Australian Securities and Investments Commission v Petsas [2005] FCA 88

FEDERAL COURT OF AUSTRALIA

Australian Securities and Investments Commission v Petsas [2005] FCA 88 CORPORATIONS – insider trading – civil prosecution – penalty – principles to be applied Corporations Act 2001 (Cth) ss 761D, 1043A, 1311(1), 1317G(1B), 1317H, 1317L Crimes Act 1914 (Cth) s 4B Atcheson v Everitt (1776) 1 Cowp 383 [98 ER 1142] cited Chief Executive Officer of Customs v Labrador Liquor Wholesale Pty Limited (2003) 216 CLR 161 cited Lowe v The Queen (1984) 154 CLR 606 cited Queen v Shannon (1979) 21 SASR 442 cited R v Dixon (1975) 22 ACTR 13 cited R v Firns (2001) 51 NSWLR 548 cited R v M (DES) (1993) 80 CCC (3d) 371 cited Webb v O'Sullivan [1952] SASR 65 cited Yardley v Betts (1979) 22 SASR 108 cited

Australian Financial System: Final Report of the Committee of Inquiry, Canberra (1981) G Becker, "Crime and Punishment: An Economic Approach" (1968) 76 Journal of Political Economy 169 H Hart, "The Aims of the Criminal Law (1958) 23 Laws & Contemporary Problems 401 House of Representatives Standing Committee on Legal and Constitutional Affairs, Fair Share For All – Insider Trading in Australia (1989) AUSTRALIAN SECURITIES AND INVESTMENTS COMMISSION v JOHN PETSAS AND MARC MIOT VID 1006 of 2004 FINKELSTEIN J 15 FEBRUARY 2005 MELBOURNE

IN THE FEDERAL COURT OF AUSTRALIA

VICTORIA DISTRICT REGISTRY VID 1006 of 2004

BETWEEN: AUSTRALIAN SECURITIES AND INVESTMENTS COMMISSION

Plaintiff

AND: JOHN PETSAS and

MARC MIOT

Defendants

JUDGE: FINKELSTEIN J

DATE OF ORDER: 15 FEBRUARY 2005

WHERE MADE: MELBOURNE

THE COURT DECLARES THAT:

1. On 13 January 2003, the first defendant came into possession of the following confidential information (the "Information"), namely: (a) the existence of confidential merger discussions between BRL Hardy Ltd ("BRL Hardy") and Constellation Brands, Inc.; and (b) the fact that the ANZ Bank had been engaged by BRL Hardy to perform confidential work in connection with the merger discussions; and the first defendant knew: (c) the Information was not generally available; and (d) if the Information were generally available, a reasonable person would expect the Information would have a material effect on the price or value of securities of BRL Hardy. 1. Immediately after receiving the Information on 13 January 2003, the first defendant communicated the Information to the second defendant, knowing that it was likely that the second defendant would trade in securities of BRL Hardy whilst the information remained confidential and price sensitive. 1. By communicating the Information to the second defendant, the first defendant thereby contravened section 1043A(1)(d) of the Corporations Act 2001 (Cth) ("the Act") by procuring the second defendant to acquire the BRL Hardy call option contracts on 13 January 2003. 1. Immediately after receiving the Information from the first defendant on 13 January 2003, the second defendant acquired 95 BRL Hardy call option contracts. 1. At the time he acquired the BRL Hardy call option contracts, the second defendant knew: (a) the Information was not generally available; and (b) if the Information was generally available, a reasonable person would expect the information would have a material effect on the price or value of securities of BRL Hardy Ltd ("BRL Hardy"). 1. By acquiring the BRL Hardy call option contracts on 13 January 2003, the second defendant thereby contravened section 1043A(1)(c) of the Act. THE COURT ORDERS THAT: 1. The first defendant pay to the Commonwealth a pecuniary penalty in the sum of $75,000, payment to be stayed until 14 February 2006. 1. The second defendant pay to the Commonwealth a pecuniary penalty in the sum of $65,000, payment to be stayed until 15 August 2005. 1. The defendants jointly pay the following amounts of compensation to the following persons, namely: (a) $87,342.93 to Deutsche Securities Australia Limited; (b) $30,118.26 to Optiver Australia Pty Ltd; (c) $11,033.96 to Susquehanna Pacific Pty Ltd; payments to be stayed until 15 March 2005. 1. The defendants jointly pay the plaintiff's costs fixed in the sum of $93,254.00.

Note: Settlement and entry of orders is dealt with in Order 36 of the Federal Court Rules.

IN THE FEDERAL COURT OF AUSTRALIA

VICTORIA DISTRICT REGISTRY VID 1006 of 2004

BETWEEN: AUSTRALIAN SECURITIES AND INVESTMENTS COMMISSION

Plaintiff

AND: JOHN PETSAS and

MARC MIOT

Defendants

JUDGE: FINKELSTEIN J

DATE: 15 FEBRUARY 2005

PLACE: MELBOURNE

REASONS FOR JUDGMENT 1 In 1775 Lord Mansfield said: "Now there is no distinction better known, than the distinction between civil and criminal law; or between criminal prosecutions and civil actions": Atcheson v Everitt (1776) 1 Cowp 383, 391 [98 ER 1142, 1147]. The criminal law was concerned with acts which affected the public interest whereas civil liability was imposed in relation to conduct which caused actual damage to an individual interest. This distinction provided the basis for Blackstone's classification of law. According to Blackstone "Wrongs are divisible into two sorts or species: private wrongs and public wrongs. The former are an infringement or privation of the private or civil rights belonging to individuals, considered as individuals; and are thereupon frequently termed civil injuries; the latter are a breach and violation of public rights and duties which affect the whole community, considered as a community; and are distinguished by the harsher appellation of crimes and misdemeanours": Commentaries, 1st ed. (1768), vol. III, at 2. Acts which were prosecuted by the criminal law were punished, while those who transgressed civil laws were made to pay compensation. The distinction is the root cause of the fundamental differences developed by the common law for criminal and civil proceedings, especially in the rules for discovery, the burden of proof and the admissibility of evidence. For some time, however, the reasonably clear line between the civil and criminal law has been collapsing. So great is the collapse that in 2003 Hayne J was able to say that the distinction between civil and criminal proceedings "is, at best, unstable": Chief Executive Officer of Customs v Labrador Liquor Wholesale Pty Limited (2003) 216 CLR 161, 200. There are several reasons for the disappearance of the line between criminal and civil proceedings. First, civil remedies are now available to supplement criminal sanctions. Second, civil remedies are being chosen as alternatives to the criminal law, especially in the area of so called "white collar" crime. Third, and this case provides an example, civil remedies may be chosen by the enforcing authority as an express alternative to a criminal prosecution. 2 There are good reasons why parliament and enforcing authorities are moving towards the use of civil sanctions (such as injunctions, forfeiture, restitution and civil fines) in preference to criminal sanctions especially in the regulatory sphere, regardless of whether the proscribed conduct is regarded as essentially criminal. The main reason for the move is that proceedings that are 'civil' in nature are likely to be cheaper and more efficient than criminal proceedings. Civil proceedings are cheaper and more efficient because the rules of evidence are less strict, the protections afforded to defendants are not as great and the level of certainty required to secure a conviction (the standard of proof) is lower. There is another benefit derived from the use of civil proceedings. If there is a greater likelihood of obtaining a conviction, enforcing authorities may be more inclined to take action in doubtful, or potentially doubtful, cases. 3 Although these changes may be good for society as a whole (as the increase in the use of civil remedies will increase the likelihood that offenders will be punished) they create problems for the courts. Some of the problems were identified in and resolved by Chief Executive Officer of Customs v Labrador Liquor Wholesale Pty Limited (2003) 216 CLR 161. Others still need to be worked out. One problem, which will be of short duration, is how a sentencing judge should go about determining an appropriate civil penalty for an essentially criminal offence. Speaking very generally, a judge determines an offender's culpability and the appropriate penalty by assessing the offender's responsibility for the offence and the seriousness of the crime. In Australia imprisonment is the most severe form of punishment and is therefore reserved for serious crimes. Fines are not usually regarded as an equivalent to imprisonment and are appropriate for less culpable offenders. What is a judge to do when he (or she) is required to impose a civil remedy (for example, a fine) when on the same facts in a criminal court the very same offender would have been imprisoned? Should the judge attempt to achieve an equivalence? Alternatively, should the judge simply ignore the fact that on another day before a different judge the offender would have been incarcerated? Or is there something in between? 4 These are just some of the questions that arise in the present proceeding which is novel at least to this extent. It seems to be the first occasion upon which a judge has been required to impose a civil penalty on a person who has contravened the insider trading provision, s 1043A of the Corporations Act 2001 (Cth). A contravention of s 1043A is an offence under the Act (s 1311(1)) which, in a criminal prosecution, renders the offender liable to a penalty of 2,000 penalty units ($220,000), imprisonment for five years or both (Schedule 3, items 311C, 312A). Not only may a contravention be prosecuted in a criminal trial, a contravention of s 1043A may also result in a civil proceeding in which the offender is liable to pay a civil penalty of up to $200,000 (or $1 million for a body corporate; (s 1317G(1B)), compensation for any damage suffered from the contravention (s 1317H) and costs. The proceeding is properly styled "civil" because the court must apply the civil rules of evidence and procedure (s 1317L). 5 The facts which give rise to this proceeding are straightforward. BRL Hardy Ltd (BRL), one of Australia's largest wine producers, is a public company whose shares are listed on the Australian Stock Exchange. Call options over those shares ("derivatives" within the meaning of s 761D(1)) were traded on the Derivatives Trading Facility operated by the ASX. In late November 2002 Constellation Brands Inc, a US corporation that is one of the world's largest producers and suppliers of alcoholic beverages, entered into discussions with BRL about a possible merger of the two companies. Because of their tentative nature the discussions were highly confidential. In January 2003 the Australian New Zealand Banking Group Limited (ANZ), BRL's banker, was retained to assess the impact of the possible merger on its client. On Friday January 10, ANZ's Institutional Food Beverages and Agribusiness (FBA) section was asked to consider how the proposed merger would affect BRL's arrangements with its lenders. Later that day Mr Clements, an associate director in the FBA section, mentioned to a group in the section, a group which included the first defendant, Mr Petsas, a client relations manager, that work was being undertaken on a "deal" but as the "deal" was confidential he could not discuss it. 6 Monday January 13 was an eventful day. In the morning Mr Petsas informed Mr Clements that over the weekend he had read a newspaper article that suggested a possible merger between BRL and an unnamed party and asked whether that was the "deal" Mr Clements was working on. Mr Clements confirmed that it was and identified the other party to the possible merger as Constellation. He also told Mr Petsas, though he hardly needed telling, that the transaction was highly confidential. Following this discussion Mr Petsas obtained details of the proposed merger from the bank's computer system. Mr Petsas was not entitled to look at this information. Nor did he require it for the purpose of performing his duties. 7 Shortly after being told that BRL and Constellation were negotiating a proposed merger, Mr Petsas telephoned his friend, Mr Miot, and told him the news. The two had met while both were working at ANZ. Mr Miot was now with Westpac, working in its commercial lending section. Mr Petsas and Mr Miot knew that if the information about the merger discussions became public it would effect the price of BRL's shares, as well as the price of the call options over those shares. They decided to take advantage of the situation, and to do so quickly. It was agreed that they would purchase call options over BRL shares in Mr Miot's name. Mr Petsas transferred $15,000 to Mr Miot's bank account as his contribution towards the purchase price. Mr Miot then placed orders with his broker, Macquarie Equities Limited, for the purchase of BRL call options at a cost of $10,000 in each of the June 2003 $8.00, $8.50 and $9.00 series. At the time BRL shares were trading between $7.47 and $7.75. Thus, at the strike prices the options were "out of the money". On the other hand, if the share price rose above the respective strike rates, which was likely to occur once news of the merger became public, the options would become valuable. 8 In the afternoon Macquarie Equities purchased 18 contracts for BRL's June 2003 $8.00 call options at 53 cents per underlying share, 25 contracts for the $8.50 call options at 38 cents per underlying share and 35 contracts for the $9.00 call options at 28 cents per underlying share. Through another broker, Terrain Securities Pty Ltd, Mr Miot purchased a further 17 contracts for the $8.50 call options at 30 cents per underlying share. In total $35,412.90 was spent purchasing the options. 9 The defendants did not have long to wait to learn that their strategy was successful, at least in a financial sense. On Tuesday January 14, BRL announced that it was in merger discussions with Constellation. The price of its shares immediately rose by about 17% to close at $8.95. The share price kept rising until it reached $10.50, being the cash value attributed to the shares under the proposed merger which, in due course, was effected by a scheme of arrangement. Mr Miot began selling the options on that day and all but 43 contracts were sold. The unsold contracts were "netted out" on the completion of the merger. In short order, and for a small outlay, the defendants had made a profit of $128,495.15. The companies which had sold the option contracts to the defendants, Deutsche Securities Australia Limited, Optiver Australia Pty Ltd and Susquehanna Pacific Pty Ltd, suffered a corresponding loss. 10 The defendants' joy was short lived. Their illegal purchases were soon discovered by ASIC and shortly thereafter the defendants made a clean breast of the affair. The inevitable consequence was the initiation of this proceeding in which civil penalties, compensation orders and costs are sought. It goes without saying, and the defendants accept, that they must disgorge their profit. Accordingly there will be orders requiring them to pay compensation to the counterparties to the option contracts in an amount which is equal to each counterparty's loss. In addition the defendants will submit to an order requiring them to pay ASIC's costs of $93,254. The only outstanding issue is the amount of the civil penalty that should be imposed. It is this issue which has engaged the parties' attention. 11 It is convenient to begin with the observation that the offence with which each defendant is charged is a serious criminal offence. The main purpose for the insider trading provisions is to ensure that the securities market operates freely and fairly so that one party to a transaction does not, because of the possession of asymmetric information, have an advantage over the other party: Australian Financial System: Final Report of the Committee of Inquiry, Canberra, 1981 at 382; House of Representatives Standing Committee on Legal and Constitutional Affairs, Fair Share For All – Insider Trading in Australia, 1989 at 16-17; R v Firns (2001) 51 NSWLR 548, 558. Mr Petsas' offence is the more serious of the two because in misusing the information he also breached his position of trust with the bank; it was part of his duty to prevent the commission of an offence such as he committed by keeping secret market sensitive information. He was also under a duty not to make any personal use of such information. It is those considerations, above all others, which obliges the court to deal severely with an offence of this kind. Mr Miot's position as the recipient of price sensitive information is different. This difference does not mean that his conduct should be viewed as significantly less culpable. Mr Miot knew that Mr Petsas was not entitled to information about the merger discussions and that their purchase of the options was illegal, yet he happily participated in the scheme. 12 Next, I propose to examine whether any guidance can be gained from the sentences imposed by criminal courts for breaches of the insider trading provisions. While there is no such thing as a uniform sentence for a particular offence because of the different factors that must be taken into account in dealing with an individual offender, serious inequality in sentencing must be avoided lest the law appears to be arbitrary or subject to the individual whims of sentencing judges. Thus, courts must strive to ensure that they produce "equal justice". In Lowe v The Queen (1984) 154 CLR 606, 610-611 Mason J explained that: "Just as consistency in punishment – a reflection of the notion of equal justice – is a fundamental element in any rational and fair system of criminal justice, so inconsistency in punishment, because it is regarded as a badge of unfairness and unequal treatment under the law, is calculated to lead to an erosion of public confidence in the integrity of the administration of justice. It is for this reason that the avoidance and elimination of unjustifiable discrepancy in sentencing is a matter of abiding importance to the administration of justice and to the community". 13 I have surveyed the criminal penalties imposed for breaches of the insider trading provisions (which themselves have changed over time) since 1992. This survey suggests that even a first time offender who pleads guilty is likely to suffer a term of imprisonment. Putting to one side the personal considerations relating to an offender that a sentencing judge must take into account, the sentence that could be imposed in this case if it had been heard in a criminal court would be a minimum of between three to six months imprisonment, together with an order for restitution. 14 Here, however, imprisonment is not available. This suggests that little guidance can be gained from sentences imposed in criminal courts unless it is possible to calculate the monetary value of a term of imprisonment. Garry Becker, in an important article entitled "Crime and Punishment: An Economic Approach" (1968) 76 Journal of Political Economy 169 has argued that it is possible to calculate a monetary equivalent of a term of imprisonment. Indeed, Becker goes so far as to say that monetary fines should generally be imposed and that the more costly system of imprisonment should only be used for those criminals who cannot afford to pay the fine. According to Becker, the cost to an offender of a term of imprisonment is the discounted sum of the earnings foregone and the value placed on his restriction of freedom. Since both components vary from person to person, the value of a prison sentence will not be unique. Moreover, on Becker's approach the value of the restriction imposed by a prison sentence will vary with age, sex, race, level of education and so on. In addition, an important difference between civil and criminal sanctions is the criminal law's "judgment of community condemnation" on the offender: Henry Hart, "The Aims of the Criminal Law (1958) 23 Laws & Contemporary Problems 401, 405. That is, a criminal conviction carries with it a stigma which is not present following the conclusion of civil proceedings. The stigma is likely to be greater for a first time offender: R v M (DES) (1993) 80 CCC (3d) 371, 376. On top of the stigma, a criminal conviction will affect an offender in circumstances as diverse as applications for employment and the loss of the right to remain in or travel to a particular country. If there is to be a true equivalence, the stigma attached to the conviction, as well as the effects of the conviction, must also be valued. But how does one place a money value on a conviction and its attendant consequences, some of which might not even be foreseeable at the time of sentencing? 15 Becker makes another point that is worth mentioning. He suggests that an appropriate fine (the "price for the offence") should equal the total harm caused by the offence. The fine would be the sum of the costs to the offender, plus the cost or minus the gain to others (such as victims) plus the cost of apprehending, convicting and detaining the offender. If one were to add deterrence as a factor it would also be necessary to bring to account (and calculate the value of) the probability of detection and conviction. While Becker's approach has not received express judicial endorsement (perhaps because Becker is an academic economist and judges are usually distrustful of such characters) he does raise important issues in relation to regulatory offences. At a minimum, a sentencing judge should at least keep these issues in mind. 16 While the task of placing a dollar value on a term of imprisonment may be impossible, parliament has adopted a formula to be used in some instances; a formula which by its very nature is arbitrary. By s 4B of the Crimes Act 1914 (Cth) a sentencing judge is given the power in an appropriate case to convert a person's prison sentence into a monetary penalty. According to the formula the monetary penalty is the maximum term of imprisonment expressed in months multiplied by five, but with a cap; if the maximum penalty for a particular offence is life imprisonment the maximum monetary penalty is 2,000 penalty units which equals $220,000: s 4B(2A). If one were to apply the statutory formula to a criminal prosecution for insider trading, the maximum additional fine that could be imposed in lieu of a term of imprisonment would be $33,000. This amount would be in addition to the fine of $220,000 which is already available. Of course the formula cannot be transposed on a wholesale basis to a civil prosecution. To do that would fail to take into account the cost of the criminal conviction. It would also fail to take into account that in a civil case the maximum penalty is $220,000 which, according to the formula s 4B, is the monetary equivalent of a life sentence. Nevertheless the section is another factor that a sentencing judge might keep in mind. 17 The next issue to consider is the purpose for imposing a civil penalty for a violation of s 1043A. The purpose could be as simple as imposing a punishment (in the sense of exacting retribution) on the offender. But it is not as simple as that. I think it clear that parliament intended the penalty to act as a deterrent as well. There is a generally held view that society can discourage criminal behaviour by imposing penalties which will demonstrate that the price to be paid for an offence if the offender is caught is so great that it is not worth taking the risk of engaging in the proscribed conduct. It is difficult to know if this view is correct as I know of no empirical research to support it. I myself suspect that it may be possible to deter some crimes (especially so called "white collar" crimes) by imposing heavy sentences as most businessmen do not want to end up in jail, but that is as far as it goes. Real deterrence is likely to come about only if there is a high degree of certainty of apprehension and conviction: R v Dixon (1975) 22 ACTR 13, 22. It is, I suppose, possible that with a low risk of detection, an extremely high penalty may have a deterring effect, at least in some instances. At any rate, despite the lack of evidence to support it, the theory of punishment which prevails in our jurisdiction requires adherence to the principles of specific and general deterrence. In that regard it must be noted that general deterrence will sometimes require the imposition of a penalty which is greater than the penalty which would be imposed if specific deterrence were the only consideration. Yet this requirement should not be taken too far. While protection of the community is the sentencing judge's main concern, it is still necessary to ensure that the punishment fits the crime, for otherwise there would be a departure from the concept of justice: Webb v O'Sullivan [1952] SASR 65, 66; Yardley v Betts (1979) 22 SASR 108, 112-113. 18 It will be apparent from what I have said so far that, all other things being equal, a significant penalty must be imposed on each defendant. To determine the amount of that penalty requires me to consider the personal circumstances of each defendant, and I will begin with Mr Petsas. From humble beginnings Mr Petsas, who is now aged 39, worked his way through school, ultimately obtaining an Arts degree from LaTrobe University and a combined Economics and Finance degree from the Royal Melbourne Institute of Technology. He took up employment with ANZ in a position of some responsibility and had good prospects of moving ahead. That all came to an end when, as a result of the events which lead to this action, he was dismissed for gross misconduct. Since then Mr Petsas has not been able to find work. This is a serious blow as well as a form of punishment. There is then the fact of his guilty plea, which I will treat as a mitigating factor. His admission of guilt and guilty plea were probably inevitable, but in any event spared the state the cost of a trial and for this he should be given a benefit: The Queen v Shannon (1979) 21 SASR 442, 447. I accept that his admission and plea were also motivated by a genuine feeling of remorse. On the other hand, the seriousness of the offence, the size of the profit made, the fact that the offence was committed with the sole object of making a profit, the fact that if this case had been prosecuted criminally a jail sentence would have been imposed and the need to make it clear to others that this kind of crime will not be allowed to pay even if prosecuted in a civil trial, demand that at least a moderate penalty be imposed. In all the circumstances a penalty of $75,000 (while a little on the light side) is appropriate. Mr Petsas will not immediately be able to pay this amount. He must realise his investments and even then he may not have sufficient funds to meet the penalty, his share of ASIC's costs and the compensation which must be paid to the injured counterparties. For that reason I will allow Mr Petsas one year within which to pay the pecuniary penalty; and one month within which to pay the compensation; he does not seek a stay in respect of the order for costs. 19 Mr Miot has also had the benefit of an education. He obtained a Commerce degree from Melbourne University and a Diploma of Applied Finance from the Securities Institute of Australia. He is trained to work in the banking sector but that kind of employment is no longer available. Mr Miot is now employed at a health studio, of which he is a part owner. His employment provides him with a modest income with which he supports himself and his wife, who is about to have their first child. The events the subject of this action have brought dishonour on Mr Miot and his family. He understands this and is repentant. His father, a retired sales manager, gave evidence that Mr Miot has the support of his family. He does not have much money. His net assets are worth around $200,000 and will be sold so Mr Miot can satisfy the penalty, compensation and costs which he will be required to pay. Like Mr Petsas, Mr Miot is unlikely to offend again. The considerations which moved me to impose a moderate penalty on Mr Petsas apply to Mr Miot, but with the one difference. The difference is that Mr Miot was the recipient of the confidential information and not the person who, in breach of trust, imparted that information to another. Therefore, his offence is not as serious. I believe an appropriate pecuniary penalty for him is $65,000 in addition to orders for compensation and costs. Mr Miot will have a stay of six months to meet the pecuniary penalty and one month for the compensation. 20 In the result, there will be declarations of contravention pursuant to s 1317E, orders that pecuniary penalties of $75,000 and $65,000 be imposed respectively on Mr Petsas and Mr Miot, an order that they jointly pay compensation totalling $128,495.15 to Deutsche Securities Australia Limited, Optiver Australia Pty Ltd and Susquehanna Pacific Pty Ltd and that they jointly pay ASIC's costs of $93,254, with stays as appropriate. I certify that the preceding twenty (20) numbered paragraphs are a true copy of the Reasons for Judgment herein of the Honourable Justice Finkelstein.

Associate: Dated: 15 February 2005

Counsel for the Plaintiff: Mr N O'Bryan SC Mr G Lyon

Solicitor for the Plaintiff: Australian Securities and Investments Commission

Counsel for the Defendants: Mr P Almond QC Mr S Hibble

Solicitor for the Defendant: McDonald Slater & Lay

Date of Hearing: 21 December 2004

Date of Judgment: 15 February 2005