Auditors Negligence - Literature review Example

Company Auditor’s Negligence Name Course Name and code Instructor’s Name Date The citadel intent of this paper is to elucidate how the law of negligence can be applied to a company auditor. The paper has taken into consideration a number of previous rulings regarding negligence acts causing economic loss as well as physical damage. The paper also provides a critical analysis of a number of laws regarding company auditor’s negligence. Auditors should not confine themselves to checking the calculations; they have a duty of checking the substantial accuracy of the accounts and ensure that they are a true representation of company’s state of affairs. Nonetheless, the duty necessitates that the auditors ought to be more careful than being suspicious. In case fraud occurs, the company auditor will not be liable for being negligent. Like any other professional negligence claims, auditor’s negligence is more dependent on facts and it would be significant to scrutinize the manner in which the deceit was committed and whether it would have been common to a competent auditor exercising normal skill as well as care (Vallabhaneni, 2005, p.30). Similarly, when the audited accounts show wrong overvaluation of assets the query “was the auditor negligence” can only be established by considering the circumstances. For instance, an auditor can rely upon certified assurances from company officials to the value stock. In any negligence auditor case, it would be prudent to acquire a report from an expert witness on whether the duty of care was breached (Hannigan, 2012, p.77). Getting repetitive financial statement audits of a company is not like purchasing an insurance plan. The auditor performs a task with targeted procedures that are meant to offer judicious assertion on whether the company’s financial statements do not have misstatement, caused by fraud or error. Usually, a financial statement is not aimed at rooting out fraud (Tracy, 2013, p.49). However when bad acts or fraud occurs during the audit period, a case may be beckoning, the main issues is whether as well as how the client’s negligence may be deliberated by the jury. For instance, when an auditor has embezzled funds by the employee as well as allegations that the company auditor was negligent and failed to get fraud, the company auditor can contend that the customer itself negligent for not managing the swindler or failing to adhere to the internal control systems (Brian & McNeil, 2007, p.9). To some extent, this appears like a candid comparative-fault defence. However, in some dominions, the auditor ought to argue with the “audit-interference rule”. Audit-interference law can restrict the clients conduct for aims apportioning fault. Adapting the rule may prompt the auditor may assert comparative defence that it can show that the client’s negligence resulted in the auditors performance of duties. Therefore, the audit-interference law can alter an auditor’s capability of defending a negligence case. For instance, audit-interference law can impede the company auditor from depending on grounds that the customers’ failure to adhere to established internal controls and allowed the embezzlement to go unrealized lest the auditor can explain that the company’s failure to adhere to its internal controls limited the auditor’s ability to undertake the audit. The audit-meddling law is not compatible with the type of the client-audit relationship, that the client and auditor have both distinct and important tasks. It is not consistent with the contemporary comparative-fault rules that seek to embolden parties to do their tasks with care and put the fault among the wrong doers. According to Sharma (2011, p.184) criminal liabilities are those liabilities for which if the auditor is found guilty he shall be required to pay damages. The courts cannot imprison or fine the auditor in such cases. These include: liability for negligence: the auditor is expected to do his work with diligence, caution, efficiency and sincerity and is expected to abide by the provision of the Companies Act and provisions of his contract with the client (Sharma & Kumara, 2011, p.280). Therefore, it is apparent that if the auditor does not abide by the above provisions he is likely to be held guilty and is liable for his negligence. Negligence means doing something that a reasonable person cannot do or doing something that a reasonable person would do. Negligence comprises of all such errors that result in losses to others and it constitutes wilful and involuntary mistakes committed because of inadequate knowledge regarding one’s duty. There are a number of things that determine whether an auditor can be held accountable for negligence. For instance, ought to have been negligent when doing his work, was not cautious and honest when doing his work. Therefore, this implies that for one to hold an auditor accountable for negligence, the existence of negligence as well as a loss to the client as a consequence of the same, both elements have to be present.” Negligence without loss or loss without negligence cannot make the auditor liable” (Sharma & Kumara, 2011, p. 306). I find it intricate to visualize a scenario in which an individual shareholder could claim to have had a loss in respect of his existing shareholding referable to the auditor’s negligence that could not be recouped by the company (Oliphant & Lunney, 2008, p.422). The shareholder, qua shareholder, ought to rely on auditors report as the ground of his decision to sell his shareholding. There is no distinction in law between shareholders decision to sell his shares or buy more shares. Therefore, it follows that the scope of the duty care owned to the shareholder by the auditor covers any loss sustained as a result of buying more shares while relying on the auditor’s negligence report. I think such an argument is fallacious. For instance, assuming without deciding that a shareholders claim to recover loss any sustained by selling his shares at an undervalue as a result of undervaluation of the company’s assets in the auditor’s report would be sustained, it could not be by reason of reliance by the shareholder on the auditor’s report when deciding to sell; such as loss could be referable to the depreciatory effect of the auditor’s report on the market value of the shares the shareholders decision was reached. A claim to recover a loss alleged to emanate from buying of overvalued shares can be sustained on the grounds of the purchaser’s decision on the auditor’s report. The specious equation of ‘investment decision’ to buy or sell as giving rise to parallel claims therefore appear untenable to me. According to Roach (2012), Galoo Ltd v Bright Grahame Murray [1994] 1 WLR 1360, CA it was ruled that, before a claim in tort of negligence to an auditor by a third party, a ‘special relationship’ ought to be shown to have existed and, especially, on the side of the auditor that the third party ought to rely on the audit, with the actual reliance by the third party. In the same breath, in Al Saudi Banque v Clark Pixley [19900 Ch 313, [1989] 3 All ER 361, it was decided that the auditor had no duty of care to future or existing creditors who may foreseeably lend money to the company on the faith of its audited accounts. In Caparo Industries plc v Dickman may be contrasted with Morgan Crucible Coplc v Hill Samule & Co Ltd, the court did not rule, as a preliminary point of law, that the financial adviser and directors of the company in takeover bid had no duty of care upon the bidder in representing the target position consequently the bidder had allegedly been induced to provide more shares than they were worth (Beale, Bishop & Furmston, 2007, p.30). This was just a preliminary ruling. There are a number of cases that a court declines to strike out an action that has been brought by a party and not the company against the auditors. A lot cannot be read in such decisions. There are some cases that appear to go much further. For instance, in Baring plc v Coopers & Lybrand it was ruled that the auditors owed a duty of care both to the subsidiary and its parent company (Worthington & Sealy, 2007, p.80). An argument that any damage as a result of breach of auditors’ duty would be suffered by the subsidiary and indirectly by the parent company in its capacity since the shareholder was not successful. In Bank of Credit and Commerce International Ltd v Price Waterhouse the ruling was defensible: the issue was whether auditors of the parent company owed a duty of care to the parent company in respect to the affairs of the subsidiary audited distinctly from another firm. Since the business of companies in the group was to close and were interdependent, the court ruled that they would be required to have a regular interchange of information among the auditors of the two firms, and in circumstances that a duty will arise. Recently, there has been an increasing obligation that has been placed on auditors both by extra-statutory and legislation ensures. Therefore, for example, an auditor is required to if the directors’ report is consistent with the accounts, the Listing Rules state that the auditor should review company’s statement of compliance with the Combined Code (Pickett, 2010, p.105). The exposure of firms of auditors to liability of large amount has caused much concern in the accountancy circles and has been subjected to debate in various countries. There has been one suggestion that has been advanced for quite some time that auditors ought to be allowed to limit their liability by contract. The alternatives were limited. Auditors could cover their position by insurance, however this increases the audit cost. Another solution provided by the Limited Liability Partnerships Act 2000, that allows audit firm members to restrict their liability for losses caused by negligence of other firm members (Bagshaw, 2013, 36). There was also another suggestion to change the law of joint liability in tort, so that the tortfeasor must not be jointly and liable with others who were at fault for all losses sustained by the claimant, however only for a part of the loss corresponding to his fraction of liability. In several cases in Commonwealth countries, some auditors have successfully pleaded that their liability ought to be abridged since the responsible negligence of the company (Worthington and Sealy, 2007, p. 80). In Perre v Apand (1999), the High Court established a number of approached to the case but it was common ground that a number of factors will be important in establishing a task of care when there is an economic loss. Relevant factors would be knowledge on the side of the defendant. “Vulnerability” focuses on other reasonable avenues of protection that can be open to the appellant. The important elements appear to be intended for application to all cases of economic loss, and not to cases of economic loss (Steele, 2007, p.352). According to Latimer (2012, p.1147), Esanda Finance Corporation Ltd v Peat Marwick Hungerfords (1997) pleadings that the auditor was liable for negligence of economic loss experienced by a financier who entered into transactions with a company and relied on auditor’s report that had misstatements as to the solvency of the company was struck since there was not enough relationship between the auditor and the plaintiff. According to Gillies (2004, p.77), Mutual Life and Citizens Assurance Co Ltd V Evatt (1968) the plaintiff had a policy with the defendant Mutual Life and Citizens Co Ltd and was minded to invest HG Palmer that was linked to Mutual Life and Citizens (MLC). The plaintiff asked Mutual Life and Citizens (MLC) whether HG Palmer was sound and was assured that it was. The plaintiff invested in Palmer however, he lost this the moment HG Palmer crashed. The High Court ruled that an obligation of carefulness could happen in a case where the company concerned was in a special position to provide accurate advice regarding the financial position of HG Palmer and it took the task of giving advice to the plaintiff knowing that the plaintiff wanted to act on it. The court ruled in favor of the plaintiff. The Mutual Life and Citizens did not conduct the business of giving appraisals of financial soundness of companies to policyholders during that time (Gillies, 2004, p.78). The Donoghue v Steveson [1932] AC 562 is a famous test case that established that you can be liable to one who is injured by your negligent act. The decision extended liability for wrongful acts beyond what is recognized in previous cases that had insisted on some type of contractual connection between the defendant and the plaintiff. In this case the manufacturer of bottled ginger was liable for illness that a lady contracted by drinking beer that contained a decomposed snail (CCH Australia, 2011, p.130). References Bagshaw, K 2013, Audit and Assurance essentials: For professional accountancy exams, Chichester, John Wiley & Sons. Beale, H., Bishop, W & Furmston, M 2007, Contract, New York, Oxford University Press. Brian, B & McNeil, B 2007, Internal corporate investigations, Chicago, American Bar Association. CCH Australia 2011, Introducing the law, Sydney, CCH Australia Limited. Gillies, P 2004, Business law, Annandale, Federation Press. Hannigan, B 2012, Company law. New York, Oxford University Press. Latimer, P 2012, Australian Business Law, Sydney, CCH Australian Limited. Oliphant, K & Lunney, M 2008, Tort law: Text and materials, New York, Oxford University Press. Pickett, K 2010, The internal auditing handbook, Chichester, John Wiley & Sons. Roach, L 2012, Card & James business law for business, accounting & Finance students, New York, Oxford University Press. Sharma, V & Kumara R 2011, Auditing: Principles and practice. New Delhi, PHI Learning Pvt. Ltd. Steele, J 2007, Tort law: Text, cases and materials, New York, Oxford University Press. Tracy, J 2013, Accounting for dummies, New York, John Wiley & Sons. Vallabhaneni, S 2005, Wiley CIA Exam Review Internal Audit Activity’s Role in Governance, Risk and Control, New York, John Wiley & Sons. Worthington, S & Sealy, L 2007, Cases and materials in company law, New York, Oxford University Press. Read More