Redress - Generally

In modern legal proceedings, different countries and jurisdictions have all had to confront a need to administer a large volume of cases that can arise out of a common set of facts. Often these cases involve relatively few defendants with many thousands of plaintiffs. In the context of investor recovery proceedings, a common circumstance is that a business entity and its directors are accused of wrongdoing (the defendants). Often the defendants’ conduct is alleged to have caused recoverable harm against many injured investors (the plaintiffs). The many investor-plaintiffs largely all share the same injury caused by the related conduct of the same relatively few defendants. In resolving this and similar situations, countries have developed a number of approaches.

Class Actions

One approach to collective redress is a class action. Various countries have implemented a class action system, including:  Australia[1], Canada[2], Israel[3], South Africa[4], South Korea[5], and the United States[6]. No two class action systems are identical. However, the general theme is that one or few plaintiffs will prosecute the case against the relatively few defendants on behalf of a larger group of plaintiffs. Passive plaintiffs gain certain advantages—they have low case participation burdens, do not have to pay for the cost of the legal proceeding, often avoid adverse costs risks and have low publicity risk. However, passive participants in a class action largely forfeit control over the case.

Defendants also see some advantages under a class action regime. Often, at the resolution of the class action, defendants are able to achieve resolution of all (or almost all) claims arising out of the common allegations. This helps defendants limit unknown liabilities. Additionally, for the defendant, paying to defend one class action can be less expensive than defending many individual actions. Similarly, class action regimes can help to reduce time and expense burdens for the various countries’ legal systems.

One of the major criticisms of class action regimes is that they can have overly-broad binding impact. For example, the outcome of a class action can bind a passive plaintiff who disapproves of the approach taken to litigating the class action, who disapproves of the class action settlement that was negotiated or even can bind potential plaintiffs that were unaware of the class action at all. Given this criticism (and others), some countries decline to adopt at all a meaningful form of any collective redress, adopt a more limited (non-class action) form of collective redress or may permit different types of class actions.

Generally, class actions are either opt-out regimes or opt-in regimes. An opt-out regime presumes that all plaintiffs that could potentially file a case against the defendants for the common harm participate in the action. In an opt-out regime, if a plaintiff does not want to be bound by the outcome of the class action, the plaintiff must take affirmative steps to opt out of the case. By contrast, in an opt-in regime, only those plaintiffs that take affirmative steps requesting case participation are allowed to participate in the class action. Under both systems, there are time limits for plaintiffs to decide whether to opt in or opt out. Canada, Israel, South Korea and the United States are generally opt-out jurisdictions. Australia allows for both opt-in or opt-out cases to be filed. However, due largely to the economics of litigation funding, many Australian class actions are opt-in cases. The law in South Africa is still developing. Both opt-in and opt-out actions are possible in South Africa. In fact, the same legal case can be split into opt-in and opt-out components.

European Developments with Respect to Collective Redress

The European Union has released a number publications outlining certain priorities with respect to collective redress. Current European priorities with collective redress are more targeted to specific areas of the concern—such as consumer protection and antitrust (anticompetitive) laws[7]. Investor recovery is commonly pursued as a collective action in many jurisdictions. Nonetheless, collective redress in the investor recovery context is not a serious area of focus for any currently-pending Europe-wide policy directive. However, a number of European countries have enacted specialized statutes allowing some form of collective action at the national level[8]. Collective redress more generally is still developing at the European level. Although it remains to be seen when and whether a Europe-wide collective redress policy for the investor recovery context will emerge—it appears clear that, at present, Europe is not pursuing a policy substantially similar to those jurisdictions that have implemented class action regimes for civil cases generally.

Reform Discussions and Existing Class Action Jurisdictions

The class action arose in the United States and it has existed in the US for a long time. Despite its significant history, academic discourse has considered class action alternatives for decades[9]. One such suggestion that academics regularly raise is arbitration. Although the parties to a dispute are always free to voluntarily pursue arbitration, nothing in the current US class action regime compels them to do so. Therefore, in summer of 2017, when SEC Commissioner[10] Michael Piwowar voiced support for mandatory arbitration of investor recovery cases, he caused some reaction.

However, despite Mr. Piwowar’s comments, SEC priorities appear not to place mandatory arbitration as a top concern. As recently as February 2018, SEC chairman Jay Clayton testified before the US Senate to say, in reference to mandatory arbitration replacing class action litigation, that he is “not anxious to see a change in this area.” If there is a future reform in the US, it will be interesting to see whether contractual efforts by companies (or other efforts) to compel arbitration as the sole and exclusive investor dispute resolution process will be upheld. If so, the result might lead to a situation more similar to how investor recovery proceedings are conducted in Brazil.

Mandatory Arbitration

Brazil is an example of a jurisdiction that allows for mandatory arbitration of investor claims. In Brazil, publically traded companies regularly put provisions in their bylaws that limit investors to pursuing their disputes via arbitration. When investors have a dispute against a company listed on a Brazilian exchange, the investors typically must pursue their claims in the Câmara de Arbitragem do Mercado (Market Arbitration Chamber).

Proponents of mandatory arbitration claim that the arbitration process is less expensive, quicker and less burdensome for the parties. Proponents also argue, in jurisdictions where investor recovery suits are common, such as the United States, that the risk of such suits discourages companies from issuing shares there. In other words, the threat of investor recovery proceedings has a meaningful impact on the decision of where companies choose to have their shares listed—and companies are favoring jurisdictions where investor recovery proceedings are less prevalent. If this argument is accepted, proponents of arbitration would argue that not only is the arbitration process better for the parties, but arbitration also makes financial markets more favorable for attracting new investment.

By contrast, detractors of mandatory arbitration largely dispute the proponents’ claims of the advantages that arbitration has over judicial proceedings. Detractors further make certain criticisms against mandatory arbitration. First, in countries that already have a collective redress system in place, if mandatory arbitration provisions are upheld in said jurisdictions, some plaintiffs will clearly be denied their day in court. Furthermore, even if proponents are right about arbitration being less expensive, arbitration is almost certainly too expensive and too burdensome for investors will small holdings. In other words, whereas retail investors with small holdings can benefit from a positive outcome in a class action, these investors likely cannot afford the time or expense required to individually pursue claims via arbitration. Thus, retail investors are not protected under a mandatory arbitration regime. A further criticism of the arbitration process is that whereas judicial proceedings in many countries are public, arbitration proceedings in most countries are private. A trend of increasing resolution of disputes via arbitration would also mean more important controversies would be decided behind closed doors.

Countries Lacking Meaningful Collective Redress

The challenges presented by administering disputes with many plaintiffs will likely not disappear. Different jurisdictions will have to continue to confront this dilemma. Countries that already have comprehensive class action systems may not see the need to abandon these regimes for mandatory binding arbitration. However, more targeted reforms in these countries might still occur—perhaps with the aim of encouraging more out-of-court settlements.

By contrast, Europe appears focused on approaching issues presented in collective redress in very carefully-defined circumstances. Although not yet prominently considered, Europe could move towards recommendations for collective redress specifically in the investor recovery context. The approach to investor recovery suits at the European nation level remains, as yet, un-harmonized.

Finally, another prominent approach to investor recovery is mandatory arbitration. Certainly there is no one perfect system. Every approach to collective redress and/or investor recovery has its unique tradeoffs. However, as long as global stock exchanges continue to compete for new corporate listings and as long as investors continue to seek compensation for alleged corporate wrongdoing—mandatory arbitration is likely a discussion topic that will remain relevant in many jurisdictions for the foreseeable future.

[1] Australian Federal Court Rules, 9.2 & 9.3

[2] Canadian Federal Court Rules, 334.16

[3] Israeli Class Action Law 5766-2006

[4] South African Constitution, Chapter 2, Article 38(c)

[5] South Korean Securities-Related Class Action Act

[6] US Federal Rules of Civil Procedure, 23

[7] See e.g. Commission Recommendation of 11 June 2013 on common principles for injunctive and compensatory collective redress mechanisms in the Member States concerning violations of rights granted under Union Law (2013/396/EU)

[8] See e.g. the German Kapitalanlegermusterverfahrensgesetz

[9] See e.g. Michigan Business & Entrepreneurial Law Review, Volume 4, Issue 1, 2014:  Enforceability of Mandatory Arbitration Clauses for Shareholder-Corporation Disputes, Garry D. Hartlieb

[10] The Securities and Exchange Commission (SEC) is the main US regulator for the financial services industry. The SEC has four commissioners and one Chairman.