Companies making representations about the future must prove that reasonable grounds exist for them. If management has doubts that are not shared with the board, the consequences can be serious.
Australia’s misleading conduct laws contain provisions that treat all representations about future matters as misleading — unless the person making them can prove reasonable grounds for them. These include s 769C of the Corporations Act 2001 (Cth), s 12BB(1) of the Australian Securities and Investments Commission Act 2001 (Cth) and s 4(1) of the Australian Consumer Law. The practical effect of these provisions is to shift the evidential burden onto the company to show that reasonable grounds existed at the time that the representation was made.
In applying the law, courts have consistently adopted the approach that the company must be able to point to facts or circumstances, existing at the time of the representation and on which it in fact relied, that are objectively reasonable and support the representation made.
Often, this comes down to what the company “knew” at the time it made the representation. If relevant officers or others in the company knew of facts that undermined the basis for the company’s statements, this can be critical, as the recent decision of the Federal Court in Crowley v Worley Ltd (No 2) [2023] FCA 1613 demonstrates.
The Worley case
The Worley litigation is one of the largest investor class actions of the past decade. In August 2013, listed company Worley Ltd (then WorleyParsons) made an ASX announcement that included earnings guidance forecasting a net profit after tax (NPAT) for FY14 of over $322m. That earnings guidance was reaffirmed by Worley on three occasions in October 2013. However, on 20 November 2013, Worley revised its guidance downwards, predicting that NPAT would be $260m–$300m. Its share price fell 25 per cent. Investors who had acquired shares between August and November brought various claims against the company, including that it had engaged in misleading conduct in relation to the forecast.
The litigation followed an interesting path. In 2020, Justice Jacqueline Gleeson dismissed the investors’ case, finding that the board had reasonable grounds for the company’s August 2013 guidance. Her decision was later reversed by the Full Federal Court on appeal in Crowley v Worley Ltd [2022] FCAFC 33. After the appeal, the case was remitted to Justice Ian Jackman in the Federal Court to be determined on the basis of the evidence presented at the earlier trial. Based on that evidence, Justice Jackman decided in December 2023 that Worley’s earnings guidance lacked reasonable grounds and was misleading. However, he concluded that Worley’s misleading conduct did not cause the investors’ claimed losses and no compensation was awarded.
Worley argued that its “reasonable grounds” for making the NPAT forecast of at least $322m for FY14 were its internal 2013–14 budget and the process by which it was prepared. The evidence showed the budget had been reviewed and relied on by the board ahead of the August announcement.
At trial, Justice Gleeson looked to what the board knew to decide whether Worley had reasonable grounds to make the earnings guidance statements. It seems the Worley board had no reason in August 2013 to doubt the accuracy or robustness of the budgeting on which the forecast was based. But a subsequent review prepared for the Worley audit committee in December 2013 showed problems with the internal 2013–14 budget, identified and discussed within the management team, but not brought to the attention of the board.
On appeal, the Full Court emphasised that the earnings guidance statement was issued by the company itself, not the board. What mattered was whether the company itself, not the board, had reasonable grounds for the forecast. Accordingly, the Full Court said, “the reasonableness of the formation of the opinion of [the] board, based on the information before or known to the board, is not the beginning and the end of the matter”.
A company’s knowledge includes the knowledge of relevant executives. If relevant Worley executives knew the 2013–14 budget (or its preparation) was shaky, then Worley also knew it. This went to whether reasonable grounds existed for Worley to make the forecast, regardless of whether management misgivings had been shared with the board.
As the Full Court said, “If it were otherwise, the position would be untenable. A [CFO or CEO] could withhold from the board the fact that its budget NPAT forecast which was to be used to give earnings guidance to the market was unreasonably and unrealistically high... [and the company] could then succeed in defending itself from a claim of misleading and deceptive conduct merely because the board itself had no reason to know that the budget NPAT forecast was unreasonably and unrealistically high. That is not the law”.
Companies are generally taken to “know” information that is known to relevant officers and employees, under general principles of agency law. If relevant officers at Worley had information that cast doubt on the reasonableness of the assumptions underpinning the NPAT forecast, then reasonable grounds for making it would not exist.
The Full Court looked at what the CFO knew and concluded, “given his role and responsibilities in the process of preparing and putting the budget to the board, [his] knowledge... is attributable to [Worley] under the ordinary principles of agency”. It held that the “objective reasonableness of the FY14 budget and budget process as supporting the representation made must be evaluated by reference to all of the knowledge properly attributable to [Worley] by reason of the knowledge of its employees” as its agent.
Forward-looking statements
Forecasts, predictions and the like are routinely expected of many companies, particularly under ESG reporting requirements. In its Information Guide 214 on forward-looking statements in the resources sector, ASIC says, “If you do not have reasonable grounds for a forward-looking statement, cautionary language, qualifications or disclaimers are not sufficient to prevent it from being misleading”.
When a company makes a representation about a future matter, it must have reasonable grounds. As Worley demonstrates, these must take into account any facts and circumstances of which the company is aware, including through all of its relevant officers and employees.
This article first appeared under the headline 'Flirting with Liability’ in the March 2024 issue of Company Director magazine.
Dr Pamela Hanrahan is a consultant at Johnson Winter Slattery.
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