own imaginations.

In fact it’s difficult to think of just about any activity in the developed world that does not rely on computers in some way. Everything from nuclear power plants to mass transport systems and from biochemical factories to flood barriers. (Remember that while there is no statutory definition of a computer, under English law, it has been defined to mean any “device for storing, processing and retrieving information” (SeeIn DPP v McKeown, DPP v Jones [1997] 2Cr App R, 155, HL))

Cyber CriMe aTTraCTs new life senTenCe in The uKAny doubts that the UK Government may not be taking cyber-crime seriously enough should have been dispelled on May 3, 2015 when an amendment to the Computer Misuse Act 1990 comes into force for the first time. For serious computer-related crime, life imprisonment is now a possibility. A new criminal offence has been created, which includes a number of interesting features:

unauthorised actsThe relevant acts must be “unauthorised” The meaning of this term was considered by the House of Lords in one of several cases involving attempts by the US authorities to extradite individuals to face charges in the US relating to computer hacking. The House of Lords decided that, so far as employees were concerned, an employee could commit an offence of securing “unauthorised access” to a computer only if she intentionally caused a computer to give her access to data which she knew she was not authorised to access. Their Lordships made it clear that an employee would only be guilty of an offence if the employer clearly defined the limits of the employee’s authority to access a program or data.

An employee would only be guilty of an offence if the employer clearly defined the limits of the employee’s authority to access a program or data

damage oF a material KindThe person undertaking the acts must know they will cause or create a significant risk of serious damage of a “material kind”. “Damage of a material kind” is defined to mean:1. damage to human welfare in any place;2. damage to the environment of any place;3. damage to the economy of any country; or4. damage to the national security of any country

“Damage to human welfare” is defined to mean:1. loss to human life;2. human illness or injury;3. disruption of a supply of money, food, water, energy or fuel;4. disruption of a system of communication;5. disruption of facilities for transport; or6. disruption of services relating to health

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All of this serves to underline the seriousness with which companies in every sector need to take their responsibilities in this key area. It goes without saying that this advice applies equally to the directors and officers of these companies. As for what they should do, the best I can offer is to refer them back to my several earlier blogs on this topic!  In particular, see You Can’t Go Far in Insurance These Days Without Hearing About Cyber and Cyber Risk: New UK Guidance Makes Ostrich Defence for Directors Even More Untenable. Please continue to watch this space.

What’ll get you liFe?It’s interesting also to note which of these scenarios the UK Government takes most seriously. Only these attract a life sentence:

_ damage to human welfare in any place _ damage to the environment of any place _ damage to the national security of any country

Other offences under this new provision “only” attract a 14-year term. Perhaps understandably the UK equates threats to national security with threats to human life, but what does this really mean? For example could a threat to the integrity of the UK’s financial system (if sufficiently grave) be regarded as a threat to national security?

Finally, it should be noted that the serious damage and other consequences of a cyber-attack don’t have to materialise in order for the offence to be triggered. It is enough if there is “significant risk” posed as a result of the attack. Of course the authorities still have the considerable challenge of finding those responsible (or at least some of them).

The consequences of a cyber-attack don’t have to materialise in order for the offence to be triggered.

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new uK law TargeTs The PuPPeT MasTers

The unpromisingly named Small Business, Enterprise and Employment Act 2015 received Royal Assent on March 26, 2015. It didn’t attract much press attention at the time perhaps because it contained such a diffuse range of measures, some of which have yet to come into force. That’s a pity because it contains some eye-catching provisions affecting company directors in areas such as:

_ appointment and disqualification _ insolvency _ company filing requirements _ aspects of employment law

It is difficult to identify a single theme behind all the changes but as this quote by Vince Cable (the then Secretary of State for Business, Innovation and Skills) makes clear, personal accountability was at least one of them: “The Bill’s measures also mean there is nowhere to hide for firms who do not play by the rules.” Here, I highlight just three of the changes:

1) directors’ general duties to aPPly to shadoW directors

With effect from May 26, 2015, Section 170(5) of the Companies Act 2006 has been amended to provide that the general duties of directors apply also to shadow directors where possible.

As you remember, shadow directors are not the appointed board members but instead, persons “in accordance with whose directions or instructions the directors of the company are accustomed to act”.  The idea here is to expand the duties and responsibilities imposed on such individuals to the extent practicable.

The Secretary of State has been given power to make regulations concerning the application of general duties to shadow directors, although no such regulations have yet been produced.

2) Prohibition on corPorate directors

With effect from October 2015, the Companies Act 2006 is being amended to require all company directors to be natural persons, albeit subject to certain specified exceptions.

This is potentially quite a big deal as the vehicle of corporate directorships is used on occasion to further shield the natural persons who are directors of such companies from liabilities which would otherwise attach to them.

Whilst other jurisdictions–including, I believe the US–do not permit corporate directorships, the UK does and English courts have confirmed that they do have a protective effect: see e.g. Gregson v HAE Trustees Limited.

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The key to this new law, though, is how widely the exceptions will be drawn. Whilst the relevant regulations have not yet been finalised, it seems that the government is considering a “principles” based exception under which a company would be permitted to appoint a corporate director if both of the following conditions are satisfied:

_ all the directors of the corporate director are themselves natural persons (individuals); and

_ the law under which the corporate director is established requires certain details of the “director” of the corporate director entity to be included in a publicly maintained accessible register

On this basis, the new law may still allow corporate directorships to survive in many cases.

3) register oF PeoPle With “signiFicant control”

I have saved arguably the most radical and important change to last – as has the Government, since this one won’t be introduced until January 2016. With effect from then, most companies in the UK (other than those on the main market of the London Stock Exchange and AIM companies) will need to start keeping a register of people with “significant control” over the company.

The new register will need to include particular information about individuals with significant control who are “registrable” and particular information of registrable relevant legal entities who would have been a person with significant control if they had been individuals.

Broadly, a person with significant control over a company is defined in the Act as an individual who (either alone or as one of a number of joint holders of the share or right in question) meets one or more of the following conditions:

_ the individual holds, directly or indirectly, more than 25% of the shares in the company or its voting rights;

_ the individual holds the right, directly or indirectly, to appoint a majority of the board of directors of the company;

_ the individual has the right to exercise or actually exercises a significant influence or control over the company

In relation to this last condition, the Act requires the Secretary of State to issue statutory guidance on the meaning of “significant influence or control” in this context. In January 2015, the Government announced that an expert group had been set up to draft that statutory guidance. This is likely to be published in October 2015 and is no doubt eagerly anticipated.

Companies will be legally required to take reasonable steps to identify such persons and legal entities, including making enquiries of other persons where the company knows or has reasonable cause to believe that that person knows the identity of a registrable person or relevant legal entity. Companies and directors will commit an offence (punishable by imprisonment or a fine) if they fail to take steps to investigate its registrable persons and registrable relevant legal entities.

There will also be a legal duty on registrable persons and registrable relevant legal entities to provide information to the company in certain circumstances to ensure the necessary information is recorded in the company’s new register. They also have a similar obligation to notify the company of relevant changes to the information in the register and will commit an offence under the Act if they do not comply with these obligations.

Plainly, a key part of this new measure will be the statutory guidance on the meaning of “significant influence” – a term with considerable potential scope for argument and interpretation.

conclusionThe connecting thread running through each of these measures is a plain desire among UK legislators to introduce more transparency and accountability into English company law for those individuals who wield control over a company’s affairs even though they are not on the board of directors. Whilst the aim is a laudable one, it is difficult to know how all this will work in practice – especially the register.

It also raises interesting philosophical questions about the separation between investors and companies (i.e. the principle of limited liability) which is one of the main lynchpins of any capitalist economy.

In effect, the UK legislators are seeking to lift the skirt beneath the corporate veil in “appropriate cases”. This is a subject I have looked into before and no doubt will do again.

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on accountabilityA specific challenge for regulators and investigators seeking to apply and enforce the concept of “accountability” against individuals is how to be fair (and be seen to be fair) and deliver justice.

This is what Section 393 of the Financial Services and Markets Act 2000 is all about. It is designed to give “identified” individuals the right to make representations in relation to warning and decision notices given to others in respect of whom the Financial Conduct Authority is taking regulatory action.

The question is what does “identified” mean in this context. This formed the basis for the FCA’s recent unsuccessful appeal to the Court of Appeal.  The case concerned a former senior manager of JP Morgan at the time of the London Whale rogue trader losses in 2012.

Challenging The “Murder on The orienT exPress defenCe”The latest slew of fines against banks (almost US $6 billion) in wake of the FOREX scandal has attracted predictable headlines from the press along the lines of “How can it be that so few individuals have been held to account?”

Yet, as I write this blog, a senior trader with two of the banks concerned is today becoming the first person to face trial by jury over allegations he conspired to rig global Libor interest rates when his case begins in London.

Are the bankers really “getting away with it”? Will the get away with it in the future?The former yen derivatives trader is charged by the Serious Fraud Office (SFO) with eight counts of conspiracy to defraud between 2006 and 2010, a criminal offence that carries a maximum jail sentence of 10 years. A range of other individuals are expected to face trial here in the UK and beyond.

The UK is also about to introduce the Senior Managers Regime (SMR), one of the most far-reaching reforms focusing on individual accountability ever implemented.

are they getting aWay With it?So how justified are the headlines? Are the bankers really “getting away with it”? Perhaps even more importantly, will they get away with it in the future or will the new reforms eradicate what Martin Wheatley the Chief Executive of the Financial Conduct Authority has called the “Murder on the Orient Express Defence”?

Industries characterised by weak accountability – or by individuals seeking to protect themselves on a ‘Murder on the Orient Express’ defence (it wasn’t me, it could have been anyone) – are almost invariably less financially stable, and more prone to misconduct.

Plenty has already been written about the SMR including on my previous blogs. So I don’t intend to go into the detail of it here. Instead I want to focus on a particular tension between the concepts of accountability and effective regulation, which has been highlighted by a recent Court of Appeal judgment.

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The FCA in its Final Notice to JP Morgan, in which it fined the bank £137 million, made reference to the bank’s “CIO London management” but did not name any individuals. Mr Achilles Macris was at the time within the management structure of the bank, exercised a controlled function and had the job title of International Chief Investment Officer. He complained that, looked at in its proper context, the notice did, in effect, single him out through use of the phrase “CIO London management”.

The FCA disagreed. It argued that a general reader would not unambiguously and unequivocally have been able to identify Mr Macriss.

The Court of Appeal took a different view. It found that the test for identification should be similar to that applied in defamation cases. The correct approach was summed up as follows:

“Are the words used …. such as would reasonably in the circumstances lead persons acquainted with the claimant/ third party, or who operate in his area of the financial services industry, and therefore would have the requisite specialist knowledge of the relevant circumstances, to believe as at the date of the promulgation of the Notice that he is a person prejudicially affected by matters stated in the reasons contained in the notice?”

Applying this test to the facts of the case, The Court of Appeal ruled that Mr Macriss ought to have been given representation rights under Section 393 before the Notice was issued.

Whether the FCA will apply to the Supreme Court for leave to appeal this decision remains to be seen but it is not hard to see how see how the case has the potential to give the FCA a severe headache under the new SMR regime.

The very new tools which the FCA will have at its disposal to render individuals accountable such as Statements of Responsibility and Management Responsibility Maps will be additional sources by which individuals can be identified. Indeed that is the `whole point of them. Does this mean that the FCA will in future have to choose between either full-blown enforcement against individuals or the issuing of notices to the entity alone, which are so deprived of colour and context (for fear of identifying individuals) that they lack the very punch and deterrent effect which the FCA is looking for?

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The benefiTs of seeKing “aPProPriaTe” legal adviCe “aT The righT TiMe”How often are directors warned of the need to seek professional advice? There is no doubt that it can be an invaluable antidote to the tendency of regulators, prosecutors and litigants to apply hindsight when bringing proceedings. “If only you had asked the lawyers they would have advised you of your duty to act. But you failed to do that and you are therefore in breach of your duty...”

Whilst in general, judges may be reluctant to substitute their business judgment for that of company directors, (see business judgment rule in the US for example) they are much less likely to refrain from doing so where directors have failed to seek “appropriate advice at the right time.” But what does that really mean and what is the right time?

the tWilight ZoneOne situation in which appropriate advice really is necessary is the so called twilight zone. There is no legal definition of this term, which is used to describe a period of trading when a company has, or is predicted to have, insufficient cash to pay its debts as they fall due. This might be an immediate cash-flow crisis, or the problem might be anticipated many months ahead.

In the UK, unlike in some jurisdictions, it is not necessarily unlawful for a company to continue to trade in the twilight zone. Probably the most important thing for the directors to realise is that, in the twilight zone, their duty to promote the success of the company for the benefit of the shareholders is replaced by a duty to act in the best interests of the creditors of the company.

In real life, the issues to which this switch gives rise can be fast moving and nuanced. For example, what if the interests of one group of creditors are different from those of another? What about the interests of the employees? It’s not hard to see how legal advice is both necessary and desirable in this type of situation although even that is no guarantee of absolution for directors (see my earlier blog on the infamous Farepak case).

timing is everythingIt’s not just the appropriateness of the advice but also the timing that’s important. The first challenge with the twilight zone, for example, is to recognize its existence in the first place.

Nor can directors simply rely on the accountants or auditors to bring matters to their attention. Under the Companies Act one of the directors’ most basic duties is to maintain up-to-date and accurate books and records. Failure to do so is itself a contravention of the Act. Without accurate and up-to-date financial information they may not even realise the need for such advice.

In a completely different context, trustees of company pension funds may be faced with a similar set of challenges if there is the risk of a funding deficit in an occupational pension scheme. Again, the first challenge is one of evidence. Trustees need to have sufficiently reliable and accurate actuarial input to know how serious the problem is. When there is a problem how should the trustees go about addressing it?

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That was the situation recently facing the trustees of the Merchant Navy Ratings Pension Fund. The scheme was established in 1978 for the benefit of sailors in the Merchant Navy. Along with many other UK-based defined-benefit schemes, it has a substantial funding deficit. Unusually, the responsibility to address the deficit fell on a relatively small sub-set of employers within the Merchant Navy. In grappling with this issue, the trustees perhaps wisely applied to Court for prior approval before the creation of a new deficit contribution regime requiring a broader group of employers to contribute.

hoW good does the advice have to be?One of the issues in the Merchant Navy case was whether the legal and other professional advice the trustees had taken was sufficient to enable them to make the proposed amendments to the scheme. The Court drew an important distinction between the requirement to seek competent advice and the requirement to look behind it and in effect second-guess it. In this case the Court concluded that the trustees were entitled to rely on their advisers to provide enough analysis and detail to support their views and recommendations.

What this means is that there is a meaningful distinction to be drawn between the requirement on directors and trustees to seek appropriate professional advice in discharge of their duties and the question as to whether the advice actually obtained is in fact in all respects “appropriate”.

In other words, the very act of seeking (and acting on) the advice of competent lawyers at the appropriate time may insulate directors and trustees from liability even if that advice is later shown to be defective.

Of course whether the directors and trustees can avoid becoming embroiled in subsequent litigation with all the attendant legal costs and stresses is a quite different question.

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For more information please contact Francis Kean: T: +44 (0)20 3124 7078E: francis.kean@willis.com

or visit our blog, WillisWire, at blog.willis.com