Discuss about the Securities Regulation for Cases and Materials.
The Federal Court of Australia announced that the company has committed a violation of the Corporations Act 2001 (Cth) by making deceptive or misleading statements in its prospectus, which is related to the drilling technology. The company failed to disclose about circumstances that resulted in impairment in the ability to anticipate profits. It endowed its auditors with false information related to its assets and liabilities of its subsidiaries. The Non-English speaking director of the company is alleged to have failed to perform his director duties that are stipulated under the Corporations Act 2001 (Cth).
The plaintiff (Australian Securities and investment Commission) [ASIC] applied for declarations of contravention of the Corporations Act 2001 (the Act) against the Sino company that is, the first defendant and the former executive director and chairperson of the company, Mr. Shao that is, the second defendant. All the charges against the company and its director were proved and both the company and its director were held liable for committing a breach of the Corporations Act 2001 (Cth). The Federal Court of Australia has ordered that Sino Australia Oil and Gas Limited is entitled to a penalty of $800,000 and its former chairperson Mr. Tianpeng Shao has been disqualified from managing companies for a period of twenty years.
The Court declared that Sino (the company) had committed a breach of the following provisions of the Corporations Act 2001 (Cth):
The court further declared that the second defendant has committed contravention of the following provisions of the Act:
The Federal Court held both the company and the former chairperson of the company liable for breaching sections [728(1) (a, b, c)], [674] and [1041 H] of the Corporations Act 2001 (Cth). The company has been ordered to pay penalty amount and the chairperson was barred from managing corporations for 20 years for breaching section [180(1)] of the Act.
As per section [728(1) (a)], a person must not propose securities under a disclosure document if the document contains ambiguous deceptive statement. According to Armour (2014), the company has already admitted that it made false representations regarding patents claimed by Sino and held by the Chinese-base subsidiary company with respect to the drilling technology. This established the company violated section [728(1) (a)] of the Act.
The plaintiff ASIC alleged that the first defendant failed to disclose that the profit of the company for 2013 shall be notably less than the amount anticipated in the Replacement Prospectus. Further, Armour (2014) states that the future net profit of the company was adversely affected by certain circumstances that were highly imperative. The first circumstance occurred when the company started to render services to consumers in remote areas in China leading to the incline in transportation and staff costs. (Hannigan 2015) agrees that the second defendant admitted this circumstance during his examination under s [19] of the ASIC Act. Such statement was admissible in court and was used against him under legal provision of section [76] of the ASIC Act as well as against the organization under section [87] of the Evidence Act 1995 (Cth).
The admissibility of the statement made by the second defendant during his examination has been upheld in ASIC v Astra Resources PLC [2015]. The second circumstances took place when the company incurred lease expenses in the form of additional equipment worth $2.6 million because of delay in receiving delivery of capital equipment. Armour (2014) stated that though the defendants denied the allegations but the financial review in the Appendix 4E Report established the incline in the company expenses.
Thirdly, the company faced unnecessary delay in receiving payments from the Chinese state-owned enterprise customers and the defendants admitted the same. The last instance occurred when the company experienced successive delays during the initial public offering, which led to an incline in the expenses.
However, Tricker and Tricker (2015) states that the defendant contended that first, second and fourth circumstances affected the future net profit after tax of the company except the third circumstances. Armour (2014) argues that even if their circumstance did not cause decline in the net profit of the company but it was likely to affect the company.
Furthermore, both the defendants have agreed to the fact that the company failed to disclose either the four crucial circumstances or the prospectus documents to the ASX until it issued its 4E Report amounting to infringement of section [728(1)(b)] and section [728(1)(c)] of the 2001 Act.
According to these provisions, a person must not propose securities under a disclosure document if it encloses an omission of any important material document or circumstances, which arose since the disclosure document was lodged. Further, the court based its decision regarding contravention of disclosure requirement with reference to section [710 (1)] according to which a prospectus must include all material information that financiers must have knowledge about to make an informed evaluation of the matters. Banerjee and Humphery (2016) asserts that based on section [728] and s [710] of the Act, the four circumstances were likely to affect the company adversely and amounted to material information that was essential for an investor to assess the financial position of the company and that such information fell within the scope of section 710(1) of the Act. Furthermore, the second defendant was aware of such information as admitted by him and such information was available while prospectus documents were issues, hence, amounted to violation of section [710] and [728 (1) (a, b, c) of the Act. Further, failure to disclose that a difference with respect to the profit forecast, amounted to a breach of the provision stipulated under section 674(1) and (2).
The fact that both the defendants were fully aware that any prudent person would have revealed such material facts in the same circumstances. However, the defendant denied the allegation of committing breach of section 674(2) but on the other hand, the company also admitted that Replacement Prospectus included that the net profit of the company was expected to be $13.66 million and that the “actual total comprehensive income net of tax” amounted to $12.69 million.
There was no relevance of this defense to the contravention claim of section 674(2), which only implies that the defendants deliberately did not disclose the material facts and committed a violation of the CA 2001 (Cth). While questioning the second defendant it was apparent from his answers that he was fully aware of the deterioration of the profit during the second half of 2013 and this should be disclosed as is expected from any prudent person under the same circumstances.
The defense contended by the second defendant that he was not competent with the English language and that he failed to acquire the Chinese translation for each of the prospectus document prior to the authorizing and signing of such document, amounts to a violation of his directorial duty. The court highlighted the significance of the directorial duty to peruse the financial statements to ensure the accuracy of the content.
Mr. Shao being the director of the company was under legal obligation to implement his directorial powers and release his obligations with due diligence and care. This part of his duty required him to be acknowledged with the content of the prospectus ensuring its accuracy and validity. The failure to understand the content of the documents before signing amounts to a breach of directorial duties and does not qualify as an adequate defense.
The second defendant further contended that he trusted on the advice given by the other two Australian directors and the other expert legal advisers who were involved in implementing the listing on ASX. Tricker and Tricker (2015) believes that the second defendant attempted to justify himself by arguing that he trusted the directors and the professional advisers as he was satisfied with the work based on the previous dealings they carried out.
Here, it can be argued that even though the second defendant was not a competent English writer or speaker and had no knowledge about the legal requirements in Australia, it does not imply that he is discharged from his directorial obligations. Banerjee and Humphery (2016) agree that his non-comprehension and insufficient knowledge about the Australian legal requirement does not justify that he would simply rely on others regarding the accuracy of the financial statements without perusing them himself. The court is correct in asserting that he failed to carry out his obligation with due care and diligence as is expected from any prudent person to be acquainted with the disclosure requirements if he or she acted as a director or chairperson of an organization as was upheld in ASIC v Citrofresh International Limited (No 2) (2010).
The non-executive directors contended that Mr. Shao revealed that the revenue amount was more than the forecast and the profit margin was slightly down still it is close to the anticipated numbers. This established that the second defendant failed to make such material disclosure to the company Board as fact related to the deterioration of the company profits amounts to a material fact, which requires mandatory disclosure. The significance of this legal disclosure was highlighted in Re One.Tel Ltd (in liq) and in ASIC v Rich [2003]. It was ruled that the failure on part of the managing director to notify the Board about facts material to the financial status of the company should amount to the infringement of section [180] of the Act.
The decision given in the Sino’s case significantly upheld the significance of timely and precise disclosure necessities and the obligation of a director to act diligently with due care. In the words of ASIC Commissioners, it is the foremost duty of a director of a company to ensure that the content of such disclosure is made accurately and on time. Accurate and timely disclosure of material facts is crucial for financial markets and violation of such legal principles not only affects the financial stability of a company but also affects its social standing.
The decision highlights the importance of directorial obligations as well. The Corporations Act 2001 (Cth) sets out provisions that confer certain obligations of the directors of an Australian company. The first and foremost directorial obligations include the responsibility to act diligently and with due care and to act in the greatest interest of the company.
Conclusion
Any prudent person is expected to disclose any facts or information that the person believes to be pertinent to the fiscal position of the company, especially, in the financial markets. Hence, failure to perform such obligations shall amount to violation of the CA 2001 (Cth). Therefore, the decision in Sino’s case has upheld the significance of the legal principles relating to the Australian directorial obligations to make timely and accurate disclosures while acting diligently and with due care.
References
Armour, J., 2014. The enforcement of director’s duties in Australia: a functional and empirical analysis (Doctoral dissertation, University of Oxford).
ASIC v Astra Resources PLC [2015] FCA 759 at [124-126].
ASIC v Citrofresh International Limited (No 2) (2010) 77 ACSR 69; [2010] FCA 27
ASIC v Healey [2011] 196 FCR 291
ASIC v Rich [2003] 44 ACSR 682
ASIC v Sino Australia Oil and Gas Ltd (in liq) (2016) 115 ACSR 437
Banerjee, S. and Humphery-Jenner, M., 2016. Directors’ duties of care and the value of auditing. Finance Research Letters, 19, pp.1-14.
Coffee Jr, J.C., Sale, H. and Henderson, M.T., 2015. Securities regulation: Cases and materials.
Corporations Act 2001 (the Act)
Evidence Act 1995 (Cth)
Hannigan, B., 2015. Company law. Oxford University Press, USA.
Re One.Tel Ltd (in liq)
Tricker, R.B. and Tricker, R.I., 2015. Corporate governance: Principles, policies, and practices. Oxford University Press, USA.
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