- Prospectuses - Same answer - wrong method - expert liable on prospectus
- Directors' duties - The 'responsibilities' of company officers
- Inspection of company books - Unrestricted access to documents
Same answer - wrong method - expert liable on prospectus
Reiffel v ACN 075 839 226 Ltd (Federal Court, 14 March 2003, [2003] FCA 194)
Liability of independent expert report in prospectus in the form of negative assurances as to financial forecasts - whether misleading and deceptive under Australian Securities & Investments Commission Act 1989 (Cth) s 12DA or former Corporations Law s 995- whether caused loss - whether ought be excused pursuant to s 1318.
A recent Federal Court case dealing with the liability of independent experts who provide reports in a prospectus has put the issue of prospective financial information in prospectuses squarely in the line of fire. Carefully crafted negative assurance wording in a report will not excuse the expert if the cumulative effect of the report, read as a whole, is misleading or deceptive.
Pannell Kerr Forster Consulting Australia (PKFCA), was appointed as an independent expert to report on certain financial information and assumptions contained in a prospectus for a hotel apartment scheme. This scheme allowed participating owners of the apartments to let their furnished apartments for short, medium or long term periods. The objective of the scheme was to treat all the participating apartments as a single business, and to pool all revenue and expenses generated by the operation of the business among the participants.
The prospectus contained a report by PKFCA setting out its opinion in relation to amounts contained in the section on 'Financial Projections'. The scheme was not a success. A class action was instituted against PKFCA. The Federal Court agreed with the applicants' claims and found PKFCA liable for misleading and deceptive statements made in a prospectus under s 52 of the Trade Practices Act and (former) s 995(2) of the Corporations Law.
A number of interesting features emerge from the judgment of Gyles J. The judgment has major implications for those involved in the preparation of disclosure documents, such as accountants, industry consultants, underwriters and lawyers, and for the wider corporate disclosure environment, including statements made under the continuous disclosure regime, annual reports and takeover documents..
Key points for experts
Where an expert or professional issues a report which appears in a public document such as a prospectus (or is quoted in such a document), this case (the Reiffel Case) supports the following propositions:
- The expert is impliedly representing it has used a
reasonable degree of professional skill and care (but
is not guaranteeing that the opinion it expresses will prove to be
correct).
It is therefore crucial for the expert to keep well organised files to show the quality of the job which has been done. In this case the court did not find the expert liable for failing to use such skill and care.
- Courts will seek to give limited effect to
any carefully crafted qualifications or formulations in the expert
report such as negative assurance wording. PKFCA's report
utilised a common form of negative assurance, typified by the following
expression: 'On the basis of our review and subject to the comments in
this report, nothing has come to our attention ...'. The
judge noted that liability for misleading and deceptive conduct is about the
effect of the conduct on the recipient, ie the cumulative
effect of the document read as a whole.
Investors drawn from the general public are less able to discern fine distinctions. For example, they may be less able to understand the nuances of negative assurances than, say, a board of directors receiving a due diligence report. It is therefore crucial for the expert to consider what impression the expert is giving.
- The report should deal with what actually
happens in the course of the expert review. It should not be a mere
pro forma opinion. In the Reiffel Case, the expert did not agree
with the methodology
used to derive the forecasts, but the expert agreed with the forecast numbers
(based on a different methodology).
The expert's expression of opinion, without disclosing the disagreement regarding the correct methodology, was the key conduct found to be misleading. The judge considered this point to be an important factor, particularly having regard to the fact that the forecasts were produced by a promoter of the offering.
In short, the judge thought it was misleading of the expert not to tell the investors that he disagreed with the methodology used by the promoter. The evidence of the disagreement was given by the expert himself, probably to show that he took his job seriously and did not accept blindly everything he was told. It was ultimately treated as evidence of misleading conduct.
- Sensitivity analyses must have some rational
basis and not be mere arithmetic calculations. In this case the judge
found that the promoters intended to, and did, convey the impression that the
upper and lower variations were reasonable estimates of best and worst cases,
compared to the most likely result.
The opinion given by the expert on the sensitivity analysis was not given in the form of a negative assurance. This may have been a drafting mistake but the judge had regard to this fact in finding the expert liable in relation to the sensitivity analysis. The expert admitted that the sensitivity analyses were merely arithmetical (ie, what if occupancy were 5% higher or lower).
Therefore, the expert was found liable on the basis that he had failed to do that which he had impliedly represented he would do - a skilful and careful analysis. He admitted he did not turn his mind to the real issue here, being (in the judge's view) whether the upper and lower variations were reasonable estimates of best and worst cases.
If you are interested in a more detailed discussion of the arguments raised in the Reiffel case and impacts for those involved in report preparation for a prospectus, see Focus: Capital Markets - April 2003.
The 'responsibilities' of company officers
ASIC v Rich (Equity Division, Supreme Court, NSW, 24 February 2003, [2003] NSWSC 85)
Statutory duty of care - meaning of 'the same responsibilities within the corporation' - determining 'contemporary community expectations' by reference to accepted practice of officers occupying comparable positions within companies in similar circumstances - strike out motion - Corporations Law s180(1)(b).
In refusing an application to strike out proceedings commenced by ASIC against a non-executive chairman for an alleged breach of director's duty, the Court accepted an argument that the responsibilities of a particular director, such as a chairman, may result in additional legal duties. In considering the 'responsibilities' approach in determining a director's duties, the Court considered a standard of care that reflected contemporary community expectations.
ASIC commenced civil proceedings against John Greaves, former non-executive chairman (and chair of the Finance and Audit Committee (FAC)) of failed telco One.Tel, and three other officers. ASIC claimed that Greaves had special responsibilities or extra duties beyond those of other non-executive directors by virtue of his:
-
positions as chair of the board and FAC; and
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high qualifications, experience and expertise relative to other directors.
Mr Greaves, in turn, filed a motion seeking to strike out ASIC's proceedings against him on the basis that the special responsibilities or extra duties that ASIC contended he was subject to were not recognised at law, and therefore there was no reasonable cause of action disclosed by the ASIC claim.
Held: Austin J accepted that, taken as a whole, ASIC's statement of claim provided a reasonably arguable case that Greaves had the special responsibilities alleged by ASIC by reason of the offices and positions held by him, the particular circumstances then pertaining to the One.Tel Group, and his own qualifications, experience and expertise relative to the other directors.
Meaning of 'responsibilities' in s 180(1)
Austin J accepted ASIC's approach of establishing the factual content of Greaves' responsibilities by reliance on expert opinion provided by two prominent chairmen of Australian listed public companies and reference to relevant academic and technical literature. In accepting the relevance of that evidence, His Honour acknowledged that it may seem harsh that Greaves may be subject to responsibilities and, ultimately legal duties never before set out in statute or by judicial decision. However, Austin J justified his conclusion on the basis that the Court is required to articulate and apply a standard of care that reflects contemporary community expectations.
In preferring ASIC's submission, Austin J rejected Greaves' contention that 'responsibilities' referred to the specific tasks delegated to the director of the corporation under the constitution, by resolution or otherwise.
Ramifications for Chairs and other officers
This was only a strike out decision and it remains to be seen if the direction taken by Austin J will be adopted in the final determination of this action. If it is it will represent a landmark in the determination of the content of duties owed by company officers.
Individual officers of a company will have different responsibilities from each other and the duty owed may change:
- as a function of their position, qualifications, experience and expertise - both as an absolute and relative to other officers; and
- as company's circumstances change - particularly resulting from an adverse change in the company's circumstances.
In particular the way would be open for chairs of a company and members of specific committees (especially audit) to have higher levels of responsibility than other directors and officers.
The future
What is clear is that all company officers are under increasing scrutiny and there is an expectation of increased responsibilities.
Until there is a determinative judicial pronouncement on the responsibilities of company officers, company officers are well advised to consider their individual position in light of the above decision and in the context of contemporary practice, standards and publications, their particular expertise and experience (and that of the company's other officers) and the company's circumstances.
Interestingly, Austin J appeared to take comfort from the recent UK Higgs Report which contains some emphatic statements which appear to reinforce ASIC's evidence. Accordingly, not only should affected officers familiarise themselves with the recently published guidelines from the ASX Corporate Governance Council but should also stay abreast with developments in the USA and UK.
For more, see a detailed analysis of the ASIC v Rich decision.
Unrestricted access to documents
Caveat Pty Ltd v Baillie & Ors (Supreme Court, WA, 21 October 2002, [2002] WASC 241)
Scope of order allowing inspection of company books, Corporations Act, s 247A, s 247B, s 247C.
A member who has been granted an order to inspect a company's books has a general right of inspection which is not limited to those matters that may be in dispute in proceedings between the member and the company.
This decision primarily concerned the scope of orders for inspection of company books under section 247A of the Corporations Act 2001 (Cth). The plaintiff, Caveat Pty Ltd (Caveat) sought to inspect the books of Majestic Resources NL (Majestic). However Majestic was prepared only to give inspection of documents related to the matters put in issue by Caveat in its application and not all the company's books.
Scope of section 247A
The Court rejected Majestic's argument for restricting the scope of inspection. The Court could see no basis for limiting the scope of the inspection once an order is made under the provisions of s 247A(1)(a) of the Corporations Act. Master Sanderson stated that once an order is obtained, it reflects a general right to inspect. The company also has no right to restrict in any way Caveat's access to its books.
The Court also held that there is nothing in s 247A itself which would restrict the right of Caveat to inspect documents, even if they were confidential. Master Sanderson stated that once an order to inspect is made, the plaintiff, to all intents and purposes, is placed in the same position as the company's directors, this being the necessary result of the unrestricted access to the books anticipated by s 247A.
Master Sanderson held that in circumstances where the inspecting member seeks access to documents that are not in the company's possession, s 247A does not require the company to take positive steps to obtain the documents, even though the company might otherwise be entitled to them. In this respect, there is a clear distinction to be drawn between a right to inspect under s 247A and an obligation on a party giving discovery.
The Court described s 247A as 'passive'; that is, a company was only required to give or facilitate inspection. It was not required to gather all the books in one place convenient to the person seeking inspection.
