On 1 June 2021, ASIC released an information paper outlining what it regards as ‘better practices’ for activist short sellers, target entities, market operators and other market participants in the context of activist short selling campaigns.
- On 1 June 2021, ASIC published an information sheet (Information Sheet 255 Activist short selling campaigns in Australia) considering the practice of ‘activist short selling’ in Australia and setting out ASIC’s expectations to promote market integrity in such situations.
- The paper provides recommendations as to what ASIC regards as ‘better practices’ for activist short sellers, target entities, market operators and other market participants. These include that short reports should be released outside trading hours, be based on objective and verifiable information and not use imprecise or emotive language and that authors of short reports should check facts with the target entity. ASIC has also said that target entities should seek trading halts to allow short reports to be digested and to comprehensively respond to such reports. In addition, when a target entity does respond to such reports, the response should address each assertion with sufficient detail and where possible be backed up with evidence.
- ASIC’s recommendations provide clear guidance on the regulator’s expectations regarding the conduct of short sellers, target entities and others in activist short selling campaigns, and, if adhered to, will assist with promoting an informed market. However, time will tell as to whether, and to what extent, the ‘better practices’ will or can be enforced where there has been no breach of the law, and in light of the overseas nature of some activists.
- More generally, while laws which apply to activist short sellers are broad (for example, laws regulating misleading and deceptive conduct), it is worth noting that these are difficult areas for ASIC to prosecute. In certain circumstances, there may be a role for the Takeovers Panel to play in activist short-selling campaigns, but this would require control or a substantial interest to be involved (which may not be the case where short sellers have acquired only a small stake in a target entity). As such, time will tell as to what the practical effect of the changes will be.
What is activist short selling?
As described by ASIC In its paper, activist short selling occurs where a person takes a short position in a financial product and then publicly distributes information or reports to adversely affect the price of the product, and to enable the short seller to profit.
As ASIC notes, activist short selling campaigns may not be formally run, and may involve a post on a social media platform, blog or online forum.
Which companies are targeted by activist short selling campaigns?
ASIC’s research indicates that activist short selling campaigns:
- target entities with complex and opaque corporate structures and accounting practices, or poor disclosure, and lower market capitalisation;
- follow cyclical trends (for example, entities and industries that are high growth/high risk or may be overvalued or have experienced rapid security price growth); and
- target sectors that are technically complex and/or easily misunderstood (for example medical research, technology and mining).
We have seen a number of activist short selling campaigns in the Australian market in recent times – such as the recent Viceroy Research report into Tyro’s payment terminals which saw Tyro’s share price fall approximately 12%, and Blue Orca’s campaign against Seek which resulted in an approximate 11% share price drop.
Current regulatory framework
There are various rules in the Corporations Act that apply to short selling, as outlined in ASIC’s paper. These include rules on making false or misleading statements and misleading or deceptive conduct, insider trading and market manipulation and requirements regarding holding an Australian financial services licence and short sale reporting. However, there is no current regulatory regime specifically regulating the timing or conduct of activist short selling campaigns.
While ASIC believes activist short sellers can have a 'positive impact on price formation and market integrity when they provide accurate and meaningful new information', ASIC is concerned that short selling reports have the potential to 'unduly distort' securities prices.
ASIC also notes that short reports are often released during trading hours for maximum impact, and that the time taken for a target entity to respond (whether by way of a trading halt or a formal response) may result in a period of trading where the market is not fully informed.
Other impacts of short reports identified by ASIC include:
- significant and immediate price volatility if an activist’s claims are plausible or if the market suspects the target entity is subject to a 'short and distort' campaign;
- that investors may be induced by short reports into selling securities for less than their true value;
- price falls as a result of a false or misleading statement can undermine investor confidence in the market; and
- reputational damage for target entities which may discourage future investors, negatively influence future valuations and securities prices and impact the ability to raise capital.
ASIC’S RECOMMENDATIONS REGARDING ‘BETTER PRACTICES’
In its paper, ASIC outlines a number of recommendations for ‘better practices’ for activist short sellers, authors of short reports, target entities, market operators and market participants. We outline these ‘better practices’ below.
‘Better practices’ for activist short sellers and authors of short reports
For activist short sellers and authors of short reports:
- Release short reports outside trading hours: Short reports should be released outside of trading hours (rather than immediately pre-market open) to enable target entities to prepare a response and ensure the market is fully informed when the short report is released.
- Short reports should be based on reliable information: Short reports should be based on 'objective, verifiable facts and analysis' rather than coloured by 'special or biased interests' (and where engaging with small sample sizes for the purpose of a report, sample sizes and composition should be disclosed).
- Fact checking with target entities: Facts should be checked with the target entity before the release of a short report to identify and address errors.
- Avoid emotive, intemperate or imprecise language: Short reports should be 'factual, relevant and expressed in a clear and objective manner', and should not use emotive, intemperate, defamatory, vague or imprecise language.
- Disclosure of conflicts: Conflicts of interest should be clearly disclosed (and updated where relevant), including payments or benefits received by the author or material interests in financial products that relate to the target entity. Details in this respect where reports are commissioned should also be disclosed.
- Avoiding selective distribution: Reports that contain inside information should be locked down ahead of publication so they cannot be accessed by anyone that does not have a business ‘need to know’.
‘Better practices’ for market operators
For market operators:
- Trading halts: Market operators should immediately pause trading in a target entity’s securities where they become aware that a listed entity is the target of a new short report that has had a material price impact, and request that the target entity release a detailed and comprehensive response to the market as soon as practicable.
- Listing rule breaches: Market operators should consider listing rule compliance and take appropriate regulatory action if breaches are identified.
- Monitor impact of subsequent reports: Market operators should monitor for subsequent short reports to assess whether a target entity may need to provide additional information to the market in response to issues not previously addressed (particularly where reports are issued in short succession).
‘Better practices’ for target entities
For target entities:
- Maximise transparency and be proactive: Target entities should be 'transparent about their business models and financial statements' and have 'clear and timely market-sensitive announcements' to avoid activist short selling campaigns. Entities should monitor activity in relevant industry sectors and commentary that may suggest certain entities and/or sectors may be overvalued or subject to significant speculative attention.
- Comprehensively responding to claims: Target entities should ensure a response is prepared for release at the same time as a short selling report or request a trading halt to enable a detailed response to be provided to the market. Responses should be 'prompt, address each assertion with sufficient detail and where possible be backed up with evidence' (noting that 'broad statements dismissing an entire report as being false are unlikely to address investor concerns').
‘Better practices’ for market participants
ASIC has also stated that market participants should monitor for suspicious short selling activity and must report this to ASIC if they become aware of such activity.
ASIC’s recommendations provide clear guidance on the regulator’s expectations regarding the conduct of short sellers, target entities and others in activist short selling campaigns, and, if adhered to, will assist with promoting an informed market.
The paper outlines a number of steps ASIC may take in response to activist short selling campaigns, including engaging with market operators, examining trading activity of short sellers and engaging with activist short sellers (including regarding licencing), target entities and foreign regulators as to various issues. However, it is unclear whether, and to what extent, the ‘better practices’ will or can be enforced by ASIC where there has been no breach of the law and in light of the overseas nature of some activists. Indeed ASIC acknowledges that ‘most’ activist short selling campaigns reports are driven by foreign activist short sellers.
More generally, while laws which apply to activist short sellers are broad (for example, laws regulating misleading and deceptive conduct), it is worth noting that these are difficult areas for ASIC to prosecute. In certain circumstances, there may be a role for the Takeovers Panel to play in activist short-selling campaigns, but this would require control or a substantial interest to be involved (which may not be the case where short sellers have acquired only a small stake in a target entity). As such, time will tell as to what the practical effect of the changes will be.
The contents of this publication are for reference purposes only and may not be current as at the date of accessing this publication. They do not constitute legal advice and should not be relied upon as such. Specific legal advice about your specific circumstances should always be sought separately before taking any action based on this publication.
© Herbert Smith Freehills 2021