Directors get liability checklist

While the chances of being at the receiving end of a multi-million pound claim as a director of a UK company may seem remote, companies are now less willing to take the chance.

And some recent scandals have shown that directors ­ as well as non-executive directors ­ can be at the centre of colossal fraud trials and damages claims. Recent examples include Lord Wakeham, formerly a non-executive director at Enron, who found himself providing testimony in the world’s most notorious corporate fraud trial.

All directors in the UK have a legal duty to display not only a reasonable level of skill, care and diligence in the discharge of their functions, but also to bring to bear such knowledge, skill and experience as they have. Furthermore, UK company law does not distinguish between executive and non-executive directors and thus both sets of directors share the same duties and responsibilities to shareholders, regulators and other stakeholders.

Equally culpable

The dismissive remark once given by ITV executive chairman Michael Grade about likening non-executives to bidets (“You’re not sure what they’re for, but they add a touch of class”), which perhaps once captured the passive nature of the role, no longer holds true ­ non-executives are equally as culpable as executives.

In the case of Equitable Life, the troubled insurer’s non-executives were forced ­ following a regime change at the company’s board ­ to enter the witness box in a £2bn claim against them. In the Equitable Life case, one of the main planks of the defence run by the non-executive directors was to the effect that the risks surrounding guaranteed annuity rates were a highly technical matter on which they had to rely on the good judgement of the actuaries, the other professionals and the executive.

Decrease exposure to liability

City law firm Barlow Lyde & Gilbert says in its latest Directors’ & Officers’ Liability Review (issue 41) that there are a number of factors which directors can and should bear in mind when considering their own personal exposure to liability. Their guide was compiled in anticipation of possible sub-prime-related legal action against directors of financial services firms, but the checklist serves as a useful aid for executive and non-executive directors of all companies:

• Consider carefully what the specific implications for you as a director are. Above all, are you satisfied that the company’s systems, structures and advisers are adequate and competent to enable you to “acquire and maintain a sufficient knowledge and understanding of that company’s business to enable you properly to discharge your duties”?
  
• As a director, are you able to assess the nature and scale of the operational risk faced by the company? For example, there may be transaction-linked risks associated with the complexity of investment products. Alternatively, there may be risks attached to the business strategies adopted by the company. Is there evidence that the company has taken appropriate steps to identify, quantify and address these risks? Would a report on these issues from an independent professional source be appropriate and/or desirable?
  
• It is all very well receiving reassurances as a main board director that you will gain access to regular, comprehensive and detailed reports on the company’s affairs, but how much practical use will all this material be to you, asks Barlow Lyde & Gilbert. If you are a non-executive director, should you be receiving board packs with large volumes of appendices attached to them?
  
• The chances are that some problems and/or risks are buried in such material, as happened in the case of Equitable Life where reference to guaranteed annuity rates was buried in the board packs. Directors should consider the appropriateness of rejecting or limiting this material and asking for a summary of key issues. Ideally, there will be a process in place for bringing risks of this nature to your attention together with proposed solutions so that you are able to take informed decisions in light of such information and have an informed opportunity to consider the need for further action.
  
• Consider the scope for individual letters of engagement specifying the particular functions which you, as a non-executive director, are expected to discharge. The law firm says that this can be carried out by reference to the number of days you are contracted to dedicate each year to the company’s affairs. Such letters of engagement might also specify what you, as a director, are not being retained to do, which can be important from a personal risk management perspective.
  
• Consider, when faced with unsatisfactory or contradictory evidence, the need to probe more deeply, to minute objections and/or to obtain independent legal advice.
  
• Check and, if necessary, negotiate better indemnification provisions from the company to include loans in respect of the need for separate legal representation, either in the defence of claims or in the context of regulatory investigations or enquiries.
  
• Check Directors’ & Officers’ (D&O) insurance terms and conditions. Barlow Lyde & Gilbert points out that there is a range of coverage issues to consider when purchasing or joining a D&O insurance programme. Seek expert advice. If you are a director of a financial institution which is a public limited company the best means of protecting yourself from liability claims is to have a clear understanding as to the nature and likely genesis of such claims.