A recent case has confirmed the boundaries of the duty of care owed by professionals to third parties. An investor in Dragon Futures, a company that traded in mobile telephones, argued that accountants retained to advise Dragon owed investors in the company a duty of care. This arose, the investor said, because the accountants knew that Dragon would relay advice given by the accountants to potential investors in the company.
On an application for summary judgment, the court found:
- it would be inconceivable that any reasonable businessman would consider that the accountants had voluntarily assumed an unlimited responsibility; and
- It would not be fair, just and reasonable to impose a duty of care exposing the accountants to an unlimited liability.
Dragon traded in branded mobiles through distribution channels not authorised by brand owners. It was critical to its business that it could reclaim VAT paid on purchases. However, this market was subject to a crack down on VAT fraud by HM Customs & Excise. Dragon therefore employed accountants to implement a due diligence strategy addressing HMCE’s approach to VAT recoveries. Dragon, with the accountants’ knowledge, told investors about the accountants’ involvement. In January 2004 the claimant invested in Dragon via loans to a chain of subsidiaries. By November 2004 HMCE had rejected all of Dragon’s VAT claims and the company was eventually wound up with no distributions to creditors.
Duty of care
In considering whether a duty of care may be owed by a professional person to a third party with whom he is not in a contractual relationship, the courts have formulated a number of different principles. The law in this area is still developing but, broadly, the approaches adopted by the courts are (a) whether there has been an assumption of liability, (b) whether a threefold test of foreseeability, proximity and 'fairness, justice and reasonableness' has been satisfied, and (c) whether the alleged duty would be 'incremental' to previous cases. In the present case the investor argued that a duty of care should be imposed on the basis of both an assumption of responsibility and the threefold test.
In ruling that the accountants had not assumed responsibility towards the investor, the court highlighted: (1) there was no direct contact with the accountants until after the investor had decided to make the loans; (2) any assumption would have involved the accountants accepting unlimited liability for a whole string of investors given the loan structure; (3) there was no engagement letter defining any liability; and (4) the accountants would not have accepted unlimited liability if asked.
For similar reasons, it would not be fair just and reasonable to impose a duty of care. It would be obvious, in the court’s opinion, that the accountants’ relationship with Dragon would contain limitations, including an exclusion of liability to third parties. Therefore it could not be fair, just and reasonable to impose unlimited liability to an indirect investor.
The court found that as no duty of care could be established, the claimant’s case had no reasonable prospects of success. The accountants were granted summary judgment, and the court was not required to decide whether the services had been performed negligently.
The court also found that the claimant’s action was time barred, because it failed to issue proceedings within six years of sustaining damage. The claimant argued they did not sustain damage until 2006 when it decided to write down the loan values. The accountants argued the damage was sustained as early as the date of the loans. The court found that whether the making of a loan (upon which the borrower later defaults) itself constitutes sustaining damage will depend on a comparison between the amount of the loan and the value of the rights the lender acquires. In this case, the rights acquired were the subsidiary’s covenant to repay and the value of the VAT claims. The subsidiary’s ability to repay was entirely based upon the VAT claims. Viewed objectively these claims were always going to fail and were all rejected by November 2004. Therefore, if the claimant did not sustain damage at the date of the loan (a point the court did not decide upon) then it had definitely done so by November 2004. Therefore the proceedings, issued on 30 August 2011, were also time barred.
The law recognises that professionals, including accountants, may, in certain circumstances, owe a duty of care to third parties. In general terms, however, the English courts have adopted a reasonably restrictive approach and have been reluctant to find a duty of care in circumstances where there has been no clear assumption of duty. The decision in the present case reflects the general approach taken by the courts and will be welcomed by professionals and their insurers.