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Law Reform: Investment Advisers
A Discussion Paper

CHAPTER 6 ENFORCEMENT AND REMEDIES: PROBLEMS AND POSSIBLE CHANGES TO THE LAW

General Observations

6.1

We consider that the law relating to enforcement, in regard to investment advisers, is important. Clients place their trust in the honesty and ability of investment advisers. Investment advisers can appear charismatic and credible to the unsophisticated investor. With dishonest investment advisers it is often the lack of honesty when they describe investments that enables them to be particularly persuasive to unsophisticated investors. Promises of high returns can seem too good to miss. For these reasons and because of the position investment advisers hold in the community and the wider economy, it is important that effective enforcement action can be taken where necessary.

6.2

A key aim of the enforcement provisions of the present law is to deal with dishonest investment advisers. In addition a number of civil actions can be taken by disadvantaged investors seeking redress against an investment adviser who has not complied with the law or who has made misleading statements. However it is often not practical for an investor to take action for many reasons including the cost of litigation and the difficulties in obtaining documentary evidence. We consider there should also be specific provision for the Commission to take or recommend enforcement action where necessary.

Purpose of Public Enforcement

6.3

In this paper we are proceeding on this basis that public enforcement provisions should be for the purpose of: Securing compliance with the obligation to disclose material information in a timely and readable manner; Imposing sanctions in the event of breach of the law; and Ensuring that any rules of law about recommending illegal offers of securities are complied with.

Private and Public Enforcement

6.4	The legal regime splits responsibility for enforcement of the law relating to investment advisers into private enforcement and public regulatory enforcement. There has been much debate about the proper division of responsibility for enforcement. In this paper we will not discuss where such a division should lie but note that the possible changes considered in this chapter primarily relate to public enforcement.
6.5	We note that the civil enforcement provisions in sections 7,8 and 9 of the Investment Advisers (Disclosure) Act would be available for use where an investment adviser had been convicted of any new offence of recommending illegal offers of securities. We propose for consideration that section 10 should also apply in regard to any new offence. We also propose for consideration that the amount of money prescribed in section 10 be increased. If section 10 is amended in these ways should we also consider the effect of this type of provision on common law remedies? Would it be appropriate to add a further section to the Act stating that common law remedies are preserved?
6.6	Whether there should be additional remedies of compensation to investors under this Act or otherwise is not addressed in this paper. However we would welcome any comments readers may wish to make on this.

Responsibility for Enforcement

6.7	The existing law does not identify a single regulatory body as responsible for enforcement in regard to investment advisers. The Commerce Commission has a role under the Fair Trading Act. The Registrar of Companies has a general role in regard to enforcement of securities law. The Serious Fraud Office may become involved if an investment adviser is involved in serious fraudulent activities. Similarly, the police may become involved if an investment adviser has committed an offence. The Securities Commission has a role through its functions to review securities practices and law. However no agency is designated for enforcement work under the Investment Advisers (Disclosure) Act 1996. The assumption has been that the Act has been left for private enforcement. Yet to date no enforcement action has been brought under the Act to our knowledge. We consider this speaks for itself as to the effectiveness of the present remedies.
6.8	The Commission has various strong prohibition and suspension powers to deal with offers of securities to the public for subscription but not in other areas in the securities market including investment advisers.
6.9	The question arises whether the Commission should have enforcement powers under the Investment Advisers (Disclosure) Act. This could be by way of giving the Commission standing to apply for orders as provided for under the Act or by giving the Commission the power to make orders against investment advisers subject to High Court review or confirmation. It seems all the more important to address this issue if we are considering a new offence to recommend illegal offers of securities.

Prohibition of Investment Adviser Disclosure Statements and Advertisements for Securities

Prohibition of Investment Adviser Disclosure Statements

6.10	We propose for consideration that the Commission should have the power to suspend and prohibit investment adviser disclosure statements. This would be consistent with the Commission's powers under section 38F of the Securities Act to suspend and prohibit investment statements. Under section 38F the Commission may suspend or prohibit an investment statement where it is of the opinion that the investment statement: "Is likely to deceive, mislead, or confuse with regard to any particular that is material to the offer of securities to which it relates; or Is inconsistent with any registered prospectus referred to in it; or Does not comply with this Act or Regulations."
6.11	We propose for consideration that the Commission should be able to suspend or prohibit an investment adviser disclosure statement where it is of the opinion that the disclosure statement does not comply with the Investment Advisers (Disclosure) Act. This would include where the Commission is of the opinion that an investment adviser disclosure statement does not comply with section 6 of the Act in that it is deceptive, misleading, or confusing in a material respect.
6.12	To make this effective we propose for consideration that distribution of an investment adviser disclosure statement in contravention of an order should be an offence where the investment adviser has knowledge of that order. This would be similar to the existing offence provision for distributing advertisements (including investment statements) in contravention of a suspension or prohibition order made by the Commission.

Prohibition of Advertisements for Securities

6.13	The Commission does not have jurisdiction to prohibit an advertisement published on behalf of anyone that is not "authorised or instigated by, or on behalf of, the issuer of the securities or prepared with the co-operation of, or by arrangement with, the issuer of the securities" (see the definition of advertisement in section 2A of the Securities Act). We consider that there are occasions where it may be appropriate for the Commission to prohibit a deceptive, misleading or confusing advertisement relating to securities products that is instigated or distributed by an investment adviser.
6.14	This would fit alongside the Commission's present powers to prohibit advertisements for initial offers of securities. It would also sit alongside any power of the Commission to prohibit an investment adviser disclosure statement. Again to make this effective we think that it should be an offence to contravene such a Commission order where the investment adviser has knowledge of that order.
6.15	There may in some circumstances be an overlap between an offence of contravening such an order and an offence of recommending an offer of securities knowing that it does not comply with the Securities Act or Regulations as outlined in chapter 5. This overlap would be similar to that discussed in paragraph 5.16. We do not consider this to be a problem. We think that there is value in having both of these offences.

Enforcement of the Investment Advisers (Disclosure) Act 1996 and Injunctive Remedies

6.16	The Investment Advisers (Disclosure) Act provides for injunctions under sections 7, 8 and 9. As noted above, no public enforcement body has responsibility for obtaining such injunctions.
6.17	There are questions about the usefulness of enforcement action under the Investment Advisers (Disclosure) Act in its present form and the content of matters for which enforcement action may be taken. Is the effort of undertaking injunctive proceedings justified to ensure that disclosure as presently required is made? The cost and burden of undertaking legal action to obtain disclosure may outweigh the benefits of enforcing disclosure. The section 7 injunction against acting as an investment adviser may be valuable for regulatory action. We consider that creating an offence under the Investment Advisers (Disclosure) Act to recommend securities which do not comply with the law, would improve the usefulness of section 7 and section 8 injunctions for protecting the public.
6.18	One option is to amend the Investment Advisers (Disclosure) Act to give the Securities Commission explicit authority to make injunction applications in regard to investment advisers. This could be by giving the Commission standing under the Investment Advisers (Disclosure) Act to apply for injunctions to prevent persons from giving investment advice or receiving investment money or investment property. This could be similar to the Commerce Commission's ability to apply for injunctions under the Fair Trading Act in regard to section 9 of that Act.
6.19	Together with litigation funding this would allow the Securities Commission to become more proactive in preventing fraudulent investment adviser activity. Alternatively another body could be given responsibility for taking injunctive action, for example the Registrar of Companies.

Prohibition of Investment Advisers

6.20	An alternative solution would be to empower the Commission to take action to prohibit an investment adviser from giving investment advice. A prohibition could be made in respect of any particular product, in respect of the products of any issuer and associated parties, or in respect of giving investment advice generally. This could be an equivalent to the Investment Advisers (Disclosure) Act section 7 injunction. It could be used where the Commission considers that an investment adviser has not complied with the Investment Advisers (Disclosure) Act or where any of the matters in section 7(1)(a) to (c) apply. There would be provision for appeal rights against an order of the Commission.
6.21	This power could complement the existing powers of the Commission under sections 38B, 38F, 44 and 44B of the Securities Act and would fit alongside the Commission's power to prohibit advertisements and the Commission's powers in regard to contributory mortgage schemes. Such a power would be analogous to the Registrar of Companies' power to prohibit directors and managers in section 385 of the Companies Act 1993. This empowers the Registrar of Companies to prohibit a person from being an officer or promoter or taking part in the management of any company for a period of up to five years.
6.22	This solution would allow for rapid action against rogue elements. It would allow the Commission to act swiftly where it detects rogue investment advisers. To complement and make this prohibition effective we would suggest establishing it as an offence with a substantial penalty for an investment adviser to fail to comply with an order of the Commission.
6.23	If it is considered that such a power is better left in the hands of the Courts a mid-way point between Commission ordered prohibitions and injunctive Court proceedings could be devised. This could provide the Commission with power to make interim prohibitions that could later be made permanent by application to the Court.

Australia's Licence Revocation and Banning Order Laws

6.24

Comparison with Australia's licence revocation banning order laws may be useful (sections 824 to 840 of the Corporations law). The Australian Securities and Investments Commission ("ASIC") has powers to revoke licenses of investment advisers in certain circumstances. This has the effect of excluding these people from the industry as a license is needed to legally undertake the business of an investment adviser. The situations in which the ASIC may revoke a licence are outlined in appendix "B".