This essay has been submitted by a law student. This is not an example of the work written by our professional essay writers.
Firm of auditors employed
Z & Partners is a firm of auditors employed by X plc. Fred, the Chief Executive of X plc, asked Z & Partners to prepare some special accounts concerning X plc, telling them that he wanted to review the company's financial performance. In fact, Fred is negotiating with G plc to sell X plc to it. G plc asked Fred to provide these special accounts expressly for this purpose. The accounts prepared by Z & Partners indicate that X plc is performing well financially. Fred makes these accounts available to G plc, which buys X plc in reliance on them. Soon after purchasing X plc, G plc realise that the accounts are inaccurate and that X plc has barely been making a profit in the last two years.
Advise G plc as to any tortious claims it may have against Z & Partners, X plc and Fred.
Would it make any difference to your answer if G plc had taken other, independent financial advice on whether or not to purchase X plc and had relied, in large part, upon that other advice?
The tort of negligence was formed in the landmark case of Donoghue v Stevenson (1932) AC 562, which established the “neighbour principle” as a means of discovering whether or not one party owed a duty of care to the other, Lord Atkin (at 579-580) described this as "the rule that you are to love your neighbour becomes in law, you must not injure your neighbour; and the lawyer's question, Who is my neighbour? Receives a restricted reply. You must take reasonable care to avoid acts or omissions which you can reasonably foresee would be likely to injure your neighbour. Who, then, in law is my neighbour? The answer seems to be - persons who are so closely and directly affected by my act that I ought reasonably to have them in contemplation as being so affected when I am directing my mind to the acts or omissions which are called in question". Despite his attempts to formulate a single general principle as to what would constitute a duty situation, this rule was too vague to be coherently applied, yet another attempt was made to clarify the situation in Anns v Merton London Borough Council  A.C. 728, in which Lord Wilberforce, at 751-752, stated that a duty of care would arise if “there is a sufficient relationship of proximity or neighbourhood such that, in the reasonable contemplation of the former, carelessness on his part may be likely to cause damage to the latter - in which case a prima facie duty of care arises. Secondly, if the first question is answered affirmatively, it is necessary to consider whether there are any considerations which ought to negative, or to reduce or limit the scope of the duty or the class of person to whom it is owed or the damages to which a breach of it may give rise". This is the Anns test, also known as the “two fold” test, which requires that there is a “sufficient relationship of proximity based upon foreseeability” and also that the reasons why there should not be a duty of care are taken into consideration, namely, whether or not it would be fair to impose liability. This decision was later criticised as the caveats of “proximity” and fairness were, once again, too vague and another attempt was made in Caparo Industries PLC v Dickman  2 AC 605 to clarify the situation, this was sought through the “three-fold test”, which states that for a duty of care to exist between parties, the following must be present;
- Harm must be a "reasonably foreseeable" result of the defendant's conduct
It must be "fair, just and reasonable" to impose liability
A relationship of "proximity" between the defendant and the claimant
This case also extended the scope of duty of care to encompass not just consequential economic loss, loss directly attributed to negligent actions, but also pure economic loss, which is economic loss that is not directly related to the breach of duty, for example the lost production time during a power cut caused by negligent road works which meant a power line was cut, as in Spartan Steel & Alloys Ltd v Martin & Co (Contractors) Ltd  1 QB 27, although the claim for pure economic loss was not successful here, this was described by Cardozo as "liability in an indeterminate amount, for an indeterminate time, to an indeterminate class" in the American case of Ultramares v. Touche 174 N.E 441, 444 (N.Y. 1931). Prior to these judgements, the courts would have applied the decision in Hedley Byrne & Co Ltd v Heller & Partners Ltd  AC 465 which stated that when a person makes a statement, he automatically assumes responsibility to the person he makes the declaration to, and thus if the statement was made negligently, then he will be liable for any loss which results.
First it is necessary to establish that one party owes a legally recognised duty of care to another. Second it is necessary to show a breach of that particular duty and third that damage has been sustained. Fourth, it must be established that the damage suffered was incurred as a direct causal consequence of the breach, and finally it must be demonstrated that the damage was reasonably foreseeable in the circumstances, in that it is not too remote a consequence. All of these requirements are required for a party to be liable for negligence, and subsequently for a claim to succeed.
So, if we apply the “three-fold” test to the actions of Z & Partners, we can see that, as established by Lord Bridge in Caparo Industries PLC v Dickman  2 AC 605, Z owes no duty to existing shareholders or potential shareholders who may purchase shares on the bases of an audited set of accounts, and as the report was stated to be required to review the performance of X PLC, this does not extend a requirement to assist future shareholders in deciding whether or not to invest in the company. In regard to “proximity”, Lord Bridge referred to the dissenting opinion of Lord Denning in Candler v Crane, Christmas & Co  2 KB 164, in which Lord Denning stated that the auditor must have been aware of the purpose for which the accounts were being prepared and to whom they were going to be made available to in order for the requirement of “proximity” to be wholly satisfied. It would therefore seem that as Z was unaware of the intended function of the reports, a duty situation has not come to pass, and any tortuous claims against them would fail.
In relation to the agreement between Fred and G PLC, it was stated in the case of Smith v Eric S Bush  1 AC 831 that where it is known, or where it is common practice, that a statement is going to be relied upon to make a decision, then a duty of care is owed to the recipient of the statement, regardless of the whether it was issued directly to them, or through a third party. Similarly, in Morgan Crucible Co. PLC v Hill Samuel & Co. Ltd. and Others  Ch. 295 states that where the target company of a take-over bid knows that the bidder is relying on financial information provided by itself, a duty of care arises. It seems clear that the relationship between Fred and G PLC satisfies the requirements laid down in Caparo Industries PLC v Dickman  2 AC 605 and as such, Fred owes a duty of care to G PLC. Secondly, we must discern if Fred has breached his duty to G PLC, it would be safe to say that Fred would be considered an “expert” within his field and thus the standard test of whether the abilities of a reasonable person were, at least, matched does not apply, instead, the rule laid down in Bolam v Friern Hospital Management Committee  1 W.L.R. 582. This case stated that “if a doctor reaches the standard of a responsible body of medical opinion, he is not negligent", this has become known as the Bolam test and is used to assess the standard of reasonable care exercised by skilled professionals in cases concerned with negligence, thus, if Fred can prove that his actions were condoned by a sensible body of professional opinion, he will be deemed not have acted negligently. It should also be noted, however, that this body of opinion need not be the prevailing one, merely that it is sensible. Should Fred not be considered an expert in his field, the court would look to the likelihood of harm occurring, the practicability of taking reasonable precautions, the seriousness of the potential harm and any matters of public policy. In regard to the likelihood of harm, the case of Roe v Minister of Health  2 All ER 131 stated that since the best practice of the time was being applied, the standard of care was satisfied and there was no negligence, however, it is likely that the court would find it probable that harm would arise from a negligently created set of accounts. It may also expected that Fred was to take precautions in guarding against harm to others, and providing that this obligation is not too onerous, as in Latimer v AEC Ltd  A.C. 643, I would think it likely that it would be ordinary for Fred to take reasonable precautions against a set of inaccurate accounts, and the court would be satisfied that a breach of duty has occurred. Finally, it is vital that the damage to G PLC had been caused by Fred, this is judged by the “but for” rule, which states that if, but for the defendants actions, harm would not have arisen, they have caused the harm, and are thus liable. It would seem that since Fred delivered the inaccurate accounts to G PLC, and these actions led to harm upon G PLC, it is also important that the damage is not too remote a consequence, and could have reasonably been anticipated, as per The Wagon Mound  A.C. 643, it would be likely that financial loss stemming from an unwise investment would be easily anticipated. I believe that the actions of Fred are sufficient to constitute negligence and he would be liable for the lost investment, but not any subsequent loss, such as lost opportunity, for example.
Whilst the actions of Z & partners are no doubt negligent, it is unlikely that any claim directly against their employers, X PLC, would succeed, as it is a well established principle that companies are not liable for the tortuous actions of their sub contractors, as held in Junior Books Ltd v Veitchi Co Ltd  1 AC 520.
Had G PLC taken the advice of another company and relied, in large part, on this other advice, the other firm of auditors would, we can assume, know of the ultimate use of the accounts to facilitate the purchase of X PLC, sufficient to satisfy the requirement of reasonable forseeability of harm stemming from their conduct, and the professional relationship between the two parties would constitute the “proximity” required. The inaccurate accounts would amount to a breach of duty, and the lost investment made on their recommendations would signify the loss. Finally, the damage resulting from this breach would not be too remote as to waive liability, and this second firm of auditors would be liable for the money invested in X PLC but, again, not for any subsequent economic loss.
In conclusion, should G PLC claim against Fred in tort, they would most likely be successful, as he obtained the accounts in question, and it was his remit to ensure that they were as accurate as possible, and since it was never disclosed to Z & partners that these accounts may be used for the purposes of investment, they would not be expecting them to be used in such a manner, and any claim to the contrary would be expected to fail. The same would be true for any claims against X PLC itself, as they are not liable for the actions of its sub contractor Z & Partners.
Donoghue v Stevenson (1932) AC 562
Anns v Merton London Borough Council  A.C. 728
Caparo Industries PLC v Dickman  2 AC 605
Spartan Steel & Alloys Ltd v Martin & Co (Contractors) Ltd  1 QB 27
Hedley Byrne & Co Ltd v Heller & Partners Ltd  AC 465
Candler v Crane, Christmas & Co  2 KB 164
Smith v Eric S Bush  1 AC 831
Morgan Crucible Co. PLC v Hill Samuel & Co. Ltd. and Others  Ch. 295
Bolam v Friern Hospital Management Committee  1 W.L.R. 582
Roe v Minister of Health  2 All ER 131
Latimer v AEC Ltd  A.C. 643
The Wagon Mound  A.C. 643
Junior Books Ltd v Veitchi Co Ltd  1 AC 520
Liability of Directors as Joint Tortfeasors - Stefan H.C. Lo, J.B.L. 2009, 2, 109-140
Auditors, Parliament and the Courts: the Development and Limitation of Auditors' Liability - Christopher Butcher, P.N. 2008, 24(2), 66-77
Tests for Liability in Negligent Misstatements - Mohammed B. Hemraj, Comp. Law. 2004, 25(4), 119-120
Joint Stock Companies Act 1844
Companies Act 1862
Companies Act 1879
Companies Act 1900
Companies Act 1985
Cite This Essay
To export a reference to this article please select a referencing style below: