Under the microscope

Peter van Dongen explains why Australia’s current liability framework and the increase in class action risk has the potential to limit corporate innovation and thwart national ambition.

The national push on innovation has yet to fully ignite the public’s imagination, but it’s clear Australia’s future prosperity and economic growth will rely on businesses taking more risks, adapting more quickly, and “having a go”. Australians need to recast their view of failure as part of a journey, not the end of one. As Prime Minister Turnbull points out, innovation is the path to growth and a more prosperous Australia. It’s time to start padding out this feel-good mantra with action.

Towards the top of the “to do” list should be a debate about Australia’s liability framework and the way class actions are conducted. The current environment encourages a “blame and claim” culture, which is not conducive to the reasonable risk-taking that underpins innovation. If we accept that the conduct, integrity and capability of corporate governance professionals is the necessary foundation on which our capital markets operate, we need to ensure that the cards are not unfairly stacked against them.

Our class action regime is a case in point. According to recent research from law firm Allens, class action risk has increased over the last 10 years with more claims being filed and a greater promotion of claims. This sits alongside a spike in shareholder class actions over the last 18 months.

There is a view the breadth of the allegation of misleading and deceptive conduct is driving this trend.

Unlike the US and many other jurisdictions, Australian courts do not require plaintiffs to prove that the defendant intended to mislead or deceive, or was negligent in performing their duties.

The implication for directors or corporate governance professionals at businesses where sentiment moves against a new product or service or a bold acquisition fails, is that the absence of intent to mislead or deceive doesn’t matter – there is potential for a claim to be brought.

Corporate innovation and educated risk-taking are more important than ever. Can we afford to continue with our current framework?

Between 2005 and 2016 the overwhelming majority of cases were settled, with only 5 per cent of class actions reaching a final judgment. This means the deterrent built into the Australian system, where the losing party usually bears the winner’s legal costs, doesn’t operate.

The rewards for bringing a class action are also significant – according to King & Wood Mallesons (KWM), in 2015, settlements were just shy of $1 billion. The reputational damage class actions inflict, and arguably intend to inflict, is another cost to consider.

Given the low barriers to launching a class action, the ever-increasing rewards, and the lack of a meaningful deterrent to non-meritorious claims, it is little wonder that Moira Saville from KWM suggests they are “now one of the first responses to unexpected events.”

Yet it is unexpected events that typically provoke the need for innovation. Investors expect companies to react to market forces, embrace change, apply new thinking to old problems and, yes, to take risks.

Risk is at the heart of innovation and many investors rightly place great value on that. But risk is not without danger – something every informed investor is aware of. Surely the time has come for a broad conversation on whether our legal framework provides adequate protections to all stakeholders, including directors and corporate governance professionals.

We are already contemplating regulatory questions concerning litigation funding and associated licensing regimes. We should expand that to consider whether the thresholds to launching class actions are appropriate, and whether they should be higher simply because of the breadth of the misleading or deceptive conduct test. Should causation and loss also be tested as a threshold question? It’s a question worthy of consideration.

Let’s be absolutely clear – there should be no leniency for those who intentionally mislead or deceive. But if we are to establish ourselves as a global hub for innovation, and enjoy the growth that goes with it, we need to empower and protect those who understand and support reasonable, well-thought risk-taking by business.

On our current course, Australia is at risk of being unable to attract and retain those best equipped to provide confidence to the capital markets. If this happens, sensible risk taking will be hamstrung and our nation’s future prosperity diminished.