ALRC's class action report - a 'canary in the coal-mine'?

In brief 15 min read

The Australian Law Reform Commission has released its much-anticipated final report on class actions and litigation funding, which makes a broad range of recommendations intended to bring the modern class action landscape back into line with the regime's original objectives. Partners Jenny Campbell and Kate Austin consider what the report means for potential class action defendants.

Background

The ALRC's report¹ provides a thoughtful and thorough analysis of the current class actions landscape, following extensive consultation with a broad range of stakeholders and experts. While it remains to be seen how many of its 24 recommendations will be adopted, it provides an important reference point for considering class action risk now and in the future.

The ALRC has sought to measure the health of the regime by reference to the touchstones of promoting fairness and efficiency; protecting litigants; and assuring the civil justice system's integrity. Almost every aspect of its consideration of these issues centres, in one way or another, on the effects of increasing entrepreneurialism.

While the report is understandably diplomatic in the way it addresses those issues, the breadth of its recommendations confirms that reform is required to ensure that the class action regime delivers on each of the touchstones mentioned above. Importantly, while the focus is often on access to justice for claimants, each of those touchstones requires consideration of defendants' interests as well.

Against that background, we have reflected upon the ALRC's recommendations and observations through the lens of whether the recommendations (if adopted) might reasonably be expected to restore the balance between the interests of claimants, defendants and class action promoters.

Class action promoters – contingency fees, regulation and supervision

Class action lawyers to be permitted to charge contingency fees

The ALRC has recommended that the lawyers representing class members be permitted to charge for their work on a contingency fee basis, subject to obtaining court approval for the proposed arrangement. Perhaps counter-intuitively, the primary rationale for this recommendation is an attempt to reduce the amount of class action proceeds paid to the promoters – ie by creating an alternative funding option that does not involve the double drain on proceeds of both legal fees and a third-party funding commission. There is, of course, already such an option – solicitors charging on a 'no win-no fee' basis –  but the ALRC envisages that the ability to charge on a contingency basis will result in lawyers being willing to take on a broader range of cases, including those that are not attractive to third-party funders.

This is not the first time a law reform body has recommended that the ban on contingency fees be lifted.² However, this more limited version – applying only to class actions, with the added protection of court approval and supervision – may be considered a relatively low risk way of experimenting with the concept. The Attorney-General, Christian Porter, has indicated that he finds the proposal 'fairly persuasive'.³

The hope that it will result in more class actions being commenced is obviously not welcome news for potential defendants. There may be a small silver lining, in that the cost of settlement should be lower in those cases brought on a contingency basis, as compared with those that are third-party funded, because only one promoter will be looking to take their cut – that said, the ALRC's vision is that those savings will be passed onto class members and not defendants.

Funders – no licensing regime but increased court supervision

The ALRC's interim discussion paper proposed that funders should be subject to a bespoke licensing regime modelled on the existing Australian Financial Services Licence regime. Somewhat surprisingly, the ALRC has since revisited that proposal and now favours increased court oversight of funders over a licensing regime. This shift was informed by the criticisms levelled at the existing financial services licensing regime during the Royal Commission into Misconduct in the Banking, Superannuation and Financial Services Industry, and by ASIC's submission that the courts are better placed to supervise litigation funders.

The ALRC has recommended a range of measures to bring about increased court oversight and to support the court to protect the interests of group members, including that class action funding agreements should be enforceable only with the court's approval, and to provide that the court has the statutory power to reject, vary or amend the funding agreement's terms.

In many ways, the proposed reforms are a sensible codification of the courts' increasing preparedness in recent years to scrutinise the conduct of funders and the reasonableness of commission rates. However, in our view, the courts can only go so far in their supervision of the industry. While there may be question marks over the existing financial services licensing regime, it is a matter of concern that, despite the ALRC's recognition of the significant role that funders play in class action litigation, there will remain no barriers to entry for funders in Australia – no prudential requirements, or other character standards, to ensure that only reputable and capable funders operate in the class actions market. 

Shareholder class actions – special attention required

The ALRC called out shareholder class actions as requiring special attention because it considered that many of the concerns expressed about the class action regime generally arose only (or mainly) in the shareholder context – including competing class actions, entrepreneurial activity, inadequate returns to class members, and lack of clarity in the substantive law. While we do not necessarily share the view that these issues are unique to shareholder class actions, we support the separate consideration of shareholder class actions, given their dramatically increasing incidence (as reported in Class Action Risk 2018).

The ALRC acknowledged the concerns that shareholder class action risk was having a broad range of effects on corporate behaviour that are not necessarily in the interests of shareholders – including 'just in case' or over-disclosures; reluctance to provide earning guidance; and, perhaps most importantly, an over-concentration of focus and time on disclosure issues at the expense of pursuing the company's profit making objectives. It also noted the impact of increasing shareholder class action activity on the availability and cost of D&O insurance – which it described as the 'canary in the coal-mine', in the sense that 'something is not quite right but the evidence is not yet available to establish precisely what'.

Against that background, the ALRC has recommended a review of the legal and economic impact of the operation, enforcement and effects of the substantive law that underpins shareholder class actions. The potential for such a recommendation generated heated debate when it was foreshadowed in the ALRC's interim discussion paper. The promoters of shareholder class actions came out with impassioned arguments against any such review. We, of course, support the call for a review. Indeed, it is difficult to see how, after 20 years of shareholder class action experience, it could be suggested that these issues are not of sufficient importance to the conduct of business in this country to warrant an informed and balanced review of whether the continuous disclosure regime, and the private right of action arising from a possible breach, are serving the interests of shareholders and the broader business community.

Unfortunately, the Attorney-General has indicated that the recommended review is 'just not a high priority'.⁴ Nonetheless, we see it as important issue for the business community and will continue to advocate for reform in this space. It is, however, likely to require a long-term approach.

As an aside, perhaps the most controversial recommendation of all is to give the Federal Court exclusive jurisdiction over shareholder (and financial) class actions, having regard to that court's established expertise/experience in those cases, and to prevent forum shopping and competing class actions across jurisdictions.

Efficiency and fairness through case management and settlement approval processes

Case management reforms

The ALRC has recommended a number of reforms to assist the court to case manage class actions effectively, efficiently and fairly. While some reforms are intended to 'return the regime to its original design', others are directed at keeping pace with developments, including the impacts of entrepreneurialism.

Open classes and class closure

In response to the problems associated with closed classes and consistent with the regime's original objectives, the ALRC has recommended a change to the law to require all class actions to be commenced on an open class basis. The ALRC considers that it is only through an open class regime that there can be a single binding decision that applies to all claimants with related claims and not just those who take active steps to participate in the class action. While framed from an access to justice perspective, the reform is a welcome development for defendants, in that it ultimately promotes finality and certainty in the determination of class action claims. Finality and certainty are also promoted by the ALRC's recommendation that, to avoid increased cost and delay, any subsequent class closure orders for the purposes of mediation be final, subject to the court's discretion.

Common fund orders

In its interim discussion paper, the ALRC proposed that common fund orders (an order requiring all group members to contribute equally to costs of the proceeding, regardless of whether they have signed a funding agreement) be compulsory in all proceedings. Having regard to concerns raised in submissions, including the contribution of common fund orders to the increase in competing class actions and a race to the courts, the Commission now favours the court being provided with the express statutory power to make common fund orders on the plaintiff's application or the court's own motion (in other words, on a case-by-case basis). The ALRC considers that the availability of such orders supports, and is consistent with, its other recommendations, including open classes, and the statutory power to reject, vary or amend funding agreements, and to deal with competing class actions. While the ALRC has come out in favour of common fund orders, that is unlikely to be the end of the story. A current pending challenge to the validity of common fund orders before the New South Wales Supreme Court and the Federal Court may impact the implementation of any reform.

Competing class actions

The ALRC acknowledges that competing class actions have become an increasingly significant problem in the class action landscape, pointing to data that shows that since 1992, there have been 513 class actions commenced in relation to 335 legal disputes, with most competing cases being shareholder class action claims. While venturing no direct observations on the circumstances that have led to this problem, the ALRC proposes an 'evolutionary not revolutionary' solution.

The ALRC draws on the courts' developing jurisprudence to propose a new statutory power to resolve competing class action proceedings. In many cases, this would involve the court selecting one class action to proceed while staying the remaining competing proceedings. However, the power would also encompass consolidation, joinder or amendment powers to create a class action that includes common issues derived from various claims. This power would be supported by a further case management procedure, leading to a selection hearing at which the court will determine which claim will proceed, by reference to the overarching principle 'that the court is to choose the proceeding that best advances the claims and interest of group members in an efficient and cost-effective manner, having regard to the stated preferences of group members'. Defendants will be prevented from participating in the selection hearing, except in relation to security for costs.

The ALRC's proposed solution for competing class actions is, by and large, a sensible one. However, we remain concerned about the ALRC's proposal that defendants be precluded from participating in the selection hearing. As we see it, there are other core issues to be dealt with at a selection hearing that are highly relevant to defendants' interests and on which the defendant should be heard – these include the nature of the common questions of law or fact, and the adequacy of the representative plaintiff, including whether their claim will determine the common issues. This issue is even more pronounced, given it is proposed that the new statutory power may be directed at creating a class action that includes common issues derived from various claims.

Settlement approval – greater transparency and accountability

Transparency, accountability and the principle of open justice lie at the heart of the ALRC's recommendations related to the settlement approval and administration process.

The ALRC has recommended amending the Class Action Practice Note to formalise the court's power to appoint an independent referee to review legal costs and disbursements in a class action proceeding before settlement approval. The ALRC suggests that the timing for any referral remain at the court's discretion – whether that be at the beginning of the proceedings, at settlement approval, or not at all. It remains to be seen whether, if implemented, this recommendation results in an increased number of referees being appointed to scrutinise the reasonableness of costs charged in class actions. In order to allow a meaningful assessment, and having regard to the potential impacts of class action entrepreneurialism, we think it should become standard practice in major class actions that a periodic review of the plaintiff's costs be conducted.

The question of settlement confidentiality continues to loom large for the parties in class actions. Happily, the ALRC has not gone so far as to recommend a 'blanket prohibition' on confidentiality, but notes the court is building jurisprudence on when confidentiality orders are warranted. Recently, we have seen courts taking an increasingly interventionalist approach to confidentiality in class action settlement approval decisions, declining to preserve the confidentiality of various matters related to, and the terms of, the settlement (including the settlement sum). If this trend continues, parties cannot assume that agreed terms will be kept confidential. Undoubtedly, this risk will become a key factor in future settlement negotiations and agreements.

A voluntary collective redress scheme?

An indicator of the broad-ranging nature of the ALRC's considerations is that it has also recommended an alternative (non-judicial) means of collective redress – a standardised scheme structure through which corporations can provide collective redress to consumers and small businesses, under the applicable regulator's supervision. The primary rationale for this recommendation appears to be that, while class actions have been effective in securing access for justice for many, they involve significant transaction costs and will generally only be brought when commercially viable for a promoter.

Drawing heavily from the collective redress schemes operating in England and Wales, the ALRC identified a number of principles that should guide the design of such a scheme, including: establishing a scheme would be voluntary for a corporation; participation by affected persons would also be voluntary (see below); the terms of the scheme must be approved by the relevant regulator and implemented by an independent panel; an admission of liability is not required (but may be a prerequisite of regulator approval); and establishing a scheme would make a corporation eligible for a reduction of up to 50 per cent of the applicable penalty for the relevant conduct.

There are, of course, already mechanisms available for corporations to provide collective redress to consumers: eg in accordance with ASIC's RG 256. That said, an independently operated standardised scheme may provide an attractive option in some circumstances. As always, though, the devil will be in the details and we have two key concerns about what is proposed:

• Affected persons would have the choice to participate in the scheme or take alternative steps to seek redress (which would include a class action). This means that implementing a scheme would not provide an opportunity to resolve an issue on a 'once and for all' basis. Indeed, the terms available under the scheme may provide a floor for negotiations to resolve a piggy-backing class action.
• The requirement for regulator approval is likely to make the viability of implementing a scheme significantly dependent on the regulator's attitude. While the availability of a reduction in penalty is an attractive aspect of what is proposed, that benefit may be immaterial if the regulator's terms (which, as noted above, could include an admission) are particularly onerous. This is of particular concern, given that a scheme will not provide a 'once and for all' resolution.

It may be that this proposal will receive more immediate attention than would otherwise been the case, with the ALRC having suggested that, in light of the potential for significant reform following the Banking and Financial Services Royal Commission, the financial services sector might be a suitable sector for a pilot.

Final reflections

The ALRC has described the effects on D&O insurance as the 'canary in the coal-mine'. As we see it, the depth and breadth of the recommendations are themselves a canary – although the ALRC does not call out class action entrepreneurialism for what it is, the extent of the recommendations suggests that significant change is required to address the way in which entrepreneurial class actions practice has moved the regime away from its core objectives. It remains to be seen how many of the recommendations are adopted and, if they are, the extent to which they deliver the necessary reform. We are, however, concerned that – particularly with so much of the suggested reform being in the form of additional case management powers for the court – the reforms proposed will not substantially address defendants' legitimate concerns.

The ALRC's recommendations are now in the hands of the Attorney-General. Mr Porter has said that he will conduct another round of consultations with lawyers, litigation funders and other stakeholders to 'stress test' the proposed reforms before taking any recommendations to cabinet.⁵ It remains to be seen how far (if at all) these matters can be progressed before the federal election, particularly given the attention that will be directed to the recommendations made in the Banking and Financial Services Royal Commission's Final Report, due early next week.