Case Study For Fortescue Metal Group – Violation Of Section 1041H

Issues and Facts

Discuss about the ase study for Fortescue Metal Group.

The given case i.e. Forrest v ASIC resolves around the representations made by FMG (Fortescue Metal Group) and the CEO Forrest in the ASX announcements and media release. This announcement was in context of an agreement signed in regards to the iron ore mining project being implemented by FMG in Western Australia. The company FMG had planned to build a railway line near the project site for the transportation of ore from the mine to Port Hedland and additionally build a port. To implement the same, the company executed agreements in 2004 with three leading state owned companies from China. One such agreement called as Framework Agreement was implemented with the China Railway Engineering Corporation (‘CREC’). The company notified the ASX of this development by extending a letter and publishing a detailed media release on the company website. In these public announcements, it was stated that the company and CREC have executed a binding agreement whereby CREC would build and also finance the railway project at the mining site. Additional clause stated as the contract term was the fact that full risk regarding the project would be assumed by CREC as per the fixed price agreement for the project. The above information that has been provided to the investors (both actual and potential) was not complete and hence potentially misguiding. The actual clauses and terms of the Framework Agreement implemented with CREC were not put in the public domain as they were classified as confidential.  ASIC pointed at the fact that that the framework agreement in actuality did not contain any clause with regards to a fixed price being decided and CREC assuming full risk for the rail project.

Hence, based on the above facts, the central issue in the case was to determine if the company i.e. FMG and the CEO Mr.Forrest had indeed violated the Section 1041H of the Corporations Act 2001 by giving out potentially misleading statements in the public domain with regards to having a legally binding contract with CREC when the same was not true. Additionally, as indicated most of the terms like price were yet to be negotiated when announcement was made. Also, the scope of work was not defined, design specifications for the project were lacking and completion was not defined in the Framework Agreement on the basis of which public announcement was made by the company.

Relevant Laws and Principles

Various companies while listing on the Australian Stock Exchange i.e. ASX have to give their consent on the listing agreement and ensure that all the requirements listed in this agreement should be met. The listed entities on the ASX as per the rule 3.1A of the listing agreement are required to make continuous disclosures as highlighted by the Section 674(2) of the Corporations Act 2001.  Often this information is material and thereby can potentially have a material effect on the price of the stock of announcing entity. As a result, ASIC (Australian Securities and Investments Commission) tends to scrutinise these announcements so as to assure that they do not mislead the investors and other stakeholders.

One of the key tools for ASIC to ensure that the companies ensure transparency in their reporting  and adhere to sound corporate governance principles is through the Corporations Act 2001. It lists down the various provisions which the companies need to adhere irrespective of whether they are public or private. A key provision to enhance transparency and ensure accurate reporting to the shareholders is Section 1041H. As per this section, a person must not conduct in a deceptive manner that may knowingly or unknowingly mislead customers or any other stakeholder. In case of violation of this section, civil liability would be attracted on the offender besides having other legal implications.

A central principle with regards to assess whether a given party’s conduct is deceptive or not is to ascertain the effect of the wrong or incomplete statement on the intended audience. If the audience is misguided, then indeed the conductive is misleading and deceptive whether or not there was intention to mislead on the part of the person or organisation concerned. Further, the interpretation drawn in such by the intended audience should not be based on any specific knowledge possessed by them.

Further, it is imperative that cases involving misleading behaviour should not be viewed in isolation but must be interpreted considering the facts of the underlying situation. Additionally, it needs to be taken into consideration that what the deceptive statement in actuality conveys to the intended audience. Based on the communication actually grasped by the audience, would it be decided whether any misconduct has indeed been committed or not. In the event, that the statement is potentially incorrect for a legal expert but the intended audience interpretation about the same is correct, then the statement is not misleading or deceptive.

Arguments of the Parties

The arguments of the various parties involved in the case is summarised below.

ASIC

ASIC made multiple allegations against the company and its CEO. The principal allegation by ASIC was that the contents of the Framework agreement were falsely represented by the company in the public domain and the description provided did not match the actual clauses of the agreement. Another, allegation by ASIC was that the company had falsely indicated the legally binding status of the contract which in actuality was not true. Hence, the unqualified opinion extended by the company was in violation of Section 1041 H since either the statement was released with an intention to deceive the investors or if they were released with benign intent, then there was insufficient evidence to support the public announcement.

The primary judge opined that the announcement with regards to agreement with CREC being binding was an opinion and the main concern of the judge was to ascertain the underlying intentions of making such an opinion and also whether the opinion was reasonable to hold or not on the part of the company. After analysing all the case facts, the primary judge reached the verdict that it was reasonable on the part of the company and its CEO to hold the opinion that the contract with the Chinese contractors with regards to building, financing and transferring the infrastructure of the project and hence no violation of any law has been done.

However, ASIC was not satisfied with the verdict as it highlighted mails sent by the CEO (Forrest) which related to the negotiation relating to the execution of an Advanced Framework Agreement which was more definitive and bring clarity regarding price and specifications. The indulgence of the CEO in such negotiation according to ASIC was reflective of the fact that the original framework agreement was not binding and hence misleading for the investors. The matter was thus brought forward to the full court.

Keane CJ was responsible for delivering the principal judgement here and was equivocally critical about the trial judge’s (Gilmour) approach towards the case. He on behalf of bench opined that the major issue in the case was not the intention and the mental state of the representer i.e. FMG but rather the impact of the statement in relation to its misleading potential with the intended audience. Also, he opined that the announcement with regards to the framework agreement with CREC was not a matter of opinion but a statement representing a fact which indicated that the agreement was legally binding and thus enforceable. The statement communicated to the intended audience that the contracts executed with the Chinese contractor is contractually binding as defined in the Australian courts.

Primary Judge (Gilmour)

Keane CJ also observed that the representation by the company in its announcement with regards to the mutual agreement on a fixed price and the CREC assuming full risk was indeed misleading to the reasonable investors. This is apparent from the emails highlighted by ASIC where the CEO of FMG is engaged in negotiation of the price in the form of Advanced Framework Agreement. It was apparent from the exchange of emails and the negotiations being carried out that the assuming of risk by CREC and settling on a fixed price was currently under negotiation and thereby had not been settled at the time of the public announcement.  Additionally, it would not be fair to expect that an average investor who would have invested in the company would perceive the announcement any differently than the general understanding of contract being legally enforceable. Thus, it was opined that the company and its CEO were guilty of violation of Section 1041H by giving out a misleading and incomplete representation about the agreement.

However, the company was not satisfied with the verdict and hence an appeal was made to the High Court to rule on the case.

High Court

The majority in the high court like the Full bench of the Federal Court criticised the approach adopted by the trial judge where a decision was based on the distinction of fact and opinion. The High Court reached its verdict based on two main arguments. Firstly, the judgement with regards to the conduct being misleading would be driven by the underlying context and cannot be viewed in isolation of the accompanying facts. Secondly, the imperative test in cases regarding deceptive conduct is to ascertain what the deceptive statement actually conveys to the desired audience and not what it actually wanted to convey to them.

The allegation by ASIC that the framework agreement with CREC did not amount to a “Build and Transfer” project was not supported by the high court majority which indicated that based on clause 1 and clause 3 of the agreement, it was concluded that the description provided by the company in the announcement about the agreement being build, finance and transfer was indeed accurate. With regards to ASIC’s allegation that the framework agreement was legally not binding, the high court majority opined that the intended wider audience would have understood that the agreements made were of a binding nature. They did take the announcement in the sense that in the event of future breach of contract or disagreement, the issue would be resolved through legal intervention in accordance with the prevalent Australian laws.  Hence, the essential difference between the verdict of Federal Court and High Court majority was on account of absence of interpretation of the binding clause by the intended audience as being legally enforceable in Australian court. With regards to the emails of the CEO negotiating an Advanced Framework Agreement, the majority in the High Court was opinion that negotiating a better deal when one deal is in place is not prohibited by law.

Hence, the majority in the High Court upheld the appeal initiated by the company and ruled that through the announcement the company had not acted in a deceptive manner and has not broken any legal stature or principle.

Conclusion and Court Decision

The case was first heard by the trial judge at the Federal Court who ruled in the favour of the company and Forrest. However, ASIC appealed and the majority of the full bench of the Federal Court upheld the appeal as the bench was critical of the approach adopted by the trail judge. However, the company filed an appeal in the High Court which the majority upheld and ruled that no misleading was done on the part of the company. Hence, the final verdict was that the company and CEO were not found guilty of misleading the investors.