By Janette McLennan, Partner, Sydney
The Australian Parliamentary Joint Committee on Corporations and Financial Services (Committee) has completed its inquiry into Litigation Funding and the Regulation of the Class Action industry, with the report issued on 21 December 2020 (Final Report). The Committee has examined the class action industry which has now been in place for almost three decades in Australia, finding many criticisms well-justified as the regime has become skewed towards entrepreneurial claims.
There are 31 recommendations in the Final Report directed towards addressing some of the adverse consequences of the class action regime in Australia, expanding powers of the Federal Court of Australia, enhancing regulation and oversight, and addressing the prevalence of shareholder class actions.
Whilst the implementation of any of the recommendations and timing of reform is presently uncertain, the recommendations include:
On that last recommendation above, we have previously written about the continuous disclosure moratorium here currently in effect from 26 May 2020 until 23 March 2021 (absent any further extension). As we have observed, the temporary changes do not prevent other causes of action from being pursued during the moratorium period (most notably, misleading or deceptive conduct claims which are also frequently deployed in shareholder class actions). That gap was not the focus of the Committee, which said:
"[17.121] The temporary amendments do not address other laws used in shareholder class actions, such as misleading or deceptive conduct laws. The committee does not have information on what proportion of shareholder class actions rely on continuous disclosure versus misleading or deceptive conduct laws, and whether there were any differences in the outcomes of those cases.
[17.122] Accordingly, the committee is not in a position to be definitive about whether other elements of Australia's substantive corporations law are impacting on the prevalence of shareholder class actions. Hence, the committee focuses on the connection between the continuous disclosure regime and shareholder class actions."
Other observations on shareholder class actions
The Committee was critical of the substantial growth in shareholder claims, and limited regulation of the funding market. In what will likely be perceived as welcome news by ASX listed companies, their directors / officers, and insurers, the Committee has concluded that shareholder class actions are inefficient and contrary to the public interest:
"[17.116] In the committee's view, shareholder class actions are generally economically inefficient and not in the public interest
[17.117] Shareholder class actions appear to often generate excessive profits for litigation funders and lawyers at the expense of listed companies and their shareholders. The company, rather than the directors and officers, are most often the liable party in shareholder class actions. Due to the circularity problem, the unnecessarily high costs of defending the class action litigation and any settlement payments are ultimately borne by shareholders. In essence, money is being taken from one group of shareholders and passed to another to compensate the latter group for wrongdoing by directors and officers. While some individual shareholders may gain, overall shareholders are losing money, particularly long-term or passive investors.
[17.118] Shareholder class actions do not appear to be limiting agency costs in corporations. Indeed, it appears that shareholder class actions may be costing shareholders more than the problems they seek to resolve. They provide limited deterrence for corporate misconduct, because those responsible for continuous disclosure breaches do not receive timely sanctions or bear the full costs of their actions.
[17.119] Additionally, the increasing prevalence of shareholder class actions has broader undesirable outcomes on the availability and cost of D&O insurance, with consequential challenges for attracting and retaining experienced and high quality directors and officers. A culture of risk-averse decision-making across Australian boards is a further adverse outcome of shareholder class actions, with harmful long-term impacts on economic growth, job creation and investors' returns on equity."
However, whilst these sentiments are likely to be welcomed, for there to be meaningful and measureable change in this area much depends on the nature of any reforms ultimately introduced.
Licensing of Third Party Funders
Prior to the Final Report being issued on 21 December 2020, there has already been some regulatory change in Australia. From 22 August 2020 litigation funders must now hold an Australian Financial Services Licence and they are required to register and operate most actions as a managed investment scheme. Whilst this increases operational costs for funders through new compliance and reporting obligations to ASIC, it is too early to tell if this (in and of itself) will have a material impact on the funding environment.
Where to from here?
You can read the entire Final Report here. However, this is one of a number of inquiries into class actions in Australia in recent years. Most recently, the Australian Law Reform Commission (ALRC) completed a similar inquiry on 30 January 2019 (click here and here for our updates on the ALRC review). For further reading which touches on the ALRC review, the Final Report also incorporates a Minority Report by members of the current Labour opposition party in the Australian Government, which is found here. In the Minority Report, the following observations are made:
"[1.1] Over the last three years, the current Government’s approach to policy-making in relation to class actions and litigation funding has been an embarrassing shambles.
[1.7] And now, three years after the ALRC launched its inquiry into class action proceedings and third-party litigation funders, this Committee is tabling a report that largely repeats the recommendations that the ALRC made two years ago – and which the Prime Minister, the Treasurer and the Attorney-General have ignored ever since.
[1.8] If that was all the majority report did, this inquiry could be dismissed as a waste of the Parliament’s time and resources. But, alarmingly, the Government members of the Committee have gone well beyond the terms of reference of this inquiry by endorsing the Treasurer’s ill-considered and rushed ‘temporary’ changes to Australia’s continuous disclosure laws. If Liberal members of this Committee had their way, those changes would be made permanent."
No doubt the Final Report presents ripe material for heated debate once the Australian Parliament resumes sittings in 2021 after the Australian summer. The precise reforms ultimately implemented and any timing for real change remains uncertain. Until then, we expect to see continued court intervention in class action proceedings as judges grapple with the challenges presented by the current regime and funding environment.