ASIC's enforcement decisions - is litigation the most effective deterrent?

By Belinda Thompson
Corporate Governance Funds Superannuation Financial Services

In brief

Written by Managing Associate Susie Stone and Partner Belinda Thompson

We have previously reported on ASIC's submission to the Financial System Inquiry (FSI), and in particular, its assertion that it needs a broader range of more onerous financial penalties in order to punish and deter corporate wrongdoing (Unravelled: Increasing ASIC's enforcement powers). ASIC made similar submissions to the recent inquiry by the Senate Economics References Committee into its performance. The Senate Committee's Report, released on 26 June 2014, does recommend that the penalties currently available to ASIC should be reviewed. However, the report is also highly critical of ASIC's enforcement record, and particularly its reliance on enforceable undertakings. This criticism appears to be founded, at least in part, on the Committee's view that litigation, not out-of-court settlement, is a more effective means of deterrence.

The Committee's concerns in this regard are evident immediately upon opening its Report. In discussing ASIC's enforcement role, the Report's Executive Summary states:

ASIC needs to be respected and feared. It needs to send a clear and unmistakeable message, backed-up and continually reinforced by actions, that ASIC has the necessary enforcement tools and resources and is ready to use them to uphold accepted standards of conduct and the integrity of the markets.

The concept that ASIC's enforcement actions play an important role in deterrence has also been recognised by the FSI. In the context of its discussion of ASIC's enforcement powers, the FSI's Interim Report states that '[e]nforcement sends a deterrent message to industry and is an important aspect of the consumer regulatory framework'.

It is not surprising, then, that the Committee gave detailed consideration to ASIC's enforcement decisions, clearly an issue of concern in many submissions. It acknowledged that, according to statistics on overall litigation success, ASIC has sustained a high success rate in its litigation, but noted:

Statistics on overall litigation success can be interpreted and viewed in conflicting ways. While a low success rate would clearly attract criticism, a very high success rate may also be questionable: it could suggest a risk averse or even timid agency, one that only takes cases it is extremely confident it will win.

It also noted that the statistics alone do not show the number of cases taken against major entities compared to less well-resourced individuals and entities, and therefore may disguise ASIC's 'inclination or ability' to take on larger corporations. Indeed, many of the submissions made to the Committee raised concerns about ASIC's enforcement record against 'big business'. It is clear from the Report that the Committee was concerned by the perception that ASIC is reluctant to take action against large companies or well-resourced individuals. More specifically, submissions suggested that ASIC does not have the resources to take on well-resourced firms or individuals, and that where ASIC does pursue enforcement action against large businesses, it tends to pursue less severe remedies such as enforceable undertakings, rather than commencing proceedings.

While ASIC rejected these suggestions, the Committee was not convinced. It acknowledged certain factors that influence ASIC's approach to court action, including its obligation to act as a model litigant and, interestingly, the fact that private actions or class actions can provide access to justice even if ASIC does not take action. It also acknowledged the cost of court proceedings and the time taken to get to court. Nonetheless, it concluded that:

…the public interest would be better served if ASIC was more willing to litigate complex matters involving large entities. There appears to be either a disinclination to initiate court proceedings, or a penchant within ASIC for negotiating settlements and enforceable undertakings. The end result is that there is little evidence to suggest that large entities fear the threat of litigation brought by ASIC.

In reaching this conclusion, the Committee paid particular attention to ASIC's use of enforceable undertakings. Former ASIC employees gave evidence that ASIC has become reliant on them, 'particularly as a remedy for misconduct by large entities'. Other criticisms related to the lack of transparency surrounding such undertakings – particularly as they do not necessarily contain a clear admission of fault – and the fact that the undertakings may fail to specify the form that the remedial action called for should take. It was also suggested that undertakings do not have the same impact on the public as litigation, and that the consequences of breaching an undertaking are limited, as ASIC has a discretion whether to pursue a breach through the court.

The Report concludes that enforceable undertakings 'may correct behaviour within a particular organisation, but they do not yield the wider and more significant regulatory benefits that are associated with successful court action'. The importance of deterrence is a recurring theme in the Report. For example, while the Committee recognised the benefits of enforceable undertakings (namely, that they are cost-effective, can change behaviour within an entity and enable outcomes and remedies that are timely and which may not be achievable through the courts), the Report notes that the ability of an undertaking to deter misconduct within or by other regulated entities can be damaged by various deficiencies in the undertaking.

This focus on deterrence is similarly evident in the Committee's recommendations. The Report recommends that the balance of ASIC's enforcement special account be increased significantly, so as to provide a greater deterrent effect and to ensure that ASIC is not prevented from taking on major litigation. With respect to enforceable undertakings, it recommends that when considering whether to accept an undertaking, ASIC should require:

  • stronger terms;
  • a clearer acknowledgement in the undertaking of what the misconduct was; and
  • the appointment of an independent expert to supervise the implementation of the terms of the undertaking.

The Committee also recommended that ASIC consider ways to make the monitoring of ongoing compliance with undertakings more transparent. This may include requiring that reports on progress towards achieving the objectives of the undertaking are made public, and more vigilant monitoring of compliance with a view to enforcing compliance.

It remains to be seen how the FSI's final report, due in November 2014, will address these issues. The FSI's Interim Report acknowledges the Senate's inquiry into the performance of ASIC, and notes that the findings of the Senate Report will be carefully examined in the lead-up to the Final Report. While the Interim Report does not directly address ASIC's willingness to litigate against large corporations, it does seek views on a stronger penalty regime 'to strengthen the impact of ASIC's enforcement action and provide a more effective deterrent message against misconduct'. It also seeks further information as to whether the current enforcement regime is adequate and whether ASIC has adequate powers. It seems likely, then, that enforcement action by ASIC will receive further consideration in the final report. Perhaps unsurprisingly, ASIC's submission in response to the Interim Report addresses at length the penalty regime in the Corporations Act, but does not discuss ASIC's use of enforceable undertakings. ASIC does, however, support independent reviews of regulators' performance, while noting that further work must be done to determine the appropriate performance metrics for ASIC.

In any event, the Senate Committee's Report will no doubt cause ASIC to consider carefully its enforcement approach. The effect may be that ASIC is more reluctant to rely on enforceable undertakings, opting instead to pursue more matters through the courts (particularly if its budget is increased). Alternatively, where undertakings are used, ASIC may be more aggressive as to the terms it requires, such as in relation to admissions and issues of confidentiality.

It is not clear, however, that a move away from the use of enforceable undertakings would have the desired outcome of improving corporate conduct and deterring other entities from engaging in similar conduct. As the Committee recognised, costly and time-consuming litigation does not produce changes in behaviour within an organisation, certainly not in the short term, whereas an enforceable undertaking offers that opportunity in a more efficient manner. It may be that many of the problems with undertakings that were identified in submissions to the Committee, and acknowledged in its Report, can be addressed by including stricter compliance monitoring provisions to ensure that the necessary changes have in fact been adopted, coupled with stronger enforcement of the undertaking.

Similarly, caution should be exercised in making the details of enforceable undertakings public. As the Committee itself noted, many of the matters within ASIC's oversight are also the subject of private actions or class actions. There is a real risk that plaintiffs in such actions could seize on statements included in enforceable undertakings to further their case. This is particularly concerning if companies are required to make admissions of breach, in circumstances where the breach has not been established by a court of law. If ASIC were to insist on the inclusion of such statements, entities may well be disinclined to accept undertakings and may instead opt to fight the matter through the courts. There is a real question whether, given the cost, delay and uncertainty involved in litigation, that outcome is in the public interest. It will be interesting to see whether the final report of the FSI grapples with these issues.