Full Court weighs in on shareholder class actions re-enlivening Worley class action

5 min read

The Full Court of the Federal Court has allowed an appeal by shareholders in the class action against Worley Limited, finding that the primary judge’s dismissal of the case must be set aside and remitted to a single judge for determination in light of the Full Court's reasons. The further hearing will involve a consideration of quantum and loss and may give rise to the first order for damages in a shareholder class action.  

Key takeaways 

• In determining whether a company has reasonable grounds for forward looking representations, the relevant issue for the court to determine is what was known by a company, not solely its Board of directors.
• A company may be aware of material information and breach its continuous disclosure obligations if it fails to disclose an opinion which it ought reasonably to have formed based on facts known to it, regardless of whether it did or did not form that opinion.

Background

The allegations in the proceeding centred on Worley's FY14 earnings guidance which was provided in August 2013 and downgraded on 20 November 2013. Following the revised earnings guidance, Worley's share price fell approximately 26%.

In providing the FY14 earnings guidance, the applicant alleged that Worley:

• engaged in misleading or deceptive conduct in contravention of s1041H of the Corporations Act 2001 (Cth) (Corporations Act), s12DA of the Australian Securities and Investments Commission Act 2001 (Cth) and/or s18 of the Australian Consumer Law (being Schedule 2 of the Competition and Consumer Act 2010 (Cth)); and
• contravened its continuous disclosure obligations pursuant to s674 of the Corporations Act and ASX Listing Rule 3.1.

In October 2020, the first instance judgment was delivered, dismissing the claims against Worley. That decision was the subject of an appeal, which was heard in August 2021. A summary of the background and first instance judgment is available here.

The appeal was brought on numerous grounds contending that the primary judge made all the necessary findings to support the conclusion that Worley lacked reasonable grounds for its FY14 earnings guidance other than the ultimate finding to that effect, which the appellant contended was due to an error in the approach taken by the judge.

The appellant submitted that the FY14 budget was unreasonable and not fit for use to prepare the FY14 earnings guidance for reasons including:

• Worley had a history of consistent material underperformance against budget;
• Worley had twice downgraded its earnings forecasts in 2013;
• the FY14 budget was not a 'P50 budget' (referring to an equal chance of exceeding or going below the budget), and should have been known by Worley not to be such when it was adopted;
• the FY14 budget did not result from a risk-adjusted approach to forecasting;
• Worley’s markets were not growing or were deteriorating when the FY14 budget was being prepared; and
• Worley maintained the 19% blue sky revenue (the same as 2013 when markets were buoyant) despite evidence that blue sky performance was a function of market buoyancy.

Central to the appellant's position was an internal memorandum prepared by the CFO of Worley, Mr Holt, shortly after the earnings downgrade (the Holt Memorandum). The Holt Memorandum identified a raft of issues with Worley's financial forecasting process, describing a 'culture of optimism' and a process which 'assumes that everything will go right in a world where we know things will go wrong'.

Decision

In allowing the appeal, the Full Court (Jagot and Murphy JJ, with Perram J agreeing) held that the primary judge erred in her Honour's approach to the determination of the issues. The Full Court highlighted four errors in the primary judge's approach:

• first, an incorrect focus on the conduct of the Board rather than Worley. Contrary to the case put by Worley, the Full Court determined that the relevant issue was not what was actually known by Worley’s Board, what views the Board held, or the reasonableness of the conduct of the Board, but rather whether Worley had reasonable grounds for providing the FY14 earnings guidance. The Full Court held:

'…the reasonableness of the formation of the opinion of Worley's Board, based on the information before or known to the Board, is not the beginning and end of the matter. It is, in fact, of marginal relevance'.

• secondly, an unwarranted search for a level of detail in the evidence which would permit the judge to identify a calculation of NPAT for FY14 which would have been reasonably based. The Full Court determined that the appellant did not have to identify any specific line item error in the budget or impugn the reasonableness of one or more inputs to an extent which implied that any objectively reasonable NPAT forecast was less than the FY14 earnings guidance. It would suffice if the appellant established that the overall forecast was unreasonable. For example, if the budget process was inherently unsuitable for use as the basis for earnings guidance because it would not produce a P50 budget (and therefore was not at least equally likely to be correct as to the forecast NPAT), the Full Court held it must follow that Worley did not have reasonable grounds for the FY14 earnings guidance.
• thirdly, a failure to appreciate the full significance of the evidence that was tendered and the findings made by considering the issues through too narrow a lens. This error, included a failure to assess the evidence as a collective whole, including documents such as the Holt Memorandum.
• fourthly, a failure to weigh the evidence and the proper inferences to be drawn consistently with applicable principles, including by failing to draw available inferences on the whole of the evidence as a result of Worley not calling certain witnesses to give evidence (including Mr Holt).¹

On the continuous disclosure case, Worley submitted that the information allegedly not disclosed in breach of Worley's continuous disclosure obligations – that Worley did not have reasonable grounds for the FY14 guidance – constituted an opinion. Worley submitted that where the information requiring disclosure is an opinion, s674 of the Corporations Act and Listing Rule 3.1 require only the disclosure of opinions actually held or possessed by the company. The Full Court rejected these submissions, holding that:

'There is no rational basis to characterise opinions which ought reasonably to be held in the circumstances as something distinct from information. On Worley's approach to the protective obligations under Listing Rule 3.1 it would be straightforward for a listed entity to avoid its continuous disclosure obligations by the simple expedient of the relevant officer not forming an opinion from known facts, when, applying a standard of reasonableness, the opinion ought to have been formed'.

It follows that for the purposes of Listing Rule 3.1, an entity will be 'aware' of an opinion which it ought reasonably to have formed on the facts known to it regardless of whether it did or did not in fact form that opinion.

Next steps

The Full Court has remitted the matter to a single judge for a further hearing, stating that there is no reason why it would be necessary for the further hearing to involve anything other than submissions having regard to the reasons of the Full Court. The further hearing will include an assessment of loss and damage, potentially giving rise to the first damages order in a shareholder class action.

Implications

There are a number of takeaways that emerge from the judgment. A central integer underpinning the Full Court's decision was the primary judge's reliance on the views formed by the Board to provide the necessary reasonable grounds for its forward looking guidance. The Full Court decision makes clear that the fact that earnings guidance may reflect an opinion formed by a Board (rather than the company who is the relevant representor) is immaterial. The critical question for determination requires scrutiny of the matters known, or ought to be known, to the company's officers more broadly (including opinions not actually formed). This means that in developing budgets companies must apply care to ensure that internal reporting processes provide a comprehensive flow of information that allow for a holistic assessment of the achievability of the assumptions underpinning any proposed guidance.

Another key impact of the Full Court decision is the effect of the judgment on the current state of the shareholder class action landscape. Over recent years we have observed a modest softening in the rate of shareholder class action filings as defendants have enjoyed a run of success in defending shareholder actions (with no proceeding sounding in an order for damages). While it remains to be seen whether the remitted hearing will result in a damages order in favour of the applicant, the reasoning applied by the Full Court may put some wind in the sails of class action promoters and spark a reinvigoration of broader interest in the pursuit of shareholder claims.