Member Article

Professional Negligence: Auditors

With Watson Burton LLP Law Firm

What is the position where a company has suffered a direct loss through fraud perpetrated by one of its agents? Furthermore, what is the position where the company was audited during the relevant period and the fraud went undetected?

Can the company seek redress from the auditors for the loss suffered by the company? The recent case of Moore Stephens (A Firm) -v- Stone & Roll Ltd (In liquidation) (2008) gives auditors some reassurance as to their duties in respect of fraudulent activity by an actual agent of the company. The case involved an appeal by a firm of Accountants following a refusal to strike out a claim against them by an insolvent Company, when they failed to detect the dishonest behaviour of a Director of the Company who was, at the relevant time, the sole Director of the company.

The fraud was perpetrated by the Director engaging in a number of credit frauds on banks, enabling large sums of money to be channelled through the company and applied elsewhere for the benefit of the Director in question and other parties to the fraud. The nature of the Director’s dishonesty dictated that the firm was neither the target nor the victim of its agent’s dishonesty; rather the Company was simply a vehicle in which to accommodate the fraud.

In allowing the appeal, it was held that the Company itself was the fraudster, and it made no difference that if the frauds were likely, when and if found out, to result in the Company incurring liabilities as a result. The Company’s claim relied on its own illegality. The principle that a company would not have attributed to it knowledge of a fraud, when the fraud was being practised on the company itself, only applied where the company was the intended victim.

In light of this recent judgment, a company which has incurred liabilities due to fraud, and the fraudulent activity has gone undetected by auditors, may only bring a claim where the company is the target/victim and not, in this instance, the perpetrator.

If you have any comments or questions about this article or any Professional Indemnity matters, please contact Clare Fegan of Watson Burton LLP at clare.fegan@watsonburton.com.

This was posted in Bdaily's Members' News section by Ruth Mitchell .