[2007] EWCA Civ 910

The Court of Appeal has upheld the decision of Moore-Bick LJ (sitting as a Commercial Court judge) that Ernst & Young were not liable to indemnify Freightliner against a claim for fraudulent misrepresentation brought by MAN in respect of their purchase of Freightliner’s subsidiary ERF.

MAN sued Freightliner for £350m in damages arising from losses made after the acquisition of truck manufacturer ERF from Freightliner’s predecessor Western Star. Freightliner in turn sued their auditors E&Y, alleging that they should have picked up on the fraudulent accounting of ERF's financial controller, Mr Ellis. E&Y admitted that their statutory audits of ERF had been negligent but denied that they had assumed responsibility for a special audit duty to Western Star in respect of representations made to MAN as to the accuracy of the ERF accounts.

There was no factual basis for a challenge to the judge's finding that it was not foreseeable by E&Y that Western Star would make any representations as to the accuracy of ERF's accounts which went beyond, or were outside, those contained in the share purchase agreement. Freightliner had not shown that E&Y knew that Western Star was intending to make representations as to the accuracy of accounts in its negotiations with MAN and it could not be said that, in making the audit statement as to the relevant accounts, E&Y was assuming responsibility to protect Western Star from liability for dishonest statements which Mr Ellis might make as to the accuracy of those accounts.

Comment: although auditors do not owe a duty of care to shareholders or prospective purchasers in undertaking a statutory audit of the target company, it is possible for auditors to take on a special audit duty whereby they intend that their statement will be communicated to and relied upon by a particular person for a particular purpose in connection with a particular transaction. In this case, the Court of Appeal commented that E&Y might well have been found to have undertaken a special audit duty to Western Star (or so far as relevant to MAN) in respect of the use which they could foresee would be made of their audit statement as a basis for representations and warranties in the share purchase agreement. However it was not breach of that duty which gave rise to the loss for which Freightliner seeks to hold E&Y liable. That loss was “the direct result of the dishonesty of Mr Ellis rather than the inaccuracy of the accounts themselves”. Applying the SAAMCO (South Australian Asset Management Co) test, the relevant question was therefore whether E&Y undertook a special audit duty to Western Star and MAN in respect of representations which might be made by Mr Ellis as to the accuracy of the ERF accounts to which their audit statements related. They did not. So whilst this is a good decision for auditors, it does not mean that auditors in other cases will escape a finding that they assumed a special audit duty, breach of which did give rise to the relevant loss. Auditors still need to take care to disclaim responsibility to any third party – something E&Y had not done in this case.