- Insider trading - Informationis observable even if no one observed it
- Managed Investment Schemes - Other peoples' money - no happy ending here
- Share allotment - Measuring loss to the issuer
- National Guarantee Fund - Assigning rights to third party - claims may be rejected by Fund
Insider trading
Information is observable even if no one observed it
R v Kenneth John Firns (Court of Criminal Appeal, NSW, 21 May 2001, [2001] NSWCCA 191)
Insider Trading - when is information generally available - meaning of "readily observable" - is the reading of a judgment in the court of another jurisdiction "readily observable" - Corporations Law ss1002G and 1002B
This matter involved an action for insider trading against Mr Firns who was the son of the executive director of Carpenter Pacific Resources NL (CPR), an Australian company listed on ASX. CPR held exploration licences in Papua New Guinea through its wholly owned subsidiaries. One of CPR's companies in PNG, Matu was granted an exploration licence over a large area thought to contain gold. Within this large area was a smaller area which was the subject of a special mining lease held by an unrelated company, Kare Puga.
Sometime in 1993, the PNG government by regulation added hard rock rights to the rights granted to this unrelated company. The effect was to remove the right to explore for gold in the area covered by Kare Puga's mining lease. Matu challenged the validity of the regulation and the matter went on appeal to the Supreme Court of PNG. Judgment declaring the regulation invalid was handed down by the Supreme Court at 9.30am on 28 July. The judgment was read in open court.
The chairman of CPR informed Mr Firns' father (executive director of CPR) of the decision. Mr Firns' father relayed the information to Mr Firns and sometime before 10.27am the same day, Mr Firns placed 2 purchase orders with a stockbroker. The first was to purchase 400,000 CPR shares in favour of his wife using a pseudonym of "Ken Wiggins" (a name never used before by Mr Firns). The other was to purchase 338,000 CPR shares in favour of a friend, again identifying himself as "Ken Wiggins". The shares were purchased at a price of 3 cents per share. The information about the successful appeal was only released to ASX on the following business day. The CPR parcels were sold at prices between 9 to 12 cents per share.
Proceedings were commenced against Mr Firns for insider trading. It was argued by the Crown that the information on the PNG decision was information not generally available until after ASX was first notified. It is important to note that newspaper reports of the PNG decision appeared a couple of days later. It was argued by Mr Firns that the PNG judgment was generally available as it was "readily observable" despite the fact that it was not made known in Australia until the disclosure to ASX.
Held: The majority of the Court of Criminal Appeal (Mason P and Hidden J) held that the PNG judgment was accessible to the public ie, to those present that day in court. Therefore it was information that was readily observable even if no one in fact observed it. Although s1002B does not define what is "readily observable matter", their Honours were of the view that it could not be confined to what is readily observable to existing Australian shareholders or existing traders of shares on ASX since as a practical matter, traders of shares on ASX are not confined to Australians. Furthermore, it does not matter how many people actually observe the relevant information. The majority also examined the raison d'etre for the prohibition against insider trading and were of the view that the market fairness/ equal access paradigm could not be invoked as the sole basis for interpreting this offence.
In dissent, Carruthers AJ held that the phrase "readily observable matter" cannot operate in a vacuum but is related to the question of the relevant person or group that is conducting the observation. According to Carruthers AJ, if the matter is readily observable to the public, the public should include the Australian public as the provisions in the Corporations Law were designed to ensure equal access to information by investors. The phrase "readily observable material" had to be distinguished from "readily available material". Material may be readily available but not observable. The object of the provision was not to require members of the public to meticulously search for information likely to have an effect on the price or value of the securities of a listed entity.
(Eds: The Firns decision has been the subject of consideration by CASAC in its recently released discussion paper on insider trading laws. See our summary on issues highlighted in the paper.)
Managed Investment Schemes
Other peoples' money - no happy ending here
ASIC v Hutchings (Supreme Court, NSW, Windeyer J, 22 June 2001, [2001] NSWSC 522)
Partners borrowed money from individuals at a fixed rate of interest and pooling this money to invest - whether Managed Investment Scheme - invested in futures market on behalf of other clients - whether partners carrying on a securities business - whether carrying on an investment advice business - whether banning order under s206E should be made - Corporations Law ss9, 25, 206E, 601ED, 780
Mr Hutchings and Mr Tindall operated a partnership known as Hutchings and Tindall. The principal business of the partnership was to borrow money from members of the public in return for which, an "investor" was promised a high rate of return in the form of interest of around 30%-50% per annum on their "investment".
The business went belly up with a sum of approximately $29 million owing to loan investors. The funds collected from the loan investors were to be pooled and "invested on the stock exchange". No proper books and records were kept of moneys received and invested. The moneys received from "loan investors" were collected together under loans identified by letters such as "Loan E". ASIC sought declarations that both Hutchings and Tindall were conducting an unregistered Managed Investment Scheme and were carrying on or holding themselves out as carrying on a securities business without a licence. ASIC also sought the winding up of the scheme and banning orders against the defendants.
Held: Windeyer J concluded that Hutchings and Tindall were carrying on a Managed Investment Scheme that should have been registered. First, investors were told that their contributions would be pooled and used for a common purpose which would provide financial benefits not otherwise available. Secondly, the investors had no control over the operation of the scheme. They only had the right to receive interest and their principal. Finally, it was clear that the investors contributed money as consideration to acquire rights to the benefits produced by the scheme. Justice Windeyer also found that both Hutchings and Tindall were carrying out a securities and investment advice business without a licence in that they were conducting a Managed Investment Scheme and advising loan clients that they should invest in the scheme.
The Court also ordered that the scheme be wound up. As to the banning order, Windeyer J proposed that, given the magnitude of the deficiency in investors funds, the appropriate course was to make a disqualification order for life against Hutchings and Tindall with a right to apply on 3 months' notice after 5 years for variation of such order. However he delayed making the order for 14 days to allow that parties time to re-list the matter if they wished to have the order varied.
Share allotment
Measuring loss to the issuer
Pilmer v The Duke Group Limited (in liq) (High Court of Australia, 31 May 2001, [2001] HCA 31)
(Eds: The High Court dealt with issues relating to fiduciary duties of accountants, calculation of damages in an action for breach of contract and capital maintenance amongst others. This article concentrates on capital maintenance issues and the measure of loss (if any) suffered by the company in making the allotment).
Share capital - maintenance of capital - issue of new shares by company - issue and allotment otherwise than for cash - whether company suffers loss as a result of issuing new shares - ASX Listing Rules, Listing Rule 3J(3)
This case involved an appeal by Nelson Wheeler (accountants) against the measure of damages awarded to The Duke Group (formerly known as Kia Ora Gold Corp NL) (Kia Ora) for the losses arising from a share allotment which formed part of the consideration for the takeover bid for Western United.
In 1987 Kia Ora made a cash and scrip bid for Western United. It paid $25.696 million and issued and allotted 67.9 million $1 shares in Kia Ora to Western United shareholders. In making the bid, Kia Ora relied upon a report prepared by Nelson Wheeler advising Kia Ora shareholders as to whether the price offered by Kia Ora for shares in Western United was fair and reasonable pursuant to Listing Rule 3J(3). As events unfolded it became apparent that the Western United shares had been considerably overvalued in the report.
In proceedings against Nelson Wheeler (and the Kia Ora directors) the trial judge found that the directors and Nelson Wheeler (Nelson Wheeler conceded that it had breached its duty of care) were in breach of their fiduciary and statutory duties and awarded damages in favour of Kia Ora. The quantum of damages included an amount for the cash paid out to Western United shareholders and a further amount of $30.55 million for losses resulting from the allotment of shares. This sum was determined on the basis of the market price of the shares allotted by Kia Ora after the new issue had been made.
On appeal to the Full Court of the Supreme Court of South Australia, the Full Court held that the trial judge had erred in calculating the value of the shares allotted and that the amount should have been calculated by reference to the value of the Kia Ora shares before the issue of the new shares. It awarded a sum of $56 million for loss suffered by Kia Ora in allotting the shares pursuant to the takeover.
On appeal to the High Court the appellants argued that the Full Court was in error in allowing any sum for the value of the shares which Kia Ora had issued and allotted. Kia Ora submitted that the shares that it issued were issued fully paid with a value of $1.10 per share attributed to them as a result of the incorrect valuation of Nelson Wheeler. The value was lost because of Nelson Wheeler's breach of duty.
The question for the Court was whether Kia Ora suffered any loss by the issue and allotment of shares to those who accepted its takeover offer for Western United in return for their shares in the company (given that the value ascribed to the Western United shares at the time of the takeover bid was not in reality their correct value). In considering this question the Court initially considered whether the nature of the allotment in question could be reviewed under maintenance of capital requirements.
Held: The majority of the High Court (McHugh, Gummow, Hayne and Callinan JJ) held that the Full Court erred in awarding damages by taking into account the value of the Kia Ora shares that had been allotted for the purposes of the takeover.
Maintenance of capital
The Court found that, upon application of established principles, it could not be said that the allotment of shares by Kia Ora for a consideration that overvalued the worth of the consideration for the allotment (ie, shares in Western United) infringed the rules relating to the maintenance of capital. There was no attempt to issue shares at a discount. Unless there was clear evidence of fraud or misfeasance Courts will not go behind the face of the contract to inquire into the adequacy of the consideration. On the evidence there was nothing to suggest that the shareholders of Western United (excluding some related parties) knew or suspected other than what was being offered by Kia Ora was a fair and reasonable price for their shareholding.
What, then, did Kia Ora lose by issuing and allotting the shares which it did?
The majority held that it was necessary to firstly distinguish between the "value" of the issued shares to Kia Ora against the "value" to the shareholders of Kia Ora. The shares once issued and allotted were of value to the holder and could be freely traded. In contrast, Kia Ora could not turn the issued and allotted shares to any commercial account for its benefit as it was prohibited from trading in its own shares.
As a consequence, it was wrong to attribute to the shares issued the sum that Kia Ora would have received from a willing buyer of its issued shares in trading on the ASX. It followed that in this sense, Kia Ora did not suffer a loss. The majority decided that Kia Ora should be awarded damages that would, as far as possible, put Kia Ora into the position that Kia Ora would have been in if Nelson Wheeler had prepared the report competently and not in the position it would have been in if the advice about Western United's share value had been true.
Had Nelson Wheeler conducted a proper valuation of the value of Western United Ltd, Kia Ora would not have proceeded with the takeover. So what did Kia Ora give up or lose by issuing the shares?. The answer to this inquiry was the Kia Ora outlaid cash and whatever may have been the administrative costs of issuing the shares. The Court observed that:
"If a claim had been made, it may well be that some allowance would be made for the consequential effect on its capacity to raise other equity or debt finance. Otherwise, however, it gave up, or lost nothing by the issue of its shares". (at para 64)
Kirby J in dissent was of the view that the Full Court erred in the calculation of Kia Ora's compensation only to the extent that it restricted the amount of the interest awarded to Kia Ora. Since Kirby J found that there had been a breach of fiduciary duties by the appellants to Kia Ora, the principles of equitable relief applied. His Honour was of the view that a court is entitled to act on the accounting evidence that showed the true loss of Kia Ora as being the difference between the valuable consideration given by Kia Ora and the true value of Western United Ltd when it was acquired. Kirby J was of the view that other than the limitation on the amount of interest payable, the Full Court was correct to include the value of the Kia Ora shares before its issue for the purposes of the takeover.
National Guarantee Fund
Assigning rights to third party - claims may be rejected by Fund
Securities Exchanges Guarantee Corporation Ltd v Aird (Supreme Court, NSW, Bergin J, 30 May 2001, [2001] NSWSC 379)
National Guarantee Fund - entitlement to make a claim on the Fund - can the Board of Securities Exchange Guarantee Corporation take into account payments to a claimant by a third party when a claim is lodged before it - statutory right of subrogation of Securities Exchange Guarantee Corporation - Corporations Law ss957, 980(2) and Divisions 7 & 9, Part 7.10
197 investors sought compensation from the National Guarantee Fund (the Fund) maintained by the Securities Exchange Guarantee Corporation (SEGC) in respect of the conduct of certain representatives of a stockbroker, Thompson Brindal Limited (Brindal). The claims arose after Brindal had effected unauthorised dealings of certain securities which caused these investors to suffer losses.
RetireInvest Corporation Ltd (RCL) and its subsidiary RetireInvest Pty Limited (RPL) decided to pay the investors an amount for their loss, such amount being determined by RCL as the loss that was suffered by the investors as a result of such unauthorised dealings in the securities of the investors. In return for payment, each investor had to assign its rights in any chose in action that the investor may have against Brindal and grant a power of attorney appointing RCL to exercise any powers of the investor in relation to the assigned choses in action. In addition, RCL was also subrogated to the rights, powers and remedies of the investor in connection with the unauthorised dealing.
Subsequently, RCL lodged the claims with SEGC. SEGC sought a declaration that the Board of SEGC could take into account the fact that the investors were no longer entitled to make a claim on the Fund as each had been fully compensated in respect of the loss allegedly suffered. Additionally it was argued by SEGC that the assignment by investors made SEGC's statutory right of subrogation worthless.
SEGC argued that the investors were not entitled to make a claim on the Fund as they had been fully compensated by the payment from RCL and that a claimant must have suffered loss at the time the claim was made under s957 and continue to suffer loss until the Board of SEGC had rendered its decision pursuant to s960. SEGC contended that the payment from RCL was not simply consideration for the assignment of their rights against Brindal and other potential defendants but in fact represented the entirety of the compensation that the investors would be receiving from the wrongdoers as compensation for the unauthorised dealings. In response, RCL claimed that the payments by RCL were collateral payments and should not be taken into account by the Board of SEGC in assessing whether the investors were entitled to make their claims. Furthermore, even if the payments were taken into account, it was contended that the Board of SEGC could not conclude that the investors did not presently suffer loss within the meaning of s957. The assignments were not offered as a compromise of any claims and did not require the investors to release any claims they may have on the Fund.
Held: The court held that the payments from RCL were not collateral payments as they were intended to put the investors back to the position prior to the unauthorised dealings. Bergin J declined to make the declaration sought as the statutory requirements under the Corporations Law (the Law) required the Board of SEGC to make its own assessment of the entitlement of the investors to make the claim. This was so because of the method used by RCL to "compensate" the investors differed markedly from that under the Law.
In relation to the argument that the assignment had rendered worthless SEGC's statutory right of subrogation the court noted that the policy rationale for the conferral of a right of statutory subrogation on the SEGC was to ensure that the Fund had sources of replenishment and to keep levies upon members at a reasonable level. In order to avoid any contractual assignment to third parties, there had to be express provision disentitling a claimant who had assigned his or her rights to a third party from receiving compensation. None was evident from the wording of s980(2). This interpretation was also supported by the fact that the legislature had envisaged that there may be situations where the Fund may not be able to recover from the parties responsible for the claimants' losses. This can be seen from the provisions which enable SEGC to insure against losses in respect of claims made on the Fund. The assignment did not make the SEGC's statutory right of subrogation ineffective.
