PracticeAuditFraud case reveals risk of ignoring disclaimer warning

Fraud case reveals risk of ignoring disclaimer warning

A warning has been issued that firms risk being sued unless they include the right kind of disclaimer in their audit contracts

Lawyers said this week that the clauses should be used after the Freightliner
case, in which Ernst & Young, while escaping liability, was told it had a
special duty towards the accounts of a subsidiary sold by a client.

The subsidiary, ERF, was sold to German truckmaker MAN. When fraud was
uncovered at ERF, the German group sued and won damages against Freightliner,
the effective former owner.

The Court of Appeal ruled that E&Y was not liable in the case, but added
there was a potential issue about auditors signing off accounts that a company
hopes to use in order to sell a business.

Lovells partner Nicholas Heaton said: ‘Knowing the accounts are going to be
used isn’t enough to subject an auditor to a special duty of care.

‘But the comment by the Court of Appeal raises the point that even if
auditors provide audited accounts ­ and know they’re going to be used as part of
negotiations for the sale of a company ­ they then owe a duty of care to
shareholders. They are then liable for losses if shareholders suffer from a
breach of warranty they give regarding the accuracy of the reports.’

Hardeep Nahal of Herbert Smith said that although E&Y had not used
disclaimers in this case, firms should do so in future to guard against the
liability. But there was some comfort in the judgment for auditors.

‘The test makes it potentially harder to impose liability on the auditor. The
judgement says that there must be some indication from an auditor that a third
party can rely on an audit, which shows that the auditor has to assume
responsibility for the accuracy of an audit report for purposes of another
transaction.

‘Previously the debate was about whether the auditor had to know a third
party was going to rely on an audit report for a transaction and knowledge was
regarded as key.
According to Nahal, the Court of Appeal says ‘the implication of this test is
that “something more” than knowledge has to be shown, but it hasn’t defined what
this is’.

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