i Sources of law
The basic foundations of the Brazilian securities market are set upon:
- Law No. 6,385/1976, which set up the pillars of the Brazilian securities market and created the Securities Commission2 (CVM).
- Law No. 6,404/1976, which regulated the joint-stock companies, their management and several types of securities related to capital funding.
- Law No. 4,595/1964, which created the National Monetary Council3 (CMN) to govern the financial sector.
In addition to federal legislation, there is a robust body of rules issued by the CVM covering a wide range of matters related to securities and listed companies, such as initial public offerings, issuance of bonds, issuance of Brazilian depositary receipts, disclosure and control of inside information, among others.
There are also rules issued by specific self-regulatory private companies with authority to regulate the conduct of players and trades in securities within their own markets, pursuant to Rule No. 461/2007 of the CVM. Among these private companies is B3 SA (Brasil, Bolsa, Balcão) (B3), Brazil's most important stock exchange and over-the-counter market.
ii Regulatory authorities
Offences under Brazilian securities laws may translate into one or more of administrative, civil and criminal liabilities. The offenders may be prosecuted in all these three spheres separately, before different courts and regulatory authorities, and face different sanctions in relation to a same offence.
At the forefront of the administration is the CMN, the purpose of which is to set general guidelines to be followed by the financial system, including Brazil's Central Bank and the CVM, as well as by the securities market as a whole.
The CVM acts as a regulatory agency and plays the role of the backbone of the securities market, regulating it and implementing the guidelines and policies set by the CMN. The CVM is managed by a board composed of a chairman and four commissioners, who are nominated by the President of Brazil and approved by the Senate. Several technical bodies with specific attributions also work under the direction of the CVM's board.4
The CVM has the authority to regulate and issue rules applicable to all listed companies, investment funds, stock exchanges, over-the-counter markets, entities of the securities distribution system and investors.5 The CVM also works directly with players in the capital markets, overseeing their activities, approving the registration of listed companies and the issuance of bonds, among other activities.
The CVM acts in the administrative enforcement sphere as the main authority responsible for overseeing Brazil's capital markets as a whole. Matters revolving around insider trading, misinformation and fraud, among others, may be investigated directly by the CVM through commencement of administrative proceedings that may eventually lead to severe sanctions, such as multimillion-reais penalties and temporary suspension of the right to take positions within Brazil's capital markets. The administrative decisions issued by the CVM may be appealed at the board of appeals of the National Financial System.6
On the judicial front, disputes involving securities are generally of a civil nature, usually claimed in state courts directly by aggrieved private entities. Should an offence to securities legislation cause collective losses to holders of securities, the Public Prosecutor's Office may seek redress on their behalf, as it has standing to file class actions in such scenarios.7 Such redress may occur on the own initiative of the Public Prosecutor's Office or at the request of the CVM, which can join such claims as co-plaintiff, assistant or even as amicus curiae, rendering its opinion or clarifications on the matters under scrutiny. The CVM may also file appeals against court decisions, should the parties fail to do so.8
In the private sector, self-regulatory entities such as stock exchanges and over-the-counter markets also have mechanisms for the compensation of damage. Special emphasis is given on BM&FBOVESPA Supervisão de Mercados (BSM), founded by B3 with the sole purpose of overseeing activities carried out within its own markets.
iii Common securities claims
Securities litigation in Brazil involves all types of securities, such as shares (of companies and funds), debentures, warrants, commercial paper, derivatives, etc., and are mostly related to disputes over corporate governance, intermediation and auditing liabilities, conflicts of interest, disclosures, frauds or omissions, minority shareholders' rights, creditors' rights, bankruptcy and reorganisation related to distressed companies and compliance with regulations of the CVM, stock exchange and over-the-counter markets.
There are four main avenues for dispute resolution in Brazil:
- court litigation;
- conciliation; and
Most cases are referred to court or arbitration, depending on the disputed amount or the relevance of matters under scrutiny. Securities litigation in Brazil is not so common when compared with foreign markets or even to other sectors in Brazil.
In recent years, most high-profile cases have been tried before arbitration panels under secrecy, partially because of the B3 rules demanding the inclusion of arbitration clauses in companies' by-laws for their admittance at the highest corporate governance segments. The use of arbitration is one of the reasons for the lack of relevant court precedents related to securities litigation. Consequently, the precedents normally used as guidance for Brazilian market players mostly derive from the CVM and frequently deal with insider trading, breach of fiduciary duties, market manipulation and abuse of voting rights.
Secondary liability of financial and legal advisers is not presumed under Brazilian law; it must necessarily rely on evidence of wilful misconduct or the pursuit of joint benefits by those advisers and their clients.
On the other hand, the CVM and Public Prosecutor's Office may bring claims against advisers – most frequently against auditors – for negligence or breach of duty. Civil liability for negligence and ensuing damage caused by auditors to third parties is specifically provided in Law No. 6,385/1976.
II PRIVATE ENFORCEMENT
i Forms of action
There are two main categories of civil liability in Brazil:
- Fault-based liability, based on the culpability theory, in which there must be damage, the occurrence of a faulty action, omission or wilful misconduct, and causation between the action or omission and the damage suffered by the party.
- Strict liability, based on the risk theory, which applies irrespective of fault, and evidence will solely relate to the link of causation between an action or omission and the damage allegedly suffered by the party (i.e., fault, negligence and wilful misconduct are irrelevant for the purposes of establishing the duty to indemnify).
While fault-based liability is the general rule, strict liability applies to cases specified in the law (e.g., consumer rights under Law No. 8,078/1990) or when the offender's activity, by its nature, implies inherent risks for third parties (e.g., a carrier of hazardous or flammable substances).9
Under Brazilian law, only direct damage is subject to indemnification. Any indirect damage is not indemnifiable, as only the party directly affected would have standing to sue.10 For instance, court precedents usually hold that the mere devaluation of shares or decrease in dividends arising out of fraudulent conduct of the senior managers causes only indirect damage to shareholders, as the directly harmed party would be the company itself. Therefore, the company would be the entity with standing to claim such losses. On the other hand, common examples of direct damage caused to shareholders may be the wilful undervaluation of shares for purposes of mergers and violations to right of first refusal in capital increases, as such actions directly affect shareholders' rights.
Securities disputes usually relate to:
- corporate governance, conflicts of interest, manager misconduct and shareholders' rights within listed companies; and
- damage caused by default of obligations in securities transactions.
In either case, disputes generally revolve around civil liability and the duty to indemnify, which should be limited to the losses directly and reasonably evidenced by the aggrieved party under the Brazilian Civil Code.11
Disputes involving corporate governance usually deal with wrongful or unlawful acts and breaches of statutory and corporate rules by the senior managers and causing damage at different levels, namely to the company, its shareholders and to third parties. This wrongdoing may give rise to the filing of ut universi lawsuits, ut singuli lawsuits and ordinary civil liability lawsuits.
The shareholders or third parties that suffered a direct, particular loss from senior managers' misconduct may file an ordinary, individual liability lawsuit to recover the loss, according to Law No. 6,074/1976, Article 159, Paragraph 7. In such cases, the losses are suffered directly, specifically and personally by the shareholders or third parties concerned, being unrelated to the company's interests or to the losses that may have been concurrently suffered by the company. Losses related to insider trading by senior managers are examples of losses that may directly affect shareholders in their individual capacity.
If losses are suffered by the company directly, the filing of a liability lawsuit (ut universi) may be submitted for deliberation at the shareholders' general meeting. If a majority of the shareholders approve the filing, the senior managers accused of wrongdoing will be immediately dismissed from their positions and the company itself will file the liability lawsuit against them within three months. If the company fails to do so, any shareholder may bring this lawsuit on its behalf,12 and any amount recovered by the shareholder will accrue to the company. If the filing is rejected at a general meeting, the liability lawsuit may be filed on behalf of the company by shareholders representing at least 5 per cent of the corporate capital (ut singuli lawsuit). In this scenario, however, the accused senior managers will not be automatically dismissed from their positions, as the matter has not been previously approved at the shareholders' general meeting.
A liability lawsuit may be brought against the controlling shareholders for recovery of damages in cases of abuse of controlling power,13 if the controlling shareholder14 is responsible for losses of the controlled company. The standing to file this claim lies with:
- the minority shareholders with at least 5 per cent of corporate capital; or
- any shareholder with less than such an amount (in this case, the shareholder must deposit in court an amount equivalent to legal expenses and attorney fees).
The damage from default of obligations in securities transactions may also give rise to indemnity claims, which are generally brought by investors who suffered direct damage because of the wrongdoing. For instance, fraudulent issuance of securities may give rise to civil lawsuits filed by individuals seeking redress of damage.
Finally, a public civil lawsuit (akin to a class action lawsuit) is set forth in Law No. 7,913/1989. It aims to obtain reimbursement for damage caused to a group of securities' holders. Such an action must be filed directly by the Public Prosecutor's Office, which may act on its own initiative or upon the request of the CVM. The damages recovered through this lawsuit will revert to the aggrieved investors rateably to their individual loss.
As private securities claims are mostly of a civil nature, the applicable procedure is set out in Law No. 13,105/2015, known as the Code of Civil Procedure, enacted in March 2015 and effective as from 18 March 2016. It is a federal law effective in both federal and state jurisdictions.
Generally, lawsuits discussing offences to securities law are tried in state courts. Exceptionally, the jurisdiction will pass to federal courts should a public entity such as the CVM request to join the proceeding as an interested third-party.15 Moreover, the Federal Constitution and applicable legislation do not contemplate trial by jury in commercial and civil cases.
As a rule, lawsuits at state and federal courts are tried publicly. The court may order the case to be conducted under secrecy16 in certain circumstances to preserve the parties' privacy or in the public interests.
Both plaintiff and defendant have the burden of proving their own claims raised in the complaint and in the defence. Unlike US proceedings, Brazilian legislation does not provide for broad discovery allowing the party to oblige its opponent to disclose a vast amount of documents and information as evidence in the litigation. The Code of Civil Procedure puts at the parties' disposal a more limited proceeding, in which the plaintiff must satisfy certain legal requirements, such as evidence of the existence of documents and their importance for the matter under scrutiny, to be granted the command obliging the opponent to disclose them in court. Thus, it may be burdensome for investors to file securities lawsuits owing to the limited scope of discovery available in Brazil.
As a general rule, each party has the burden to prove its own claims. The court may innovate by imposing on the other party the burden to produce certain pieces of evidence important for the matter under scrutiny. This inversion may occur, for instance, where:
- the party originally obliged to produce evidence in court cannot do so; or
- one of the parties has more ready access to evidence.17
Once discovery is complete, including the holding of trial hearings, the court may render its decision, which is appealable at the respective court of appeals.
Should the parties opt for arbitration, Law No. 9,307/1996 allows parties to customise the proceeding (e.g., by establishing that it will be subject to confidentiality), within certain limits prescribed by law, although it is common that the regulations set forth by major Brazilian arbitration chambers will be followed. At the end of the proceeding, the panel will render an arbitration award, which is non-appealable.
A public civil lawsuit tends to result in generic awards confirming or rejecting investors' rights and affecting the whole group to which it relates. The damages recovered through this public collective lawsuit will enure to aggrieved investors rateably to their individual loss, as per Law No. 7,913/1989. In generic sentences, the assessment of damage and its further enforcement against the debtor may be burdensome and time-consuming.
As a general rule, claims related to disposable rights – such as disputes between private parties over securities – can be settled, either in court or out of court. Out-of-court settlements may need to be recognised in court, but this recognition is limited to an analysis of any possible violations of the law, not to the economic provisions of the settlement.
In the case of a liability lawsuit (ut universi), the settlement must be previously approved by the corporate bodies, including by those shareholders that had originally approved the filing of the lawsuit.
In derivative suits (ut singuli), the settlement between shareholders and senior managers would be ineffective, as the right under scrutiny belongs to the company and not to the shareholder acting as plaintiff on its behalf. Only the company can dispose of any of its rights. For such a settlement with a shareholder to be effective, it must be previously submitted and approved by a general shareholders' meeting. Nonetheless, the shareholder acting as plaintiff may decide to discontinue the derivative suit, since he or she ultimately holds control over the procedure (i.e., in this case, the shareholder would not be settling or waiving any of the company's rights without prior authorisation, but would only be withdrawing the claim without prejudice, which may be later reclaimed by the company during the corresponding limitation period).
In the case of public civil lawsuits involving securities claims (Law No. 7,913/1989), the Public Prosecutor's Office cannot settle and dispose of any investors' rights either, as the right under scrutiny does not belong to it.
iv Damages and remedies
In civil liability lawsuits, indemnification for property and moral damages can be granted by courts. Property damages are tantamount to the actual damage suffered by the aggrieved party. The plaintiff must state the extent of recoverable damages at the filing of the lawsuit.18 This is meant to prevent plaintiffs from seeking excessive compensation, as the stated amount will serve for calculation of court costs payable by the losing party.
The same rule applies to moral damages (pain and suffering), where the plaintiff will also need to state the full amount of recoverable damages at its statement of claim.
In derivative suits (ut singuli), all damages recovered revert in favour of the company, as the shareholders are acting on its behalf. The same goes for public civil actions, where the Public Prosecutor's Office litigates on behalf of a group of shareholders and, thus, all damages recovered will accrue to the latter.
Remedies granted by Brazilian courts are not limited to monetary obligations. Courts are also allowed, for example, to review the economic aspects of certain agreements or even compel a party to refrain from certain practices.
As for allocation of expenses in litigation, the defeated party bears all expenses, including attorneys' fees.
III PUBLIC ENFORCEMENT
i Forms of action
As the main administrative authority responsible for overseeing the securities market, the CVM investigates, prosecutes and punishes securities laws violations. All market players, such as senior managers, shareholders, investment funds and listed companies, are subject to the CVM's scrutiny, regardless of their civil or criminal liability.
Though uncommon, securities market misconduct can also be treated as a crime and, as such, investigated by the Public Prosecutor's Office, with the help and support of the CVM. Notable examples of criminal conduct are market manipulation and the use of inside information.19 The Public Prosecutor's Office has standing to bring a suit in court regarding criminal offences against the securities market.
The Federal Public Prosecutor's Office has intensified the crackdown on securities crimes and, within such a context, signed a cooperation agreement with the CVM in 2008 to facilitate the exchange of relevant information and to optimise their oversight of the Brazilian securities market. If the CVM's investigation reveals the existence of a potential criminal offence, it must notify the Public Prosecutor's Office, following the procedure established in the Brazilian Criminal Procedure Code.20
The general timeline for administrative procedure is the following: on becoming aware of a securities law violation, the CVM asks the relevant party for information. If the information received is unsatisfactory, the CVM prepares an accusation containing key information on the illicit act. The specialist prosecutors' office will render an opinion, and the accused party will present a formal defence. Then, the case files are remitted to a technical body for a report on the entire proceeding. Finally, the accused party comments on the report and the CVM's board of commissioners eventually makes a decision. This decision may be appealed at the board of appeals of the National Financial System.
The case files of administrative proceedings are generally open to the public upon receiving a justified request. The decisions issued by the CVM's board of commissioners are made public on the CVM's website.
Furthermore, the CVM's decisions can be challenged in courts via ordinary lawsuits.
The CVM may settle with securities law offenders via a settlement agreement23 or a plea deal (whistle-blowing agreement).24 These possibilities have been in place since enactment of Law No. 13,506/2017, which significantly changed Law No. 6,385/1976.
Settlement agreements authorise the CVM to stay administrative proceedings in the public interest, whether during preliminary investigations or in the course of the proceedings, for execution of a settlement agreement by which the accused (or investigated) party agrees to: cease the acts or activities deemed illicit by the CVM; and correct (and compensate for) any irregularities found. The procedure for execution of a settlement agreement is governed by CVM Resolution No. 390/2001, and entails no acknowledgement of guilt by the signatory; therefore, should the latter default any of his or her obligations under the settlement, the CVM may resume the proceeding and, ultimately, impose sanctions on him or her.
For its part, the plea deal (whistle-blowing agreement) allows the CVM to exonerate the offender from liability or reduce sanctions by one-third to two-thirds as the offender confesses to violating securities laws and undertakes to cooperate with investigations in identifying the other violators, gathering relevant documents, among others. The execution of such an agreement is cumulatively conditioned to:
- the legal entity being the first to qualify among violators related to the same facts;
- the legal entity ceasing its participation in the relevant offence;
- the CVM lacking sufficient evidence to convict the relevant person or legal entity at the time; and
- the person or legal entity fully cooperating with the investigation throughout.
The execution of a settlement agreement in relation to public civil lawsuits, including those concerning securities claims, is permissible under Law No. 7,347/1985. The agreement may be entered into jointly by the CVM and the Public Prosecutor's Office, leading to an administrative and court settlement covering the same securities offence.
iv Sentencing and liability
Law No. 13,506/2017 was enacted at the end of 2017 in answer to recent scandals of corruption involving major players in the Brazilian securities market. It significantly increased all monetary penalties imputable by the CVM,25 which may not exceed the greater of: (1) 50 million reais; (2) twice the value of the irregular issuance or transaction; (3) three times the economic advantage obtained or loss avoided by the wrongdoing; or (4) twice the damage that the wrongdoing caused to investors. These fines may be tripled in the event of recidivism.
The CVM may also apply non-monetary penalties, such as suspension, disqualification and prohibition from engaging in certain activities or transactions in the securities market for up to 20 years.
In the criminal sphere, offences against the capital markets may result in custodial sentences. For instance, those liable for market manipulation and insider trading are subject to custodial sentences of up to eight and five years, respectively,26 plus fines of up to three times the illicit benefit obtained.
IV CROSS-BORDER ISSUES
The CVM is in charge of investigating and punishing offences against capital markets, as long as they (1) have caused damage to residents in Brazil, regardless of the actual place where the offences occurred, or (2) occurred within the Brazilian territory.27
In the civil sphere, Brazilian court may assert jurisdiction over: (1) defendants domiciled in Brazil; (2) obligations to be performed in Brazil; and (3) claims deriving from facts or acts that occurred in Brazil.28 Brazilian law does not set any special conditions or requisites for a foreign individual residing in Brazil to bring suit before the Brazilian courts. For their part, foreign-based plaintiffs bringing claims in Brazilian courts must post bond to secure court costs and attorneys' fees. Shareholders residing abroad must also appoint a legal representative with powers to be served on their behalf over matters related to capital markets, pursuant to Law No. 6,404/1976.
In the criminal sphere, Brazilian courts have jurisdiction over any wrongdoing within national borders and any acts whose effects are verified within the Brazilian territory.29
Therefore, foreign issuers falling under the aforesaid conditions are subject to oversight of the CVM or Brazilian courts, or both.
V YEAR IN REVIEW
The year 2018 saw an increase of warning notes issued by the CVM by which a given player is advised that his or her acts could lead to commencement of administrative proceedings. There were 357 at the end of 2018, compared with 290 during 2017 and 281 during 2016. On the other hand, there were fewer investigative proceedings initiated in 2018 compared with 2017 and 2016 – 105, 138 and 113, respectively, where:
- 87 evolved into accusations;
- 13 are still under administrative investigation; and
- five were tried through simplified procedure.
There were also fewer administrative sanctioning proceedings initiated in 2018 compared with 2017 and 2016 – 104, 126 and 114.
In 2018, the CVM ruled on a total of 109 administrative sanctioning proceedings, a historic record when compared with previous years. As a result, the administrative proceedings ruled by the CVM's board of commissioners resulted in:
- 249 fines;
- five suspensions;
- nine disqualifications;
- 13 prohibitions; and
- 140 discharges.
The total amount of fines applied in 2018 was 350.3 million reais (in 2017, the fines had amounted to 166.3 million reais). Moreover, 2018 saw a sizable increase in administrative proceedings approved for execution of settlement agreements. In total, 57 proceedings were settled with 179 different entities, generating around 41.22 million reais in revenues from settlement agreements.30
The plea deal has proved an instrumental tool for uncovering offences in the capital markets, and its use is likely to increase, as Law No. 13,506/2017 has allowed the CVM to enter into such plea deals directly.
A new regulation for B3's trading segment demanding the highest levels of corporate governance was approved in the second half of 2017, becoming effective in January 2018. This has brought significant changes to listed companies, such as new rules for disclosure of information and new standards for the number of directors and officers, among others.
Finally, the media has reported that a group of Petrobras' shareholders filed a collective arbitration request against the oil giant for reimbursement of losses from corruption and fraud. This proceeding would benefit investors who traded Petrobras' shares between 2010 and 2015, the same period considered by the US class action. Although still controversial, as it is the first of its kind in Brazil, it may represent a precedent for the securities market as a whole. The media has also reported that Petrobras would be prepared to deposit approximately 1.25 billion reais to settle losses suffered by Brazilian investors. The outcome of the litigation involving Petrobras is a leading case and very important to the markets, as investors who acquired shares and other securities issued by other listed companies involved in wrongdoing may also try to follow this same legal strategy to recover their losses.
VI OUTLOOK AND CONCLUSIONS
After almost five years of severe financial crisis, Brazil has shown signs of revival and maintaining economic growth in 2019.31 Interest rates in Brazil have reached an all-time low, which should help to drive investors back to the capital markets. The new government that took office from January 2019 is committed to structural reforms in Brazil, such as social security and taxation reforms, which will be important for economic growth and attracting investment.
The market also awaits new developments in the efforts towards enacting a new Commercial Code32 that could put the 1976 Brazilian Corporation Law on a par with cutting-edge legislation.
The effects of Law No. 13,506/2017 are likely to be felt more intensely in the coming years, giving rise to new plea deals with the CVM. This, coupled with B3's new regulations for its trading segment demanding the highest level of corporate governance, should help the further maturing of Brazil's capital markets.
1 Rodrigo Carneiro, Fernando Zorzo and Eider Avelino Silva are partners at Pinheiro Neto Advogados.
2 Comissão de Valores Mobiliários.
3 Conselho Monetário Nacional.
4 Decree No. 6,382/2008, Section IV of attachment I.
5 Decree No. 6,382/2008, Article 8 of attachment I.
6 Conselho de Recursos do Sistema Financeiro Nacional.
7 Law No. 7,913/1989, Article 1.
8 Law No. 6,385/1976, Article 31.
9 Law No. 10,406/2002, Article 927.
10 Law No. 13,105/2015, Article 18.
11 Law No. 10,406/2002, Article 944.
12 Law No. 6,404/1976, Article 159, Paragraph 3.
13 Law No. 6,404/1976, Article 117, sets forth several duties and standards of conduct attributable to controlling shareholders.
14 Law No. 6,404/1976, Article 116, defines controlling shareholder as the person, legal entity or group of persons or legal entities bound by a shareholders' agreement that have joint ownership of voting rights that ensure the majority of votes at general meetings and the power to nominate most senior managers, provided that such voting rights are enforced.
15 Federal Constitution, Article 109.
16 Law No. 13,105/2015, Article 189.
17 Law No. 13,105/2015, Article 373, Paragraph 1.
18 Law No. 13,105/2015, Article 292.
19 Law 6,385/1976, Articles 27-C and 27-D.
20 Law No. 3,689/1941.
21 Laws No. 6,385/1976 and No. 9,784/1999.
22 CVM Resolution No. 538/2008, recently amended by CVM Resolution No. 780/2017.
23 Law No. 6,385/1976, Article 10, Paragraph 5.
24 Law No. 13,506/2017, Article 30.
25 Law No. 13,506/2017, Article 30.
26 Law No. 6,385/1976, Articles 27-C and 27-D.
27 Law No. 6,385/1976, Article 9, Paragraph 6.
28 Law No. 13,105/2015, Article 21.
29 Decree-Law No. 2,848/1940, Articles 5 and 6.
31 Brazil had a positive GDP of 1.1per cent in 2018 and 1 per cent in 2017, compared with 2015 and 2016, both with a GDP of 3.5 per cent.
32 Legislative Bill No. 1,572/2011.