01/09/2016

Welcome to the latest update from Gilbert + Tobin's Corporate Advisory team.  The update provides a summary of key recent legal developments, particularly relevant to in-house counsel.
In this issue, you will find: 

  • Legislation and proposed legislation
    • More time for industry to implement reforms to insolvency administration processes
  • ASIC
    • ASIC’s report on the identification and handling of material non-public information
    • ASIC consults on communicating audit findings
    • ASIC consults on auditing relief for proprietary companies and reporting relief for wholly owned entities
    • ASIC continues certain financial reporting relief
    • ASIC repeals managed investment scheme registration class order relief
  • Foreign investment
    • An update on FIRB’s approach to private equity funds
  • Other G+T publications
    • Innovation Insights
  • Cases
    • No leniency for a foreign director in an initial public offering: Australian Securities and Investments Commission, in the matter of Sino Australia Oil and Gas Limited (in liq) v Sino Australia Oil and Gas Limited (in liq) [2016] FCA 934
    • Court exercises its powers under section 1322(4) of the Corporations Act to cure non-compliance with pre-emptive rights regime: Re QBiotics Ltd [2016] FCA 87

 


Legislation and proposed legislation

More time for industry to implement reforms to insolvency administration processes

The reforms to insolvency administration processes will be delayed until 1 September 2017. Reforms directed at promoting competency and professionalism in the insolvency industry will commence from 1 March 2017 as planned.

The Federal Government has announced a delay to the commencement of certain reforms in the Insolvency Law Reform Act 2016 (Cth) in order to give industry more time to upskill and update their software systems and business processes.  

Reforms to the insolvency administration process, designed to enhance efficiency, improve communication and increase competition, will now commence on 1 September 2017. 

There are no changes to the commencement of reforms directed at promoting competency and professionalism in the insolvency industry, with the reforms to practitioner registration, discipline provisions and enhancements to ASIC’s powers to commence on 1 March 2017 as planned.  

See also media release dated 23 August 2016.

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ASIC

ASIC’s report on the identification and handling of material non-public information 

Following an almost 2 year investigation into the policies, procedures and practices of a range of investment banks and brokers in Australia, ASIC has released a new report setting out its findings on the identification and handling of material non-public information and the management of conflicts in the context of sell-side (or broker) research and corporate advisory activities.  A recent G+T Client Alert considers what ASIC’s report means for Australian market practice.
  
For further details, see ASIC’s report on the identification and handling of material non-public information dated 12 August 2016 by Peter Cook, Rachael Bassil, Adam D’Andreti and Lucy Hall.

 

ASIC consults on communicating audit findings

ASIC has published a set of proposed criteria for determining when it will communicate findings from its audit inspections to directors, audit committees or senior managers of the entities reviewed.

ASIC does not currently communicate findings from its audit inspections to directors, audit committees or senior managers of the entities reviewed, but rather issues confidential reports to the individual audit firms that are inspected and publishes an omnibus pubic audit inspection report on a ‘no names’ basis every 18 months.  Following an amendment to the Australian Securities and Investments Commission Act 2001 (Cth) in 2012 to allow ASIC to communicate specific financial reporting and audit findings directly to the directors, audit committees or senior managers of the entity concerned (to assist it to properly manage its affairs), ASIC has released Consultation Paper 265 Communicating audit findings to directors, audit committees and senior managers which seeks feedback on:

  • its proposed criteria for determining which findings from its audit reviews it would disclose to directors, audit committees and senior managers of the entities concerned.  ASIC’s proposed criteria are narrow in scope (on the basis of its assumption that auditors already provide directors, audit committees and senior managers with satisfactory information in respect of any concerns identified by ASIC) and include:
    • communication of material misstatement will assist timely resolution of a matter;
    • finding from a previous year has not been addressed;
    • planned enforcement action;
    • independence requirements not met; and
    • failure to obtain reasonable assurance that a financial report is free of material misstatement across a number of key audit areas.
  • The proposed criteria are not intended to be exhaustive and the weight given to each will depend on the particular circumstances; and
  • its proposal to inform the board of an audited entity that it will be reviewing the audit files relating to the entity as part of its routine audit firm inspections.

Submissions are due by 30 September 2016

Following consultation, ASIC plans to release a new regulatory guide setting out the criteria and explaining how they will apply by mid-December this year.

 

ASIC consults on auditing relief for proprietary companies and reporting relief for wholly owned entities

ASIC is seeking feedback on its proposals to continue existing auditing relief for proprietary companies and reporting relief for wholly owned entities without significant change (except in respect of APRA-regulated entities which ASIC is proposing to exclude from the existing reporting relief for wholly-owned entities).

ASIC has released Consultation Paper 267 Remaking ASIC class orders and guidance on audit and financial reporting (CP 267) detailing its proposals to:

  • remake the following Class Orders (which are due to expire on 1 October 2016 and 1 April 2017) and which affect the audit of proprietary companies and financial reporting by wholly-owned entities.
    • Class Order [CO 98/1417] Audit relief for proprietary companies
    • Class Order [CO 98/1418] Wholly-owned entities (and the relevant pro-formas and Information Sheet 24)
    • Class Order [CO 01/1256] Qualified accountant.
  • It is proposed that the Class Orders will be redrafted using ASIC’s current style and format while preserving their current effect except in relation to companies regulated by the Australian Prudential Regulation Authority (APRA).  Following consultation with APRA, ASIC proposes to no longer allow APRA-regulated companies to obtain the relief under the remade [CO 98/1418];
  • repeal Class Orders [CO 98/106] Financial reports of superannuation funds, approved deposit funds and pooled superannuation trusts (which is due to expire on 1 October 2017) and Class Order [CO 99/1225] Financial reporting requirements for benefit fund friendly societies, (which is due to expire on 1 October 2016) on the basis of its preliminary view that these Class Orders are no longer necessary.

CP 267 also seeks general feedback on whether the existing Class Orders and guidance in relation to audit relief for proprietary companies and reporting relief for wholly owned entities are operating effectively and efficiently.

Submissions on CP 267 are due by 12 September 2016.

 

ASIC continues certain financial reporting relief

ASIC has re-made legislative instruments which provide certain relief from reporting obligations for disclosing entities and entities generally.  

Following public consultation in October last year (see Consultation Paper 240), ASIC has re-made (without significant changes) 5 legislative instruments that affect financial reporting by disclosing entities and entities generally by:

  • relieving entities of the obligation to send a hard copy of the directors’ report, financial report and auditor’s report to members who are uncontactable;
  • allowing entities to transfer some information from the directors’ report to the financial report or to a separate document accompanying both the directors’ report and financial report;
  • allowing entities to synchronise their financial year with that of a foreign parent where that foreign parent has an obligation under a foreign law to synchronise the financial years of controlled entities with its own;
  • relieving entities from reporting as disclosing entities if they cease to be disclosing entities before the reporting deadline for a financial year;
  • relieving disclosing entities which have a first financial year of 8 months or less from preparing a half-year financial report and directors’ report during that financial year; and
  • allowing entities to round amounts disclosed in the directors’ report and financial report.

The relief is set out in the following new legislative instruments:

  • ASIC Corporations (Uncontactable Members) Instrument 2016/187 (replaces Class Order 98/101);
  • ASIC Corporations (Directors’ Report Relief) Instrument 2016/188 (replaces Class Order 98/2395);
  • ASIC Corporations (Synchronisation of Financial Years) Instrument 2016/189 (replaces Class Order 98/96);
  • ASIC Corporations (Disclosing Entities) Instrument 2016/190 (replaces Class Orders 98/2016 and 08/15); and
  • ASIC Corporations (Rounding in Financial/Directors’ Reports) Instrument 2016/191 (replaces Class Order 98/100).

See also ASIC media release dated 26 August 2016 and Report 488 Responses to submissions on CP 240 Remaking ASIC class order on rounding and other matters.

 

ASIC repeals managed investment scheme registration class order relief

ASIC has repealed its class order relief from registration requirements for managed investment schemes from which all retail members have withdrawn. 

Following consultation which we reported on in the June 2016 G+T Corporate Advisory Update, ASIC has now repealed Class Order [CO 02/226] Managed investment schemes: No issue required disclosure (CO 02/226) on the basis that it is no longer required and does not form a necessary and useful part of the legislative framework.

See also ASIC Corporations (Repeal) Instrument 2016/774 and ASIC media release dated 19 August 2016.

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Foreign Investment

An update on FIRB’s approach to private equity funds

Based on ongoing discussions with FIRB, Deborah Johns shares below some of her insights into FIRB’s approach to private equity funds, and the reasons why extensions for assessment of applications are currently the norm rather than the exception.

Private equity funds that are considered to be foreign government investors

G+T has been working closely with the Australian Private Equity and Venture Capital Association Limited (AVCAL) (and independently of AVCAL) to win some relief for private equity funds (and their investees) that are considered to be foreign government investors as a result of upstream investment by public pension funds and sovereign wealth funds. 

One avenue of relief was a reduction of fees in certain circumstances.  In response to our efforts, Guidance Note 30 now provides that a fee of $1,000 applies to the following transactions by foreign government investors:

  • business transactions where the transaction is valued at less than $10 million; and
  • acquisitions of developed commercial land, where the transaction is valued at less than $55 million.

We are continuing to work with AVCAL and FIRB to try to find a satisfactory exemption mechanism, which doesn’t require legislative change, to reduce the compliance burden in relation to small transactions for private equity funds (and their investees) that are considered to be foreign government investors.

Tax conditions and domestically managed private equity funds

As we have previously reported, FIRB issued a revised set of tax conditions on 3 May 2016 which are aimed at foreign investments that pose a risk to Australia’s revenue and make clear the requirements and expectations for investors. 

The tax conditions consist of a set of standard tax conditions and a set of special tax conditions.   Usually, it is ‘only’ the standard tax conditions that will be imposed.   While the substance of these conditions is, generally, that the applicant must comply with tax laws and fulfil certain reporting obligations, the effect is that the Treasurer can unwind a transaction if the tax conditions are not complied with.
An increasingly broad range of applicants are being asked to confirm that they agree to the tax conditions, in advance of any determination by the relevant decision-maker to actually impose such conditions.  Whether the decision-maker actually imposes the conditions in all such cases remains to be seen. 

Delays

We are aware that many people are experiencing delays with their FIRB applications.  We note the recent election had a significant impact on the processing of many FIRB applications and that delays should now be easing as the new government settles in.  However, we consider that there will continue to be challenges in two areas: 

  • first, all applications that give rise to novel questions of interpretation of the relevant legislation and associated regulations are being carefully scrutinised, to ensure that adopting a particular interpretation will not have unintended consequences; and
  • second, the foreign investment unit does send applications to other government agencies (known as consult partners), and these consult partners do not necessarily have processes in place to deal with reviewing the applications within the normal statutory time frames. This should ease as processes between departments become more regularised.

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Other G+T Publications

Innovation Insights

The global economy is undergoing profound changes that many are calling a 'Fourth Industrial Revolution'.  This technology-driven revolution, like those before it, is being driven by increased automation and connectivity. These changes will have significant implications for national economies and will provoke a range of legal issues.

For further details, see Innovation Insights which was published by G+T for the AFR Innovation Summit held in Sydney on 17-18 August 2016.

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Cases

No leniency for foreign directors in an initial public offering: Australian Securities and Investments Commission, in the matter of Sino Australia Oil and Gas Limited (in liq) v Sino Australia Oil and Gas Limited (in liq) [2016] FCA 934

Foreign directors of Australian companies undergoing capital raisings are reminded of the need to ensure that they have a good understanding of Australian disclosure requirements and are able to read and understand the disclosure documents (or a translation of them is necessary).  It will be no defence to a claim for breach of a director’s duty of care and diligence for the director to argue that he or she did not speak or write English, or that he or she relied on the advice of Australian directors or professional advisers. 

Following an investigation in connection with an initial public offering in 2013, ASIC sought declarations of contravention under section 1317E of the Corporations Act 2001 (Cth) (Act) against Sino Australia Oil and Gas Limited (Sino) (the Australian holding company of a Chinese operating company which provided specialised oil and gas drilling services) and its former chairman, Mr Tianpeng Shao. 

Mr Shao was at all times the managing director, Chairman and CEO of Sino as well as the managing director and Chairman of the Chinese operating subsidiary.  Sino’s board comprised My Shao and 2 Australian non-executive directors.  Mr Shao, by his own admission, was a person who made, or participated in the making of, decisions that affected the business of Sino and its Chinese operating subsidiary and was the only member of the Board who had direct knowledge of, and involvement in, the business affairs of the Chinese operating subsidiary.

In holding that the declarations of contravention sought by ASIC should be made, Davies J in the Federal Court found that Sino had contravened the Act on the basis that it:

  • made misleading and deceptive statements in its prospectus documentation that it held 4 patents and in relation to its cash flow and material contracts in contravention of section 728(1)(a);
  • failed to disclose a loan of $937,000 to one of its subsidiary companies by the sole director of that subsidiary company in contravention of section 128(1)(b) of the Act;
  • failed to disclose new circumstances that adversely affected forecasted net profits in its prospectus documentation in contravention of sub-section 728(1)(b)-(c) of the Act;
  • made representations to its auditors in connection with the preparation of its audited financial statements concerning the Chinese operating subsidiary that were false and misleading in contravention of section 1041H; and
  • by failing to disclose the profit downgrade to the market, it also contravened its continuous disclosure obligations under 674(2) of the Act.

Davies J also made declarations of contravention against Mr Shao on the basis that Mr Shao was involved in Sino’s contravention of 674(2) of the Act and thereby contravened section 647(2A) (because before listing, Mr Shao knew that the actual profit would be impacted by the circumstances alleged by ASIC). Her Honour also found that Mr Shao breached his duty of care and diligence in section 180(1) of the Act by:

  • failing to obtain translations of the prospectus documents and ensuring they reflected all matters required to be disclosed.  In this regard, Davies J said that Mr Shao was required to inform himself fully and comprehensively about the content of the prospectus documents to ensure that the information contained in them was accurate. The failure by Mr Shao to ensure that he could understand, even in the most basic sense, the content of the documents he was signing was a breach of his directors’ duties;
  • failing to ensure that he had any, or sufficient, knowledge of the disclosure requirements for Australian publicly listed companies.  In this regard, Davies J found that the fact that Mr Shao was not an English speaker or writer and did not understand Australian disclosure requirements for publicly listed companies did not excuse him from the requirement to perform his duties with reasonable care and diligence;
  • failing to disclose to the Sino board and the ASX, and failing to disclose in the prospectus documentation, the change in circumstances and profit downgrade where Mr Shao knew of the circumstances but nonetheless failed to disclose them;
  • attempting to transfer the $7.5 million proceeds from the initial public offering from Sino’s Australian bank accounts to accounts in China for the purpose of advancing a loan to the Chinese operating subsidiary without proper reason or explanation and in circumstances where, due to failure to comply with Chinese regulatory requirements, the loan would have been irrecoverable; and
  • causing or permitting the breaches of the Act by Sino and exposing Sino to the risk of civil pecuniary penalties.  In this regard, Davies J held that a director properly discharging his or her duties would have taken steps to avoid this detriment to Sino and in failing to do so, Mr Shao had breached his duties.

Court exercises its powers under section 1322(4) of the Corporations Act to cure non-compliance with pre-emptive rights regime: Re QBiotics Ltd [2016] FCA 873

In this case, the Federal Court validated a series of share transactions which took place in contravention of a pre-emptive rights regime in a company’s constitution.  Whilst recognising that section 1322 should not be used ‘lightly to set aside’ requirements, the Court was persuaded by the fact that the board acted honestly in inadvertently overlooking the regime, and that in the circumstances, it was difficult to contemplate any real (as opposed to theoretical) prejudice that a person may suffer as a result of the Court’s orders. 

The background facts were as follows:

  • between May 2010 and December 2015, QBiotics Ltd (QBiotics) undertook more than 40 capital raisings as a result of which it went from having a sole shareholder EcoBiotics Limited (EcoBiotics) to over 1300 shareholders;
  • QBiotics facilitated over 203 share transactions between its shareholders by informing shareholders that it would maintain internal lists of those who wanted to buy and sell their shares and, if requested, introducing prospective buyers and sellers; and
  • QBiotics later became aware that the share transactions breached the pre-emptive rights regime in the constitution of QBiotics (Constitution) which effectively gave the other shareholders the right to buy a proportion of the sale shares equal to the proportion of all issued QBiotics shares held by that shareholder.

QBiotics then applied to the Federal Court for orders under section 1322(4)(a) of the Corporations Act 2001 (Cth) validating the share transactions and confirming that the current QBiotics share register was valid.  QBiotics also asked its shareholders to sign release deeds to mitigate its potential liability from the apparent contraventions of the Constitution.  At the date of the hearing, 262 of the QBiotics shareholders (holding approximately 50.72% of the shares on issue) had signed such deeds including 11 of the top 20 shareholders (including EcoBiotics which had always remained its largest shareholder).

Gleeson J in the Federal Court considered case law on section 1322(4) which enounced that:

  • section 1322(4)(a) is “to be construed broadly and applied pragmatically, principally by reference to considerations of substance rather than those of form”;
  • the broad policy underlying section 1322 does not authorise the Court “lightly to set aside” requirements that have not been observed but rather requires consideration of all of the circumstances to ensure that the indulgence sought is appropriate and does not undermine the requirements;
  • the concept of “acting honestly” can embrace active but incorrect consideration of a legal issue as well as failure to consider the issue at all; and
  • the reference to “no substantial injustice” has been held to refer to a real and not insubstantial or theoretical prejudice.

Gleeson J then made the orders requested by QBiotics on the basis that:

  • the QBiotics Board had acted honestly in permitting and facilitating the contraventions for the purpose of section 1322(6)(a)(ii), or alternatively that it was just and equitable for the purposes of section 1322(6)(a)(iii) that the orders be made.  Gleeson J held that it was not envisaged when QBiotics was first incorporated as a subsidiary of EcoBiotics that it would (some 6 years later) begin raising capital and become widely held.  As such, the existence of the pre-emptive rights regime was inadvertently overlooked by the QBiotics Board. Further, the fact that QBiotics remained transparent in its shareholder communications about the share transactions was not consistent with an intentional strategy to assist shareholders to deprive other shareholders of their rights, but rather suggested that the Board failed to consider the issue at all; and
  • no substantial injustice had been or would be likely to be caused to any person for the purpose of section s 1322(6)(c).   Gleeson J held firstly that all parties seemed to have conducted themselves on the basis that there were no restrictions on transfer and so by validating the share transactions and the register, the Court would be fulfilling the expectations of the parties rather than defeating them.  Secondly, there was no evidence that QBiotics ever received a complaint from any shareholder about potential contraventions.  Thirdly, given the nature of the shareholder spread, the vast majority of shareholders would only have been able to purchase a very small number of shares had the pre-emption regime been followed and would therefore only have had a very modest claim. As such, it was difficult to contemplate any real, as opposed to theoretical, prejudice that a person may suffer as a result of the Court’s orders. Finally, any perceived prejudice would need to be weighed against the real prejudice that could be suffered by QBiotics (who would be left in a positon of uncertainty as to its share register and the validity of resolutions which its shareholders had purportedly passed) and the transferees (who despite paying market value, did not receive good tile to the shares).

Many thanks to Matt Green, paralegal, for his assistance in preparing this summary.

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