Directors' responsibilities – when things go wrong
With the recent high-profile prosecutions of company directors by the Serious Fraud Office, it is opportune to revisit a case in which our firm was involved to highlight that it is not only such directors who pay a heavy penalty when events do not go according to plan.
We pinpoint some useful tips for clients who may be considering taking on a governance role in a company for which they do not necessarily have all the prerequisite skills or experience.
This case concerns a foreign exchange investment broker.
The elements of the case involved fraud, breaches of directors' duties and, ultimately, the need to define the role and responsibilities of non-executive directors.
The defendant was a non-executive director in the company – he was a medical practitioner.
The defendant absolved all responsibilities to the executive director. He did, however, sign on behalf of the company an employment contract that required the executive director to report directly to him.
The defendant allowed the executive director to have sole charge of the running of the company, including being the only signatory to the cheque account.
Directors' meetings were never held, no accounting records were ever maintained, no budgets or plans existed and segregation of duties were non-existent.
As a consequence, the executive director committed fraud while in charge of investors' funds. The defendant relied on the executive director's "vast experience", which amounted to learning about Forex trading on a rugby trip.
No checks were made into the background of the executive director.
If checks had been carried out, even the most basic of inquiry would have revealed that he had been involved in suspected fraudulent activities in South Africa.
As a consequence, the executive director faced seven counts of theft brought by the Serious Fraud Office in relation to these matters. The court, in its judgment, found against the non-executive director for $300,000.
The message is clear for all professionals when advising clients who may be considering taking on directorships involving companies in which they have no experience:
- Be fully aware of the financial situation of the business at all times.
- Ensure basic controls are firmly in place.
- Attend all board meetings.
- If they do not have experience, they must be prepared to find out what is involved.
- Seek advice where possible from experts in the industry.
- Understand the risks and rewards associated with the industry.
Unless the clients are prepared to take on these responsibilities and put in the time and effort required they should either:
- Decline the directorship.
- Take out expensive insurance protection.
- Be prepared to face the extremely punitive consequences if things go pear-shaped.
In conclusion, we are left with the opening statement of Justice Geoff Venning:
"This case highlights the risk of a director becoming involved in a company whose business is outside the director's expertise. It also highlights the risk to investors who pursue high returns in speculative investments such as foreign exchange. It has led to loss by all parties concerned."
It is also pertinent to note that this case ultimately resulted in a successful prosecution by the SFO against the executive director, concluding with a term of imprisonment.
This, however, was of little help to the non-executive director, who ultimately paid the financial penalty.
Roy Horrocks is a partner at insolvency and business recovery specialists McDonald Vague