Regulators in New Zealand have broad investigation and enforcement powers. It is not uncommon for regulated entities to challenge the way in which those powers are used. But what is the position of a party that is aggrieved with a regulator for not doing more to use the powers they have been given?
Last week, the High Court was faced with a claim by a shareholder in Du Val Property Group Ltd (Lindeman). Lindeman acquired its shares following the restructuring of Du Val’s mortgage fund, which saw Du Val suspend distributions to investors and offer to convert investors' funds into shares in a new listed entity.
A month before Lindeman acquired its shares, the FMA had published a formal warning about the Du Val Group’s marketing of its equity swap. It warned that the statements made to mortgage fund investors were likely to be misleading or deceptive. Later, Du Val issued an information memorandum in relation to the equity swap, leading the regulator to notify the Group that it was considering issuing a direction order under s 468 of the Financial Markets Conduct Act 2013 (FMCA). Du Val voluntarily redrafted the information memorandum and the FMA opted not to issue a direction order. Du Val sent this amended information memorandum to its investors, offering those that had chosen to participate in the equity swap the opportunity to reverse the transaction.
The FMA later obtained an order from the High Court placing the entire Du Val Group of companies into receivership. The group was placed under statutory management shortly thereafter.
Lindeman alleged that the decision not to issue a direction at an earlier point amounted to the FMA’s approval of the equity swap scheme and that this approval was a breach of a duty of care it owed to those who had invested in the mortgage fund. It said the FMA owed investors a duty of care in tort, requiring it to exercise reasonable skill and care in carrying out its functions under the Financial Markets Authority Act 2011 (FMAA) and the FMCA. This duty was said to arise following the FMA’s engagement with Du Val, which Lindeman said gave it a reasonable basis to be concerned about the misleading nature of the equity swap and the solvency of the Group. Lindeman also claimed that the scheme of the FMCA and the FMAA implicitly imposed an equivalent statutory duty on the FMA.
Duty of care rejected
The Court struck out Lindeman’s claim. It held that imposing such a tortious duty on the FMA where it undertook investigations would “create a perverse incentive”. It would encourage the FMA to avoid becoming involved in the affairs of issuers. It would also incentivise risk-averse actions where the regulator did involve itself, thereby inhibiting the FMA’s ability to properly perform its functions. The Court was also concerned that such a duty would expose the FMA to indeterminate liability and have the effect of creating a publicly funded insurance scheme for investors.
The Court also held that the FMA’s relationship with the mortgage fund investors was not sufficiently proximate to give rise to a tortious duty of care. Further, the FMA was required to exercise its powers in consideration of the position of all the investors and creditors of Du Val and the effect a collapse of the group could have on the wider market, not just the position of the mortgage fund investors. The Court considered that imposing a duty on the FMA to favour a particular section of the public would be inappropriate.
The Court did not consider the statutory regime that empowers the FMA could be interpreted to implicitly impose a tortious duty of care on the regulator either. While it is charged with promoting and facilitating the development of fair, efficient and transparent financial markets under s 8 of FMAA, along with a number of core functions relating to the supervision, regulation and intervention in financial markets, the Court did not consider this meant that the FMA owed the mortgage fund investors a duty of care.
The Court rejected the claimed statutory duty for the same reasons.
Finally, it is of note that the facts of the case meant that, in any event, Lindman’s claim was unlikely to succeed. The Court found that the FMA could not be said to have effectively approved the equity swap where it did not make any public comment about its decision not to issue a stop order. The Court also had serious doubts that harm suffered by Lindeman was sufficiently foreseeable to the FMA: had the regulator warned the investors of its concerns about Du Val’s insolvency, the ensuing public panic would have made it highly unlikely Lindeman would have been able to successfully reverse its equity swap transaction.
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Disclaimer: This publication is necessarily brief and general in nature. You should seek professional advice before taking any action in relation to the matters dealt with in this publication.
