The AWB shareholder class action lessons in continuous disclosure

Transcription

1 The AWB shareholder class action lessons in continuous disclosure By Jason Geisker, Senior Associate, Maurice Blackburn Lawyers 1 AWB shareholders alleged that the company s failure to report involvement in kickback schemes breached continuous disclosure obligations and that AWB s denials and silence amounted to misleading conduct AWB s share price declined dramatically during the Cole Inquiry Unresolved questions about assessment of loss in shareholder class actions and the complexities surrounding the case caused difficulties in calculating the value of shareholders claims against AWB It would be a difficult task to find anyone in Australia with even a passing interest in corporate governance issues who was not familiar with the kickback scandal involving AWB Limited s wheat contracts with Iraq during the time of UN sanctions and the UN Oil-For-Food Programme. AWB s misconduct has since been widely reported and is well documented in Terence Cole s report on the Inquiry into certain Australian companies in relation to the UN Oil-for-Food (OFF) Programme. It was the findings from the Cole Royal Commission that prompted shareholders to engage Maurice Blackburn to conduct a class action. Legal proceedings began in the Federal Court in 2007, following the dramatic collapse of AWB s share price. During the period between 1999 and 2003 AWB paid several hundred million dollars in kickback fees, which were received by the former Saddam Hussein regime in Iraq. These payments were contrary to UN sanctions imposed on Iraq. The repercussions of AWB s actions were enormous and placed Australia in breach of its international obligations. It has been said that AWB s participation in the kickback scheme now represents one of the largest corruption scandals in Australian corporate history. In the prologue of his report published in November 2006, Commissioner Cole stated: The consequences of AWB s actions, however, have been immense. AWB has lost its reputation. The Federal Court has found that a transaction was deliberately and dishonestly structured by AWB so as to misrepresent the true nature and purpose of the trucking fees and to work a trickery on the United Nations. Shareholders have lost half the value of their investment. Trade with Iraq worth more than A$500 million per annum has been forfeited. Many senior executives have resigned, their positions being untenable. Some entities will not deal with the company. Some wheat farmers do so unwillingly but are, at present, compelled by law to do so. AWB is threatened by law suits both in Australia and overseas. There are potential further restrictions on AWB s trade overseas. And AWB has cast a shadow over Australia s reputation in international trade. Following the release of the Cole Report, Maurice Blackburn filed a representative proceeding in the Federal Court of Australia in April 2007 against AWB Ltd on behalf of John and Kaye Watson and another 454 AWB shareholder claimants. IMF (Australia) Ltd funded the costs of the litigation and provided security for any adverse costs orders made in favour of AWB in the proceeding. Over 1,200 additional AWB shareholder claimants subsequently applied to join the action during the course of the litigation. In light of the detailed findings made by Commissioner Cole it may be surprising to some to learn that AWB chose to vigorously defend 2 the shareholder class action. Between 2007 and the end of 2009, more than 70 interlocutory applications and directions hearings were brought before the Federal Court. In April this year the court granted settlement 402 Keeping good companies August 2010

2 approval of the shareholder class action following AWB s agreement in February to make a payment of $39.5 million including costs. In gaining settlement approval some may argue that an important opportunity for judicial determination of the law in relation to causation and loss assessment in shareholder class actions has been lost. So what prevented the AWB shareholder class action trial from continuing and proceeding to final judgment? The shareholders case The subject matter of the shareholder claims arose out of AWB s wheat exports to Iraq under the UN Oil-for-Food Programme between 1999 and The UN OFF Programme was established in by the UN Security Council in response to the dramatic human impact that trade sanctions were having on Iraqi citizens. The UN OFF Programme provided certain exemptions to sanctions to allow delivery of humanitarian supplies, such as medicine and food. 4 The UN sanctions prohibited funds from being made available to Iraq. The resolutions obliged all nation states to ensure that their nationals adhere to the terms of the sanctions. 5 Australia was obliged to prevent its nationals from contravening these resolutions. One way it did so was by way of amendments to the Customs (Prohibited Exports) Regulations 1958, which provided that all exports from Australia to Iraq were prohibited without permission of the relevant Minister. Such permission could only be granted if the Minister was satisfied that the export did not place Australia in breach of its obligations under the UN resolutions. Between 1999 and 2002, AWB inflated the price of 20 of its wheat export contracts with Iraq by including provision for so called transportation fees and handling fees. AWB obtained funds in payment of the wheat export contracts from the UN escrow account, including the so-called transportation fees and handling fees. AWB then paid these fees to a front company and Iraq conduits thereby enabling Iraq to obtain funds, in breach of UN sanctions. Between 1999 and 2003, AWB paid more than US$200 million to Iraq as part of these covert arrangements. AWB also placed Australia in contravention of UN sanctions by further inflating some wheat export contracts to recover an alleged debt owed by the Iraqi regime to BHP, which had since been assigned to a company known as Tigris Petroleum. The shareholder case against AWB asserted that the company was aware of this information, and that any reasonable person who commonly invests in securities would have expected this information to have a material effect on the price or value of AWB securities. 6 It was said that AWB s continuing failure to disclose this information resulted in an inflated market price for AWB shares. Consequently AWB securities were purchased by claimants at a higher price than the true value of those securities. Shareholders argued this information was material because such activities: called into question AWB s corporate reputation and investor confidence in its corporate governance put at risk AWB s dominant share of the valuable Iraqi wheat export market and created a significantly increased risk that the statutory regime providing for the single desk system and with it, AWB s virtual monopoly on bulk wheat exports, would be reviewed and modified by the Federal Government to the detriment of AWB. Misleading conduct Shareholders also alleged that AWB had also contravened the misleading conduct provisions of the Corporations Act 2001, Australian Securities and Investments Commission Act 2001 (ASIC Act) and Trade Practices Act 1974 (TPA) by making various express representations in its annual reports and in other ASX and media releases to the effect that its business affairs were being conducted legally, ethically, in accordance with the highest standards of integrity and propriety and that AWB had been totally transparent and acted above board in relation to its contracts with Iraq executed through the UN OFF Programme. It was further alleged that, by the company s silence, AWB also made implied representations to shareholders that the company was complying with its continuous disclosure obligations. Shareholders said that AWB had thereby caused loss or damage to them by reason of or resulting from this conduct. Awareness Part of the breach of continuous disclosure obligations case against AWB required shareholders to establish that AWB was aware of the information not disclosed. Awareness is a term defined in the ASX Listing Rules and requires that a director or executive officer has or ought reasonably to have come into possession of the information in the course of their duties as a director or executive officer of that entity. 7 On the eve of the trial, AWB admitted that it was aware that it had made the so called fee payments to Iraq, but argued that such payments were not contrary to UN sanctions. Shareholders alleged that there was ample evidence to establish that senior executives of AWB were aware that payment of the so-called fees was likely to be in contravention of UN sanctions and that AWB had taken positive steps to prevent this information from being disclosed, even in circumstances where direct inquiries were made of AWB. 8 Defences AWB asserted various other defences in answer to the shareholders claims: Australian courts had no jurisdiction to hear significant aspects of the shareholders claims because they were said to involve matters of state, which the court was not permitted to adjudicate on the information was not material, in the sense that it would not be expected by a reasonable person who commonly invests in securities to have 403

3 a material effect on the price or value of AWB securities the company s constitution purported to waive claims by shareholders the information had allegedly already been made public, primarily via a series of media publications of rumours of AWB s alleged involvement in kickbacks to Iraq and by the findings of a UN inquiry in Shareholders argued that the information regarding the extent of AWB s dealings with Iraq was not public information and would have been likely to influence people who commonly invest in securities in deciding whether to acquire or dispose of AWB securities. This conclusion was said to be supported by the dramatic decline in the market price of AWB securities from 16 January 2006 depicted in Figure 1, 9 being the date the Cole Inquiry hearings commenced. It was said that the materiality element of s 674 of the Corporations Act made it clear that the subject and purpose of the provision is to ensure that the market has all the information about a company that it requires to determine the price or value of its securities. That purpose is given effect by Figure 1: AWB Limited daily closing price and trading volume annotated with major events January 2006: Start of public hearing of the Cole Inquiry - 24 November 2006: Submission of Cole Report to the Governor General 12,000 10, November 2006: Public release of the Cole Report 8,000 Closing price ($) October 2005: Release of the Volcker Report 12 May 2006: The Cole Inquiry adjourns 22 August 2006: The Cole Inquiry resumes hearing 6,000 4,000 Volume (thousands) , Oct Oct Oct Nov Nov Dec Dec 05 9 Jan Jan 06 6 Feb Feb 06 6 Mar Mar 06 3 Apr Apr 06 1 May May May Jun Jun 06 1 Jul Jul 06 7 Aug Aug 06 4 Sep Sep 06 2 Oct Oct Oct Nov Nov 06 AWB Trading volume AWB Closing price S&P/ASX 200 index 404 Keeping good companies August 2010

4 considering the impact of the contravention on the market through its collective pricing of AWB securities following revelation of AWB s conduct with Iraq. Assessing loss AWB shareholders sought statutory compensation for their losses. Importantly in the context of shareholder actions for breach of continuous disclosure obligations, the measure of loss under each of the statutory provisions relied on 10 was said to be at least the difference between the price paid for the AWB securities and the real value of the AWB securities at the time of purchase had all the information been known to the market. This measure is adopted from what is known as the rule in Potts v Miller 11 that was explained by Gibbs CJ in Gould v Vaggelas (1985) 157 CLR It is well established that in an action where the plaintiff has been induced by the fraudulent misrepresentation of the defendant to enter into a contract of purchase, the measure of damages usually applicable is the difference between the real value of the property at the time of the purchase and what the plaintiff paid for it: Events that happen after the time of the purchase may throw light on the real value of the property at that time: Where the property has depreciated in value after the purchase, and the depreciation was due to some cause inherent in the property itself, the depreciation must be considered in determining the real value of the property at the relevant time, but where the cause of the depreciation was independent, extrinsic, supervening or accidental, the additional loss is not the consequence of the inducement and it should not be taken into account in arriving at the value of the property at the time of the purchase However, the rule in Potts v Miller is by no means an exclusive method of measuring shareholder loss. Other legal principles relating to the assessment of loss may also apply. 13 These principles include that: the fundamental rule is that the plaintiff should be compensated the rule in Potts v Miller is a second order rule and is only a means of giving effect to the overriding compensatory rule one advantage of the rule in Potts v Miller is that it avoids difficult questions of causation that might otherwise arise if the actual receipt on realisation is treated as being the value obtained, because in the period between the transaction date and the date of resale other factors may have influenced the value or resale price of the asset other approaches to the assessment of damages, so long as they work no injustice, may be appropriate the rule in Potts v Miller will normally not apply where either the misrepresentation has continued after the date of acquisition so as to induce the plaintiff to retain the asset or the circumstances of the case are such that the plaintiff is, by reason of the fraud, locked into the property and there can be circumstances in which it is proper to require a plaintiff only to bring into account the actual proceeds of the asset provided that he has acted reasonably in retaining it. In such circumstances the loss is the purchase price less whatever is left in hand. Consequently, there are no rigid rules about the approach to assessing damages in shareholder claims alleging a breach of the continuous disclosure obligations. Although the predominant view is that the measure of damages applicable will usually be the difference between the true value of the securities at the time of purchase and the actual price paid, in some circumstances this will not be the case and the left in hand approach may be more appropriate. Issues on settlement Shareholders argued that: proof of individual shareholder reliance on the company s misconduct is not a necessary element required by the legislation the causal link between the contraventions by AWB and damage to shareholders was established by proving that shares in AWB traded at prices higher than they would have had the contraventions not occurred compensation should be measured by reference to a methodology that is consistent with the overriding compensatory principle and the purpose, objects and wording of the continuous disclosure regime. The question of causation and damage raised some particularly complex issues specific to the AWB action. For instance, information or corrective disclosures regarding AWB s misconduct were said to ultimately be made public via the Cole Inquiry, which proceeded over an extended period. However, AWB argued that proof of individual reliance by shareholders was required. It was recognised there are cogent arguments for different approaches to measurement of loss in these types of shareholder class actions. Additionally, the question of causation and damage raised some particularly complex issues specific to the AWB action. For instance, information or corrective disclosures regarding AWB s misconduct were said to ultimately be made public via the Cole Inquiry, which proceeded over an extended period. Rather than AWB providing a single and comprehensive corrective disclosure to ASX, information was said to have been gradually made public via a series of submissions, addresses and evidence made public during the course of the Cole Inquiry. The manner in which this information ultimately became publicly available compounded the difficulties in measuring causally connected loss arising from AWB s conduct. Conclusion The AWB case presented one of the first opportunities for judicial determination of many unresolved legal issues pertinent to shareholder class actions since the settlement of the Aristocrat matter in That being so, it was highly likely that any decision would have been subject to appeal, regardless of the initial 405

5 decision, resulting in significant additional legal costs and delays in recovering compensation for shareholders. These uncertainties contributed to the parties desire to resolve claims on acceptable terms in the interests of all group members. On 27 April 2010 Foster J approved a proposed settlement agreement reached in February during the course of the trial, whereby AWB agreed to pay $39.5 million inclusive of legal costs in resolution of the shareholder class action. It can be expected that considerations of cost and delay will continue to factor in the prevalence of shareholder class action settlements. These considerations, coupled with uncertainties regarding loss assessment, demand that real efforts be made to achieve a commercial and timely resolution of such claims. Only where a settlement cannot be reached will the courts then have the opportunity to clarify the correct approach to the assessment of loss in the context of shareholder class actions in Australia. Jason Geisker can be contacted on (02) or by at JGeisker@ mauriceblackburn.com.au. Notes 1 The author and Ben Slade, Managing Principal of Maurice Blackburn, conducted the AWB class action on behalf of shareholders in the Federal Court of Australia in Sydney, proceeding NSD 2020 of AWB Ltd, 2007, Annual Report, p United Nations Security Council Resolution The combined effect of UNSC Resolutions 661 and Charter of the United Nations Act 1945 ss 4, 5 and schedule articles 25, 39, 41, 48 and 49 6 s 674(2) of the Corporations Act See ASX Listing Rule 19. Listing Rule 3.1 contains the continuous disclosure requirement, namely once an entity is or becomes aware of any information. Aware is defined in Listing Rule as applying to a director or executive officer 8 See, for example, AWB s response to the Canadian Complaint in January / March 2000, its response to the US Wheat Associates complaint on 6 June 2003 and its public announcements to the ASX on 27 and 28 October 2005 in respect of the IIC Report 9 The author acknowledges and thanks Dr F Dunbar of NERA Economic Consulting for preparation of the chart 10 ss 1317HA and 1041I of the Corporations Act, s 12GF of the ASIC Act and s 82 of the TPA 11 (1940) 64 CLR At pp See HTW Valuers (Central QLD) Pty Ltd v Astonland Pty Ltd (2004) 217 CLR 640 and Smith New Court Securities Ltd v Citibank NA [1997] AC 254 (quoted with approval in HTW Valuers) 14 See Dorojay Pty Ltd v Aristocrat Leisure Ltd (Federal Court of Australia, NSD 362/2004), which settled following initial trial but prior to judgment being delivered by Stone J. 406 Keeping good companies August 2010