company law Cases

The case summary below is supplied by Law Teacher as a free information resource to help you with your studies.

Coulthard v Neville Russell (A Firm) [1998] 1 BCLC 143

Auditors play a vital role in the regulation of companies and corporate bodies, from reporting on a company's annual accounts to reporting on the accuracy of a director's report.1 With such a pivotal function, auditors have duties and obligations to companies and their shareholders. This was the general accepted view as demonstrated in the case of Caparo Industries plc v Dickman,2 where it was found that auditors do owe a duty of care in their function of certifying the validity of a company's financial accounts.

An issue which however arises is the question of how far that duty of care extends. Is the duty owed by an auditor limited to the company and its shareholders or does it extend beyond that? A key case which deliberated upon this issue and redefined the parameters is the case of Coulthard v Neville Russell (A Firm).3

The case concerned a claim by three directors of D & H Ltd (the Directors) against Neville Russell (the Auditors) on the grounds that the Auditors had failed in their duty to advise them against their acquisition of shares through a loan from the Company in breach of section 151 of the Companies Act 1985 (the "1985 Act"), which prohibited a company from providing financial support for the acquisition of its own shares. In the first instance, the High Court Judge refused the Auditors application for an order to dismiss the Directors' claim.

The Auditors appealed and in the Court of Appeal two issues were highlighted: firstly, whether the loan to the Directors was in breach of section 151 of the 1985 Act and secondly, whether the Auditors owed a common law duty of care to the Appellants. As to the first issue the Court found that the loan made to the Directors, contrary to section 151(2) of the 1985 Act, was illegal and unenforceable.4 This left the issue of duty of care which was considered at length in the decision of Chadwick LJ.

The ground of appeal by the Auditors was that there was no statutory duty to protect the Directors from the consequences of their errors. The Auditors argued that their work was not for the personal benefit of the Directors but for the company. Chadwick LJ noted the argument but stated:

For my part I would be inclined to accept the proposition that it is no part of the auditors' statutory duties to protect directors personally from the consequences of their mistakes and wrongdoing. But breach of statutory duty is not alleged in the present case. The plaintiffs put their claim on the basis of a duty of care at common law. 5

Upon this observation, Chadwick LJ considered the existence of a common law duty of care arising as a consequence of section 235(2) of the 1985 Act; which requires that auditors' state in their report whether they believe a company's account reflects an accurate view of a company's finances. In doing so he found that although the Auditors did not owe a statutory duty to the Directors, they owed a common law duty as they were in a position to advise the Directors on a contentious issue whilst approving the Company's accounts.6 He therefore dismissed the appeal of the Auditors on the basis that he was not persuaded that the Directors' claim was bound to fail.7

The decision in Coulthard was made during a period when the law in relation to the duty of care of auditors was still in development.8 At this time the approach favoured by the courts in assessing the existence of a duty of care was one where a duty was owed by one party to another due to a relationship of 'proximity' and 'neighbourhood'.9 Another approach taken by the courts at this time is as seen in Fomento Ltd v Selsdon Fountain Pen Co Ltd10 where it was found that an auditor was not equipped with the knowledge possessed by a lawyer and as such could not be liable for failing to discover a fact only a lawyer could identify.11

Similarly in the matter of White v Jones12 the position laid out in Caparo was revisited by Lord Browne-Wilkinson who found that although there was no general duty of care, a duty could arise in the case of a special relationship where one party voluntarily answers a question or gives advice in circumstances where it was known that the other party will rely on his advice.

The position taken by the courts in their application of Caparo restricted the liability of auditors in cases where there was an absence of a contractual or special relationship.13 The case of Coulthard however departed from the strict relationship rules previously followed. This may be said to be due to the nature of the appeal as the court was not concerned with whether the claim was established but rather there was a chance the claim could be argued at a trial.14 As such, following the appeal, the duty of an auditor was found not to be limited to a duty owed to the company and shareholder, but one that could extend to directors of a company.

The approach in Coulthard has been relied on in cases such as Pegasus Management Holdings v Ernst Young.15 The claimant here argued that an individual giving advice owes a duty to a person who is subsequently affected by such advice.16 Although accepted as an arguable point, the submission did not succeed in this case due to a technicality.17

A more successful application can be seen in the matter of Equitable Life v Ernst & Young.18 The claimant here relied on the judgment in Coulthard and the court found in their favour on the basis that it could not be concluded that the claimant had no chance of persuading the court that the defendant owed a duty of care. Similarly in Electra Private Equity v KPMG,19 it was found using the principles in Coulthard that an auditor had assumed a duty to a director when preparing accounts that it knew or ought to have known the director would rely on.20

The impact of the decision in Coulthard can be said to have altered the legal landscape and broadened the scope an auditor's responsibility.21 There are today more concrete rules regulating the duties of auditors, from criminal liability for providing misleading information,22 to contractual, tort, negligent misstatement and breach of trust safeguards.23

Footnotes

1 Buckley, Functions of Auditors: (Buckley on the Companies Acts 2006).

2 1990 1 All ER 568, 1990 BCLC 273.

3 1998 1 BCLC 143.

4 Chadwick LJ (n 3) 149.

5 (n 3) 151.

6 Chadwick LJ (n 3) 152.

7 (n 3) 155.

8 Chadwick LJ (n 3) 155.

9 Lord Bridge (n 2) 280.

10 1958 1 All ER 11.

11 Payne J, Duty of Auditors (All England Annual Review 1998) 15.

12 1995 1 All ER 691, 1995 2 AC 207.

13 Tolley's Company Law, Division A - Auditors (Liability of auditors) 5.

14 (n 3) 155.

15 2008 All ER (D) 101.

16 ibid 14.

17 (n 15) the claimant company was held not to have existed at the time the advice was given.

18 2003 All ER (D) 451.

19 2001 1 BCLC 589.

20 Clarke LJ (n 19) 642.

21 (n 13) 3.

22 Companies Act 2006, s 507.

23 Insolvency Act 1986, s 212.