On 24 October 2019, the Federal Court of Australia handed down Australia's first securities class action to proceed to judgment.
The decision has provided welcome clarity around three issues. First, the interpretation of the continuous disclosure obligation in s 674 of the Corporations Act 2001 (Cth) and the associated ASX Listing Rules. Secondly, the acceptance by the Federal Court of 'market based' or indirect causation. And thirdly, how the Federal Court will approach the measurement of loss. Our analysis below discusses each of these issues in detail.
Although shareholders may now avail themselves of market based causation in class actions, it will only serve them (and more importantly, their funders) to recover damages where a company's contravention actually caused share price inflation.
The decision also provides guidance as to how companies and directors can seek to protect themselves from shareholder class actions. We summarise these below.
How can companies and directors seek to protect themselves post-Myer?
- Directors should avoid providing informal or verbal guidance about company profit expectations or conveying confidential budgeting forecasts to equity analysts
- Listed companies must bear in mind that where a director expresses an opinion publicly regarding the company's financial affairs or other confidential information, any such information ceases to be confidential under the ASX Listing Rules
- Directors should make immediate disclosure to the ASX when they become aware of any information that corrects or prevents a false market in the company's securities
- Listed companies should strengthen their policy and procedures regarding continuous disclosure to reflect the knowledge and opinions of employees in executive roles
- Companies should ensure that draft and incomplete documents should be marked as such, in particular where those documents are tabled at board meetings or otherwise brought to the attention of board members
On 11 September 2014, Bernie Brookes, the then CEO of Myer Holdings Limited (Myer) told equity analysts and financial journalists in an earnings call that Myer's net profit after tax (NPAT) for the financial year ending in July 2015 would be in excess of the $98.5 million NPAT which the company had achieved in the prior financial year. "We will therefore not only have anticipated sales growth, but anticipated profit growth this year" he said. On 19 March 2015, Myer forecasted a profit downgrade to the ASX revealing that its expected NPAT for FY2015 to be between $75 and $80 million (Myer in fact achieved a NPAT for FY2015 of $77.5 million).
Immediately after this 'corrective disclosure' was made, Myer's share price declined by more than 10%. The representative applicant, TPT Patrol Pty Ltd as trustee for Amies Superannuation Fund (TPT), on behalf of the class of shareholders who acquired shares in Myer between 11 September 2014 and 19 March 2015 successfully claimed that Myer breached its continuous obligations under s 674 and contravened the prohibition on misleading conduct in s 1041H of the Corporations Act 2001 (Cth).
Continuous disclosure obligations
A company listed on the ASX is subject to an obligation of continuous disclosure to the market of material information affecting its share price in accordance with the ASX Listing Rules.
Under the statutory regime:
- it must be shown that the company 'has' specific 'information';
- the company through one or more of its officers must be aware of that specific 'information';
- the identified 'information' must not be 'generally available';
- it must be shown that if the identified 'information' were generally available, it would have a material effect on price; and
- it is 'that information' which the company must disclose to the ASX.
What is a 'material' effect on the price of securities?
ASX Listing Rule 3.1 required Myer to immediately notify the ASX of any information which would have a material effect on its share price once Myer became aware of that information.
Myer had benchmarked its disclosure obligations (that is, assessed the materiality of information on the price of its securities) by reference to the 'Bloomberg consensus' amongst equities analysts (the Bloomberg Best mean for its NPAT) rather than its previous profit guidance.
Justice Beach held that when a listed company provides profit guidance, it must benchmark its continuous disclosure obligation against its own profit guidance, rather than market consensus. This is because the 'reasonable person' contemplated by s 674 is not to be equated with analysts' expectations, represented by the Bloomberg consensus but, rather, all market participants, including 'mum and dad' investors who would not be aware of consensus figures. This is particularly so when a company has a large retail shareholder base who are regarded as being unaware of consensus figures and are more likely to be influenced by profit guidance from the company.
The Federal Court considered that board members should also consider the company's past financial performance and the volatility of financial returns in their industry more generally in making the assessment of whether information is material. As Myer did not have a history of stable or predictable earnings and had been experiencing a trend of declining profit performance, the 10% threshold of materiality referred to in the ASX Guidance Note for ASX listed companies of above average market capitalisation was not the correct threshold in the circumstances of the case.
'Information', 'awareness' and 'generally available'
TPT's initial continuous disclosure case was that Myer was aware on 11 September 2014 that it had no reasonable grounds to represent that its FY2015 NPAT would be greater than the preceding year and should have disclosed various other matters underpinning its budget. TPT subsequently broadened this claim. It alleged that Myer became aware of information during October 2014 in the form of new FY2015 profit forecasts which seriously undermined, if not directly contradicted, Myer's 'more than FY2014' profit forecast made on 11 September 2014. This, TPT said, obliged Myer to withdraw, or at least qualify, its September 2014 profit forecast. The meaning and requisite level of 'awareness' of 'information' for the purposes of attributing such information to a company became critical issues in the case.
The precise understanding of these terms enables a company to determine how to avoid contravention of the continuous disclosure regime and, from the claimant's perspective, how to derive the correct 'counterfactual of disclosure' – in other words, exactly what information the company was aware of and when should it have disclosed the information. The failure to derive the correct counterfactual and adduce appropriate expert evidence to prove that counterfactual was fatal to the shareholders' case against Myer.
The decision confirms that, whilst the ASX Listing Rules do not strictly require a company to form an opinion (for example, regarding the reasonableness of information), a relevant opinion can be inferred for the purposes of s 674. So, whilst there was no evidence that anyone at Myer had formed an opinion as at 21 November 2014 – to the effect that the FY2015 NPAT was not likely to be materially above the FY2014 NPAT – Beach J was prepared to infer that Myer had on the basis that Myer consciously refrained from expressly stating its views as to the likely FY2015 NPAT.
The decision also confirms that an opinion held by a member of senior management who is an officer of the company, such as a CEO or CFO, may be sufficient to constitute the opinion of the company and hence awareness for the purposes of s 674. In other words, it is not necessary for a majority of a company's directors to have an opinion or be aware of price-sensitive information to constitute a failure to disclose under s 674.
Consequently, an officer's opinion, in particular the CEO's opinion, is readily attributable to the company. Myer's board had resolved on 10 September 2014 to approve an ASX announcement making no mention of a profit increase but this did not negate a finding that Bernie Brookes had spoken on behalf of Myer when predicting a profit increase in FY2015.
If Myer had not made an express public disclosure of its anticipated NPAT for FY2015, the exception for confidential information in ASX Listing Rule 3.1A would have applied to the versions of the forecasts prepared after 11 September 2014 and the information contained in them would not have been required to be disclosed.
The Federal Court found that there were 'cascading possibilities' of dates of disclosure on which Myer could and should have made disclosure. These dates corresponded to the dates when it could have been said that there was a reasonable expectation of disclosure by Myer of when it expected that its NPAT would change. The first of these dates was 21 November 2014.
In securities class actions, shareholders have typically advanced a market-based or indirect causation theory which does not require shareholders to prove individual reliance on corporate wrongdoing. This is because the contravening conduct deceived the 'market' (constituted by investors, informed by analysts and advisors) in which the shareholders traded. Opponents have resisted the theory as it depends on an acceptance of the robustness of the efficient capital market hypothesis – the principle that all publicly available information is quickly reflected in share prices.
Market-based causation was accepted by Beach J who said that causation must be considered in connection with the purpose of the continuous disclosure provisions – to achieve a well-informed market, leading to greater investor confidence. In the context of a failure to disclose material information related to securities, the traditional concept of reliance was disavowed both on a philosophical level (it is non-sensical to require reliance on silence or having been induced to act by silence) and a practical level (it was also noted that in the new millennium of algorithmic machine trades – notions of reliance become wholly unrealistic).
The judgment discussed how a company could negate market-based causation on the facts, such as demonstrating that:
- the assumption of an efficient capital market hypothesis did not apply to the company's securities;
- the non-disclosure did not affect the market price (however this may only be a defence to a case brought by shareholders based on the inflation-based measure of loss) – which Myer succeeded in demonstrating; and
- an investor actually knew of the non-disclosed information or would have purchased the shares at the same price even if they had known.
We expect these issues will to be developed in future decisions.
In securities class actions, there are at least four methods for measuring loss:
- True value measure: The difference between the price at which the shareholder acquired the interest and the true value of that interest.
- Inflation-based measure: The difference between the price at which the shareholder acquired the interest and the market price that would have prevailed but for the contraventions assessed by reference to the level of share price inflation at various points in time identified by 'event studies' which, in turn, rely on market-based causation. This was the method used by TPT.
- Left in hand measure: The difference between the price paid for the shares and whatever is left in hand upon a sale of the shares.
- No transaction measure: The measure based upon the difference between the position the shareholder is in at the date of the trial as a result of acquiring the shares and the position she would have been in if she had not acquired the shares.
Mr Houston, TPT's expert, was asked to quantify the hypothetical effect of a disclosure by Myer on 11 September 2014 which explained Bernie Brooke's profit forecast in relation to several underpinning factors used to derive Myer's budget. The Federal Court held that to be the wrong counterfactual of disclosure, finding instead 'cascading possibilities' of dates, each with a different counterfactual of disclosure, corresponding to what Myer knew at each date, with the first occurring on 21 November 2014.
Whilst the shareholders case was founded on the position that Myer should have benchmarked its continuous disclosure obligations against its own profit guidance rather than the Bloomberg consensus, Mr Houston measured shareholder loss using the Bloomberg consensus as a proxy for market expectations. When assessed on this basis, there was no meaningful share price inflation and accordingly no loss. That was because the correct counterfactual disclosure concerning FY2015 NPAT would have resulted in similar figures to the Bloomberg consensus.
In the final analysis, the 389-page judgment can be captured by Beach J's remarks:
"[T]he market price for MYR ED securities at the time the contraventions occurred already factored in an NPAT well south of Mr Brookes' rosy picture painted on 11 September 2014. In other words, the hard-edged scepticism of market analysts and market makers at the time of the contraventions had already deflated Mr Brookes' inflated views. So, any required corrective statement that should have been made at the time of the contraventions, if it had been made, is likely to have had no or no material effect on the market price of MYR ED securities."
How can companies and directors seek to protect themselves post-Myer?
The decision underscores the importance of board members of listed entities understanding the continuous disclosure regime. It also reinforces the need for circumspection and prudence by board members in all communications with the public.
As a basic matter of corporate governance, board members should avoid verbally providing informal guidance about company profit expectations or convey confidential budgeting forecast to equity analysts as this may enliven the company's continuous disclosure obligation under s 674.
Where a board member does express an opinion regarding the company's financial affairs or other confidential information, any such information may cease to be confidential under the ASX Listing Rules. Importantly, the representation may be attributed to the company even if a majority of the board does not hold that view.
The board should make immediate disclosure to the ASX when they become aware of any information that corrects or prevents a false market in the company's securities.
From a risk management perspective, listed entities should review their policies and procedures regarding continuous disclosure. Those policies and procedures should reflect an awareness that share price-sensitive information or opinions held by senior managers may enliven the requirement to disclose that information or opinion.
Companies should ensure that draft and incomplete documents (like budgets) be marked as such to seek to demonstrate that such 'information' has not become sufficiently certain to warrant disclosure.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.