Arrowhead v KPMG (21.08.12). The recent dismissal by the Commercial Court of a claim brought against the professional services firm KPMG LLP provides useful guidance as to the circumstances in which a professional advisor will owe a duty of care to a party other than its client.
Background to the claim
The unsuccessful claim was issued against KPMG in August 2011 by a Bermudan company, Arrowhead Capital Finance Limited. Arrowhead had been an indirect investor in one of KPMG’s clients, Dragon Futures Limited. Dragon was a trader of mobile phone handsets and engaged KPMG in 2003 to provide it with VAT advice, as VAT fraud was a common problem in the industry. Following each trade, Dragon would reclaim its VAT from Her Majesty’s Customs and Excise (HMCE) and was reliant upon those repayments to turn a profit. However, in early 2004, HMCE began to withhold VAT repayments on the grounds that there was evidence of fraud in Dragon’s supply chains. Dragon therefore ceased trading in April 2004 and appealed against HMCE’s decisions. Those appeals were dismissed by consent in November 2008 and Dragon was eventually dissolved in March 2011 without making any distribution to its creditors.
Arrowhead’s investment in Dragon had been made by way of eight loans made between January and April 2004 to a US company associated with Arrowhead. That company in turn loaned the monies to a Dubai company associated with Dragon, which in turn used the monies to fund Dragon’s trading activities. Arrowhead claimed that KPMG had owed it a duty of care in respect of the advice KPMG had provided to Dragon and that KPMG had breached that duty of care, with the result that Dragon was unable to recover VAT from HMCE and unable to repay the loans back up the chain to Arrowhead. The total amount claimed was over $52 million.
KPMG applied to the Court for the claim to be struck out and/or for summary judgment to be entered in KPMG’s favour. Following a one day hearing in June 2012, the Commercial Court dismissed Arrowhead’s claim in its entirety, and awarded KPMG its costs, on two separate grounds:
- The relevant events (namely the loans and the mobile phone transactions funded by those loans) had all occurred by April 2004. By that point, Arrowhead must have suffered the alleged loss and the 6 year time limit for bringing a negligence claim began to run. As the claim was not brought until August 2011, it was brought out of time.
- In any event, on the facts pleaded, there was no reasonable prospect that Arrowhead would be successful in arguing that KPMG owed Arrowhead a duty of care. It is this aspect of the claim which is most interesting and which is discussed further below.
Arrowhead’s claim regarding duty of care
Arrowhead’s claim that KPMG owed it a duty of care was advanced on two alternative legal bases, both of which were rejected by the Court:
- That KPMG voluntarily assumed responsibility towards potential investors in Dragon, such as Arrowhead, in respect of the advice and services it provided to Dragon.
- That the so-called “three stage” test was satisfied, namely (i) that loss to Arrowhead was a reasonably foreseeable consequence of KPMG’s conduct, (ii) that the relationship between KPMG and Arrowhead was one of sufficient “proximity”; and (iii) that, in all the circumstances, it was fair, just and reasonable to impose a duty of care on KPMG towards Arrowhead.
In considering KPMG’s application, the Court took Arrowhead’s claim at its highest and then considered whether that claim had a reasonable prospect of success. In dismissing the claim, the Court found that, even if Arrowhead could prove everything it was alleging, this did not give it the grounds to bring a claim.
The key findings
In support of its case, Arrowhead had made a number of factual allegations as to the level of contact between KPMG and Arrowhead at the relevant times and as to KPMG’s state of knowledge. The way the Court dealt with these provides a useful reminder of the steps a firm can take to avoid having a duty of care unexpectedly imposed upon it.
In particular, Arrowhead’s claim relied heavily on the submission that KPMG had voluntarily assumed responsibility towards Arrowhead. However, the Deputy Judge, Mr Stephen Males QC held that “to hold that there was a voluntary assumption of responsibility by KPMG towards Arrowhead would fly in the face of the reasonable expectations of businessmen”. As a sophisticated investor, Arrowhead would have known that, had it been asked, KPMG would have stated that it was not assuming responsibility towards Arrowhead or, at the very least, would have insisted upon a formal retainer, with standard terms, including terms as to limitation of liability. For that reason, it also would not be fair, just and reasonable to impose a duty of care. The judge did, however, note that the position could in some circumstances be different, for example where the claimant was an individual consumer in an ordinary transaction, such as a house purchase.
Arrowhead also relied on a conference call between a representative of KPMG and a representative of Arrowhead, in which it alleged certain representations were made. Even assuming that Arrowhead’s allegations about that call had been correct, the Court noted that that call took place after six of the eight loans had already been advanced and could not therefore have had a causative effect on Arrowhead’s decision to invest. Arrowhead also asserted that there were likely to have been similar earlier conversations, but it could not produce any evidence of this and the judge stated this was “highly unlikely”.
The implications in practice
What this case demonstrates more than anything else is the need for professional services firms to be absolutely clear with all parties involved in their client’s business about the basis upon which they are acting. As it was, the Court found that KPMG had had no direct contact at all with Arrowhead at the relevant time. However, it is common for advisers to have contact with their client’s investors and other interested third parties. In those circumstances, while it is clear that a sophisticated third party investor (such as Arrowhead) would have to have a compelling case to convince a Court to impose a duty of care, it would be prudent for any adviser having dealings with such a third party to state clearly, in writing, the basis for those dealings, namely (i) that the advisor is not assuming a duty of care, (ii) that the third party is not entitled to rely on the adviser and (iii) that the third party should engage its own advisors. Being able to produce a document or documents to that effect will be extremely helpful in fending off speculative claims from investors and other third parties because it will rebut any claim that an adviser has assumed responsibility toward the third party.
It should be noted that a disclaimer such as that suggested above could be interpreted as an exclusion of liability clause. Under the Unfair Contract Terms Act 1977, such a clause needs to satisfy the requirements of “reasonableness”, otherwise it may be invalid. The invalidity of a disclaimer in these circumstances would not automatically mean that the professional would be liable (the third party would still need to establish a case for imposing a duty of care), but it is clearly desirable to have a valid disclaimer. Where the third party investor is a sophisticated investor or businessman, it is more likely that it will be possible to demonstrate reasonableness.
However, the less sophisticated the third party is (i.e. the closer they are to being a consumer), the harder it could prove to demonstrate reasonableness because the Court will take into account the relative bargaining positions of the parties in deciding whether the disclaimer is reasonable. As such, where the third party is a consumer in a simple transaction, as well as issuing the disclaimer, a professional would be well advised to insist that the third party seeks independent advice.