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The Rules: Hidden flaws in proposed new ‘failure to prevent fraud’ corporate offence

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Written by Will Christopher, a partner specialising in civil fraud and internal investigations at law firm Kingsley Napley LLP


 

SHORTLY before the May anti-corruption summit hosted by David Cameron, the prime minister announced a consultation on an extension of the corporate offence of failing to prevent bribery to other economic crimes such as fraud and money laundering.

The assumption is that it will be modelled on Section 7 of the Bribery Act, which introduced the first such “failure to prevent” offence. This made a corporate criminally liable in the event its employees or any associated persons are found to have paid bribes, unless it has in place adequate procedures to prevent bribery.

The new proposed offence is to be welcomed if it prompts corporates to implement anti-fraud procedures and take them more seriously. Hitherto these have suffered somewhat from a flawed cost benefit analysis. When Section 7 was introduced it spawned an industry selling “adequate procedures” advice on bribery to corporates.  The possibility of criminal liability, with large fines and other penalties was in many cases persuasive and lead to anti-bribery procedures being implemented.  In contrast, anti-fraud procedures designed to prevent, detect and effectively respond were far less likely to be considered, until, that is, the corporate becomes the victim of a large fraud.

For it is usually only after becoming a victim that a company realises just how damaging a fraud loss can be, not only in terms of the loss itself, but also in respect of the costs of an investigation and litigation and the enormous amounts of management time wasted, with the associated distraction from the business.  In fact the converse is also true: it makes good business sense to prevent fraud, for those reasons, and because all fraud losses prevented go straight to the bottom line.

However, while the new offence may boost fraud prevention measures, I fear the further creep of criminal law into business is not the answer.  Aside from the fact it will generate enormous change and huge expense in order to put in place adequate procedures to prevent fraud, the proposed offence is fraught with difficulties.  It is important the consultation addresses the concern that this offence will be very difficult to define, in contrast to the equivalent Bribery Act offence.  In particular, it is difficult to see how it will be defined without the unwelcome possibility that a corporate may find itself both the victim of fraud, and a potential defendant to criminal proceedings.

There are a variety of ways in which fraud could occur in a corporate, or by an associated person, and in most, if not all, cases the corporate has a civil cause of action against the individual perpetrating the fraud, and so could be considered a victim.

At present it is difficult to see how the drafting might distinguish between these.  To draft the offence too narrowly, for instance by requiring that the fraud must have been perpetrated with the intention of obtaining an advantage for the business, would be likely to exclude some surprising examples of fraudulent behaviour.  A very widely drafted offence would have a dramatic impact on the breadth of policies and procedures which would have to be implemented to be able to avail the corporate of the “adequate procedures” defence, increasing the compliance burden and the expense.

It could also adversely affect the appetite of the corporate to take effective steps to respond to a fraud.  Too often, in my experience, companies are reluctant to take proactive steps to recover lost assets unless they are faced with a massive fraud loss.  An investigation is often carried out, but it is concluded that litigation would not be in the interests of the corporate, even though this would restore lost assets, and provide an effective deterrent.   The prospect of criminal exposure is very likely to make pursuing even a very large loss unattractive.

Is it beneficial to criminalise corporate failure to prevent fraud and at the same time further discourage recovery of fraud losses? This is surely not in the public interest, as more fraud will be swept under the carpet.  This cannot be the government’s intention in considering the introduction of the new offence and careful thought needs to be given to how it will work in practice.

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