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Upper Tribunal upholds FCA's findings that a non-executive director failed to act with integrity due to her failure to recognise and disclose conflicts of interest

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In this report, Sarah Hitchins, an associate in Allen & Overy LLP's Banking, Finance and Regulatory Litigation Group, considers the decision of the Upper Tribunal (Tax and Chancery Chamber) (the Upper Tribunal) in which it concluded that a non-executive director of two mutual societies, Angela Burns, had failed to act with integrity.

The Upper Tribunal's decision relates to Ms Burns' conduct in her personal capacity whilst a non-executive director at two mutual societies and her use of these positions for her own long-term benefit. In particular, the FCA and the Upper Tribunal focused on Ms Burns' apparent failure to recognise and disclose that her interest in pursuing opportunities for her own consultancy business whilst acting as a non-executive director for the mutual societies amounted to a conflict of interest. 

Background

Angela Burns is an experienced professional in the UK investment industry and owns her own consultancy business. From early 2009 until May 2011, Ms Burns was also approved by the FSA to perform a CF2 (Non-Executive Director) role in relation to two mutual societies (together, the Mutual Societies).

The FSA undertook an investigation into Ms Burns' conduct as a non-executive director of the Mutual Societies. The FSA focused on allegations that Ms Burns, while acting as a non-executive director:

  • Failed to disclose to the Mutual Societies a manifest conflict of interest, namely that she was soliciting consulting work and a non-executive directorship from an investment manager (the Investment Manager) at the same time as she was recommending the Investment Manager and its services to the Mutual Societies.
  • Used her non-executive directorships at the Mutual Societies to solicit non-executive and consulting roles at the Investment Manager. 
Ms Burns attempted to argue before the FSA's Regulatory Decisions Committee that she only had 'aspirations' of working for the Investment Manager and that her communications with the Investment Manager were intended to 'reignite' the interests of the Investment Manager in a proposal that she had written for it several years previously (the 2008 Proposal). As a result, Ms Burns argued that no disclosable conflict of interest had crystallised and therefore needed to be disclosed by her to the Mutual Societies. The FSA rejected this argument and instead thought that it was clear that Ms Burns should have disclosed her ongoing communications with the Investment Manager to the Mutual Societies. In particular, the FSA was mindful of the fact that Ms Burns was an experienced professional and appeared to have breached:
  • the policies of the Mutual Societies relating to conflicts of interest (copies of which she had been provided with upon becoming a non-executive director); and
  • various provisions of the Companies Act 2006 and the Friendly Societies Act 1992 which concern directors' duties relating to the management and disclosure of conflicts of interest (see relevant provisions at the end of this report).

FSA Decision Notice

In November 2012, the FSA issued a Decision Notice in respect of Ms Burns. Ms Burns had resigned as a non-executive director of both Mutual Societies the previous year.
 
Prior to the publication of the Decision Notice, Ms Burns applied to the Upper Tribunal for an order prohibiting the FCA (as it had become) from publishing the Decision Notice on the basis that doing so would cause irreparable harm to her livelihood. Ms Burns' request was unsuccessful, as the Upper Tribunal did not find that she would be left 'insolvent or destitute' if the Decision Notice was published.
 

The FSA proposed to fine Ms Burns GBP 154,800 on the basis that it had found Ms Burns to have breached:

  • Principle 1 of the FSA's Statements of Principle and Code of Practice for Approved Persons (APER), which requires an approved person to act with integrity in carrying out their accountable functions; and
  • her fiduciary duties as a non-executive director.

In particular, the FSA found that Ms Burns had breached APER Principle 1 by:

  • failing to disclose her conflicts of interest to the Mutual Societies on a number of occasions  when she was undertaking work in her capacity as a non-executive director for the Mutual Societies but at the same time engaging in correspondence with the Investment Manager, the purpose of which was to solicit non-executive and consulting roles at the Investment Manager; and
  • attempting to use her fiduciary position as a non-executive director of the Mutual Societies to benefit herself by trying to use her position to encourage the Investment Manager to provide her with consultancy work in her personal capacity.
The FSA also proposed to use its powers under section 56 of the Financial Services and Markets Act 2000 to impose a prohibition order on Ms Burns which would prevent her from performing any function in relation to any regulated activity.
 
Although the FSA did not find that Ms Burns had acted deliberately or dishonestly, the FSA concluded that she had 'closed her mind' to the issue of whether there may be a conflict of interest and in doing so acted recklessly, especially given Ms Burns' experience in the industry and the clear guidance she was given by the Mutual Societies in relation to conflicts of interest.
 
Reference to the Upper Tribunal
 
Ms Burns referred the FSA's Decision Notice to the Upper Tribunal.

In total, the FCA (as it had become) made ten specific allegations of misconduct against Ms Burns in their particulars of claim before the Upper Tribunal. The Upper Tribunal rejected a number of these on factual grounds and proceeded to consider the remaining allegations against Ms Burns, which can be summarised as follows:

  • Use of fiduciary position as a non-executive director to solicit a benefit for herself by:
  • Informing the Investment Manager that she had recommended it to the Chief Executive of  one of the Mutual Societies and at the same time reminding the Investment Manager of her interest in obtaining consulting work and a non-executive directorship with the Investment Manager.
  • Contacting the Investment Manager shortly before it was due to tender for work at the other Mutual Society to solicit from the Investment Manager in return for having recommended it to the Mutual Societies: (a) a commission arrangement for, and (b) a non-executive position at one of the Investment Manager's funds.
  • Non-disclosure: By participating in discussions regarding the Investment Manager at a board meeting of one of the Mutual Societies, but failing to disclose that she was at that time also trying to solicit consulting work and a non-executive directorship with the Investment Manager.
In addition, Ms Burns faced an additional allegation that had not been made during the course of the FSA's investigation, namely that she had failed to disclose to the FSA when applying for approval as a CF2 (Non-Executive Director) in relation to the Mutual Societies that she had been employed and subsequently made redundant by another financial services firm. 
 

Ms Burns' duties as a non-executive director

At the outset, the Upper Tribunal sought to clarify what it considered to be the scope of Ms Burns' duties as a non-executive director in relation to conflicts of interests, as the scope of these duties had been disputed by the FCA and Ms Burns. The Upper Tribunal described the scope of Ms Burns' duties in this respect as follows:
 
Soliciting a benefit, while making reference to a fiduciary position and using it to persuade another party to do something, is not necessarily improper. The Upper Tribunal used as an example the situation in which a person may apply for a job with Company B and in doing so place great emphasis on their previous non-executive roles with Company A. The Upper Tribunal stated that this alone would not constitute a breach of fiduciary duties owed to Company A as the individual was not attempting to obtain personal benefit from the exploitation of something that belongs to Company A, nor does it involve any express or implied offer to accept inducement for influencing Company A in favour of Company B. The Upper Tribunal said that what this situation would become improper if the solicitation creates a situation in which the non-executive director has, or can have, a direct or indirect interest that conflicts, or possibly may conflict, with the interests of Company A. 
 
Seeking an inducement for favouring a third party in a proposed transaction is by no means the only way in which a director may be in breach of their fiduciary duties.  Irrespective of any inducement, if solicitation creates a situation in which the director has, or can have, a direct or indirect interest that conflicts, or possibly may conflict, with the interests of Company A, the only way to prevent such solicitation from being improper is to make prior disclosure to Company A and obtain Company A's prior consent.
 
Contrary to what Ms Burns had argued, disclosure of an interest is not only required when a transaction is being decided upon in a final and binding manner. As soon as a situation arises in which the director has, or can have, a direct or indirect interest that conflicts, or possibly may conflict, with the interests of Company A, disclosure should be made.
 

Integrity

The Upper Tribunal took into account guidance provided in previous cases regarding the meaning of the word 'integrity' – in particular, that integrity connotes 'moral soundness, rectitude and steady adherence to ethical standards' (Hoodless and Blackwell v FSA (FSMT, 3 October 2011)) and that a person lacks integrity if they 'lack an ethical compass, or their ethical compass to a material extent points them in the wrong direction' (First Financial Advisers Ltd v FSA (FS/2010/0038 21 June 2012)).
 
Ms Burns attempted to argue before the Upper Tribunal that in those cases the finding that an individual had failed to act with integrity necessarily connoted a finding that the person had intended to breach applicable ethical standards. The Upper Tribunal dismissed this argument and held that the FCA was not required to prove that Ms Burns had consciously intended to breach ethical standards or that she had considered the applicable standards and made a conscious decision to take the risk of breaching them.
 
Against this legal framework, the Upper Tribunal concluded that Ms Burns had failed to act with integrity and therefore breached APER Principle 1 in relation to the following two specific events:
 
In February 2009, Ms Burns suggested to the Chief Executive of one of the Mutual Societies that it may wish to engage the services of the Investment Manager. Shortly after doing so, Ms Burns engaged in correspondence with the Investment Manager and updated it about this potential opportunity in relation to the Mutual Society. In the same email chain, Ms Burns suggested that she could perform consultancy work for the Investment Manager and serve as a non-executive director for certain of the Investment Manager's funds. Ms Burns also re-attached a copy of the 2008 Proposal to her email. The following day, Ms Burns attended a board meeting for the Mutual Society, during which it was agreed that the board would consider engaging the Investment Manager. After this board meeting, Ms Burns contacted the Investment Manager and reminded him of her business proposal.
 

The Upper Tribunal concluded that sitting in the board meeting and hearing that the Mutual Society was thinking of instructing the Investment Manager, Ms Burns 'cannot have failed to have misgivings about the email she had sent the previous day' in which she attempted to solicit consultancy work from the Investment Manager. The Upper Tribunal stated that, given Ms Burns' considerable industry experience, 'she must have known… that she should disclose the approach that she had made to [the Investment Manager] on her own behalf'. However, instead the Upper Tribunal found that she 'closed her eyes to the issue, and compounded the situation by sending a further undisclosed solicitation email' to the Investment Manager the next day.

(Paragraph 115 of the Upper Tribunal's decision)
 
In November 2010, the Investment Manager was due to give a tender presentation to the other Mutual Society where Ms Burns served as a non-executive director. Shortly before the Investment Manager was due to make its tender presentation, Ms Burns emailed the Investment Manager. In this email, Ms Burns noted the role she had played in introducing both Mutual Societies to the Investment Manager and appeared to solicit a commission arrangement and a non-executive role with the Investment Manager in return for doing so. The Investment Manager interpreted this email as showing that Ms Burns had a conflict of interests and decided that it would be unethical for it to continue to participate in the tender process, from which it subsequently withdrew.
 
The Upper Tribunal accepted that the email sent by Ms Burns to the Investment Manager had been poorly drafted and that she was not actually trying to solicit payments from the Investment Manager for introducing it to the Mutual Societies. Rather, it found that Ms Burns was providing examples of how such a commission arrangement could work in the future in relation to other introductions she made for the Investment Manager.
 
Notwithstanding this, the Upper Tribunal found that, by sending this email to the Investment Manager, Ms Burns unknowingly sought to create a situation in which she would have a personal interest that could conflict with the interests of the Mutual Society for which she held a non-executive role. As a result, the Upper Tribunal concluded that Ms Burns demonstrated 'a reckless disregard for the potential creation of conflicts of interest' which was 'not a steady adherence to ethical standards'.
 

(Paragraph 116 of the Upper Tribunal's decision)

 

Fitness and propriety

Having found that Ms Burns had failed to act with integrity and thereby breached APER Principle 1, the Upper Tribunal considered whether Ms Burns was fit and proper to hold the CF2 (Non-Executive Director) position at firms such as the Mutual Societies. In doing so, the Upper Tribunal considered the guidance in the FCA's Fit and Proper Test for Approved Persons (FIT).
 

The Upper Tribunal concluded that Ms Burns was not a fit and proper person for the following two reasons:

  • First, the Upper Tribunal focused on Ms Burns' failure to declare on her FSA application form for approval as a CF2 (Non-Executive Director) (which required her to disclose her employment history for the previous five years) that she had been employed and subsequently made redundant by another financial services firm. The Upper Tribunal described these as 'troubling matters' and found that Ms Burns had 'no convincing explanation' for this omission from her application form.
  •  Second, the Upper Tribunal described Ms Burns' evidence before it as at times having been 'deliberately untruthful'. This led to the Upper Tribunal concluding that Ms Burns 'was not a reliably trustworthy witness on critical matters'.
In coming to this view, the Upper Tribunal relied heavily on, what it described as, Ms Burns' 'disregard of the standards to be expected' of her as a non-executive director which it said 'requires rigorous adherence to the proper standards concerning avoidance of conflicts and the making of disclosures'.
 

Conclusion

The Upper Tribunal upheld the FCA's findings that Ms Burns had breached APER Principle 1 and that she was not a fit and proper person to hold the CF2 (Non-Executive Director) position.
 
Prior to the Upper Tribunal hearing, Ms Burns and the FCA had agreed to defer the issue as to what sanction should be imposed on her. As a result, the Upper Tribunal invited Ms Burns and the FCA to discuss whether, in light of its findings, they were able to agree upon an appropriate sanction.
 
When the Upper Tribunal issued its decision to the parties as a confidential draft to give them the opportunity to highlight any clerical mistakes or errors, Ms Burns took this opportunity to submit further representations to the Upper Tribunal. Given that the circumstances of Ms Burns failure to disclose a former employer in her CF2 (Non-Executive Director) application were directly material but did not form part of the specific allegations of misconduct, the Upper Tribunal took the 'exceptional course' of giving detailed consideration to Ms Burns' representations. However, the Upper Tribunal found that Ms Burns' representations did not materially alter any of its findings.
 

Comment

Non-executive directors play a key role in helping to ensure the effective functioning of boards of directors. In particular, non-executive directors are expected to challenge proposals with a degree of independence and with the benefit of other, and in some cases, broader industry experience. As a result (and as the Upper Tribunal emphasised), Ms Burns' position as a non-executive director of the Mutual Societies required 'rigorous adherence to the proper standards concerning avoidance of conflicts and the making of disclosures'.
 
Managing conflicts of interest can often prove challenging for non-executive directors, as the individuals who hold these roles often also have private business interests and act as non-executive directors for a number of other firms. As a result and as the Upper Tribunal's decision in this case demonstrates, a non-executive director in this position with a range of business interests must take steps to keep potential conflicts of interests under review and, as soon as soon as a situation arises in which they have, or may have, a direct or indirect conflict of interest, disclose this to the relevant parties.
 
In addition, the Upper Tribunal's decision in this case reinforces the fact that it is not necessary for the FCA to demonstrate that an individual intended to act in a way which lacked integrity in order to establish a breach of APER Principle 1. Rather, it is enough for the FCA to establish that an individual acted recklessly or did not turn their mind to consider whether or not their conduct lacked integrity.
 
Based on the FSA's Decision Notice, it appears that Ms Burns used one email address for correspondence relating to her consultancy business, as well as her non-executive director roles at the Mutual Societies. This may have proved unhelpful for Ms Burns, as it meant that a number of her communications with the Investment Manager contained information about her non-executive directorships, as well as her own consultancy business. As a result of the Upper Tribunal's decision in this case, non-executive directors may be advised to maintain separate email addresses and accounts for each of their respective roles. 
 

Section 177 Companies Act 2006

Section 177 of the Companies Act 2006 concerns the management and disclosure of conflicts of interest by company directors and requires company directors to do three things:
  • first, if a director of a company is in any way, directly or indirectly, interested in a proposed transaction or arrangement with the company, to declare the 'nature and extent of that interest to the other directors' (section 177(1)).
  • secondly, if the declaration becomes inaccurate or incomplete, to make a further declaration (section 177(3)).
  • thirdly, make the declaration before the company enters into the transaction or arrangement (section 177(4)). 

Section 63 Buildings Societies Act 1986

One of the Mutual Societies is governed by the Friendly Societies Act 1992. Schedule 11, Part II of the Friendly Societies Act 1992 extends section 63 of the Buildings Societies Act 1986 (relating to the management and disclosure of conflicts of interest) to the Friendly Societies Act 1992.

Section 63(1) Buildings Societies Act 1986 provides:

 
'It is the duty of a director of a building society who is in any way, whether directly or indirectly, interested in a contract or proposed contract with the society to declare the nature of his interest to the board of directors of the society in accordance with the procedure set out in this section'.