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SILENT FRAUD IN THE BOARDROOM

silent-fraud-in-the-boardroomJonathan Fisher QC discusses the recent decision in Richmond Pharmacology Limited v Chester Overseas Limited and whether it unwittingly widens a director’s potential criminal liability under section 3 of the Fraud Act for failing to disclose a conflict of interest.

SPEED READ

In Richmond Pharmacology Limited v Chester Overseas Limited, the High Court held that in the context of the dissemination of confidential information, a director’s duty to avoid a situation in which a conflict of interest arises between himself and his company is to be judged by an objective standard. The scope of a director’s legal duty to disclose information to the board of directors where a conflict of interest arises is correspondingly widened by the decision,

COMMENTARY

Richmond Pharmacology Limited v Chester Overseas Limited & Ors [2014] EWHC 2692 (Ch)(Richmond)concerned a company established to provide early stage medical research trials. Pursuant to the shareholders’ agreement, the majority shareholders were the founding directors of the company – three doctors who owned a combined shareholding of 56%. The remainder of the shares were owned by a company, Chester Overseas Limited, which was in turn owned by a discretionary trust. The beneficiaries of the trust, Milton and Larry Levine, became directors of Richmond.

The shareholders’ agreement contained a clause relating to confidentiality. Clause 13 provided that each party would keep “...strictly confidential all commercially sensitive information received or obtained...” This came with the proviso that shareholders could disclose such information to their advisers (see Richmond Pharmacology Limited v Chester Overseas Limited & Ors [2014] EWHC 2692 (Ch), (paragraph 37).

After a period of time, the Levine’s decided that they wanted to sell Chester Overseas’ shares in Richmond. Attempts were made to reach agreement on a directors’ buyout. However, relationships between the parties soured and negotiations were unsuccessful. The Levine’s decided that they would sell the holding in Richmondto a third party, and obtained the services of an adviser, New World Corporate Finance Limited. They then shared confidential information about the Richmond and its performance with this adviser, who in turn shared this information with third parties. Richmond claimed that this caused the company to lose business, and suffer a loss of £4,293,225 (see Richmond Pharmacology Limited v Chester Overseas Limited & Ors [2014] EWHC 2692 (Ch), (paragraph 5).

Stephen Jourdan QC, sitting as a deputy High Court judge, held that the Levine’s, in sharing confidential company information, had acted in breach of their duties as directors. Specifically, they had breached the duty under section 175 of the Companies Act 2006, to avoid a situation in which they had a direct or indirect interest that conflicted or could possibly conflict with the interests of Richmond, and the equitable duty of confidence. He concluded, however, that these breaches caused no loss to Richmond and awarded it nominal damages of £1 (see Richmond Pharmacology Limited v Chester Overseas Limited & Ors [2014] EWHC 2692 (Ch), (paragraphs 204 and 253).

One of the more interesting aspects of Stephen Jourdan QC’s judgment was his ruling that the correct test to be applied when considering section 175 of the Companies Act 2006 was an objective one. Referring particularly to Keech v Sandford (1726) 25 ER 223, the judge held that the rule against conflict of interest was “... a strict one which does not depend on bad faith or any question as to the state of mind of the fiduciary...”, and concluded that “...the test of whether there is a breach of the section 175 duty is objective, and does not depend on whether the director is aware that what he is doing is a breach of his duty.” (See Richmond Pharmacology Limited v Chester Overseas Limited & Ors [2014] EWHC 2692 (Ch), (paragraphs 71 and 72)

Whilst Richmond Pharmacology Limited v Chester Overseas Limited is a civil decision, it impacts upon the scope of section 3 of the Fraud Act 2006. This section provides that a person is guilty of fraud if he “...dishonestly fails to disclose to another person information which he is under a legal duty to disclose...”, and “...intends, by failing to disclose the information...” to either “...make a gain for himself or another...” or, to “...cause loss to another or to expose another to a risk of loss.”

One of the key questions for a criminal court under section 3 of the Fraud Act 2006 is whether the director was under a legal duty to disclose to the board the relevant information which gave rise to the conflict of interest. If, as the decision in Richmond Pharmacology Limited v Chester Overseas Limited suggests, the existence of a legal duty to avoid the existence of a conflict of duty is determined objectively, this will inevitably operate to widen the circumstances in which such a duty will be said to arise.

It remains true that in order to avoid conviction under section 3 a director will still be able to assert that he was not acting dishonestly when deciding not to disclose information to the board, and he was completely unaware of the existence of the legal duty to avoid a conflict of interest which had arisen.

But whether or not a jury believes him is, of course, another matter.

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The views expressed in this article represent those of the author and not Bright Line Law.

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