Contents
Learning objectives
Introduction
Essential Elements of the Tort of Negligent Misstatement
Statutory Liability
Summary
Self-Assessment
Learning Objectives
At the end of this topic, you should be able to:
List essential elements in the tort of negligent misstatement
List the preconditions for successful claim for damages
List the responsibilities of a licensed person imposed by statute.
Introduction
“One must take reasonable care to avoid acts or omissions which one can reasonably foresee would be likely to injure one’s neighbour” – Donoghue v. Stevenson [19321 AC 562.
The law of negligent misstatement has been expanded considerably in recent years. In essence, it provides that in some circumstances an honest person who has negligently made a misstatement may be liable to compensate another person for any loss that the other person has suffered due to the misstatement.
In the securities industry, Participating Organisations, corporate advisers and company directors issue many reports and statements. For example, when a company issues new securities, it often makes statements directed at potential investors. Care must be exercised to ensure that statements are accurate as a person making investment decisions may rely on such statements.
We will begin this topic by considering the tort of negligent misstatement, where injury (for which a person can claim compensation) is financial and caused by misstatement, not an act. For example, careless misstatements by investment advisers, which induce the trading of securities and can result in financial loss, may make the advisers liable in tort to the person who suffered the loss.
A person may be liable for damages as a result of negligent misstatement, not only under the law of tort, but also under statute. We conclude the topic by considering the statutory responsibilities placed on people who provide investment advice.
Essential Elements of the Tort of Negligent Misstatement
What is Negligence?
A duty of care is an essential element in the tort of negligent misstatement, but its existence is not an absolute warranty of success. An adviser does not guarantee that his/ her opinion is absolutely correct (unless he/she does so expressly in a contract). A negligent breach of the duty of care must be shown.
Actionable negligence is the neglect of the use of ordinary care and skill towards a person to whom a duty of care is owed. This raises the query as to what standard of care is required. In law, the “reasonable person” concept defines the standard. Therefore, if a person professes to be someone with particular skills, the law requires him/her to show such skill as any ordinary member of the profession to which he/she belongs, or claims to belong, can display.
Professionals must use reasonable care and skill, in other words they must not be negligent.
Negligence means failure to do some act which a reasonable person in the circumstances will do. However, where there is a situation, which involves the use of some special skill or competence, the test as to whether there has been negligence or not is the standard of the ordinary skilled person exercising and professing to have that special skill.
Where the advice on which the person has relied is not merely negligent, but amounts to a misrepresentation of fact, there may also be an action for misrepresentation. If fraud is involved, there will clearly be an action for deceit.
What is a Statement?
For the purposes of the tort of negligence, a matter of fact or an expression of opinion can amount to a statement. Even silence, combined with circumstances, which give that silence significance, can also amount to a statement.
What are the Preconditions for Liability?
Liability in tort for negligent misstatement can arise only in the following circumstances:
Where one person owes a duty to another person to exercise care. This can be based on either of the following:
(a) The known or apparent skill and competence of the maker of the statement
(b) The fact that the maker of the statement intends it to operate as a direct inducement to act, i.e. that the maker intends the recipient to rely on the statement
(i) The duty of care has been breached, i.e. the maker of the misstatement has been negligent
(ii) If the statement was not made as an inducement to act, whether it was reasonable for the recipient, nevertheless, to rely on it
(iii) The person has suffered loss or damage as a result of relying on the misstatement.
Exclusion Clauses and Disclaimers
In the Hedley Byrne case, Hedley Byrne had requested its own bank to enquire through a second bank on the financial stability of a company. The second bank prepared a report upon which Hedley Byrne acted, but lost money as it contained erroneous and misleading information. The second bank headed its report with the words: “For your private use and without responsibility on the part of this bank or its officials”. In view of these words disclaiming liability, the House of Lords held that no duty of care was accepted by the second bank and none arose. Therefore, the claim by Hedley Byrne for damages to compensate for financial loss resulting from negligent misstatement failed.
This disclaimer was effective to exclude any liability and claim against the bank. The disclaimer of liability was effective because it destroyed the very thing from which liability was said to flow: an undertaking to apply skill or a holding out of skill or circumstances arising such that a person will reasonably rely upon the advice given.
A person giving advice may be able to avoid liability if before, or at the time of, giving the advice, the person makes it clear that he/she accepts no responsibility for his/her statement.
A disclaimer may be effective for misstatements made negligently, but not the ones made dishonestly.
There are some important points to be remembered about disclaimers:
(a) Disclaimers will always be construed strictly against the party trying to rely on them
(b) The more tightly worded the disclaimer, the more strictly it will be construed. If a disclaimer is very broadly worded it will probably be too general to be effective, if it is very tightly worded so that it covers everything and attacks the heart of the relationship between the parties, it may be held to be ineffective. So, an effectively drafted disclaimer will fit somewhere between these extremes.
Where a contractual relationship exists between parties, it is possible for them to agree in their contract that neither one will be liable to the other in tort in specified circumstances. There is no reason in principle why liability for negligent misstatement cannot be effectively excluded by a clause in the contract (i.e. an exclusion clause).
Statutory Liability
Civil Liability Imposed by Statute
What we have considered so far has been liability for misstatement imposed by common law. Remedies for losses arising from misstatement by licensed persons or any other persons, however, are also available under statute.
Detailed discussion of the provisions about misstatements is included later in this course.
Liability for misstatement under the Capital Markets and Services Act 2007 (CMSA) (incorporating amendments until September 2015), Companies Act 2016 (CA) and specific provisions for misleading recommendation, however, warrants closer examination.
Capital Markets and Services Act 2007 (CMSA)
The CMSA contains a number of provisions, which cover liability for misstatement:
(a) S.177 prohibits the making of a statement or the dissemination of information that is false or misleading
(b) S.178 prohibits a person from frudulently inducing another person to deal in securities
(c) S.179 prohibits a person from making untrue statements or omitting to state a material fact for a purchase or sale of securities or from using manipulative and deceptive devices
(d) S.182 imposes criminal liability on a person who contravenes ss. 177, 178 or 179.
S.199 imposes civil liability on a person who contravenes ss. 177, 178 or 179. If a person suffered a loss or damage as a result of behaviour that would constitute an offence under ss.177, 178 or 179, that person can bring an action for compensation under s.199, whether or not the other person has been charged, or whether or not a contravention has been proved.
Civil action may also be instituted by the Securities Commission Malaysia (SC) for the same offences under s.200. In addition, civil liability can arise concerning recommendations by licensed persons or any other persons.
Companies Act 2016 (CA)
The CA contains certain provisions for which civil rights of action are given to persons who have suffered a loss. These are as follows:
(a) S.167 gives subscribers or purchasers of shares or debentures who act on the basis of a prospectus a right of action against the directors, promoters or others authorising the issue of the prospectus, to obtain compensation for loss or damage sustained by reason of any untrue statement or wilful non-disclosure of a material matter in the prospectus.
(b) Ss.168 and 594 impose criminal liability for false and misleading statements in a prospectus, and fraudulent inducement of people to invest money. Ss.591, 592 and 593 impose criminal liability for making false or misleading statements, or false reports in the context of any return, report, certificate, financial statements or other documents required by or for purposes of the CA.
Disclosure of interest in securities, Reasonable Basis and Know Your Client Rule
Ss.91 and 92 of the CMSA provide that a person may bring a claim against a licensed person, in some circumstances, for loss suffered in reliance upon advice given or non-disclosure of certain information. Note that a recommendation can be made expressly or by implication. –
Liability
Essentially, these sections render a licensed person liable to compensate a person, if the licensed person:
(a) Has made a recommendation (whether orally or in writing) and has not disclosed the nature of any relevant interest in, or interest in the acquisition or disposal of, those securities. Such interests include the fees or benefits (e.g. underwriting fees) the licensed person will receive (whether directly or indirectly), other than a commission or fee from the client, arising from giving the advice and that may reasonably be expected to be capable of influencing the adviser in making the recommendation (see s.91 of the CMSA).
(b) Makes a securities recommendation to a person who may reasonably be expected to rely on it without having a reasonable basis for making the recommendation and the client in reliance on the recommendation, does or omits to do, a particular act and suffers loss as a result (see s.92 of the CMSA).
A licensed person will not be regarded as having a reasonable basis for making a securities recommendation unless he/she has investigated the appropriateness of the recommendation to the client in view of the client’s investment objectives, financial situation and particular needs.
Defences
It is a defence to a prosecution for contravention of s.91:
(a) If the person making the recommendation did not know, and could not reasonably have been expected to know, of the interest when making the recommendation (s.91 (2))
(b) If that person was merely a co-director and was not involved in the making of that recommendation (s.91 (3)(c)).
It is a defence to a prosecution for contravention of s.91 and s.92:
(c) If a reasonable person in the client’s circumstances could have been expected to have done the act (or omission) in reliance on the recommendation even if the licensed person had complied with s.91 or s.92.
Summary
We began this topic by considering the tort negligent management. It is only in recent years that the tort of negligence has been applied by the courts to the written or spoken word of a licensed person.
We discussed the elements of the tort of negligent misstatement. In the securities industry, damages for the tort of negligence usually arise from a misstatement, rather than an action that is negligent, resulting in a financial, rather than physical, loss.
We concluded this topic by looking at the additional liability for damages imposed by statute, in particular the Capital Markets and Services Act 2007 (CMSA), concerning a licenced person who makes a recommendation about securities to a person who may reasonably be expected to rely upon it without having a reasonable basis for making that recommendation.
Self-Assessment
1. As a Capital Market Services Representative’s Licence (CMSRL) holder, Susan should have a reasonable basis in making her recommendations to her clients. Kindly identify whether the following statements in relation to elements of reasonable basis that should be used by Susan are FALSE?
I. Susan has taken into account the investment objectives of her client
II. Susan has considered the financial situation of her client and her family background
III. Susan has conducted due diligence on the subject matter for her recommendation to the client.
IV. Susan has explained the features and benefits of recommended products to her client.
A. I only
B. II only
C. I, III and IV only
D. All of the above
2. Robert is a client of ABC Investment Sdn Bhd, intends to claim against his dealer on the basis that he has suffered a loss having relied upon advice given by his dealer, who also did not disclose his interestnin the recommended securities.
Which of the following defences can be used by the dealer?
I. The client would not have made a claim if a profit had been made.
II. The dealer was not aware of a change in the client’s investment objectives.
III. The dealer did not know that the interest existed at the e time of the recommendation.
IV. The client would have made the investment decision even if the interest had been disclosed.
A. I only
B. I and II only
C. II, III and IV only
D. All of the above
3. Mack was planning to increase his capital position and therefore had sough advice from his remisier, Muna. Based on Muna’s advice, Mack had purchased 500,000 shares of Gula Berhad at RM1.00 on 4 June 20XX. A week later, Gula Berhad went into liquidation and its share price fell to
RM0.20. Mrck confranted Muna and Muna admitted the advice was given based on rumours that Gula Berhad would be acquiring another public-listed company and she did not conduct any further verification purposes.
Based on the above scenario, Mack may bring civil action against Muna for:
A. short selling
B. front running
C. negligent misstatement
D. unlawful use of client’s money