Following our previous blog article on the facts and myths surrounding class actions in Australia (you can catch up and read it here), in this second part of the two-part blog series, we discuss the implications of the growth of shareholder class actions for the local D&O market in a Q&A style.
Q: Which type of class action is the most prevalent and poses the most risk?
A: Although we have seen the class action industry in Australia expand in recent years to other areas, shareholder class actions still remain the preferred type of class action for litigation funders as they generate the most revenue for the litigation funding industry.
Typically, they involve allegations of breach of the continuous disclosure and misleading and deceptive conduct provisions of the Corporations Act 2001 (Cth).
In Australia shareholder class actions rarely proceed to trial and to date, have never resulted in judgment, including a final judgment on the validity of the ‘market-based causation’ theory.
This does not mean that all shareholder class actions settle with judicial approval and the class being paid out with settlement monies. According to Professor Morabito’s findings, only 64% of all shareholder class actions filed before June 2017 settled (with others possibly discontinued or dismissed). They settle mostly due to the prohibitive nature of the costs incurred in running them.
Q: How has the rise in shareholder class actions affected the Australian D&O market?
A: The significant defence costs and often large settlements of shareholder class actions in Australia have placed significant pressure on the D&O insurance market. Shareholder class actions against the entity is covered under Side C cover under D&O policies, often sharing limits with the directors under Side A/B. While the losses in respect of shareholder class actions continued to grow, the generally soft insurance market made it difficult for D&O policies to be priced at a level that reflected the risks. Over the last year, this is starting to change and insureds are often facing significant premium increases (often by more than 200%). The D&O insurance market has hardened and insurers now see it as a loss-making sector.
Some D&O insurers have responded by restricting cover to reduce risks or withdrawing from the market altogether.
The ALRC has recognised this issue and has proposed that the Australian Government commission a review of the statutory continuous disclosure obligations and misleading and deceptive conduct provisions. Essentially, to try to curb shareholder class actions by attacking the legislative bases of the claims.
The issues are complex but we do not consider that amending the continuous disclosure laws would solve the issues and there is a risk that instead it would undermine an important element of Australia’s corporations’ framework. Further, changes to the continuous disclosure regime would not necessarily mean that class actions arising from alleged misleading of the market would be reduced. Novel class actions may still emerge in response to any amended legislation.
Where to from here?
The reality is that (shareholder) class actions are here to stay. We expect that the recent hardening of the D&O insurance market represents to a degree a pricing catch up from many years of a soft market, but that over the time the market will adjust to the new reality. This will impact ongoing pricing and the terms that insurers are willing to pay. Companies who wish to take out Side C cover will have to be prepared to pay for that cover. Insurers may also become more selective about those risks they will underwrite.
These market conditions, along with the ever evolving class action landscape, will continue to drive Australian companies to focus on risk management around market disclosures. This issue is not without complexity given the ever-evolving risk landscape.