In AssetCo v Grant Thornton [2020] EWCA Civ 1151, auditor Grant Thornton lost an appeal against a judgment awarding AssetCo damages of approximately £22.36 million following the negligent audit of AssetCo’s accounts. The auditor was found to have negligently failed to identify management’s fraudulent misrepresentations as to the company’s insolvency and was liable for the losses suffered by the company in the continued operation of its loss-making subsidiaries.
Auditor admitted negligence in High Court
Grant Thornton LLP was engaged by AssetCo to audit the company’s financial statements and those of its subsidiaries for the years ending 31 March 2009 and 31 March 2010. The Company’s senior managers behaved fraudulently and it appeared that it was only due to dishonest misrepresentations made by senior management that the business of the Company appeared to be solvent, when in reality it was not.
Grant Thornton admitted that it had failed in its duty to identify management fraud and dishonest representations and evidence as to the solvency of the company provided by AssetCo’s senior management in the course of the company’s audit. The auditor admitted that had it acted with proper care and skill, this would have shown that the company’s business was only “ostensibly sustainable” due to the dishonest misrepresentations made by senior management.
The result of the negligence was that the Company’s assets were overstated by £120 million and the Company had been classed as solvent when it was not.
The losses claimed by AssetCo reflected wasted expenditure of around £31 million which primarily comprised money it had advanced to its subsidiaries, which had made a loss. AssetCo claimed that as a result of the negligent audit, it lost the opportunity to restructure at an earlier date which would have avoided the losses.
In the High Court decision, Bryan J rejected the Grant Thornton’s argument that the losses claimed by AssetCo fell outside the scope of the auditor’s duty. The Judge held that the losses were not too remote and that AssetCo had attempted to mitigate its losses. The amount of damages was reduced by 25% in light of AssetCo’s contributory fault.
Auditor’s Grounds of Appeal based on causation and loss of chance
The auditor appealed the decision on three grounds:
- Causation: AssetCo had failed to establish that the losses for which it claimed damages were within the scope of Grant Thornton’s duty of care and that its breaches of duty were the legal cause of those losses.
- Loss of Chance: The Judge erred in his application of the principles for awarding damages for loss of a chance in finding that the counterfactual situation was established on a 100% basis.
- Credit for benefits: AssetCo listed six source of funds for the purposes of its wasted expenditure on its subsidiaries. If Grant Thornton was liable for the same, four of the sources represented benefits to AssetCo for which it must give credit, which the Judge failed to do.
If Grant Thornton could succeed on ground 1, the whole award of damages should be set aside and if ground 3 was established, this would eliminate or reduce the losses for which damages were recoverable.
What is the SAAMCO principle?
The case of South Australia Asset Management Corpn v York Montague Ltd [1997] AC 191 (“SAAMCO“) established, that where a professional is responsible for providing information on which a decision will be taken, as opposed to advising on the merits of a transaction, the professional will only be responsible for any consequences of the information being wrong.
The Courts will consider two types of cases:
- “advice” cases, in which a professional advises on the merits of the transaction overall and so has a duty to protect the recipient of the advice against the full range of risks associated with entering into the transaction; and
- “information” cases, in which the professional supplies only part of the material on which the recipient decides whether to enter into the transaction, and so is liable only for the financial consequences of the information being wrong (and not the entire financial consequences of the party entering into the transaction. In this scenario, the professional is not liable for the consequences which would have occurred even if the information that was provided had in fact been correct.
The Claimant must therefore show that the losses would not have occurred had the information that was provided by the auditor been correct.
Did the company’s losses fall within the auditor’s scope of duty of care?
The Court of Appeal confirmed that the SAAMCO principle may not need to be addressed in all cases and should be seen as a tool the court may employ for determining which losses fall within the scope of the professional’s duty and there may be exceptions.
In this case, where there were allegations of the provision of negligent advice or information, the Court of Appeal considered the SAAMCO principle and in dismissing Grant Thornton’s appeal, found that AssetCo’s losses fell within the scope of Grant Thornton’s duty i.e. the auditor’s negligence caused the losses.
There was one exception in this case which involved AssetCo’s misappropriation of £1.5 million for his own personal benefit and this was held to be outside the scope of the auditor’s duty. The Court determined that this could not have reasonably been identified during the course of the audit and causation had not been established.
Court of Appeal assesses loss of chance
Where the loss claimed by a party depends on the hypothetical actions of a third party, the claimant must prove on the balance of probabilities what action it would have taken but need only show that there was a real or substantial chance of any necessary action by the third party. The Court then assesses the loss of chance when awarding damages.
In the appeal, the Judge determined that AssetCo would have started restructuring earlier in 2009 and AssetCo established that it would have taken the steps to execute this. In light of this, the Judge did not reduce the damages to factor in any chance that the restructuring would not have been implemented.
Advice on claims against negligent auditors
This case is yet another example of the scope of an auditor’s duty of care to its clients and how auditor will be liable for losses suffered by a company in the event of a negligent audit.
Auditors have a duty to look into the substantial accuracy of any given account, to ensure they correctly represent the state of the company’s affairs. This duty only requires the auditor to have been reasonably careful in their role.
In the instance where a claim of fraud is established in a company, the auditor will not automatically be held to have been negligent in failing to detect the fraud. Therefore, to establish whether an auditor has been negligent, it is necessary to prove that a reasonably competent auditor exercising normal skill and care would have identified the fraud.
In recent years it has become apparent that some of the more successful cases against negligent auditors have been where there has been a misunderstanding as to the degree of responsibility which the auditor was to assume in giving advice. Therefore, it is essential that you distinguish your claim between:
- negligence which has been carried out contrary to agreed terms; or
- a dispute that has arisen due to a misunderstanding regarding assumed duties of the auditor.
How do I complain about an auditor?
The Financial Reporting Council (FRC) is the regulatory body for auditors and accountants and sets UK’s Corporate Governance and Stewardship Codes to which auditors must adhere.
In considering whether there has been any professional negligence, you can also report an auditor’s misconduct to commence a regulatory investigation.
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