The goalposts have shifted: Reforms of the Identification Principle come to the UK

A legacy of the 2008 Global Financial Crisis might be reforms recently introduced to enable enforcement agencies hold big corporates to account for the commission of economic crimes within their organisation. Suzanne Gallagher of the Withers white collar defence and investigations team takes a closer look.

Until recently, a body corporate implicated in financial crime could only find itself on the indictment ­­alongside the individuals who orchestrated the criminality where said individual served at the material time as 'directing mind and will' or 'an embodiment' of the company. To hold a corporate entity to account, prosecutors were obliged to demonstrate that this 'directing mind' was directly involved in suspected criminality. 

It was the Serious Fraud Office's ('SFO') efforts to hold Barclays bank and its chief executive Mr Jim Varley to account following the Global Financial Crisis that was the tipping point in tolerance for this stringent legal test. When the SFO filed charges, it was the first time a major bank and its chief executive had faced the prospect of a jury trial in what some consider to be the world's global financial centre. The SFO charged Barclays as a corporate defendant, accusing it lending money in the knowledge that it would be reinvested in the bank. It did so with the intention of artificially and fraudulently propping up the share price. For Barclays to be held criminally liable, it had to be that Mr. Varley was the bank's 'directing mind and will'. The SFO failed in its efforts to do so.  Following collapse of that trial, what followed was a wave of criticism over its continued application that was said to be unsuited to a modern and developed 21^st century economy.

Whilst it can be straightforward to identify the 'directing mind and will' of a small enterprise, run by a clear number of named directors or partners, the legal test proves more challenging when applied to larger, complex ones. The first obstacle in securing a conviction was to identify the controlling mind, the second was to prove that the controlling mind was complicit in the criminality. 

The former SFO Director David Green described anecdotal personal experience in efforts to do so as 'the email chain tends to dry up at middle management level.' His American successor, Lisa Osofsky, did not mince her words when criticising the legal test, describing it as a 'standard from the 1800s when ‘mom and pop’ ran companies that is not at all reflective of today’s world.'  She described herself and the SFO 'hamstrung' by the directing-mind principle, telling parliamentarians at Westminster that without reform 'I can go after Main Street, but I can’t go after Wall Street'. 

Now, with new reforms introduced in the Economic Crime and Corporate Transparency Act 2023, commercial organisations can be held to account for the wrongdoing of 'senior managers' providing services on their behalf. The pool of individuals is now significantly broader than it was under the previous legal test, going beyond titles board/committee memberships. It permeates the top tier of management and includes individuals who play a significant role in either:

1. the making of decisions about how the whole or a substantial part of the activities of the organisation are managed or organised; or
2. the actual managing or organising of the whole or a substantial part of those activities.

Those caught by this new test are in the direct chain of management and those in strategic or regulatory and compliance roles. It would normally include a company’s directors and other senior officers such as a Chief Financial Officer or Chief Operating Officer regardless of whether they are members of the Board.  Any person who falls within the definition, irrespective of their title, remuneration, qualifications or employment status, can find themselves within the purview of the definition, satisfying David Greene who previously expressed dissatisfaction about email chains drying up at the so-called 'middle management' level. 

The offending behaviour caught by the reforms is wide: theft, fraud, money laundering, terrorist financing and others are all within scope. The ‘relevant offence’ may also include attempt, conspiracy, encouraging or assisting, aiding, abetting, counselling or procuring the commission of an offence.

It is undeniable that these reforms shift the goalposts for prosecutors, making it easier for them to net a score in their efforts to hold large corporates to account for malfeasances within the organisation. What will be interesting to observe is whether the SFO and other agencies take up the mantle in prosecuting corporates, or if they will continue to rely on the 'failure to prevent' ('FTP') option that is being extended to fraud, making this available for a broader range of offending. 

If the FTP pill is swallowed as an alternative to pursuing corporates for transgressions at middle management level, companies may still have some cards to play, with the reasonable or adequate procedures defence providing them with potential respite. However, corporates may also find it challenging to argue that they had reasonable or adequate procedures in place (in the form of zero tolerance culture and rigorous compliance) where middle management are implicated. Furthermore, there is no certainty that this will be the approach taken as there is nothing to prevent the agencies like the SFO from including multiple charges on the indictment covering both types of offences.

It will also be interesting to see whether the new expansion will impact on the number of Deferred Prosecution Agreements ('DPAs') the SFO agrees with its corporate suspects. Since their introduction in 2014, DPAs have become the preferred option for bringing large, complex and multinational organisations to account. The current SFO director Nick Ephgrave has already commented that DPAs could come back with 'a vengeance' once the new FTP fraud offence comes into force, which is expected to be next year. It is likely that DPAs will remain an attractive alternative to prosecution as they avoid the uncertainty of lengthy and costly trials. They also avoid the potentially catastrophic consequences that prosecution can have on companies of significant economic importance that are the backbone of the British economy, companies that may be considered too big to fail. 

No doubt these reforms will give the SFO renewed impetus to bring corporates to account and present novel and challenging issues for senior executives attempting to navigate these unchartered waters. We recommend that organisations take a pro-active approach in mitigating the risk of getting caught in the eye of the storm which will no doubt include a review of existing fraud prevention policies and procedures to determine whether these are adequate and identification of those who may fall within the category of 'senior managers' with a view to providing training on identifying and reporting misconduct and wrongdoing that could give rise to corporate liability.