Client Update: Commercial Litigation – ASIC fails in conflict of interest and insider trading case against Citigroup
28 June 2007
In brief: The Federal Court has rejected ASIC's charges of conflict of interest and insider trading against Citigroup. Partner Michael Schoenberg (view CV), Lawyer Alex Danne and Articled Clerk Simon Sherwood report.
The decision in Australian Securities and Investments Commission v Citigroup Global Markets Australia Pty Ltd was handed down today by Justice Jacobson in the Federal Court in Sydney. The application by the Australian Securities and Investments Commission (ASIC) against Citigroup Global Markets Australia Pty Ltd (Citigroup) was dismissed on all grounds and costs awarded against it.
Citigroup, as with other large investment banks, divides its business into:
- the private side, providing client advisory services (in which it deals with confidential, market-sensitive information); and
- the public side, providing services based on publicly available information, part of which involves Citigroup's internal trading house buying and selling securities using its own funds ('proprietary trading').
Citigroup had established 'Chinese walls' (as per market practice) to restrict the flow of market-sensitive information from the private side to the public side.
The proceedings leading to today's decision arose as a result of a purchase by a Citigroup trader on 19 August 2005, on its public side, of more than one million shares in Patrick Corporation Ltd (Patrick).
At the same time as this trade took place, Citibank private side employees were advising Toll Holdings Ltd (Toll) in relation to a possible takeover attempt of Patrick. Although no single person at Citigroup was controlling these processes, the effect of the trading was likely to end to Citigroup's benefit, but to Toll's theoretical detriment, as a result of an increased price for Patrick securities caused (in part) by heavy trading by Citigroup's public side.
At one point during the day, the Citigroup trader was told by Citigroup personnel who were aware of the circumstances surrounding Toll's takeover intentions to cease buying Patrick securities. Subsequently, the Citigroup trader sold approximately 20 per cent of the Patrick securities that had been acquired.
ASIC alleged that Citigroup breached its obligations as a financial services licensee to manage its conflicts of interest, imposed on it under s912A(1)(aa) of the Corporations Act 2001 (Cth). ASIC argued that the Chinese-wall arrangements in place were inadequate for the purposes of compliance. It contended that the conflict of interest could only be avoided by having in place arrangements preventing Citigroup from trading on its own account in Patrick securities, immediately from the date of its private side involvement with Toll. This line of argument, if accepted by the court, would have had wide-ranging practical implications for the financial services market.
Central to ASIC's allegation that Citigroup breached s912A(1)(aa) was its assertion that a fiduciary relationship existed between Citigroup and Toll. In reaching his decision, Justice Jacobson relied on an existing High Court authority1 to find that, because the letter of engagement (under which Toll retained Citigroup) specifically excluded the existence of a fiduciary relationship, ASIC's claim for breach of s912A(1)(aa) could not be successful on these grounds.
His Honour also rejected ASIC's argument that Citigroup was under a further fiduciary obligation to obtain Toll's express consent before it traded in Patrick securities. Alternative allegations by ASIC that Citigroup had breached the misleading and deceptive conduct provisions and the unconscionable conduct provisions of the corporations legislation were also rejected.
ASIC alleged that Citigroup had breached the insider-trading provisions of the Corporations Act on two grounds. The first, based on alleged conversations between private- and public-side employees, was that suppositions amounting to 'inside information' were made by the public-side trader, and when that trader subsequently sold the Patrick securities, he was trading in possession of inside information and thereby committing an offence.
This argument failed, as the trader in question was not an 'officer' of Citigroup within the meaning of s9 of the Act. As a result, the trader's knowledge was not attributable to Citigroup. Further, the court found, as a matter of fact, that the trader had not made the supposition alleged by ASIC.
The second ground of ASIC's insider trading claim was based on the fact that Citigroup's private side was advising a company in relation to an acquisition target, securities of which were (at the same time) the subject of public-side trading. ASIC alleged that inside information held by the private side was attributable to the whole of Citigroup, notwithstanding the Chinese walls that were in place. Essentially, ASIC sought to test the validity of market standard arrangements (in this case Chinese walls) for managing the flow of market-sensitive information between different business areas within the bank. The court found that the Chinese-wall arrangements in place were adequate for the purposes of complying with the requirements of the Chinese-wall exception to insider trading contained in s1043F of the Corporations Act.
ASIC's application was dismissed on all grounds and costs awarded against it.
- Breen v Williams (1996) 186 CLR 71 and Hospital Products Limited v United States Surgical Corporation (1984) 156 CLR 41.
- Michael SchoenbergPartner,
Ph: +61 3 9613 8714
- John WardePartner,
Ph: +61 2 9230 4892
- Geoff RankinPartner,
Ph: +61 7 3334 3235
- Kim ReidPartner,
Ph: +61 2 9230 4037