Australia has made it harder for investors to sue listed entities (and other relevant third parties) for a breach of the continuous disclosure requirements and misleading and deceptive conduct based on the disclosure failure.
The changes were made under the Treasury Laws Amendment (2021 Measures No 1) Act 2021 (Cth) (measures) which expand and make permanent a series of changes which were first implemented as temporary COVID-19 countermeasures, and appear predominately in the Corporations Act 2001 (Cth) (Corporations Act) and Australian Securities and Investments Commission Act 2001 (Cth) (ASIC Act). The measures place a greater emphasis on the mental element of any impugned breach of a listed entity’s continuous disclosure obligations – with an entity now needing to act with knowledge, recklessness, or negligence.
Continuous disclosure obligations require listed entities to disclose price-sensitive information to the market to ensure transparency and avoid misleading investors. They are regulated under Chapter 6CA of the Corporations Act. The old approach was a 3-pronged test, whereby an entity breached their obligations if:
- it held price-sensitive information that the market operator would require to be disclosed;
- the information is not otherwise generally available; and
- it fails to notify the market.
To the civil continuous disclosure obligations
The measures add a 4th element to the above test through the insertion of s 674A of the Corporations Act – where the entity must know or act recklessly or negligently with respect to whether the information, if available, would have a material effect on the price or value of the security.
To misleading and deceptive conduct
In Australia, it is common for entities (and relevant third parties) who are being sued for a breach of the continuous disclosure requirement, to also be sued for misleading and deceptive conduct. Previously, a breach of the continuous disclosure requirements also gave rise to a claim for misleading and deceptive conduct –such claim not requiring proof of any mental element.
However, the measures have misleading and deceptive conduct claims under s 1041H of the Corporations Act and s 12DA of the ASIC Act such that, the entity and relevant third parties (such as the directors and officers) will not be liable for misleading and deceptive conduct where (broadly) such claim is based on the facts giving rise to a breach of continuous disclosure requirements, unless the requisite mental element for a breach of the continuous disclosure requirements has also been proved: i.e. knowledge, recklessness, or negligence.
The measures have introduced a significant hurdle for investors to succeed in such claims, while providing a corresponding shift in risk away from listed entities and their directors and officers.
Why have the changes been made?
The rationale for the changes was to implement a chilling effect on the ever-growing class action suits alleging breaches of continuous disclosure obligations which, the Australian government perceived, had an adverse impact on companies and officers and on an effective market for listed securities. A greater emphasis on the state of mind of the officers and directors also brings Australian law in this regard closer to the approach used in the United Kingdom and the United States.
What impact will this have?
While the precise impact of the changes remains to be seen, the measures are at least in theory beneficial to companies, directors, and officers. Fewer class actions and claims by investors for a breach of the continuous disclosure requirements will save companies time and capital, while creating extra barriers to a successful misleading and deceptive conduct claim may result in cheaper directors’ and officers’ insurance.
In practice, however, it seems unlikely that the measures will substantially alter the approach companies take, or the success of certain actions. This is for two reasons. First, it is conceivable that the very act of not releasing market-sensitive information (or not being aware of information and its importance) is inherently negligent, even without being part of a formal test. Indeed, most successful class actions already involve analysis as to the negligence of directors and officers, either by virtue of suggesting that erroneous forecasts had no reasonable basis or that a director or officer failed to properly regard certain information. Under this view, the new requirements may simply serve as a concretisation of existing process, rather than an extra barrier. Secondly, even if the measures do prevent many claims, ASIC themselves retain power to prosecute listed entities for continuous disclosure deficiencies (irrespective of any state of mind requirement). Notably, ASIC has been critical of the measures, so at this stage it seems unlikely their approach will also change.
What should Companies, Directors and Officers do in response?
Companies should not become complacent simply because the measures seem to offer more robust protection – they should continue to be diligent in continuously disclosing material information. Moreover, notwithstanding the implementation of hurdles to civil action, criminal actions remain in place.
Given the increased emphasis on the state of mind of directors and officers, they should ensure they are keeping accurate records of all decisions and any potentially material information they come across. For most, this will not constitute a change. Entities could avoid liability for defective disclosure so long as any decisions they make are reasonable and well-informed.
The measures are set to be reviewed by an independent expert in 2 years’ time, who will assess their efficacy and table a report to Parliament. Given the changes have faced criticism, including by ASIC and the Labor Party, on the basis that they diminish transparency, there is no guarantee of their permanence.