In brief - Investor class action unsuccessful in Victorian Court of Appeal
A group of investors in Timbercorp Securities failed to prove that the product disclosure statement (PDS) was defective, or misleading or deceptive. They also failed to prove reliance on the PDS.
Appeal focuses on information about significant risks associated with investment
On 10 October 2013, the Victorian Court of Appeal delivered its decision in Woodcroft-Brown v Timbercorp Securities  VSCA 284, dismissing an appeal from the decision of the Supreme Court of Victoria in Woodcroft-Brown v Timbercorp Securities  VSC 427, which in turn dismissed claims brought by over 2,200 investors alleging inadequate disclosure and misleading or deceptive conduct in relation to product disclosure statements issued by the collapsed agribusiness company, Timbercorp Securities Limited ("Timbercorp Securities").
The judgment is significant because it provides guidance on the "constellation of issues" surrounding disclosure obligations under the Corporations Act 2001 (Cth).
Under Chapter 7 of the Corporations Act, product issuers must provide retail clients with a PDS before they are issued with financial services and products. Section 1013D(1) of the Corporations Act sets out what must be disclosed in a PDS, such as "information about any significant risks associated with holding the product", which was a focus of the Timbercorp appeal.
Proceedings related to horticultural and forestry managed investment schemes
The appellant, Mr Woodcroft-Brown ("the Appellant"), commenced a proceeding in the Supreme Court of Victoria ("the Proceeding") on his own behalf and on behalf of persons who, at any time during the period between 6 February 2007 and 23 April 2009, acquired or held an interest in various horticultural and forestry managed investment schemes ("Schemes") for which Timbercorp Securities was the responsible entity pursuant to Chapter 5C of the Corporations Act, and entered into loan agreements with Timbercorp Finance Pty Limited ("Timbercorp Finance") to fund those investments.
At a later stage, the trial judge ordered that the trial include a case advanced on behalf of "early investors" who acquired or held investments prior to 6 February 2007. Evidence on breach, causation and reliance on behalf of these investors was led from Mr Van Hoff, a group member who invested in Schemes before and after 6 February 2007 and financed the majority of his investments through Timbercorp Finance.
The Proceeding was commenced against Timbercorp Securities, Timbercorp Finance and three directors of those entities (together, "Defendants").
Appellant claims that financial misrepresentations in PDS amount to misleading or deceptive conduct
The Appellant alleged in the Proceeding that Timbercorp Securities, as responsible entity of the Schemes, failed to disclose in the PDS the following information about "significant risks", or risks that may have had a material influence on the decision to invest, within the meaning of section 1013D(1)(c) of the Corporations Act and that caused the PDS to be "defective" within the meaning of the Corporations Act, namely:
•A number of events occurring after 6 February 2007 that put the business of the Timbercorp Group at further or heightened risk of failure
•Timbercorp Group's business model involved risks associated with its financial structure that should have been disclosed to existing and potential investors
The Appellant also alleged that:
•Timbercorp Securities made various financial misrepresentations in the PDS which constituted misleading or deceptive conduct
• The Appellant would not have invested in the Schemes and would not have borrowed funds from Timbercorp Finance to fund his investment had those events and risks been disclosed in the PDS and the financial misrepresentations not been made
• The Appellant suffered loss and damage as a result of the failure to disclose and/or the misleading or deceptive conduct.
At first instance, Justice Judd of the Supreme Court of Victoria held that the Defendants were not required to disclose in the PDS the risks identified by the Appellant, that there had been no misleading or deceptive conduct and, in any case, that there had been no relevant reliance by the Appellant.
Victorian Court of Appeal upholds finding that the PDSs were not defective and upholds decision on reliance
The Appellant appealed the decision of Justice Judd based on 14 grounds of appeal, none of which succeeded. Key findings were as follows.
What constitutes a "significant risk"?
The Court of Appeal held that whether a matter is a "significant risk" that requires disclosure will involve consideration of a "constellation of issues", including the probability of the occurrence, the degree of impact upon investors, the nature of the particular product and the profile of the investors. (See Woodcroft-Brown v Timbercorp Securities  VSCA 284 at . See also  and .)
The Court stated that a constellation or group of issues is not closed and will vary depending upon particular circumstances.
Is a risk that is capable of successful management and is being managed a "significant" risk requiring disclosure?
The Appellant argued that Justice Judd erred in holding that a risk is not "significant" within the meaning of section 1013D(1)(c) if it is capable of successful management and is being managed, and should have held that a risk only ceases to be "significant" if the risk of it not being successfully managed is negligible.
The Court of Appeal commented that Justice Judd did not allow management of a risk, as a matter of construction, to expunge the possible existence of the risk itself. On the facts, his Honour found that the risk was not significant. Section 1013D(1)(c) does not contemplate that ordinary, run of the mill risks need to be disclosed.
The Appellant contended that, because the risks associated with external financing identified by the Timbercorp Group in its internal documents were subject to management strategies and processes, they were significant risks within the meaning of section 1013D(1)(c). The Court of Appeal stated that on its proper construction, section 1013D requires the disclosure of a risk with important consequences to the investor, as considered from the perspective of the investor.
When there is a low probability of occurrence, but nonetheless its consequences are sufficiently serious, then a risk may require disclosure. The fact that such a risk is capable of management or being managed does not obviate the need to disclose the risk unless the likelihood is that management will not prevent the risk materialising. (See Woodcroft-Brown v Timbercorp Securities  VSCA 284 at .)
Does a risk require disclosure if there is generally available information about that risk?
Section 1013F of the Corporations Act provides that information is not required to be included in a PDS if it would not be reasonable for a retail client, considering whether to acquire the product, to expect to find the information in the statement.
The Court of Appeal upheld Justice Judd's construction that section 1013F means that if information was generally available within the meaning of sections 674 and 675 of the Corporations Act (such as Timbercorp's annual reports), the information did not need to be included in a PDS. Justice Judd went on to hold that what was required to be disclosed in the PDS was "performance risk" which Justice Judd in fact found (including publicly available information) was disclosed.
The Court of Appeal held that there was "nothing conceptually wrong in examining the availability in public documents of detailed financial data", and that it was difficult to contemplate, in determining what a retail investor would reasonably expect to find in a PDS, that it would not be relevant that the information was in the (publicly available) annual report.
Actual knowledge of a significant risk is required
The Court of Appeal endorsed the trial judge's conclusion. The key factor was knowledge of the information that was required to be disclosed under section 1013D of the Corporations Act, which must be tied to the risk's materiality.
Mental state of the maker of the representations relevant to misleading or deceptive conduct
Whether representations are misleading or deceptive depends at least in part upon the mental state of the maker of the representations, for the representations would ordinarily be understood as statements of opinion. Such statements are not apt to mislead if the opinion is genuinely and reasonably held by the maker of the statements. Further, the obligation to disclose risks in the PDS depended upon actual knowledge of the risks.
Appellant fails to establish reliance on product disclosure statement
At trial, the trial judge found that the Appellant and Mr Van Hoff did not read the PDS and therefore failed to establish reliance. The Court of Appeal upheld the trial judge's findings on reliance. The Court of Appeal held that the PDS did not induce the Appellant and Mr Van Hoff to invest in the Schemes, commenting that the trial judge did not reach his conclusion as to the issue of reliance simply because he thought that the investors wished to obtain tax deductions. The trial judge examined the evidence given at trial (that Appellant did not read the PDS) and findings of credit played an important role in determining the issue of reliance.
The argument that the financial advisers who recommended the investment relied upon the representations contained in the PDS also failed due to lack of evidence.
What information needs to be disclosed in a product disclosure statement?
In summary, Timbercorp provides useful guidance as regards what needs to be disclosed in a PDS as follows:
•When determining whether a risk is "significant", both the probability and the consequence of the risk will be taken into consideration.
•The mere identification of a risk does not elevate it to a "significant" risk. There is a "constellation of issues" in considering what constitutes a "significant risk" for the purposes of inclusion in a PDS, including the probability of the occurrence, the degree of impact upon investors, the nature of the particular product and the profile of the investors. The definition of a "significant risk" is flexible, tailored to the product involved and particular circumstances of the case.
•It would be unrealistic and oppressive to require the disclosure of managed risks that have not crystallised or eventuated. The capability of a business to manage events is considered, thus there is no requirement to disclose day to day issues that management grapples with.
•Actual knowledge of a significant risk is required, not merely the knowledge of the facts and circumstances, but the knowledge about the risk flowing from the facts and circumstances that must be appreciated by directors.
•Whether representations are misleading or deceptive depends at least in part upon the mental state of the maker of the representations, for the representations would ordinarily be understood as statements of opinion. If the maker of the statements genuinely and reasonably holds these opinions, it will not ordinarily comprise misleading or deceptive conduct.
Was the PDS defective or misleading and deceptive? Did investors rely on the PDS?
In any case against the issuer of a PDS, the key issue is whether the PDS was defective or misleading and deceptive. If the PDS is found to be defective or misleading and deceptive, then the next key issue is reliance.
In Timbercorp, the Court held that the PDSs issued by Timbercorp Securities were not defective or misleading and deceptive and, in any case, the Appellant and Mr Van Hoff failed to establish direct reliance on the PDSs. The court did not answer the question of whether reliance can be proved if a financial adviser, relying on the PDS, caused the investor to invest.
Potentially, if investors were to provide evidence that the financial adviser relied upon the PDS and then advised the investor to invest in reliance thereon, that may be sufficient to establish liability. Even if the Appellant was able to establish that the PDSs were defective and that he relied upon them, each group member would also need to show that they too relied on the PDSs in deciding to invest in the Schemes.