The Debate: Is new liability legislation needed?

New liability legislation needed

By Peter Wyman

I have long argued that the current law of ‘joint and several liability’ of auditors is unbalanced and illogical. Like many others in the profession I believe we need new legislation to place sensible limits on auditor liability because at present audit firms are not only expected to carry liability for their own negligence, but also for directors and others who may bear far greater responsibility for a loss.

Remember that in a multimillion pound settlement, the directors seldom have more than enough to cover their legal fees, (and the commercial insurance market will not provide directors and officers’ liability insurance for catastrophe) so the auditors are left to pick up the entire tab. If the courts were to find the directors 99% responsible for a loss, and the auditors 1% responsible, to the extent the directors could not pay their 99%, the auditors would have to pay it as well as their own 1%.

Audit firms are private partnerships and do not have vast reserves. The commercial insurance market will not insure the risk of a large claim against an auditor because the odds are stacked against the auditor – yet the audit firm itself is expected to have unlimited liability. As well as being unfair, the current position is unsustainable.

I’m not arguing that auditors should be able to walk away unharmed from any audit where they may have failed to perform their duties effectively.

They must be held responsible for their own actions but they should not be liable for the shortcomings of others.

I am calling for a system where auditors are responsible only for the consequences of their own negligence. It would involve legislation to replace the law of ‘joint and several liability’ with one of ‘proportionate liability’.

I recognise that some will misrepresent this call for proportionate liability as the accountancy profession trying to escape its rightful obligations.

They are wrong. Without new legislation I believe the larger accountancy firms will progressively remove themselves from the audit market, with potential damaging consequences for audit quality. Ultimately that cannot be in the best interests of the economy.

  • Peter Wyman is a PwC partner and is currently acting as the DTI’s ambassador for accounting issues.

Beware of a quick-fix decision
By Michelle Perry

Under current rules plaintiffs can sue audit firms for full damages even if they are not primarily responsible for alleged errors in financial reporting.

Following on from the collapse of Andersen, many firms, in particular Ernst & Young, are facing expensive negligence claims.

The industry’s greatest fear at present is the possibility of another audit firm disintegrating. The firms want some sort of limit to audit liability so that plaintiffs will stop seeing them as merely the keepers of very large purses that they can dip into.

All previous attempts at finding a solution have failed. But a few years ago hope came in the guise of a review of company law. A bill was expected to finally secure parliamentary time this year. This hope however faded recently when the DTI said there would be no bill ready for this autumn.

But ministers have yielded a little, saying that given the urgency of the situation, certain aspects would remain under review. Forceful lobbying by accountants played a part here, but as is often the case the path of reform has not run smooth. The problem is that the profession itself is divided on the issue.

The ideal situation is proportionate liability but this could take years, as a fundamental change in law would be needed. The alternative is some sort of cap. But debate rages within the profession about who would really benefit from such a change.

Mid-tier and smaller firms argue a cap of around £200m, which has been mooted, would only benefit large audit firms and not work in the public interest when credibility in the profession is of paramount importance.

Implementing a cap appears to be the quickest solution. But a visible division in the profession and a crushing sensitivity to speak out for fear of scaring the government off altogether could be the profession’s undoing.

Perhaps a cap equal to the value of the audit contract is for the moment the only fair solution. But auditors of all sized firms must ensure they are not bullied by the most powerful into backing a quick-fix decision.

Such action will only lead to later, perhaps more insurmountable, problems.

  • Michelle Perry is features editor of Accountancy Age.

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