The Federal government has announced that it proposes to make permanent changes to Australia’s continuous disclosure laws with the Treasury Laws Amendment (2021 Measures No. 1) Bill (Bill).
Australia’s continuous disclosure framework was originally amended under the instrument-making power inserted into the Corporations Act as part of the government’s response to COVID-19, as a temporary measure due to expire in March 2021. The proposal to make these temporary changes permanent comes in response to the Parliamentary Joint Committee on Corporations and Financial Services’ report into Litigation Funding and Regulation of the Class Action Industry, which reported in December 2020.
The report suggested that a mental element should be incorporated into the continuous disclosure obligations in order to mitigate against opportunistic class action litigation in respect of failures to disclose material information in a timely manner. Such a change would bring Australia’s continuous disclosure laws into line with the United States and United Kingdom, and was intended to balance the benefit of continuous disclosure obligations with the cost imposed on entities and officers by securities class actions.
Under the Bill, the key changes are that:
- the temporary change that was introduced under the COVID-19 instrument-making power, which provided that entities and officers will only be liable for civil penalty proceedings in respect of the continuous disclosure obligations in sections 674 and 675 of the Corporations Act where they have acted with “knowledge, recklessness or negligence”, is made permanent. Previous to that change, no mental element had to be proven to make out a breach of continuous disclosure obligations; and
- entities and officers will not be liable for misleading and deceptive conduct under section 1041H of the Corporations Act in connection with an alleged breach of the continuous disclosure obligations unless the requisite mental element is proven. Section 1041H is one of the main provisions relied upon in shareholder class action claims and is frequently brought in conjunction with allegations of failing to comply with continuous disclosure obligations. We had previously noted, in respect of the temporary changes, that entities remained liable where disclosures were found to be misleading or deceptive regardless of whether or not the mental element was present. The Bill addresses this and would align section 1041H with the changes to sections 674 and 675 of the Corporations Act described above.
Outcomes and limitations
As we have previously noted, it is questionable whether the approach taken in the original determination by the Treasurer achieved its stated purpose of giving directors “peace of mind” when making announcements to the market against the backdrop of COVID-19 uncertainty.
ASX listed entities need to bear in mind that ASX has not amended Listing Rule 3.1 or 3.1A to reflect the changes (and it is doubtful ASX would do so), so those entities must continue to release information concerning it that a reasonable person would expect to have a material effect on the price or value of the entity’s securities as soon as it becomes aware of that information (unless an exemption applies).
Nonetheless, business groups, who have been lobbying the government for changes to the continuous disclosure regime for some time, have welcomed the Bill, given it will raise the bar required to make out a breach of continuous disclosure obligations. It is difficult to prove knowledge, as it requires a degree of intent and proof of a subjective state of mind; equally, recklessness requires almost a complete disregard for any consequence, thereby representing another high bar.
Having said this, we would expect plaintiffs to be nimble in adapting to the new environment, perhaps by reframing cases based on breach of the statutory duty of continuous disclosure with a more “conventional” negligence claim. Accordingly, our recommendation remains for ASX-listed entities and their officers to continue to comply with their existing continuous disclosure policies with the same degree of oversight and attentiveness.
Furthermore, on one view, the changes avoid confronting the key asymmetry that arises from damages claims against the company in continuous disclosure cases. That is, the cost of a successful claim is borne by the company and its shareholders, yet (at least in the case where bad news is slow to reach the market) neither of those parties has been enriched by the breach. Those that have been enriched – those shareholders who sold their shares before release of the bad news – have no obligation to return their “unjust” gains. This asymmetry lies at the heart of the economic inefficiency of the law, and arguably is the main reason premiums on D&O insurance policies have skyrocketed. The failure of the Parliamentary Joint Committee to tackle this issue head on, and address it in the Bill, may with hindsight be viewed as a missed opportunity.
It should also be noted that the changes do not affect the Commonwealth’s ability to prosecute criminal breaches or ASIC’s ability to issue infringement notices and administrative penalties without proving fault.
Where to from here?
The draft legislation will now be referred to the Senate Economics Legislation Committee, where it is likely to attract the ire of opposition parties who have traditionally had a more sympathetic ear towards class action litigants. The Committee may also receive submissions from ASIC, institutional investors and retail investor representative groups who will inevitably seek to paint it as a dilution of shareholder protections in the Corporations Act.
While it is an easy truism to say that continuous disclosure is a cornerstone of the efficient operation of our markets, the report has appropriately recognised that there is a tension – and therefore a balancing act – between the benefits to the market of timely and fulsome disclosure and the costs imposed on entities and officers by class actions.
The Bill is likely to stir debate as to whether the appropriate balance has been struck. Whether such debate will lead to amendments to the Bill remains to be seen. The Committee is due to report in late March, leaving little time for wholesale revisions.