Much has been written about Section 199 of the Economic Crime and Corporate Transparency Act. Rightly so. It is a significant piece of legislation. In introducing a new corporate offence of “failure to prevent fraud,” the Section 199 allows prosecutions against corporates for allowing a fraud to happen. The new offence means that there is a much greater onus – if not a legal requirement – for large organisations to have appropriate controls and processes in place to prevent fraud, and so play their part in fighting economic crime.
Types of Fraud Captured
The types of fraud captured are not new. They are already in legislation and include the offences of false representation, failure to disclose information, fraudulent trading, false accounting, and tax evasion. Prosecutions can still be brought for these underlying offences using existing legislation – that does not change. But what does change is the new corporate offence of failing to prevent such frauds. Prosecutions can be brought under this offence irrespective of whether the underlying fraud is prosecuted.
Reasonable Procedures as a Defence
The defence is straightforward in concept: an organisation needs to have “reasonable procedures” in place to prevent fraud. In November last year, the Government published its long-awaited guidance on what “reasonable procedures” means, and much of the commentary is around what organisations need to do now to be ready for the introduction of the offence on 1 September 2025. The SFO has fired its warning shots: the director, Nick Ephgrave QPM, has warned that “time is running short for corporations to get their house in order or face criminal investigation.”
Implications for Commercial Disputes
But what’s this got to do with a disputes specialist looking at the quantum aspects of commercial disputes? There are couple of things that have piqued our imaginations.
M&A Transactions
First up are the implications for M&A transactions and potential disputes arising. Often, sale and purchase agreements will include warranties around compliance with legal and regulatory obligations. But what if a purchaser, on getting the keys to its new business, finds that the procedures to prevent fraud were not reasonable? Or, worse, an offence has been committed prior to purchase, that only comes to light post purchase? Cue a breach of warranty claim.
Potential losses if there is a breach
At one end, we can imagine losses relating to the cost of remediating issues and putting in place reasonable procedures, though what “reasonable” should be taken to mean may be up for debate! Such costs should be one-off rather than on-going, and probably limited to putting the business back into the position it should have been in when it was sold.
At the other end, if an offence had been committed or even alleged, there’s a triple hit:
First the immediate issue of dealing with the prosecution and the potential of unlimited fines. That should be a one-off cost and might even be covered under an indemnity in the SPA.
Second is then sorting out the immediate aftermath and remediating processes. As above, this should be one-off rather than on-going, and probably limited to putting the business back into the position it should have been in when it was sold.
Third is the potential ongoing reputational effect. This could be significant. Who would want to do business with an organisation found guilty of – or even just facing the prospect of prosecution for – failing to prevent fraud, especially in a climate where there is increased focus on economic crime? Would a failing to Damage to reputation could have a notable downward impact on value.
Our sense is that we will be looking a little more closely at how businesses are addressing their obligations under Section 199 as well as existing legislation around bribery and fraud, and how claims of non-compliance may play into assessing diminution in value under breach of warranty claims.
Claims against contractors, service providers and suppliers
The second point we’ve been pondering is around whether organisations will increasingly ask for assurances around fraud risk and prevention from their suppliers, and what happens if those assurances are found to be deficient.
This stems from the concept of “associated person.” Under Section 199, only “large organisations” can be prosecuted for a failure to prevent fraud. But the legislation reaches through to other entities: if an associated person of an organisation commits a fraud, and that fraud was intended to benefit (directly or indirectly) the organisation, then the organisation can be held criminally liable. The idea of an associated person is not new – it exists in the Bribery Act – but the definition is broader in Section 199. It now includes subsidiaries, employees (including of subsidiaries), and agents. It also includes those who perform services for or on behalf of the organisation, and so (depending on the facts and circumstances) may include third party service providers and contractors and may also include suppliers providing goods or services direct to the organisation’s customers. That is quite a wide group.
Expect to give assurances?
With this new offence, we can imagine large organisations seeking specific assurances from all their agents, contractors, and suppliers that appropriate safeguards and processes are in place to prevent fraud, regardless of whether they would be an “associated person.” Some already do this in relation to bribery risks. Whether these sorts of assurances would meet the standard for a “reasonable procedures” defence is not one for us. But they serve to reinforce the importance of fighting economic crime up and down the supply chain by all participants.
Importantly, these sorts of assurances might provide an avenue for civil litigation and recoveries. Might we start to see disputes where a contractor, service provider or supplier gave an assurance that it had appropriate safeguards and processes in place, but where there was still a failure to prevent fraud? And if so, how far would the losses extend? Again, that question of reputational damage looms large.
Final thoughts
Understandably, many of the recent commentaries focus on what organisations need to do now to make sure they have appropriate procedures in place. Those warnings should be heeded. But beyond the criminal aspects, might Section 199 of the Economic Crime and Corporate Transparency Act have a much greater reach into commercial transactions and relationships? We think it might.
Contact us
Menzies can help you and your businesses with both criminal and civil litigation. Whether faced with the prospect of prosecution in relation to fraud, considering bringing claims for losses arising, or responding to claims for damage caused, we have the experts for you. To discuss, contact one of our team via the contact form below:
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