As we reported in an earlier bulletin, on 10 November, the Serious Fraud Office (SFO) presented no evidence at a hearing in its case against Olympus Corporation ("Olympus") and its wholly owned UK subsidiary, Gyrus Group Ltd ("Gyrus"). This brought to an end the SFO's prosecution in respect of the accounting scandal which had engulfed the Olympus Group from late 2011. The companies had been charged under s501(1) of the Companies Act 2006 with misleading Gyrus' auditors in respect of its 2009 and 2010 audit process, but a judgment at first instance, upheld on appeal, had ruled that s501(1) did not apply to the company itself under audit or its parent company, and that the criminal proceedings were "inevitably doomed as a matter of law".

In this briefing we look at the reasoning in the case, which may have implications for the approach taken to future matters, including those currently under investigation by the SFO.

1. Background

In late 2011, following the departure of Olympus' then CEO, serious accounting issues came to light relating to the treatment of losses which dated back to the 1980s. It transpired that the losses had been taken "off-balance sheet" in order to continue to hide them, following a change in accounting standards in the 1990s. Various mechanisms were then used to eliminate the losses. Investigations by the Japanese and US authorities as well as the UK SFO followed. In Japan, Olympus pleaded guilty to making false statements and was fined by the Japanese Courts and regulators. Three directors were also convicted, one of them a director of Olympus and Gyrus who signed the documents which were the basis of the prosecution brought in the UK. In the US, a guilty plea was secured from a Singapore based-banker who was alleged to have assisted Olympus in the manipulation of balance sheets. In the UK, the SFO brought charges under s501 Companies Act 2006 against Gyrus and Olympus, with initial hearings in September 2013.

Relevant Companies Act 2006 provisions and arguments raised

501 Auditor's rights to information: offences

  1. A person commits an offence who knowingly or recklessly makes to an auditor of a company a statement (oral or written) that-
    1. conveys or purports to convey any information or explanations which the auditor requires, or is entitled to require, under section 499, and
    2. is misleading, false, or deceptive in a material particular.

The Defendants argued that s501(1) could not apply to them as the company subject to the audit and its parent company. They argued that s501(1) could not be read alone, as referring to "any" person, but rather that it should be read alongside s499, which sets out the persons from whom an auditor has a right to require information.

499 Auditor's general right to information

  1. An auditor of a company-
    1. has a right of access at all times to the company's books, accounts and vouchers (in whatever form they held), and
    2. may require any of the following persons to provide him with such information or explanations as he thinks necessary for the performance of his duties as auditor.
  2. Those persons are-
    1. any officer or employee of the company;
    2. any person holding or accountable for any of the company's books, accounts or vouchers;
    3. any subsidiary undertaking of the company which is a body corporate incorporated in the United Kingdom;
    4. any officer, employee or auditor of any such subsidiary undertaking or any person holding or accountable for any books, accounts or vouchers of any such subsidiary undertaking;
    5. any person who fell within any of paragraphs (a) to (d) at a time to which the information or explanations required by the auditor relates or relate.

The Defendants argued that the offence was only capable of being committed by persons listed in s499 and that, as neither the company under audit nor its parent company were included in that list, s501(1) could not apply to them.

The Crown argued on the contrary that the s501(1) offence was not limited to those categories of person within s499, but rather could be committed by any person (natural or corporate), under section 5 and Schedule 1 of the Interpretation Act 1978. Alternatively, if the company by its directors proffered information to an auditor that the auditor was entitled to under s499(2), then the company could be liable under normal principles of attribution, by reason of the statements of its directors.

2. Judgment

At first instance, Mr Justice Eder noted that the SFO's reading of the s501(1) provision - to the effect that it could be committed by any person - could not be dismissed out of hand. He referred to relevant textbook commentary   which could support such a view1. He held, however, in favour of Olympus and Gyrus that the persons capable of committing an offence under s501 are limited to those categories listed in s499. He viewed this as the "natural construction" in light of the wording of s501(1)(a), which refers back to information required under s499, and consistency with use of "persons" at s501(3) dealing with an offence of failure to comply with s499. He also took account of other factors such as the proximity of sections 499 and 501 and the format of the section headings.

In finding in favour of the Defendants' argument, Eder J noted that this was "consistent with the overall scheme of the 2006 Act", and quoted at some length from the skeleton argument of leading Counsel for the Defendants:

"The Companies Act 2006 is not a criminal statute…To state the obvious, it is a statute which is all about the company…

Because apportionment of responsibility for different functions necessary to the life and regulation of the company is one of the principal concerns of the Companies Act, it is hardly surprising that the statute specifies – with precision – who is liable for any failure to perform each function as required by the Act.   This includes very clear distinctions between those liabilities which attach to the company itself (here [Gyrus]) and those which do not. These distinctions may, in some instances, appear to be artificial, but that is inevitable: the Act is concerned with the creation of the "legal fiction" of corporate personhood. For example, the responsibility to keep a register of the company's secretaries lies with the company (see s275(1)). Consequently, the company itself (as well as every officer of the company who is in default) is liable explicitly for the criminal offence of defaulting on this responsibility (see s275(6)). On the other hand, it is the duty of the company's directors – and not the duty of the company – to file the company's annual accounts with the register(see s441). Consequently, criminal liability for failing to comply with this duty explicitly lies with the directors only and not with the company (see s451(1))…

It is in this context that the specification of particular categories of person within s499 must be   understood… It is entirely consistent with the pattern established throughout the Act, that this responsibility [to provide information to the auditor] is enforced with criminal sanctions which attach, not to the general population, but to the same, specified categories of persons with whom the duty rests."

Eder J considered the argument to be compelling. The carefully constructed scheme of the 2006 Act was "inconsistent with [the Crown]'s general submissions based upon…conventional principles of attribution". It would be wrong to impose criminal liability on persons not specifically identified.

The Defendants' case was, Eder J also concluded, supported by the legislative history of s501. In summary, the earlier equivalent provisions2 had expressly limited the criminal offence to the class of persons from whom the auditors had a right to require information, i.e. the officers of a company. In subsequent equivalent provisions3, the list of classes of person required to provide information was expanded and the express limitation of the criminal offence to such persons was dropped from the statutory language, and replaced by reference to "a person" being guilty of an offence (as in s501). Eder J was content that this did not introduce a "radical change" with regard to the persons who could be prosecuted, but considered it more likely to be a convenience for the draftsman. He found no indication that Parliament intended to change the law to enable a disconnect between those persons subject to the requirement to provide information to auditors and the criminal liability for misleading those auditors.

As a second issue, the Defendants also argued in respect of certain counts that the relevant directors' reports and financial statements relied upon by the Crown, were not capable of constituting information or explanation as envisaged under s501(1).  The information or explanation the auditors may require are questions relating to the accounts and directors report, and could not, therefore, be the content of the accounts or report itself. It was held to be a matter of evidence whether the material on which the prosecution relied would fall within the stated categories of information. However, the fact the information was in, or accompanied, the original documents of account did not of itself mean that s501 could not be made out, and the Defendant's argument failed.

3. Appeal

An appeal by the Crown of the first issue, and cross-appeal by the defendants on the second, ensued. The Court  of Appeal upheld the decisions of Eder J on both issues. In his judgment, Lord Justice Pitchford was impressed, as had been Eder J, with Counsel for the Defendant's reasoning (cited above) as to the careful manner of construction of the 2006 Act. He agreed that the natural interpretation of s501(1)(a) allows for potential liability by a person  within one of the s499(1) categories "and no other".

Interestingly, Pitchford LJ also addressed a submission by the Crown that the Defendant's construction of s501 would exclude from prosecution those who aid and abet an offence committed by a person within s499. He did not agree with this, on the basis that a third party may aid and abet an offence for which he himself could not qualify as a principal offender, albeit difficult questions of proof and attribution would arise.

4. Comment

Following the ruling, charges were dropped. The SFO noted that they could not have prosecuted individuals in this case, because Japan does not extradite its nationals. It is not difficult to understand the approach taken by the SFO, in light of Eder J's refusal to dismiss the Crown's interpretation out of hand, and given the lack of reported decisions under s501 and paucity of cases on the predecessor provisions including s389A(2). When considering the applicability of other offences under the Companies Act 2006 the broader lesson for companies and their advisors may be to ensure familiarity with the detail of the provisions and consider to whom each applies on a section specific basis.

Notwithstanding the ruling, other avenues for prosecution of offences by a company under audit and/or a parent company exist, including false accounting under the Theft Act 1968 and offences under the Fraud Act 2006 using the attribution principle. Such offences can be more serious, enabling higher penalties than under s501, but  require a gain or loss element to be made out. It is possible that the Crown may have struggled to make out such an element on the Olympus/Gyrus facts. In addition, there is the possibility of an offence of aiding and abetting, as indicated by Pitchford LJ in his judgment. Considerations as to these offences may be of relevance in respect of a number of matters the SFO is currently investigating, and the development of such cases will be watched with interest.