Too little too late to challenge findings of misleading conduct over financial products

By Ian Bloemendal and Declan Carr
03 Feb 2022
Failing to engage in proceedings filed by regulators can have serious consequences.

A recent judgment illustrates the fundamental importance of leading evidence in regulatory proceedings before determinations are made, appealing any findings you disagree with, the principles governing pecuniary penalties and the potential exposure of directors and officers to adverse orders (Australian Securities and Investments Commission v Mayfair Wealth Partners Pty Ltd [2021] FCA 1630).

The Mayfair Group was found to have engaged in misleading and deceptive conduct at a trial that the company did not appear at. The company then decided to take part in the penalty hearing at which the Federal Court imposed a $30 million penalty on the Mayfair Group, (more than double the $12 million sum that had been sought by ASIC, because it considered that to be insufficient).

The regulator takes action against the Mayfair Group

In March 2021, the Federal Court found that four companies controlled by James Mawhinney had engaged in deceptive and misleading conduct in the course of selling financial products such as debentures and income notes (the Liability Judgment). The misleading conduct concerned advertisements which represented that the products were “comparable to bank term deposits”, and had “no risk of default”, when in fact they were highly speculative, often unsecured and carried a high likelihood of not being repaid.

The Mayfair Group raised $140 million from 281 investors, many of whom were retirees, usually investing between $200,000 and $800,000, which often represented their life-savings.

The Mayfair Group then used that money to acquire real estate and invest in private equity ventures, often through loans to related entities. These investments and loans were often unsecured, posing a risk to investors that their principal investment – let alone the interest – would not be repaid. Further, the Mayfair Group often had the right to extend the time for repayment indefinitely.

The Court:

  • found that significant amounts lost by some investors are yet to be repaid, with reports of liquidators suggesting that the prospect of any repayment is unlikely; and
  • made declarations that the Mayfair Group had breached the ASIC Act, imposed a temporary injunction and made adverse publicity orders.

Despite not appearing at the Liability Hearing, the defendants sought to contest the orders sought by ASIC at the Penalty Hearing. This required the Court to consider whether prior unchallenged evidence and findings of fact could be subsequently be challenged, along with the principles governing pecuniary penalties.

Challenging the findings of a liability judgment

The defendants unsuccessfully argued they could challenge some findings of fact already made by the Court. In dismissing this submission, Justice Anderson held it would not be permissible for the defendants to seek to have the Court make findings that were inconsistent with those at the Liability Hearing. He found that if a matter is raised at a penalty hearing which does not contradict a finding of fact at the liability hearing, but is relevant to both liability and penalty, it will only be received with respect to the penalty.

Importantly, the Court held that if the defendants wanted to challenge findings of fact, the proper forum for such a challenge is an appeal from the Liability Judgment.

What is the maximum penalty?

Under section 12GBCA(2)(b) of the ASIC Act, if the Court can determine the "benefit derived and the detriment avoided" because of the contravening conduct, it may impose a penalty of up to three times that amount. If that amount cannot be determined, the maximum penalty per contravention is currently $11.1 million ($10.5 million at the time of Mayfair’s contravening conduct).

ASIC argued that the benefit derived was the $140 million raised from investors, meaning the maximum penalty – three times that amount – was $420 million. The defendants, however, pointed to the fact that much of the $140 million was invested in real estate and other assets, and further argued that ASIC had not shown the benefits were "reasonably attributable" to the contravention.

On this point, the Court sided with the defendants, acknowledging the substantial amount invested in real estate and other assets. Accordingly, the maximum penalty per contravention was (then) $10.5 million.

Should a penalty be imposed?

The defendants made the following arguments against the imposition of a penalty:

  1. first, the declarations of liability were not validly made under the relevant provision;
  2. secondly, the specific number of contraventions could not be determined; and/or
  3. thirdly, the contraventions were not serious enough to warrant a penalty.

In dismissing the first argument, the Court observed that the declarations were validly made, and if the defendants wanted to challenge their legal basis, the correct forum was an appeal – which had not been filed. This emphasises the point that penalty proceedings are not the place to challenge findings of a Liability Judgment.

In considering the second argument, Justice Anderson observed that courts have adopted a common sense approach. This allows the Court to identify the nature of the contraventions and a period of time in which they occurred, without needing to identify the specific number of contraventions that occurred if that is not practical.

Finally, Justice Anderson rejected the submission that the contraventions were not serious. The findings of the Liability Judgment indicated that the conduct of the defendants was serious and resulted in a number of investors losing a significant amount of money that had not been repaid.

Justice Anderson then turned to the assessment of the penalty itself.

Principles governing pecuniary penalties

The overriding requirement is that the Court must weigh the relevant circumstances that bear on the assessment of the appropriate penalty having regard to the contravening conduct (noting the primary objective of a pecuniary penalty is deterrence – specific deterrence to the contravener and general deterrence to other who might be tempted to contravene). Importantly, the penalty must not be so low that it is simply regarded by the offender (or others) as an “acceptable cost of doing business”.

In assessing the appropriate penalty, the Court must have regard to a number of factors outlined in legislation, which include:

  • the nature and extent of the contravention;
  • the nature and extent of any loss or damage suffered;
  • the circumstances in which the contravention took place; and
  • whether the person has previously been found by a court (including in a foreign country) to have engaged in any similar conduct.

Courts have also adopted their own factors to assist in assessing civil penalties. While not exhaustive, they include:

  • the size of the contravening company;
  • the deliberateness of the contravention and the period over which it extended;
  • whether the contravention arose from conduct of senior management of at a lower level;
  • whether the company has a corporate culture conducive to compliance – as evidenced by educational programs in response to an acknowledged contravention;
  • whether the company cooperated with the relevant authorities; and
  • the financial position of the contravener.

In this case, the Court also considered that where there was a large number of contraventions and a single penalty was being imposed, the offender must not be punished twice for the same criminality.

The defendants sought to argue that any penalty sum ought to be reduced because they had sought legal advice for their activities and claimed that no losses by investors had been proven.

In reply, ASIC submitted that a $12 million penalty was appropriate, arguing that:

  • there were a number of instances where Mr Mawhinney allegedly received legal advice but he could not provide written evidence of it;
  • insofar as advice was obtained, the legal advisers retained by the defendants were not instructed as to the actual and proposed use of the investors funds and the risks associated with the investments; and
  • while losses are a relevant factor, it is not decisive and does not need to be proven for the imposition of a penalty.

Having regard to what was described by the court as the “grossly misleading” representations by the defendants Justice Anderson considered that a $12 million penalty would be “insufficient” as it did “not fully recognise the serious nature and the extent of the loss and harm caused by the contravening conduct.” Accordingly, a $30 million penalty was imposed, injunctions were made against the Mayfair Group that prevent the use of certain terms in relation to advertisements and adverse publicity orders were also made against the defendants to warn consumers who were considering investing with the Group.

Key takeaways for regulatory proceedings

  • Any party to regulatory proceedings whose strategy is to avoid the cost of the liability hearing and simply argue against penalty runs a great risk. The court has shown that it will not allow submissions to be made in penalty hearings that would require a finding of fact to be made that are contrary to those determined at the liability hearing.
  • If there are facts in issue they should be contested at the primary hearing, and if necessary on appeal before any penalty is argued.
  • Ensure that any representations made with respect to the security of investments are accurate.
  • Pay close attention to the relevant ASIC Regulatory Guides when promoting or advertising financial products.
  • Take meaningful steps to ensure that a culture of compliance exists within your institution. Being able to demonstrate the existence of educational programs and disciplinary or other corrective measures in response to any prior acknowledged contraventions can help mitigate penalty.
  • If ASIC cannot quantify the benefit derived or detriment avoided from the contravening conduct and does not seek to impose a penalty under another provision the maximum penalty per contravention can be up to $11.1 million.
  • Directors and officers should not think they will escape adverse orders if they are knowingly concerned in contraventions. Personal liability and adverse publicity orders can be ordered by the court if they are made a party to the proceedings.

Note: Mayfair Group Managing Director, James Mawhinney, has recently stated that both the Liability and Penalty Judgments will be appealed. He maintains that Mayfair sought formal legal advice on all promotional materials, the provisional liquidator made an error in assessing the solvency of the scheme, and Mayfair noteholders did in fact hold first-ranking security over assets in line with representations made in disclosure documents.

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Clayton Utz communications are intended to provide commentary and general information. They should not be relied upon as legal advice. Formal legal advice should be sought in particular transactions or on matters of interest arising from this communication. Persons listed may not be admitted in all States and Territories.