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Mike Hales

Minter Ellison, Australia

mike.hales@minterellison.com

 

Beverley Newbold

Minter Ellison, Australia

beverley.newbold@minterellison.com

 

Dylan Hoyne

Minter Ellison, Australia

dylan.hoyne@minterellison.com

 

Australia has a well-developed class action system, in its Federal Court and several State courts. There are numerous plaintiff class action law firms, and claims are supported by a highly active and competitive litigation funding market. The number of class actions filed in Australia has tripled in the last seven years.

Shareholder class actions are especially common. They are driven by continuous disclosure laws which require companies listed on the Australian stock exchange to make immediate disclosure of information that might have a material impact on the company's share price. These laws enable plaintiff shareholders to base claims on allegations that a company has delayed in informing the market about developments that would lower the company's share price. Almost any negative announcement by companies which results in a share price drop will be investigated by litigation funders or plaintiff class action law firms to determine whether it can be alleged that the company should have released the information earlier and that shareholders have suffered loss as a result.

In late 2019, two judgments were handed down which will have a material effect on the viability of many future class actions. These are the decisions of the Federal Court of Australia in, TPT Patrol Pty Ltd as trustee for Amies Superannuation Fund v Myer Holdings Ltd[1](Myer Holdings) and the High Court of Australia in,BMW Australia Ltd v Brewster; Westpac Banking Corporation v Lenthall (BMW).[2]

Myer Holdings is the first time an Australian court has considered in a class action context whether shareholders in a class can rely on the theory of market-based causation in proving that they have suffered loss. BMW considered the availability of common fund orders.

TPT Patrol Pty Ltd as trustee for Amies Superannuation Fund v Myer Holdings Ltd

On 11 September 2014, Myer’s chief executive officer, Bernie Brookes, made statements in presentations to analysts and journalists, about Myer's forecast net profit after tax (NPAT), including that Myer's NPAT for the 2015 financial year would exceed the previous year's figure.[3]

On 19 March 2015, Myer released an announcement on the Australian Securities Exchange (ASX), significantly downgrading its forecasted 2015 financial year NPAT to between AUD75m to AUD80m, approximately AUD20m less than foreshadowed by Brookes. Following the announcement, the Myer share price fell significantly, with its market capitalisation shrinking by AUD90.8m, or more than ten per cent.

This substantial decrease in Myer's share price led to shareholders commencing a class action against Myer.[4] Broadly speaking, the plaintiffs (or ‘applicants’) claimed that they and all other shareholders had suffered loss due to:

1. their or the market’s reliance on the positive statements made by Brookes on 11 September 2014;
2. Myer’s NPAT downgrade announced on 19 March 2015; and
3. Myer’s interim non-compliance with its continuous disclosure obligations, by failing to correct Brookes’s statements between 11 September 2014 and 19 March 2015. It was also alleged that Myer engaged in misleading and deceptive conduct as it did not have reasonable grounds for the representation made by Brookes.

The Court found that Myer had breached its continuous disclosure obligations and had engaged in misleading and deceptive conduct.[5] The Court then considered the question of loss.

A multitude of different causation theories have been advanced in shareholder class action cases, each attempting to establish causation using varying formulations of reliance.[6] In this case, the applicants relied on market-based causation which, if successful, would not require any shareholder to prove their own individual reliance on Brookes’s representation.[7]

Typically, the share price of a company will fluctuate in accordance with its disclosures to the market, in particular financial disclosures such as a company’s NPAT or forward looking earnings estimates.[8] The market-based causation principle advanced in Myer Holdings is relatively simple; it is the concept that the market determines the price of securities in accordance with its view of the company’s financial position and potential. Where a company fails to disclose material information to the market, the market is uninformed. Where that information is damaging to the company, as in Myer Holdings, the share price is artificially inflated, as the market has not had the chance to price in the material information. When investors purchase the shares, they do so at the inflated price as set by the uninformed market.[9]

The court held that reliance and causation could be proven on application of market-based causation. The result is that a court may find a causal link between the representations and loss, even though there has been no direct reliance by the shareholder in question on a statement or disclosure by the company. Interestingly, this also means that an investor may have a right to recover, notwithstanding that they held no belief as to the integrity of the market price.[10] In fact, an investor may not have read any information disclosed by the company, merely assuming that in paying the market price, such a price reflected all information disclosed and disclosable to the market at the relevant time.[11]

It should be noted that the Australian market-based causation theory differs slightly from the US ‘fraud on the market’ doctrine. The US position is born out of similar considerations, namely that investors have relied on the integrity of the market price when purchasing securities on market.[12] However, in Australia, a shareholder need not demonstrate direct reliance on the integrity of the market price of securities. The US position, pursuant to section 10(b) of the US Securities Exchange Act 1934, requires each individual to prove reliance on the integrity of the market price. This gave rise to the rebuttable presumption embodied in the ‘fraud on the market’ doctrine, the presumption that the investor has relied upon the integrity of the market price when deciding to purchase securities on market.[13] This allows class actions to proceed more easily, as reliance does not need to be proven by each individual in the class.

The shareholders’ success in Myer Holdings is a significant boost for shareholders wishing to commence class actions in the future. However, there was a sting in the tail on the facts of this case. The applicants argued that their loss was the difference between the price the Myer securities were acquired for and the amount they would actually have been acquired for, had Myer issued corrective disclosures.[14]

Expert evidence was led on Myer’s internal NPAT forecasts and the Bloomberg NPAT consensus figures, which represented the market's forecast of Myer's NPAT.[15] Beach J determined that no loss could be made out unless it was the case that Myer was under an obligation to disclose, earlier than it did, that it expected its 2015 financial year NPAT to be below the Bloomberg forecasts, not just below the forecast announced by Brookes.[16]

Even though Myer had failed to make corrective disclosures, the market consensus, as demonstrated by the Bloomberg NPAT consensus figures, was always consistent with, or above, Myer's internal forecasts. Consequently, the applicants could not demonstrate that the share price was inflated by Myer’s failure to disclose, as any disclosure of Myer’s own internal forecasted NPAT would have otherwise been in accordance with, or above, the NPAT the market predicted, and would not have deflated the share price. The court therefore held that although shareholders could rely on market-based causation, they nonetheless suffered no loss. Effectively, the court found that the market had never believed Brookes’s representations, so the share price was not artificially inflated by Myer's failure to issue timely corrective announcements.

How this decision changes the landscape for shareholder class action in Australia remains to be answered. On face of it, the acceptance of the market-based causation theory resolves an area of extreme uncertainty in favour of shareholders. Conversely, the decision emphasises the need for shareholders to be able to articulate not just how a company’s forecasts were incorrect and/or unreasonable, but that they were actually relied on by the market in pricing that company’s securities, so that loss can potentially be established.

The latter is particularly important, as most shareholder class actions are commenced with the support of litigation funders. They fund the litigation on the basis that they will be able to recoup their fee out of the class settlement or awarded damages, commonly as a fixed percentage of the quantum, or less so, as a multiple of the plaintiff’s legal costs.[17] In recent years, funders have obtained orders at the outset of the claim known as common fund orders (CFO).[18] These orders confirm that the funder can be paid from the amount awarded to the class, even though at that stage the size of the class is unknown, and not all members of the class may have signed a funding agreement with the funder conferring a right of recovery over a proportion of the class members’ share of a settlement or judgment. CFOs therefore provide funders with certainty that if the claim succeeds, funders will be paid, avoiding the need to obtain the agreement of the entire class. The legitimacy of CFOs was the subject of BMW.

BMW Australia Ltd v Brewster

On 4 December 2019, in BMW the High Court of Australia found by a 5-2 majority that the Federal Court Act 1976 (Cth) (the FCA) and the Civil Procedure Act 2006 (NSW) (the CPA) does not empower the Courts to make CFOs at the outset of a case.[19] The decision in BMW has therefore voided the mechanism which has given security to applicants and funders: CFOs.

Historically, CFOs were sought by applicants under section 33ZF of the FCA and section 183 of the CPA.[20]These two sections, being almost identical, confer a wide statutory power on the courts in a class action context, permitting the court to ‘make any order that the court thinks appropriate or necessary to ensure that justice is done in the proceedings’.

A CFO bound all the members in the applicant class, despite whether they had entered into a contractual arrangement with the litigation funder. Generally, a CFO would also stipulate the amount that the funder would recover. While not removing the funder’s risk of incurring irrecoverable costs if the litigation was unsuccessful, CFOs provided a degree of certainty with respect to the amount that would be recovered in circumstances of a settlement or successful litigation. CFOs also alleviated the funder’s need to ‘book build’, the process by which a funder will seek out and seek to commit members of the class who wish to proceed with the action, in order to determine whether it is commercially viable.

The Court determined that CFOs were not appropriate for several reasons, one being that Pt IVA and Pt 10 of the FCA and CPA respectively, expressly provide for the making of orders distributing any proceeds of a representative proceeding.[21] The difficulty for funders is that any order that a distribution be made to funders, is made at the conclusion of the proceeding and will then be capable of assessment by the Court.[22]

Further, the CFO had the effect of involving the court in the decision by a funder of whether to proceed with a claim. The High Court held this was not the court's function and was therefore a misuse of the power contained in the rules to make a CFO.

Importantly, section 33ZJ and its CPA equivalent section 184, provide that ‘if the Court is satisfied that the costs reasonably incurred in relation to the representative proceeding by the person making the application are likely to exceed the costs recoverable by the person from the respondent, the Court may order that an amount equal to the whole or a part of the excess be paid to that person out of the damages awarded.’ Not only do funders need to factor in a potential reduction in their recovery,[23] they will have to regress to the process of book building, the process which was necessary before the widespread adoption of CFOs, although still engaged in to a degree as a proxy for eventual shareholder participation.

A return to compulsory book building will require litigation funders to identify plaintiffs and have them sign up to the class action by entering into individual litigation funding agreements. This is a time consuming and expensive process,[24] factors which will become important considerations for funders when determining the commercial viability of a class action claim.

The return to book building may also involve the return of ‘closed classes’, meaning the action is only brought on behalf of those shareholders who have entered into litigation funding agreements with that funder.

Conclusion

Both of Myer Holdings and BMW will have a significant impact on class actions in Australia. Further changes are also likely to arise as a result of two ongoing developments: (i) the Australian Law Reform Commission report, Integrity, Fairness and Efficiency – An Inquiry into Class Action Proceedings and Third-Party Litigation Funders, recommending that mechanisms be included in statute and legal frameworks to allow courts to deal with multiple class actions; and (ii) legislation currently before Victoria’s parliament which, if passed, will allow law firms to charge contingency fees and potentially emerge as competitors to litigation funders.

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