Submission to ALRC Inquiry into Class Actions calls for a closer look at short seller involvement in class actions

MinterEllison has lodged a further submission to the Australian Law Reform Commission (ALRC) Inquiry into Class Action Proceedings and Third-Party Litigation Funders, with the firm calling for a closer look at the appropriateness of short sellers’ participation in shareholder class actions.

In its earlier submission of 30 July 2018, MinterEllison’s response to the ALRC Inquiry called for reform to a regime that is enabling a steep rise in shareholder class actions. The firm’s submission supported the ALRC’s Proposal 1-1 in its discussion paper ‘Inquiry into Class Action Proceedings and Third-Party Litigation Funders’ dated June 2018 that the Australian Government should commission a review of the impact of the continuous disclosure obligations on listed companies having regard to, among other things, the increase in shareholder class actions.

MinterEllison’s further submission argues that: 

• any review of Australia’s continuous disclosure regime with a focus on shareholder class actions should look closely at short sellers’ increasing involvement in such actions;
• there should be examination of whether short sellers should appropriately be allowed to profit from shareholder class actions taking into consideration short sellers’ unique investment strategies; and
• short seller participation is likely to have an ongoing impact on settlement sums ultimately received by class members, in circumstances where the short seller may have already profited from any decline in the share price.

“No Australian court has examined the issue of short selling in a class action context,” said David Taylor, MinterEllison Partner and class actions specialist. “Short sellers regularly profit from share price declines, and then make claims for compensation as participants in a class action. Certain courts in the US have therefore denied short sellers the right to participate in class actions. Short sellers, here and in the US, contend that they should be able to participate as class members. Our view is that short sellers’ attempts to, effectively, ‘double-dip’, have the potential to cause an injustice to the companies being sued, but also to traditional investors participating in class actions.”

“As well as the appropriateness of short sellers potentially benefitting twice from the share price decline, from MinterEllison’s perspective, there is a key question as to whether short sellers should be allowed to rely on the class action mechanism of market-based reliance to claim loss,” said Mr Taylor. “Short sellers may in fact be betting on the market getting it wrong, rather than relying on the market to accurately price the security. They should not be entitled to rely on an assumption therefore that a company’s share price has been accurately set by a market which possesses all material information about the company.”

“The participation of short sellers in class actions is well known to litigation funders and to law firms that practise in this area,” said Beverley Newbold, Head of MinterEllison’s National Class Action practice. “The entitlement of short sellers to participate will often be canvassed in confidential settlement discussions between litigation funders and law firms. However, there has been no public discussion of short sellers’ alleged entitlement to participate, nor of how consistent their participation is with the objectives of Australia’s continuous disclosure and shareholder class action regimes. Close scrutiny should be given to this issue in any proposed continuous disclosure review.”

The ALRC final report is due in December 2018.