SOME ISSUES FOR CORPORATIONS AND SECURITIES MARKETS
Introduction
2.1 In Chapter 1 of this Paper, the Committee outlined, in broad terms,
some of the potential effects of technological change on Australian corporations
and securities markets. This Chapter deals with these effects in more
detail.
2.2 In summary, it is suggested that, as a result of the development
of an international electronic market in the trading of shares and related
securities, the amount of corporate and investment information that is
readily available, and the quality of that information, should increase.
However, insubstantial 'information' such as gossip or rumour may also
increase and will circulate more widely. Information from all sources
should appear in a much more timely fashion. The ability to manipulate
and interpret that information may also be enhanced, possibly assisted
by specifically developed computer software and by new information intermediaries.
2.3 The new technology is also likely to bring about structural changes
in securities markets. Many of the roles intermediaries now perform -
which are explicitly recognised in, and specifically regulated by, the
Corporations Law - may change, or even disappear, as investors or fund-raisers
take on those roles directly, perhaps again assisted by computer software.
However, there is scope for new types of intermediation and for new classes
of intermediaries which are not yet recognised in the Law.
2.4 Given these developments, some of the problems currently faced by
regulators may also change, or disappear. However, many new problems will
arise - principally as a consequence of the internationalisation of markets,
and of transactions that cross jurisdictional borders, or take place outside
those borders. Some matters currently subject to regulation may, in the
future, be more difficult (or even impossible) to regulate.
2.5 Given that developments are taking place in an international context,
there will be an obvious need for widely accepted standards. These standards
will be needed to govern the technology itself, the software it utilises,
the manner in which information is presented, and the legal environment
which will apply to transactions undertaken.
2.6 Finally, international markets are likely to bring with them a greater
depth of choice for investors in, and issuers of, securities, and may
include a greater range in the 'products' offered, including many novel
products not currently contemplated by the legislation.
2.7 This remainder of this Chapter discusses these likely effects in
greater detail.
Information
2.8 Currently the Corporations Law regulates the way in which information
about corporations, their activities and their securities may be provided.
Much of the information disclosed by companies must satisfy prescribed
requirements. [1]
2.9 The Law also regulates those who may offer information or advice
about securities, and imposes certain qualifications on the content of
that advice. In general terms:
- only licensed securities dealers or investment advisers may offer
such advice; [2]
- an adviser must not make recommendations about securities to anyone
who may reasonably be expected to rely on that advice unless the adviser
has a reasonable basis for making the recommendation; [3]
- when making personal securities recommendations to clients, advisers
must disclose any commission, fee or other benefit they will receive
in connection with the recommendation, and any interest they have that
might be capable of influencing the making of the recommendation; and
- when providing general securities advice, advisers should include
a warning that no analysis has been carried out to match the advice
to the needs and circumstances of any individual investor. [4]
2.10 The rationale for licensing investment advisers was set out by the
ASC in its Licensing Review Report Good Advice. While noting that its
role was not to be a risk regulator, nor to protect investors from financial
losses, the ASC observed that:
In the context of a relatively fragmented and young market for
investment advisory services and a relatively inexperienced investing
community, it is considered appropriate that the ASC maintain a licensing
role. Regulation which imposes requirements on advisers before they
can enter the industry is considered justified having regard to the
needs of retail investors who (as the market survey confirmed) rely
largely on assumptions as to the competence and integrity of advisers,
rather than undertake this assessment themselves.
A form of licensing which sets minimum standards in recognition
of retail investor needs is considered preferable to alternative forms
of regulatory intervention (such as negative licensing) which rely largely
on the role of market forces in excluding incompetent advisers. The
possible losses to investors and the community would be too high if
the ASC's role was limited to intervention after breaches occur. If,
in the future, investors have equal access to information and clearer
signals of appropriate advice, greater reliance on market forces to
set minimum standards may be justified.
Unlike the market for retail advisory services, however, the
ASC believes that many of the market imperfections do not exist at the
sophisticated investor level because these participants are more capable
of obtaining and monitoring the quality of services available to them.
Moreover, their needs in relation to the types of advisory services
they obtain are also different. The ASC, therefore, considers that participants
at the sophisticated investor level do not require the ASC's protection
to the same extent as retail investors ... [5]
Licensing and the Wallis Committee
2.11 It should be noted that the Wallis Committee also considered the
issue of licensing. The approach advocated by that Committee involved
the establishment of a single regime to license advisers providing investment
advice and dealing in financial markets, with separate categories of licence
for investment advice and product sales, general insurance brokers, financial
market dealers, and financial market participants. [6]
Under this licensing approach, the CFSC should:
- have power to devolve responsibility for competency training and testing
to industry bodies; and
- develop a single set of requirements for investment sales and advice
(including minimum standards of competency and ethical behaviour; requirements
for the disclosure of fees and adviser's capacity; rules on handling
client property and money; and financial resources or insurance available
in cases of fraud). [7]
2.12 Subject to the outcome of a review, real estate agents providing
investment advice would be required to hold a financial advisory licence.
However, professional advisers such as lawyers and accountants would not
be required to hold such a licence if they provided investment advice
only incidentally to their other business and rebated any commissions
to clients. [8]
Implications of the electronic dissemination of 'official' information
2.13 Clearly, both 'official' and 'non-official' information may be made
available electronically. Under recently introduced or proposed procedures,
information such as profit or company announcements may be lodged electronically
with the ASX and the ASC, and may be disseminated electronically by them.
Consideration is being given to proposals to enable the electronic delivery
of notices of meeting to shareholders and the electronic lodgment of proxies
by shareholders. Indeed, in a recent report, this Committee recommended
that the Corporations Law should more extensively recognise electronic
forms of communication between companies and their members, and regulatory
authorities. [9] Such recognition would
enable information to be disseminated more quickly, at a lower cost, and
to be more readily searched and analysed.
2.14 Technology also has the potential to make information such as real-time
share prices and trading volumes, and details of regulatory or enforcement
action, much more widely available. Where such information is presently
restricted to market professionals, in the near future it is likely to
be available to anyone with basic Internet access.
2.15 However, a number of subsidiary issues may arise where 'official'
information is made available electronically. Broadly, these involve:
- the possibility of better or quicker access where some investors receive
information electronically while others continue to receive it in a
printed form;
- the possibility that the forms governing the ways in which printed
information should be presented may not be appropriate for information
made available electronically; and
- whether specific procedures may be needed to ensure that information
made available in electronic form cannot be inadvertently or deliberately
changed or tampered with.
Some issues:
- will the greater availability of information in electronic form disadvantage
those investors without access to information in that form?;
- are further statutory provisions needed to deal with the forms in
which information may be made available electronically?;
- what regulatory approach should be taken to the provision of audio-visual
or other information which supplements prescribed information?;
- what regulatory approach should be taken to the provision of information
in electronic form in languages other than English?; and
- how can the authenticity and security of information lodged or disseminated
electronically be guaranteed, and who should be responsible for guaranteeing
that authenticity?
Implications of the electronic dissemination of other information
2.16 'Non-official' information about companies and their securities
is difficult to categorise. It may extend from considered financial analysis,
through investment advice, to advertising for share purchases, and to
rumour and speculation. Information in all these categories is now commonly
found in electronic form on the Internet.
2.17 The growing availability of stockbrokers' analysis is noted in para
1.9 above. Information and advice from investors or interested members
of the public is also available. For example, in September 1996, 'Australian
Stocks and Shares', an Internet site operated by Mr Gerry Pauley, was
voted Australia's most popular destination in the inaugural AFR/Telstra
Australian Internet Awards. The site was based on personal share trading,
and included company information, educational material and graphs. [10]
No charge was made for the advice provided, and the site also contained
a disclaimer that its operator was not a financial adviser.
2.18 In spite of this, in October 1996 the site was closed after the
ASC insisted that its operator obtain a dealer's licence:
Mr Pauley was putting himself up as an expert and as such required
a dealer's licence, said the ASC's spokesperson, Ms Irene O'Brien.
"Because giving investment advice on the Internet is new,
we're going to be cracking down on people. It's against the Corporations
Law." Ms O'Brien said it didn't matter whether or not someone charged
consumers.
"If you give people investment advice and have them trust
you, you need to be licensed because you're dealing with people's money.
"There's an unfortunate tendency for people at the moment
to read everything on the Internet as gospel" [11]
2.19 The ASC's action followed an earlier incident in which misleading
information was published on the Internet. In March 1996, Mr Ron Gully,
the operator of a Geelong-based Internet site, published a report predicting
that the price of shares in three named oil exploration companies would
skyrocket after the discovery of a "monster oil find in Manila Bay".
He removed the report after four hours and suspended the service because
of "legal problems" after one of the exploration companies notified
the ASX that the report was "absolutely false". Mr Gully explained
that he had received an anonymous tip from someone claiming to represent
people on the drilling rig, but had not contacted the companies involved
to confirm the tip.
The incident has highlighted international concerns that individuals
can manipulate the uncontrolled information superhighway to circumvent
regulatory safeguards.
A wave of electronic share tipping and share buying services
have been established on the Internet.
Mr Gully said he has had close to 45,000 "hits" from
visitors to his six-month-old Web share tipping service, which he describes
as "Australia's busiest financial services page".
However, he also said yesterday that the contents of his Web
page were just gossip. [12]
2.20 In June 1996, the ASC issued a Media Release dealing with investment
advice on the Internet. This observed, in part:
The ASC is particularly concerned that securities recommendations
are being made by people who may not be licensed investment advisers
and, as a result, not qualified, and that such recommendations might
include information which is false or misleading or which repeats baseless
rumours ...
"Companies and individuals who are not licensed dealers
or investment advisers who make recommendations or provide unsubstantiated
information on securities through the Internet are warned that this
conduct is prohibited under the Law and such conduct leaves those parties
liable to civil and criminal sanctions," the ASC's National Co-ordinator
of Enforcement, Andrew Procter, said. [13]
2.21 Problems continue to emerge in spite of such warnings. For example,
as recently as May 1997, the "chat room" HotCopper (also operated
by Mr Gully) published a series of comments about the shares of Carpenter
Pacific Resources NL (Carpenter), which had released drilling results
suggesting a significant gold discovery. These comments included hints
of a possible takeover for Carpenter, and claims that a named broker,
and officers of another company with an interest in the prospective mine,
had indicated that the release of further positive drilling results was
imminent.
2.22 Asked whether he had provided the information disclosed, the named
broker stated that the particular Internet contributor had "caused
a storm in a teacup by writing provocatively about what he has heard"
but that there was "probably substance in what he has written".
[14] Media reports of the incident suggested
that:
While the authorities are deeply concerned about the material
HotCopper published, there is little they can do. Gully is not licensed,
but he does not charge for his services and he publishes a disclaimer
at the head of his chat site urging people to seek professional advice
...
Apart from the obvious possibilities that such chat sites can
be used to manipulate the market, the authorities are particularly concerned
in Carpenter's case because ... 95.2 million share options expire at
the end of June. They closed on Friday at 13.5c each, still well out
of the money because 25c is owed. [15]
2.23 There is a more substantial history of similar activities in the
US, often involving newsgroups or bulletin boards rather than home pages.
The SEC Internet site reports a number of occurrences including:
- an allegedly fraudulent offering of promissory notes, purportedly
secured by US Government securities, through newsgroup bulletin board
postings on the Internet, and through numerous advertisements placed
on the Internet access provider CompuServe; [16]
- an allegedly fraudulent promotional campaign for a Canadian resources
company which involved placing messages targeted at US investors over
the Internet through a New Orleans-based computer bulletin board service
called the "Emerging Growth Stock" Bulletin Board Service;
[17]
- the sale, over the Internet, of investment contracts for the sale
and leaseback of privately owned automated teller machines; a scheme
which raised almost $3.5 million from at least 132 US investors; [18]
and
- the posting of numerous Internet messages "accessible to millions
of potential investors across the country and world-wide" in an
attempt to entice those investors with promises of riskless profits
and above average returns from investments in two Costa Rican enterprises,
ICP and the Jupiter Agro Development Project. [19]
2.24 In November 1996, in response to serious questions raised about
OmniGene Diagnostics Inc, the SEC temporarily suspended over-the-counter
trading in the company's securities and also posted information about
the suspension on a message board that discussed OmniGene stock. A media
release issued on behalf of the SEC noted:
While the Commission has thus far used the Internet through its
Web site (www.sec.gov) to solicit information about possible fraudulent
activities, we will now be using the Internet to alert investors to
potential problems with specific securities when circumstances warrant.
This is the first time we've done so, but it will not be the last. [20]
2.25 There is a proliferation of general information about companies
and their securities, both domestic and international, on the Internet.
[21] One investor bulletin board - The
Motley Fool - claims a regular readership base of 400,000:
"What makes Web sites like Motley Fool different is that
there are hundreds of people offering often quite expert investment
advice at any one time, and it is free ...
"There is no barrier to entry, the research is free, [and]
participants report rates of return that are competitive with top-rating
fund managers ..." [22]
2.26 Some of the information provided is unexceptionable, and represents
the work of licensed advisers. Other information represents the work of
thoughtful (but unqualified and unlicensed) amateurs. Other sources provide
a forum for rumour and gossip, about which one observer recently noted:
While cyberspace chat might have a more exclusive air to it,
there can hardly be any guarantee that rumours from a "chat room"
on the Internet are any newer or potent than rumours picked up over
the telephone from a stockbroker or from an acquaintance in front of
the ASX display board. [23]
2.27 To date, the approach chosen by the ASC seems to have required the
operators of all Australian-based Internet sites to comply with the licensing
provisions of the Law. However, little action seems possible in the case
of "bulletin boards" or "chat rooms". There are obviously
many competing considerations, including allowing investors full access
to the information potential of electronic communications while minimising
the opportunities for market manipulation and investment fraud.
2.28 Some other jurisdictions have attempted to draw distinctions between
different forms of electronic communication. For example, the US National
Association of Securities Dealers (NASD) regards an Internet World Wide
Web site, a site on a commercial online service (such as America OnLine)
and communications posted on electronic bulletin boards as forms of advertising.
Group electronic mail is regarded as sales literature. Individual electronic
mail is regarded as correspondence, and a "chat room" is regarded
as a public forum using an electronic medium. Different filing, review,
approval and disclaimer guidelines seem to apply in each case. [24]
2.29 The information potential of the new technology is likely to be
further enhanced by developments in software. The Wallis Committee referred
to the future importance of "intelligent software" to make searching,
obtaining and analysing information more manageable over public and private
networks. [25] A recent report from
one group of technology analysts reportedly forecast that "mobile
units of intelligent software that search for customised information on
the [World Wide] Web will transform the Internet into a finely tuned forum
for electronic commerce generating almost US$5 billion of revenue by 2006".
[26] Other reports refer to software
programs known as 'smart agents', 'intelligent agents' or 'program navigators'
which will allow investors to examine financial products and services,
and select and purchase them. [27] In
the areas of interest to this Committee, one example of the development
of a program designed to analyse the information disclosed in a prospectus
is referred to in para 2.60 below.
2.30The information potential of the new technology also seems to challenge
the enforcement abilities of regulators such as the ASC. In addition to
comments made within Australia about Australian shares, it is highly likely
that comments about Australian shares (or overseas shares traded on the
ASX) will be made on Internet sites, "bulletin boards" and "chat
rooms" based outside Australia - challenging the jurisdictional reach
and enforceability of the Law. It is also possible that comments about
shares traded overseas may be made on Australian sites or through an Australian-based
Internet service provider. It may be that there is a general need to re-evaluate
the operation of the Law as it applies to investment advice and comments
about securities.
Some issues:
- what regulatory approach, if any, should govern the provision of formal
investment advice or informal investment comments by electronic means?;
- should such a regulatory approach be uniform, or should it differentiate
between comments which are paid for, or which are solicited, and comments
which are offered without charge or which are offered under a disclaimer?;
- should such a regulatory approach distinguish between comments made
by the operator of an Internet site, and comments made on a "bulletin
board" or in a "chat room"?;
- what regulatory approach, if any, should govern the provision of information
or advice to individuals or groups of individuals by electronic mail?;
- what regulatory approach, if any, should be adopted where rumours
about an Australian-listed company are placed on the Internet outside
Australia, or through a service provider located outside Australia?;
- what regulatory approach, if any, should be adopted where rumours
about a company listed overseas are placed on the Internet within Australia,
or through a service provider located in Australia?;
- what remedies, if any, should be available where securities transactions
take place in Australia based on electronically-generated rumours that
are later found to be false?;
- what effect, if any, will the trend to electronically provided information
have on:
i) those provisions in the Law (Pt 7.7) which require licence-holders
and "financial journalists" to maintain registers of their
interests in securities;
ii) that provision in the Law (s 77(6)) which distinguishes incidental
advice about securities in the media from investment advice; and
iii) the existing distinction between "inexperienced" and
"sophisticated" investors?
Footnotes
[1] For example, the information required to
be included in a company's annual return is set out in s 335 and Form
316 of the Law. Information required to be included in a prospectus is
governed by ss 1021 and 1022. The ASX Listing Rules provide a further
regulatory structure for disclosure by listed companies.
[2] Corporations Law ss 780, 781. While the
Law speaks of 'carrying on an investment advice business', such a business
need not be carried on for profit.
[3] Corporations Law s 851.
[4] Corporations Law s 849.
[5] Australian Securities Commission, Good
Advice, reproduced in ASC Digest SPCH 163.
[6] Wallis Committee Report, p 273.
[7] Wallis Committee Report, pp 273-4.
[8] Wallis Committee Report, pp 275-6.
[9] See Parliamentary Joint Committee on Corporations
and Securities, Report on the Draft Second Corporate Law Simplification
Bill 1996, Canberra, (November 1996), pp 10-14.
[10] 'Stocks site shuts amid Net tangles',
Sydney Morning Herald, (31 October 1996) p 25.
[11] 'Stocks site shuts amid Net tangles',
Sydney Morning Herald, (31 October 1996) p 25.
[12] 'Internet share tipping draws ASC attention',
Australian Financial Review, 26 March 1996.
[13] Australian Securities Commission, Media
Release 96/121, reproduced in ASC Digest, pp MR 172-3.
[14] 'ASC frowns on Net talk', Australian
Financial Review, 19 May 1997, p 60.
[15] 'ASC frowns on Net talk', Australian
Financial Review, 19 May 1997, pp 28, 60.
[16] Securities and Exchange Commission
v William B Sellin II, Zaitech Holdings Inc and Baccaratt Holdings Inc:
SEC Litigation Release No 15012, 12 August 1996.
[17] Securities and Exchange Commission
v Wye Resources Inc and Rehan Malik: SEC Litigation Release No 15073,
26 September 1996.
[18] Securities and Exchange Commission
v Western Executive Group Inc, Cash Systems USA Inc, Charles R Reitz,
Robert R Parrish, Robert J Struth and R Stephen Edgel: SEC Litigation
Release No 15106, 3 October 1996.
[19] Securities and Exchange Commission
v Scott A Frye: SEC Litigation Release No 15139, 29 October 1996.
[20] Securities and Exchange Commission, 'Commission
Posts OmniGene Notice on America OnLine' Media Release 96-133,
20 November 1996.
[21] See, generally, Martin Roth, The Internet
for Investors, Wrightbooks, Melbourne (1996) pp 54-71 and pp 124-140.
[22] 'Investor bulletin boards threaten retail
networks', The Australian 9 October 1996, p 34.
[23] 'Regulators still nervous about rules
of cyberspace', Australian Financial Review 13 February 1997, p
23.
[24] See, generally, National Association of
Securities Dealers, NASD Regulatory & Compliance Alert, April
1996, pp 4-5.
[25] Wallis Committee Report, p 107.
[26] 'Smart agents on the Web to track down
specialist data', Australian Financial Review 4 April 1997, p 23.
[27] 'Freed is good', The Bulletin,
11 March 1997, p 48.
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