Friday, 27 February 2015

An overview of securities class actions

Since the first class action in Australia was brought in 1991, class actions have quickly become part of the Australian legal landscape.  Securities class actions in particular have become ‘big business’.  It is prudent now more than ever to review your governance procedures to mitigate the risk of a securities class action. 

A securities class action allows investors of an entity who share common ground for complaint to pursue a claim against the entity through a representative.  The popularity of such actions is at least in part because they allow investors to pursue a claim generally without risk to the investors of an adverse judgment, where they would not otherwise, individually, have the means for doing so.

In Australia, a class action may be brought by seven or more plaintiffs with claims arising out of the same or similar circumstances with a substantial common issue of fact or law – a relatively low threshold comparative to other jurisdictions.  Typically securities class actions are based on the argument that investors either:
  • acquired or sold securities where they would not have but for the alleged conduct of the entity, or
  • acquired or sold securities at a different price than they would have otherwise acquired or sold securities but for the alleged conduct.

These arguments are most frequently based on two causes of action, often pleaded together:
  • misleading or deceptive conduct under section 1041H Corporations Act, by way of inaccurate or incomplete statements, or a failure to disclose or correct information in a timely fashion, and
  • in the case of listed entities, breach of continuous disclosure obligations under section 674(2) Corporations Act and ASX Listing Rule 3.1, by way of a failure to disclose information where a reasonable person would expect that information to have a material effect on the price or value of securities in the entity.

Since 1999 there have been 30 securities class actions in Australia, of which only four have proceeded to trial and none to judgment.  Entities and their investors often elect to settle early due to the costs of litigation and the uncertainties as to the outcome of a judgment, particularly as the required evidence to establish causation in a securities class action has not yet been considered by the courts. 

A key feature of the Federal class action regime is that it is designed to allow an applicant to represent an ‘open class’ of investors without the need for investors to take steps to ‘opt in’ to proceedings.  Every person who satisfies the class definition as described in the originating process is represented in the proceeding subject to a right to opt out by a fixed date.  However, the inherent difficulties ascertaining the number of investors and the quantum of their cumulative damages means the open class model leads to a lengthy, uncertain litigation process.  The alternative approach adopted in some cases is a ‘closed class’ action, where the class is limited to those who have retained a specific law firm and/or entered into a funding agreement with a particular litigation funder.

Several circumstances have given rise to an increase in securities class actions in Australia.  Firstly, there has been an increase in the number of plaintiff law firms focusing on securities class actions, especially in the wake of a decline in personal injury practice following legislative reforms.  Secondly, there has been a steady increase in third party funding of securities class actions spurred by the High Court’s approval of such funding in Campbells Cash and Carry Pty Ltd v Fostif Pty Ltd [2006] HCA 41.  Anyone can now fund litigation except the lawyers involved in the case, with IMF (Australia) Ltd, Legal Funding LLC, International Litigation Partners Pte Ltd and Harbour Litigation Funding facilitating some of the major class actions in the last decade.  Thirdly, there is a growing focus on private litigation as a means by which to enforce good corporate governance rather than relying on regulatory bodies.  Increased institutional investor participation, particularly in listed companies, will only heighten this focus.

Several entities have been the subject of multiple securities class actions, emphasising the need for entities to take precautions to protect themselves against the risk of litigation from investors.  Some common issues that have prompted securities class actions and that should be on the radar for entities include:
  • lack of reasonable grounds for statements in financial reports about expected profitability of the entity 1
  • failure to properly disclose to the market the full extent of costs increases and delays associated with an entity’s projects2
  • failure to disclose to the market the full extent of an entity’s debt obligations and refinancing options,3  and
  • failure to disclose price-sensitive information relevant to an entity’s significant earnings downgrade.4

Securities class actions is a developing area of law that underlines the need for entities to be accountable to their investors.  Continuous disclosure obligations place listed entities in particular at risk of a securities class action and, as such, listed entities should have appropriate procedures in place to monitor and anticipate potential issues.  These procedures may include:
  • maintaining an up to date, comprehensive and easily understandable continuous disclosure policy for the company
  • establishing effective internal reporting networks to ensure price sensitive information is quickly communicated to the board, senior managers and other decision makers in the company, and
  • ensuring that the board regularly considers information that may need to be disclosed to the market, such as by including continuous disclosure as a standing item on the board agenda.
  1. Aristocrat; Sigma Pharmaceuticals; River City Motorway Group. 
  2. Downer EDI; Multiplex.
  3. Centro.
  4. GPT.