1. Directors’ duties: Recent cases on Board meetings and announcements to the market
In May 2012 the High Court upheld the original decision in favour of ASIC against the James Hardie directors and officers in relation to a misleading draft ASX announcement approved by the board in 2001 concerning the funding of its asbestos liability. The final chapter in the James Hardie litigation was then delivered by the judgment of the New South Wales Court of Appeal on 12 November 2012, which dealt with the penalties and disqualification periods to be imposed on the former directors and executive management of James Hardie.
In October 2012 the High Court held that Fortescue Metals Group Ltd.’s announcement to the ASX and media release in 2004 stating it had reached “binding agreements” with Chinese State-owned entities to build infrastructure, were not misleading even though the agreements were incomplete and not legally enforceable.
The implications for companies and directors from these decisions include:
- it is in the interests of the company and the directors that the Board minutes should accurately record the business of the meeting, including identifying documents tabled and relied upon;
- when considering proposals put to the Board, directors should test the scope and basis of the conclusions reached, and in certain cases necessitating consideration of the material underlying the conclusions, require management or third party advisers (such as legal advisers or accountants) to attend the meeting;
- in preparing ASX announcements and media releases, listed companies and their directors must pay close and careful attention to the context of the subject matter of the statements being made and the likely response by investors as well as the broader business community; and
- whether or not a statement is technically accurate in legal terms may not be the touchstone of whether an announcement to the ASX is misleading or deceptive. Statements should be tested in terms of whether they may mislead the investor audience and potentially a wider commercial audience.
For further information on the James Hardie decision, see our article on the Herbert Smith Freehills website.
2. Contract: High Court broadens scope of penalty doctrine
The High Court decision in Andrews v ANZ Banking Group Ltd (relating to the ANZ bank fees class action) was issued in September 2012 and has given rise to significant uncertainty in the law concerning penalty payments.
The law of penalties is attracted where a contract provides that on breach, the contract-breaker will pay an agreed sum which exceeds what can be regarded as a genuine pre-estimate of the damage likely to be caused by the breach. A court will not enforce a penalty, leaving the innocent party to recover unliquidated damages.
ANZ had argued that certain of its fees (e.g. dishonour, late payment and over-limit fees) were not imposed upon breach of contract by the customer and therefore the rule of penalties did not apply.
The High Court overturned prior decisions and held that notwithstanding the common law rule of penalties, there remains an equitable jurisdiction to relieve against penalties which does not require a breach of contract. The High Court broadened that which was understood to be the scope of the doctrine of penalties by drawing a distinction between:
- an obligation to pay an amount in return for a right or benefit, which cannot be a penalty even if the amount payable exceeds the value of the right/benefit; and
- an obligation that is in substance ‘security’ for performance of some other non-contractual obligation, which may be a penalty if it exceeds the loss that could be suffered as a result of non-fulfilment of the condition.
It will be important to ensure that if contracts contain clauses for any payments or detriments which may be considered penalties they genuinely reflect a pre-estimate of losses arising from infringement or have obvious additional benefits or consideration.
The High Court did not decide whether any specific ANZ fees or charges were penal in nature – that case was remitted to the Full Federal Court to assess whether the specific fees and charges constitute penalty payments under this broader definition. It may be that some of these uncertainties will be clarified in that decision.
For further information on this matter, see our article on the Herbert Smith Freehills website.
3. Tax: Draft Government legislation seeks to overcome Court rulings on ‘tax benefit’ test in Part IVA tax litigation
The general anti-avoidance rule in Part IVA of the tax legislation applies when two criteria are met:
- a taxpayer obtains a tax benefit; and
- a party enters into or carries out a transaction for the dominant purpose of a taxpayer obtaining a tax benefit.
Whether there is a tax benefit involves an inquiry as to what the taxpayer would reasonably be expected to have done if the transaction had not been entered into (referred to as identifying an ‘alternative postulate’).
During 2012, the ATO has continued to suffer a series of defeats in the Courts on the tax benefit test, most importantly in the Full Federal Court in Futuris and the refusal of the High Court to grant special leave to appeal its loss in the James Hardie (RCI) decision.
In response to these decisions, the Federal Government released exposure draft legislation to amend Part IVA, which, if enacted, will apply with retrospective effect from 16 November 2012. The Government’s stated intention is to reduce the scope for taxpayers to contend that they did not obtain a tax benefit and to focus attention on the purpose test. When considering, as part of the tax benefit test, what would have occurred absent the transaction, the courts will presume that the parties would have acted:
- to obtain any “non-tax effects” which the transaction achieved for the taxpayer - this would diminish, if not nullify, the ability of taxpayers to mount the argument that, in the absence of the transaction in dispute, they would have ‘done nothing’; and
- without regard to any person’s tax liability - notwithstanding the High Court’s recognition that tax considerations appropriately influence commercial transactions.
In considering the question of purpose, it will again be relevant to have regard to ‘alternative postulates’. This was recently confirmed by the High Court in Mills (with Herbert Smith Freehills representing the successful taxpayer).
Mills concerned the franking anti-avoidance provision in Part IVA, in this instance in relation to frankable distributions paid on PERLS V securities issued by the Commonwealth Bank of Australia. The High Court found that, as CBA’s purpose in relation to franking was incidental to its purpose of raising Tier 1 capital, the franking anti-avoidance provision did not apply. In doing so, the High Court accepted as relevant and persuasive the circumstance that the Bank could not have satisfied its non-tax purpose of raising Tier 1 capital without issuing security carrying franked distributions.
As the new amendments only apply to schemes commencing from 16 November 2012, Part IVA litigation will, for the immediate future, focus on the old provisions, where corporate taxpayers have recently been largely successful. For future transactions, if the draft legislation is passed, it is likely that the focus will be on the purpose test. It remains to be seen to what extent taxpayers will be able to continue to argue that Part IVA does not apply because they did not obtain a tax benefit.
4. Court Procedure: NSW Supreme Court limits disclosure rules
In March 2012, a new practice note was issued in the Equity Division of the NSW Supreme Court. Practice Notice 11 ‘Disclosure in the Equity Division’ limits the ambit of disclosure (including discovery) and has already been referred to as an ‘evolution’ in the Court’s attempts to deal with burgeoning litigation costs. The Practice Note provides that:
- as a general rule, disclosure will only be ordered after parties serve their evidence, unless ‘exceptional circumstances’ necessitate earlier disclosure;
- disclosure orders will not be made (whether pre-evidence or at all) unless it is ‘necessary’ for the resolution of the real issues in dispute’; and
- parties must explain to the Court (by affidavit) why disclosure is ‘necessary’ for the resolution of the real issues in dispute.
In the short time the Practice Note has been in force, the Supreme Court has had several opportunities to consider and comment on Practice Note 11. Judges have commented that the Practice Note is aimed at reducing the costs of litigation by delaying disclosure until the real issues in dispute are identified by the evidence. The intention is that this will in turn reduce the scope of disclosure because it will be confined to the issues defined by both the pleadings and the evidence. Moreover, the Court has indicated that while Practice Note 11 may not directly apply to notices to produce and subpoenas, the Court will not permit such processes to subvert the operation of the Practice Note.
At the same time, litigants have been actively testing the bounds of what constitutes ‘exceptional circumstances’ and when disclosure is ‘necessary’. The Supreme Court has emphasised that exceptional circumstances are ‘not normal or usual, they must be out of the ordinary’. They need not, however, be unique.
It remains to be seen what inroads litigants will succeed in making and when disclosure orders will be made before evidence is served. Some examples in which the Court has permitted disclosure include a plaintiff seeking documents to enable it to resist a motion to set aside the case or a strike out application; limited discovery before expert evidence but after lay evidence; discovery prior to expert evidence because in the circumstances of that case it was more efficient to do so.
The Court has also emphasised that disclosure must be shown to be reasonably necessary for disposing of the matter fairly or in the interests of a fair trial. If parties merely think that disclosure now would be convenient or helpful or desirable – that is not likely to be sufficient.
The Equity division sees a significant number of commercial cases, meaning the new Practice Note is particularly relevant for corporate entities. Practice Note 11 is a departure from the way discovery has previously been conducted. It is consistent with corresponding steps taken in 2011 in the Federal Court to curtail extensive discovery.
As an approach, the new Practice Note is likely to result in more focussed document gathering and ought to prevent against parties embarking on ‘fishing’ expeditions. In the absence of an extensive exchange of documents before evidence, it will be important for litigants and their legal advisers to engage in a focused consideration of the case against them at a much earlier stage in the proceeding.
For further information on this matter, see our audio webcast on the Herbert Smith Freehills website.
5. Class actions: Settlement of shareholder class actions and new regulations for litigation funders
This past year has seen a number of significant shareholder class actions settle. In addition, the Federal Government introduced long-awaited regulations in respect of class action litigation funding with the Corporations Amendment Regulation 2012 (No. 6).
Major shareholder class action settlements in 2012 included:
- The settlement of the Centro class actions: these proceedings were commenced in the Federal Court in 2008 and involved allegations that Centro breached its continuous disclosure obligations and engaged in misleading or deceptive conduct by failing to accurately disclose its current interest-bearing liabilities, refinancing difficulties and the likely impact of increased financing costs on its anticipated return to investors. By the time the trial commenced, there were multiple related class action proceedings on foot, involving over 20 parties, including the Centro entities, certain of its former and current directors and officers, and Centro's former auditors (PwC). The parties agreed to settle the proceedings during the course of trial for a global amount of $200m to which each of the respondents contributed.
- The settlement of the Sigma Pharmaceuticals class action: these proceedings were commenced in the Federal Court of Australia in October 2010 and involved allegations in respect of Sigma Pharmaceutical’s profit guidance provided at the time it undertook a $300m capital raising in September 2009. The parties agreed to settle the proceedings as part of a court-ordered mediation, for a global amount of $57.5 million.
- The settlement of the Nufarm class actions: these proceedings were commenced in the Federal Court of Australia in 2011 and involved allegations that Nufarm breached its continuous disclosure obligations with respect to its 2010 financial year profit forecast and its glyphosate business. The parties agreed to settle the proceedings as part of a court-ordered mediation for a global amount of $43.5 million. Shortly thereafter, a group member registration process was conducted and due to additional registrants the parties agreed to an increased settlement amount of $46.6 million. This settlement was approved by the court on 28 November 2012.
Regulation of litigation funders
On 12 July 2012, the Federal Government introduced the Corporations Amendment Regulation (No. 6) 2012. The Regulation will commence on 13 January 2013.
Prior to the Regulation being introduced, the Australian Institute of Company Directors proposed the introduction of a tailored Australian Financial Services Licence (AFSL) regime applicable to third party class action funders. The proposal incorporated certain consumer protection features and would have permitted ASIC to take on a more direct supervisory role in respect of the conduct of funders. These proposals were ultimately not adopted by the Federal Government. Instead, the Regulation:
- exempts class actions litigation funders from holding an AFSL;
- clarifies that funding arrangements for class actions do not constitute Managed Investment Schemes (pursuant to Chapter 5C of the Corporations Act); and
- introduces conflict of interest provisions. A litigation funder must now have documented “adequate arrangements” for managing conflicts of interest, including written procedures for monitoring operations to identify and manage conflicts should they arise.
The Regulations do not introduce any form of prudential or capital adequacy requirements.
As a result of various proceedings being settled this year, no shareholder class action has yet been the subject of a judgment. Nonetheless, it is clear that such actions are now a permanent feature of litigation in this country. Effective from 13 January 2013, litigation funders are exempted from holding an AFSL licence, provided that they maintain adequate arrangements for managing any conflicts of interest that may arise. This is a mild resolution to a long running debate on measures to protect group members who have weak bargaining power. We are likely to continue to see growth in the funding industry as a result.
6. Arbitration: Investment Treaty claim impacted by High Court challenge to Federal legislation
As yet another example of the growth in international investment treaty arbitration, on 15 May 2012 an arbitration tribunal was constituted to hear Phillip Morris Asia Limited‘s investment treaty arbitration claim that the Australian Government’s cigarette plain packaging legislation is in breach of Australia’s 1993 bilateral investment treaty (BIT) with Hong Kong.
This follows the October 2012 High Court decision in relation to the constitutional validity of the plain packaging legislation where the Court found that, as the Commonwealth had not “acquired” any rights, it had not breached section 51(xxxi) of the Constitution.
The High Court decision is relevant to the arbitration claim for two reasons:
- Firstly, in coming to the view that intellectual property rights can constitute “property”, a number of judges in the High Court held that a trade mark was a “negative right” in that it conferred a right to restrict the use of a publicly available symbol by others and that such a right was subject to conditions imposed by a relevant regulatory regime. If the arbitral tribunal were to adopt a similar approach, even on the broader “deprivation test” under the BIT, there may not be a breach of the expropriation standard because tobacco companies will not have been deprived of their right to prevent others from using their trade mark.
- Secondly, in the High Court, the Commonwealth advanced the argument that, since plain packaging legislation was made for a higher purpose, namely the protection of public health, the modification of the trade mark rights did not amount to a constitutionally relevant change in property rights. While the Court did not come to a final decision on this issue, the judges held that the purpose behind a particular change in law could not have any effect on the question of whether property had been expropriated.
Australia has advanced a similar response to Phillip Morris’ treaty claim. Australia has argued that measures to ensure the protection of public health do not amount to expropriation, are not equivalent to expropriation and do not give rise to a duty of compensation.
International investment treaty dispute resolution schemes operate within a legal regime that is clearly distinct from Australian domestic constitutional law. However, it appears that the decisions of domestic Courts may have an impact on the arguments advanced by arbitral litigants and the decision making processes of arbitral tribunals in the resolution of investment treaty arbitration claims.
7. Foreign state immunity: High Court decision on immunity of foreign State owned entities in the context of commercial transactions
The Australian Competition and Consumer Commission (ACCC) has pursued a number of airlines including PT Garuda Indonesia Ltd (Garuda) in relation to alleged price fixing and anti-competitive conduct in connection with surcharges on commercial freight services. Garuda claimed sovereign immunity relying upon the Foreign State Immunities Act 1985 (Cth) (FSI Act). The general immunity for foreign states and separate entities of foreign States provided under the FSI Act is subject to a number of exceptions: in particular they will not have immunity if the proceedings concern a commercial transaction.
On 7 September 2012 the High Court unanimously dismissed Garuda’s claim for immunity. Whilst it was accepted that Garuda was a separate entity of the Republic of Indonesia, the High Court found that Garuda did not have immunity on the basis of the commercial transaction exception. They found that the exception was not limited to proceedings instituted in relation to contracts nor by a party to a commercial transaction. The civil proceedings brought by the ACCC against Garuda fell within the commercial transaction exception to the general immunity conferred by the FSI Act as it involved commercial activities.
Foreign state entities operating in Australia will not have immunity from proceedings in Australian courts where the entity is engaging in commercial activities (even if they are not governed by a contract). However, Australian companies who have dealings with foreign entities within Australia should be alert that the FSI Act may limit their ability to bring legal proceedings against such entities, in particular if an entity is being used to achieve some purpose for the foreign State.
For further information on this decision, see our article on the Herbert Smith Freehills website.
8. Competition: Pilbara access cases keep rolling
The High Court has referred back to the Australian Competition Tribunal Fortescue Metals Group’s application for access to Rio Tinto’s Hamersley and Robe railway lines in Western Australia. Since 2004, Fortescue has made various applications to the National Competition Council for certain WA railway lines owned by BHP Billiton and Rio Tinto to be declared under the National Access Regime, which is contained in Part IIIA of the Competition and Consumer Act 2010 (Cth).
Under Part IIIA, the Minister cannot declare a service unless he or she is satisfied of a number of access criteria, one of which is that it would be uneconomical to develop another facility to provide the service. The issue before the High Court was whether ‘uneconomical’ means not ‘privately profitable’ (that is, if any person would find it profitable to establish another railway line to provide the relevant service), or whether it means a situation where the existing railway line could supply demand at lower total cost than two or more railway lines (that is, is it a ‘natural monopoly’?).
The High Court rejected the ‘natural monopoly’ test and preferred the ‘privately profitable’ test. That means critical infrastructure can be declared only if it is not privately profitable to duplicate it.
The High Court also considered the Tribunal’s role in reviewing the Minister’s decision, particularly in relation to another of the access criteria, namely that a service cannot be declared unless the Minister is satisfied that access (or increased access) would not be contrary to the public interest. Specifically, the High Court held that if the Minister finds that access would not be contrary to the public interest, the Tribunal should be slow to find otherwise and the High Court doubted that it would make such a finding other than in the ‘clearest of cases’.
This case is another example of the courts’ preference for practical, commercial tests rather than more abstract, economic tests. It means that an analysis of the investment considerations of industry participants is likely to be increasingly important in access matters in the future.
9. Anti-corruption: Focus on foreign bribery continues to gain importance
2012 brought a marked increase in focus on foreign bribery laws in Australia and overseas. We set out 5 key developments below.
First, in November, the US Department of Justice (DOJ) and Securities Exchange Commission (SEC) released the long-awaited joint Foreign Corrupt Practices Act (FCPA) guidance. Topics of particular interest to Australian companies include: the regulators’ aggressive interpretation of their jurisdiction over foreign companies, due diligence expectations for dealing with third parties, potential liability in the context of mergers and acquisitions and the DOJ and SEC’s views on the necessary elements of an effective corporate compliance program.
Second, in October, the OECD released its report on Australia’s implementation of the Convention Combating Bribery of Foreign Public Officials in International Business Transactions. A key theme of the report was the low level of enforcement in Australia, with the OECD recommending a number of steps to increase enforcement both by the Australian Federal Police and the Australian Securities and Investments Commission (ASIC).
Third, the value of a robust anti-corruption compliance system was highlighted. Such systems are relevant under Australian anti-bribery legislation as they provide ‘due diligence’ type defences. In addition, for Australian companies subject to US legislation, a robust compliance system may provide a basis for avoiding the prosecution as was the case with Morgan Stanley. The SEC and DOJ stated that this decision was in part based on Morgan Stanley’s comprehensive internal controls, policies, training and anti-bribery due diligence systems, which the Managing Director ‘actively sought to evade’.
Fourth, in Australia, while we have not yet seen class actions arising out of bribery allegations, ASIC recently indicated that there may be occasions in which liability may extend to directors under the Corporations Act, in the context of breaches by the company of anti-bribery laws. Relevantly, this follows class actions and derivative actions commenced in the US this year against Walmart and its directors for their failure to put in place effective compliance systems to prevent corruption and their failure to report corruption once it was discovered.
Finally, anti-corruption laws remain in a state of flux in Australia. The Attorney General is continuing to develop a National Anti-corruption plan (which is likely to take into account findings in the OECD Report) and consider changes to Australia’s current anti-corruption laws, including the possible removal of the facilitation payment defence.
It is clear that anti-corruption will continue to be a focus in 2013 for Australian and overseas regulators, with steps likely to be taken (including through legislative amendments) to increase enforcement and accountability. The repercussions of any such enforcement activity are far reaching. In these circumstances, companies (and their directors) will benefit from ensuring that appropriate anti-bribery compliance systems are in place which enable early detection of corruption issues and provide a basis for a due diligence defence, or possibly, non-prosecution.
For further information on this matter, see our article on the Herbert Smith Freehills website.
10. Managed investment schemes: New interpretation of ‘members’ rights’ for responsible entities
On 4 October 2012, the Victorian Supreme Court of Appeal held that amendments to a managed investment scheme’s constitution, purported to be made unilaterally by the responsible entity of the scheme under s 601GC(1)(b) of the Corporations Act 2001, were ineffective.
In so doing, the Court of Appeal:
- doubted two recent NSW Supreme Court decisions (by Barrett J) involving unilateral amendments under the above provision of the Corporations Act: Re Centro Retail Ltd  NSWSC 1175, and ING Funds Management Ltd v ANZ Nominees Ltd  NSWSC 243; and
- agreed with the Federal Court analysis (by Gordon J) in Premium Income Fund Action Group Inc v Wellington Capital Limited  FCA 698.
As a result, the NSW and Victorian Supreme Courts have now taken conflicting positions on the interpretation of ‘members’ rights’ in the context of s 601GC(1)(b). However, based on the doctrine and rules relating to precedent, the 360 Capital decision of the Victorian Court of Appeal:
- must be followed by a Victorian court; and
- in other States (including NSW) and Territories, is likely to be regarded as the persuasive authority,
in respect of the interpretation of this section of the Corporations Act.
The Victorian Court of Appeal’s decision also highlights the critical importance of a responsible entity conducting, documenting and (if necessary) giving evidence of, a proper ‘reasonable consideration’ of members' rights before seeking to unilaterally amend the constitution of a managed investment scheme.
On the basis of the 360 Capital decision, a responsible entity has to accept that (contrary to the NSW Supreme Court views) any proposed amendment to the constitution of a managed investment scheme is likely to affect ‘members’ rights,’ now that these rights are taken to include the right to have the scheme administered in accordance with the constitution as it stands.
The key question is whether the proposed amendment ‘adversely affects’ that right. Practical difficulties may now arise for a responsible entity in addressing this question.
What is clear is that it is critical for a responsible entity to undertake and document a comprehensive decision-making process if seeking to rely on s 601GC(1)(b). This will involve examining:
- the existing rights of members (including the members’ right to have the scheme administered in accordance with the terms of the constitution as it stands); and
- the impact of the proposed amendment on those rights.
A responsible entity will not satisfy the ‘reasonable consideration’ requirement in s 601GC(1)(b) simply by obtaining legal advice on the questions posed by that section. As was pointed out in the decision at first instance, ‘legal advice with important qualifications’ should not be accepted ‘without discussion, deliberation or analysis’. These comments remind board members more generally that legal advice cannot be used as a proxy for proper thought and consideration in other decision-making processes.
For further information on this decision, see our article on the Herbert Smith Freehills website.