Jurisdiction - Australia
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Australia – Credit Ratings Agency Held Liable To Investors In Proceedings.

12 November, 2012


Legal News & Analysis – Asia Pacific – Australia – Dispute Resolution


In court proceedings in Australia, 13 local councils have this week succeeded in their claims against McGraw-Hill International (UK) Ltd (the owner of Standard & Poor’s), ABN Amro and Local Government Financial Services (LGFS). The claims relate to losses the local councils incurred after purchasing products called “constant proportion debt obligations” (CPDO notes) from LGFS (a company whose role was to advise councils on investments). The CPDO notes were arranged by ABN Amro and given AAA ratings by Standard and Poor’s (S&P) in 2006.


The Federal Court of Australia has held that each of S&P, ABN Amro and LGFS are proportionally liable to the local councils for 1/3 of the difference between the principal amount each council paid for the CPDO notes and the payment they received on the cash-out of the notes. S&P and ABN Amro were also held to be liable to LGFS for losses it incurred in relation to the notes. This is reported to be the first case in the world where a ratings agency has been held liable in relation to the ratings it gave to the kind of products that contributed to the global downturn in 2007 and 2008.


In a judgment that runs to nearly 1,500 pages, the trial judge found that:


  • The CPDO notes were a “grotesquely complicated” product and it was “resoundingly clear” that none of the council officers involved in making investment decisions “had the capacity to understand complex financial products and make decisions about such products without assistance” – even though some of those council officers held professional qualifications in business and accounting fields and had many years of experience in local government financial matters;
  • The local councils relied on the AAA rating and LGFS’s advice in deciding to purchase the CPDO notes;
  • A reasonably competent ratings agency could not have assigned the CPDO notes a AAA rating in all the circumstances. The assignment of the AAA rating was irrational and unreasonable and possible only because S&P wrongly believed the historical volatility of relevant indices to be 15 per cent (rather than 28-29 per cent) and failed to consider a range of other matters that any reasonably competent ratings agency should have considered;
  • The AAA rating conveyed (i) a representation that in S&P’s opinion the capacity of the CPDO notes to meet all financial obligations was “extremely strong” and (ii) a representation that S&P had reached this opinion based on reasonable grounds and as the result of an exercise of reasonable care, where neither representation was true and S&P also knew them not to be true at the time made;
  • S&P’s rating of AAA of the CPDO notes was misleading and deceptive and involved the publication of information or statements false in material particulars and otherwise involved negligent misrepresentations to the class of potential investors in Australia, which included LGFS and the councils.


A copy of the full judgment and a nine page summary released by the Court can be found here: http://www.austlii.edu.au/au/cases/cth/FCA/2012/1200.html 


S&P has said it will be appealing the judgment. Meanwhile the litigation funder behind the action in Australia has announced it is investigating funding similar actions in other jurisdictions including the Netherlands, and it has already filed a further action in Australia relating to CPDO notes.


The law firm representing the councils in this action also act for a large number of councils and not-for-profit organisations in class action proceedings against Lehman Brothers Australia Limited (in liquidation), for whom Ashurst Australia acts. The Lehman action concerns the sale of 39 synthetic collateralised debt obligations by Lehman Brothers Australia, and the claims against it are similar to those made against LGFS. However, the credit ratings agencies were not sued, although Lehman Brothers Australia pleaded that they were proportionately liable for any damages. In contrast to the LGFS action, the Federal Court of Australia in the Lehman action found that the credit rating agencies were not proportionately liable.


For further information, please contact:
Andrew Carter, Partner, Ashurst
Sonia Tame, Partner, Ashurst



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