Enforcing Accountability: The Director’s Duty of Care and the Role of Market Norms. Professor Joan Loughrey Director of the Centre for Business Law and Practice School of Law University of Leeds

Financial Crisis: A Problem of Competence ‘Reckless gamble’ (FSA, Failure of RBS, 2011) HBOS's top management... were incapable of even understanding the risks that some elements of the business were running, let alone managing them (Parliamentary Commission on Banking Standards, An Accident Waiting to Happen, 2013)

A Failure of Enforcement Number of regulatory actions taken against bank directors by FSA for breaching duty of care One (FSA Final Notice Peter Cummings 12 September 2012) Number of private actions against directors for breaching their duty of care None

The Importance of Enforcement Deterrence Accountability Legitimacy: ‘a generalized perception or assumption that the actions of an entity are desirable, proper or appropriate’ and Trust

The Role of Market Norms ABN-Amro takeover: limited due diligence was in line with market practice-no enforcement Is the standard of care norm setting (ie diverges from market norms) or norm reflecting? How, if at all, might this affect enforcement?

Statement of Principles for Approved Persons APER 6: approved persons must exercise ‘due skill, care and diligence in managing the business of the firm for which they are responsible’. No enforcement unless standard of conduct falls below that which would be reasonable in all the circumstances (APER 3.1.4)

The Duty of Care S. 174 Companies Act 2006: that a director must exercise the care, skill and diligence that would be exercised by a reasonably diligent person with (a) the general knowledge, skill and experience that may reasonably be expected of a person carrying out the functions carried out by the director in relation to the company, and (b) the general knowledge, skill and experience that the director has. Codifies common law: tortious duty

Private Law Reasonableness Expert evidence of market practices not relied upon No clear evidence of cost benefit analysis Normative, intuitive assessment Judges place themselves in directors’ shoes: Re Welfab Engineers (1990); Roberts v Frohlich (2011) Institutional competence: erroneous decisions

Setting Lower Standard? Enforcement more difficult/Accountability Degrading market standards: An Accident Waiting to Happen’: The Failure of HBOS (2013)

Set higher standard? Impact on market practices Fairness Uncertainty Increases risk of over-deterrence

Norm Reflecting Standard ‘in most cases, reasonable prudence is in fact common prudence’ (The T.J.Hooper) Meets legitimate expectations of parties to corporate contract; directors will take legitimate business risks-meaning?

Norm Reflecting Standard Regulator: either norm reflecting or higher standard but set ex ante compliance more likely Promotes regulatory legitimacy: certain, stable and prospective, transparent, open

Departing from Market Standards (1) Market practices unreasonable fail to take a clear precaution against a known or reasonably apparent risk: E.B.Savory v Lloyds Bank Ltd (1932) (and precautions cheap and straightforward?)-Northern Rock’s decision not to take out adequate insurance?

Departing from Market Standards (2) Where a practice lacks a logical basis “As long as the music is playing, you’ve got to get up and dance. We’re still dancing.” Charles Prince ex CEO Citigroup RBS-ABN-Amro: a proper decision-making process was followed and full disclosure-not irrational

Departing from Market Standards (3) Where decision in question NOT in accordance with recognised practice-a one off- assessed for reasonableness what should be done in ‘ very particular and highly individualistic circumstances… is by no means a matter of practice. It is a matter of law to be resolved by the Judge.’ (Bown v Gould & Swayne 1996) ABN-Amro a one off-hostile takeover of bank Not like other hostile takeovers

Departing from Market Standards (4) Where market practice unacceptable by community standards Problems in establishing directorial conduct that was supported by this kind of market practice However, decisions around pay? Reputationally damaging strategy? (eg aggressive tax planning)

Conclusion Enforcing standard of reasonableness that adheres to market norms may increase accountability in private enforcement Where seeking to depart from market norms ex post courts better placed to do it-greater legitimacy-FSA’s approach to ABN-Amro takeover demonstrates problems But obstacles to private enforcement Solution: public enforcement of private law?