12/12/2007 - 12:13

Call for reversal of Sons of Gwalia decision: Survey

12/12/2007 - 12:13

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The controversial High Court decision in Sons of Gwalia v Margaretic in 2007 should be overturned on the grounds that it will deal a harmful blow to Australian businesses and investment, according to a survey of corporate Australia.


The controversial High Court decision in Sons of Gwalia v Margaretic in 2007 should be overturned on the grounds that it will deal a harmful blow to Australian businesses and investment, according to a survey of corporate Australia.

The joint Chartered Secretaries Australia-TurksLegal survey of governance professionals and users of insolvency law services found that 65 per cent of respondents believed the decision would have a negative impact on Australian business and investment.

The repercussions of greatest concern were the blurring of the distinction between debt and equity investment as well as the addition of further complexity to winding-up proceedings.

CSA chief executive Tim Sheehy noted that only 28 per cent see Sons of Gwalia as having a positive impact.

These respondents appeared to place shareholders' immediate interests a distant second to those of the broader corporate community.

"There is no question that some shareholders are the winners under this decision because their compensation claims for corporate misconduct are protected to the same extent as unsecured creditors. Some might argue this is also a win for good governance since it deters companies from deliberately misleading investors. However, this comes at a very high price - namely, the potential for serious capital market disruption and the erosion of the traditional risk-return framework that has underpinned investment decisions," said Mr Sheehy.

"Shareholders traditionally assume greater risk for the chance of greater rewards, while creditors accept limited returns for lower risk. Yet the impact of Sons of Gwalia is that creditors may now have to compete against shareholders in a winding-up, which increases their risk with no compensating benefits. Australian corporates are rightly concerned because it will become more difficult and expensive for them to raise unsecured debt and obtain trade credit. This would not be in the long-term interests of business or shareholders as a whole," he added.

The majority of survey respondents signalled that legislators should amend Sons of Gwalia, with 43 per cent supporting a complete reversal of the decision.

A further 25 per cent advocated a partial reversal to remove shareholder rights to compete with unsecured creditors, but permitting those with claims for corporate misconduct to rank ahead of other shareholders in a winding up.

TurksLegal head of commercial disputes & insolvency group Pieter Oomens commented that, as a general rule, individuals should not be stripped of their legal rights unless there is a compelling public interest.

"Sons of Gwalia has seen Australia's highest court grant clear rights and protections to shareholders. Legal rights should not be overturned without careful consideration, but here, the issue is whether economic considerations outweigh those rights," observed Mr Oomens.

"Difficulty in capital raising is a major factor. Another, as the survey indicates, is the potential for insolvency proceedings to become prolonged and stymied to the detriment of all claimants," said Mr Oomens.

"Where insolvencies are concerned, the ability of administrators to take swift action to protect assets and manage claims is often critical to securing a positive result for claimants. Sons of Gwalia has the potential to compromise that ability.

"Left unchanged, administrators particularly in large corporate collapses, would have to consider and adjudicate on potentially large numbers of shareholder claims. This would create uncertainty and cause very significant delays. All claimants would be worse off as a result," he added.

In Sons of Gwalia, a shareholder alleged that he had been induced to buy shares in an ASX-listed company as a result of the company's misleading conduct. The High Court held that the shareholder had the same rights as an unsecured creditor in the subsequent winding up of the company, to lodge a claim against the company's assets for the shares' loss in value. In this case, the company's alleged misconduct arose from a breach of its continuous disclosure obligations in failing to advise the ASX of changes in its operations that meant it could no longer operate as a going concern.

The Corporations and Markets Advisory Committee (CAMAC) has announced that it will review the Sons of Gwalia decision with a view to determining whether a legislative response is warranted.

 

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