The federal government has recently announced a range of measures to deal with the criticisms surrounding the litigation funding and class action regimes in Australia.
Two weeks ago, it gave the green light for a parliamentary inquiry (first foreshadowed in December 2019) to proceed. Last week, it determined that litigation funders should be subject to scrutiny by ASIC in requiring them to hold an Australian Financial Services Licence (AFSL) and, if necessary, comply with managed investment scheme rules.
Additionally, this week, the government has provided company directors and executives with a six-month reprieve, with adjustments to the continuous disclosure obligations under the Corporations Act.
While some criticisms relating to the proportion of compensation shared between litigation funders and plaintiffs in class actions existed long before COVID-19, the debate has intensified due to the perception that there will be an increase in the number of class actions as a result of the ensuing economic crisis.
The government has taken the stance that it needs Australian businesses focused on remaining in business rather than 'fending off class actions funded by unregulated and unaccountable parties'.
In response, funders and others in favour of the class action regime have suggested that the government's actions are an attack on access to justice and that continuous disclosure is fundamental to market integrity and should not be diminished.
The government's actions certainly raise many important questions which still need to be addressed.
These include whether the licensing regime will apply to every entity that inadvertently funds litigation? Will any changes recommended by the inquiry be able to be implemented quickly enough? Will the current temporary protection measures still leave directors and officers exposed in the long-term? And, importantly, why haven't the reprieves given in respect of continuous disclosure also been given to section 1041H of the Corporations Act?
Parliament's green light for an inquiry into Australia's class action regime
The Parliamentary Joint Committee on Corporations and Financial Services has been given a deadline of 7 December 2020 to provide its report.
Some of the key terms of reference include:
- The likely future impact on the broader economy if class action cases continue to grow at their current rate;
- The impact of litigation funding on the damages and other compensation received by class members in class actions funded by litigation funders;
- The financial and organisational relationship between litigation funders and lawyers acting for plaintiffs in funded litigation and whether these relationships have the capacity to impact on plaintiff lawyers' duties to their clients;
- The consequences of allowing Australian lawyers to enter into contingency fee agreements or a court to make a costs order based on the percentage of any judgment or settlement;
- The effect of unilateral legislative and regulatory changes to class action procedure and litigation funding; and
- The application of common fund orders and similar arrangements in class actions.
A full list of the terms of reference can be found here.
Some litigation funders have openly welcomed the parliamentary inquiry and said they look forward to working with the ALRC to negotiate and build a fairer and more equitable industry.
This is Australia's third inquiry into litigation funding and class actions in six years. Should we expect this inquiry to be different and solve all of the perceived problems in these two industries? Either way, we will be waiting a considerable period of time for any recommended changes to be implemented.
Litigation funding – regulating a growing industry
The litigation funding industry has continued to grow in Australia at unprecedented levels. Between 2014 and 2019, the industry grew almost 25%, with more than 30 companies in the market.
It is said that litigation funders are now behind three-quarters of all class actions in Australia. However, no longer does the industry only fund class action proceedings, with funding now readily available for more standard civil litigation or arbitration claims with quantum as low as $500,000.
The ongoing debate among politicians and business leaders includes whether litigation funding gives rise to unmeritorious claims and whether the percentage of compensation taken by litigation funders is detrimental to plaintiffs.
When the inquiry was announced this month, one of the terms of reference was "the Australian financial services regulatory regime and its application to litigation funding".
It appears the government has already bowed to pressure, given that shortly after the inquiry was announced, the government also announced its intention that litigation funders must hold an AFSL and, if necessary, comply with managed investment scheme rules. If approved by Parliament, the new regulatory reporting and disclosure requirements are pencilled in to start in August 2020 (noting that it presently takes approximately 6 months to apply for and obtain an AFSL).
Questions have naturally arisen as to whether the requirements will be extended beyond traditional litigation funders to other entities who technically 'fund' litigation. That category includes law firms who provide no-win no-fee services, and creditors or other entities that fund liquidators such as the Attorney-General's Department (FEG) or the Australian Tax Office.
The regime will, among other things, require funders to hold adequate capital to manage their financial obligations.
It is axiomatic that imposing further governmental red tape on litigation funders is likely to have an impact on the availability of such services in the market. Interest from international funders may wane, and the breadth of funding currently available in the Australian market may become inaccessible to certain prospective litigants.
Evidently, the aim of the government's regime is to provide protection for legal consumers commensurate to the protection currently afforded to consumers of all other financial services and products which seek to provide investment returns.
However, access to litigation funding is viewed by many as synonymous with access to justice, as it can result in a levelling of the playing field for litigants in dispute against more experienced and well-resourced parties.
It is therefore crucial that Parliament gets the balance of regulation in the industry correct.
The impact of COVID-19 and the risks associated with it
Many reports indicate that litigation funders are preparing war chests to hit businesses with class actions in the aftermath of COVID-19, and that it is litigation funders who will drive a new era of class actions relating to disclosure obligations, directors' duties and insolvent trading.
This has had an effect not only on the cost of the premiums of directors' and officers' liability insurance and financial services professional indemnity insurance, but their availability, which is more important than ever now for those navigating businesses through these economically uncertain times.
In the past six weeks, one of the world's largest wine companies, ASX listed 'Treasury Wine Estates', was served with two separate shareholder class actions by plaintiff firms Slater & Gordon and Maurice Blackburn. Both claims relate to alleged breaches of continuous disclosure obligations and misleading and deceptive conduct with respect to a downgrading of forecast earnings growth, which resulted in a sharp fall in the value of the company's shares.
There is no doubt that these issues contributed to the Government's recent decisions, given one of the stated terms of reference in the inquiry is 'the potential impact of Australia's current class action industry on a vulnerable Australian business already suffering the impacts of the COVID-19 pandemic'.
The executive and the legislature had previously provided some temporary protections to assist companies navigate the COVID-19 crisis, including a 6 month moratorium on insolvent trading and a relaxation of the rules relating to continuous disclosure, AGMs and financial reporting obligations. However, many commentators are saying that more is still needed to protect businesses and directors, both now and in the long-term.
Are the new measures appropriate?
Entities such as the Business Council of Australia and the Australian Institute of Company Directors have been lobbying intensively for blanket protection for companies and directors and to otherwise entirely freeze class actions. Interestingly, some large international litigation funders joined the call for a moratorium for COVID-related class actions.
There were also calls for the establishment of a 'Safe Harbour Asset Recapitalisation Panel' (SHARP). It was intended that the SHARP comprise experts from various fields who would assess recapitalisation proposals for ASX and large listed companies in financial distress. Directors and officers would thereby be provided with a safety-net to make the decisions necessary to restructure and continue doing business without the very real risk of class action liability hanging over them.
Many of these demands have not so far been implemented on the basis that the temporary powers granted to the Federal Treasurer during COVID-19 were intended simply to 'protect against unforeseen circumstances and ensure proper operation of markets, rather than advance any reform'.
In any case, some of the early criticism, rightly or wrongly, of the Treasurer's determination to modify continuous disclosure obligations relates to its narrow scope of protection.
In particular, no similar modifications have been made to section 1041H of the Corporations Act which has an historically wide application and could be used to capture a range of conduct involving the disclosure (or non-disclosure) of forward-looking statements and earnings guidance that could quite possibly end up the subject of a class action due to COVID-19.
The protection provided is also considerably limited due to the particular language used to implement the changes. As it stands, an entity will still be liable for continuous disclosure breaches if it is negligent with respect to market updates on price sensitive information. Negligence, especially during the untested period of COVID-19, may prove a relatively low hurdle for litigants to jump.
With that in mind, and notwithstanding the Treasurer's determination, a new shareholder class action against Boral, which alleges Boral made misleading and deceptive statements and breached its continuous disclosure obligations during December 2019 and February 2020, is still set to be filed in the Federal Court of Australia this week by Maurice Blackburn.
In any case, what is quite apparent is that by giving the green light for an inquiry into class actions, imposing a licensing regime on litigation funders and providing a regulatory reprieve for continuous disclosure obligations, there has been a clear recognition by the government of the difficult problems the commercial world is currently facing during COVID-19.
Only time will tell whether the government can achieve the correct balance of regulation for these two industries.
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