Kids Company – lessons for charity trustees

Charity trustees should take great comfort from the recent dismissal of the High Court case against the trustees of Kids Company and the former CEO Camila Batmanghelidjh. This action was raised by the official receiver seeking to disqualify the trustees from being company directors (and trustees) in future under the Company Directors Disqualification Act 1986 and claimed that Ms Batmanghelidjh was a de facto director and should also be disqualified.

In her verdict, Mrs Justice Falk completely exonerated the trustees, stating that “the public need no protection from these trustees. On the contrary, this is a group of highly impressive and dedicated individuals who selflessly gave enormous amounts of their time to what was clearly a highly challenging trusteeship. I have a great deal of respect for the care and commitment they showed, and the fact that they did not take the much easier path of not getting involved in the first place or walking away when things got difficult”. She also took the view that Ms Batmanghelidjh was not a de facto director.

For trustees and senior management teams who have been trying to deal with the serious challenges caused by the pandemic over the last year, this case sets out a number of important lessons.

Background

The High Court’s findings were unexpected. Kids Company had collapsed in 2015 amid allegations of sexual abuse that were later proved to be unfounded, and allegations of financial mismanagement. The House of Commons Public Administration and Constitutional Affairs Committee (PACAC)  carried out an inquiry into the collapse and produced a report in January 2016 “The Collapse of Kids Company – Lessons for Charity Trustees, Professional Firms, The Charity Commission and Whitehall”. This concluded that the trustees were primarily responsible for the collapse. It stated that they had failed to protect the interests of the charity and its beneficiaries despite their statutory duties of care and responsibility, that they had allowed their judgement “to be swayed by personal prejudices and dominant personalities” and together with Ms Batmanghelidjh, they relied upon “wishful thinking and false optimism and became inured to the precariousness of the charity’s financial situation”. The Charity Commission also started their own investigation, which was placed on hold pending the outcome of the High Court case.

Kids Company was a charitable company limited by a guarantee, with the trustees being both directors under company law and charity trustees under the charities legislation.

The case presented by the official receiver

The official receiver had criticised the charity’s “demand led model” of self referral, with a policy of “never turning a child in need away”. They alleged that this was an unsustainable and high risk business model with the charity being expected to find the additional funds it needed as demand for its services grew. This made it vulnerable to “donor fatigue” when fundraising became difficult and the charity increasingly relied upon support from the government and key philanthropists. The official receiver said that the trustees “did too little too late” to address the financial concerns of this model, failing to put adequate financial controls in place to control expenditure and cut costs. They also failed to build up sufficient reserves.

The official receiver also alleged that Ms Batmanghelidjh was a “de facto” director or shadow trustee due to the high profile role she played within the charity, exercising influence over decision making. As such she also faced a director’s disqualification order.

The court’s findings

Were the trustees unfit to act?

The Court emphasised the importance of taking a “benevolent approach” to trustees. This approach would apply whether a charity was incorporated or not.

The test for disqualification meant demonstrating a high level of unfitness that was incompetence of a high degree, to the point of being negligent. Mrs Justice Falk said it was important to consider the trustees’ conduct, as they were responsible for the control and management of Kids Company. She referred to an earlier case^[1] which held that “the court should, in principle not be anxious to find fault with charitable trustees who, while doing their best, make honest, even stupid mistakes”.

Mrs Justice Falk also stated that “in principle, the fact that a director [trustee] is an unpaid volunteer, in circumstances where there is a paid executive team with responsibility for day to day management, must affect the part that the directors could reasonably be expected play”. Errors of judgement where conduct was honest could give rise to a finding of unfitness if it fell within a range of reasonable decision making in the circumstances. Mrs Justice Falk said that in her view, the trustees’ conduct did not amount to incompetence and that “the decisions they made were matters of honest judgement, made in difficult circumstances in what they thought was the best interest of the charity”.

She recognised that the trustees always tried to apply the charity’s objects. They demonstrated a proper understanding of the safeguarding and financial risks involved. They continually assessed whether or not sufficient funding could be obtained and believed that it could. They also closely monitored whether the position with creditors (as the charity took out loans) could be properly managed. This finding will be important for the many charities that operate on a similar risk based financial approach.

Charity reserves

The Court accepted that there was some validity in the argument that there was a failure to build up adequate reserves. The Charity’s risk register had previously identified that a lack of adequate reserves was a high risk and this was regularly considered by the trustees. The Court held however that the decision to prioritise spending on charitable objects rather than to build up reserves was a reasonable decision. It recognised that even if more substantial reserves had been build up to cover at least three months’ worth of operating expenses, it would have still been insufficient to deal with the cashflow issues the charity faced before becoming insolvent.

This finding should provide comfort to many charities who have been dipping into reserves over the last year out of necessity in order to continue operating.

The importance of delegated powers

The court examined the issue of delegated powers in great detail. It recognised that a CEO cannot be assumed to act as a director. It stated that while many smaller charities will have trustees who are involved in day to day management roles, larger charities, such as Kids Company, will have a full time paid senior management team, and the trustees relied heavily upon that team in order for the charity to operate. It stated “a CEO can properly provide leadership of the management and operations of the charity on a day to day basis, and the directors can properly rely on his or her judgement, information and advice, provided that he or she is supervised and (ultimately) controlled by the board”.

The Court recognised that in practice, directors relied upon a senior management team to keep them informed, up to date and to prepare plans and budgets. Like most CEOs, Mrs Batmanghelidjh attended trustee board meetings, as well as important committee meetings such as the finance committee where the management team had to be represented as part of the good governance procedures of the charity. She was a prominent figure of the charity who made important decisions on its behalf, entered into discussions and made recommendations to the trustees.

The Court found however that Ms Batmanghelidjh was not a de facto director. It recognised that while she may have exceeded the limits of her delegated authority at times, that she accepted throughout that the trustees were the “ultimate decisions makers”, and that “ultimately she needed to abide by instructions from the trustees”.

In coming to this decision, the Court took account of the full picture and in particular the charity’s governance structure. Ms Justice Falk stated “My overall conclusion is that Ms Batmanghelidjh had significant influence but was not part of the ultimate decision making structure. She was not on an equal footing with the trustees and did not have the same, or equivalent, status or functions. On the contrary each of Ms Batmanghelidjh and the board had a distinctive status and functions… she was accountable to the trustees and subject to their supervision and direction”. She also stated that “Her views were accorded significant respect, and for most of the charity’s life the board’s supervision and control was exercised in a “light touch” manner, but supervision was exercised and, whether the board considered it necessary, controls were imposed”.

This decision should help to reassure all charities that directors are entitled to delegate, and to rely on the competence of key staff to a reasonable extent. It emphasises the importance of having a good governance structure in place with proper reporting and accountability procedures, and to ensure that all key management roles, including that of the CEO are properly monitored. Trustees will always remain ultimately accountable for the charity and retain overall responsibility, this can never be passed to someone else. Part of this governance structure will also mean that trustees should be able to properly identify and manage risks on an ongoing basis, particularly financial risk. They should always be aware of a charity’s financial position.

Conclusion

This case demonstrates more than ever the importance of having committed trustees in charge of a charity. Trustees need to understand the nature of the statutory duties and responsibilities imposed on them under charity law and company law if the charity is a company, as well as the individual and collective responsibilities trustees have to the charity and its beneficiaries. As we have seen, all trustees should take comfort from this decision and consider the lessons that can be learnt from it.

Ms Justice Falk stated that “The charity sector depends on there being capable individuals with a range of different skills who are prepared to take on trusteeship roles. Most charities would, I think, be delighted to have available to them individuals with the abilities and experience that the trustees in this case possess. It is vital that the actions of public bodies do not have the effect of dissuading able and experienced individuals from becoming or remaining as charity trustees. Disqualification proceedings, or the perceived risk of them, based on wide ranging but unclear allegations of incompetence rather than any want of probity, carry a high risk of having just that effect, and great caution is therefore required”.

In the meantime, we shall await the conclusion of the Charity Commission report into the collapse of Kids Company, and see whether or not the official receiver, who was heavily criticised by the Court for overstepping the mark, decides whether or not to appeal against the decision.

^{[1] Scargill versus Charity Commission, unreported 4 September 1998 page 98 to 99.}

Legal disclaimer