This update focuses on key implications for directors and senior executives.
Context of the Court’s judgment
The judgment is the latest development in a series of proceedings following the collapse of the listed insurer, CBL.
The FMA sued CBL, together with its directors and CFO, for alleged misrepresentations by CBL in its market announcements and failures to disclose material information under the continuous disclosure rules.
The directors and CFO were sued as “accessories” to the contraventions by CBL. Accessory liability arises for persons who are involved in a contravention, with the key part of the statutory test (which the FMA focussed on in this case) being whether the person was “in any way, directly or indirectly, knowingly concerned in, or party to, the contravention”.
CBL admitted certain of the primary contraventions and the directors1 settled with the FMA and, in doing so, made certain admissions of liability.
This left the CBL Group CFO alone facing trial for accessory liability in respect of alleged misrepresentations and continuous disclosure breaches.
At trial, the High Court found the CFO liable as an accessory for breaches concerning the existence and solvency implications of certain unpaid insurance premiums owing to CBL, the need for one of CBL’s subsidiaries to strengthen its reserves, and a direction from an overseas prudential regulator to another subsidiary to hold additional cash.2 The Court will determine the penalty in a subsequent hearing.
Key takeaways
- Senior executives can have accessory liability
The decision highlights that accessory liability for continuous disclosure failures is not limited to directors. The fact that the Board is responsible for continuous disclosure decisions does not relieve senior executives of their personal responsibilities.
In particular, the Court’s decision illustrates that accessory liability may arise where an executive with relevant responsibility is aware of the essential facts giving rise to the need to disclose but fails to raise the question of disclosure with the board.
- Actual knowledge is required, including knowledge of materiality
The Court concluded that directors and senior executives will only be liable as accessories if they have actual knowledge (including wilful blindness) of the essential factual elements of the contravention, including:
- The relevant information.
- The fact that the relevant information was not available to the market.
- The fact that the information was material (i.e., that a reasonable person would have expected the information, if it were generally available to the market, to have had a material effect on the price of the securities).
- The fact that the information was not exempt from disclosure under an exception in the Listing Rules.
The FMA accepted that actual knowledge of the essential facts was required for the purposes of the High Court trial but signalled that it may seek to argue otherwise if the matter proceeds to an appeal.
The confirmation that actual knowledge is required will be of some comfort to directors and senior executives. They will not face personal liability based on facts they did not know, or did not appreciate the materiality of, even if they ought reasonably to have known them. Applied strictly, this would mean that a director or senior executive who honestly exercised a judgement about materiality, for example – but got it wrong – may avoid personal liability, because he or she would not have actual knowledge that the information was material.
Importantly, accessory liability depends on knowledge of the facts, rather than the law. Ignorance of the rules, or a mistaken belief that the rules did not require disclosure, will not itself always provide a defence.
The Court’s decision did not address how the requirement for actual knowledge would apply in the context of the current NZX Listing Rules, which provide that an issuer is aware of information as soon as a director or senior manager have or ought reasonably to have come into possession of the information.
- “Intentional participation” is required, by conduct that has a “practical connection” to the contravention – this can include a failure to act
The Court concluded that individuals will only be liable as accessories if they intentionally participated in the contravention. This requires acts or omissions that had a “practical connection” with the contravention.
In this case, the CFO was (in some cases) found to have acted in a way that had a “practical connection” with the contravention because he knew that the board had not properly considered whether the information should be disclosed. Although the Court stopped short of a general “duty to urge consideration”, the decision highlights the risk to senior executives in staying silent if there is at least a real risk that the Board has not considered, or not correctly considered, the need for disclosure. Significantly, this risk arises even where the executive is not privy to all of the Board’s deliberations on whether to make a disclosure, and/or the form of any disclosure.
By contrast, the CFO was found not to have intentionally participated in a contravention in circumstances where it appeared that he raised specific concerns about the relevant part of an announcement.
- Statutory defence of “taking all reasonable steps” not available in this case
Importantly, given the Court’s findings on what the CFO knew, his role as CFO and as a member of the Disclosure Committee and his omission to raise the need for disclosure with the Board, the Court held that the CFO had not proved that he had taken all reasonable steps to ensure that CBL complied with the relevant provision of the FMCA. Therefore, he did not have a statutory defence to accessory liability.
- Importance of careful judgement around continuous disclosure decisions
As the Court confirms, assessments of materiality must be undertaken by the courts objectively and without hindsight. The investigation and litigation of continuous disclosure decisions nevertheless involves close after-the-fact analysis of precisely which individuals knew which pieces of information, all in the context of what must necessarily be a collaborative decision by the relevant disclosure committee. In the challenging regulated environment of a listed issuer, the case underscores the importance of good processes and policies, the early appreciation and escalation of potentially material information in accordance with such policies, and careful and well-documented judgement calls.
- Allegations of unsubstantiated representations
An interesting aspect of this litigation was that the FMA pursued claims not only that certain representations made by the issuer were misleading but also that they were unsubstantiated.
Liability arises – separately from the provisions relating to misleading representations and continuous disclosure – if the person making the representation does not, when the representation is made, have reasonable grounds for the representation, irrespective of whether the representation is in fact false or misleading.
This type of provision had its origin in the context of consumer trading regulation under the Fair Trading Act and has been incorporated into the FMCA in the context of the fair dealing provisions, which apply to representations made by issuers of publicly traded securities.
Given the circumstances of this case, it was not necessary for the Court to engage with the unsubstantiated representations allegations in much detail. Developments regarding the regulator’s expectations in terms of an issuer substantiating representations to the market will need to be closely monitored.
If you have any questions about the matters raised in this article, please get in touch with the contacts listed or your usual Bell Gully adviser.
[1] With the exception of one director who had passed away.[2] Two other causes of action were dismissed.