Auditors may owe duty to buyer of shares despite disclaimer

Amathus Drinks Plc and others v EAGK LLP and another [2023] EWHC 2312 (Ch) is a professional negligence claim against a firm of accountants, EAGK LLP ("EAGK"), by the buyers of shares of a company (the “Buyers”).

Background

In 2015, the Buyers entered into a share purchase agreement ("SPA") for the acquisition of the shares of a company.

The SPA provided that the purchase price for the company would be adjusted if Completion Net Assets (as defined in the SPA) were below the agreed price to be paid for the shares, by reference to completion accounts.

EAGK prepared the completion accounts. It had also prepared the company’s statutory accounts and - before completion of the SPA - had been engaged by the Buyers to conduct due diligence in relation to the sale.

In accordance with the SPA, EAGK issued a Completion Certificate setting out the Completion Net Assets figure, which was required to determine the share sale price. The certificate was addressed to the sellers of the shares and to the Buyers.

The Buyers subsequently alleged the discovery of an accounting fraud against the company before the SPA was entered into. The fraud was said to include double counting of assets, inflated cash receipts, and the recording of false invoices.

Proceedings and application for summary judgment

The Buyers and the company issued proceedings against EAGK as well as a member of that firm, a Mr Christofi (together, the “Defendants”), who had dealt directly with the Buyers.

It is said that the alleged fraud had the effect that the Buyers paid more than they should have under the SPA, after the balance sheet of the company had been inflated.

As set out in the judgment, the Buyers and the company allege that:

EAGK had both a contractual and a common law duty to exercise reasonable skill and care in preparing the statutory accounts and the Completion Certificate, including a duty to undertake a reasonable and proper investigation of the company's accounts, books and stock sheets and to draw to the attention of the buyers any material irregularities which it discovered. They allege, in summary, that the defendants acted without reasonable skill and care in failing to detect the fraud alleged to have been committed on the company, causing loss to the buyers, who were then unable to take the steps they would have taken had they been aware of the apparent fraud much sooner.

The Defendants applied to strike out the claim or, alternatively, for summary judgment (i.e., a finding that the claimants had no real prospect of succeeding on the claim or issue).

Decision

Contract

The court decided to grant summary judgment to the Defendants in respect of the claim in contract. The Buyers argued that they retained EAGK to produce statutory accounts and that a formal engagement letter had been issued. The Defendants denied this.

No letter of engagement was produced, but a schedule of engagement was headed with the company name and set out the basis upon which EAGK were carrying out audit work. This document included a paragraph disclaiming liability to anyone other than the company or the company's members as a body (a Bannerman clause). Further, EAGK's terms and conditions included an obligation that their work would not be provided to third parties without consent.

The court granted summary judgment to the Defendants on this issue for the following reasons:

1. No witness evidence had been filed in response to the application explaining why it was maintained that the retainer with EAGK was made with the Buyers (only the documents were relied upon);

2. The schedule of engagement was not consistent with the Buyers entering into a contract - it referred only to matters concerning the company and not the requirements of the SPA regarding post-completion matters or associated rights of the buyer;

3. The Buyers had no interest in the company's audit, other than as shareholders;

4. Even if the letter of engagement had been addressed to the Buyers, this would be inconsistent with the contractual documentation available, including the schedule of engagement which set out the scope of the audit work, without any reference to the SPA or ascertainment of Completion Net Assets; and

5. Although it is possible that the letter of engagement would be found later in the proceedings, the parties had unsuccessfully searched for it and the court did not consider it would cast a different light on documents already considered.

However, the court dismissed the rest of the Defendants' application.

Tort

The claimants also alleged that the Defendants owed a common law duty of care to the Buyers to exercise reasonable care and skill in preparing the company's accounts and the Completion Certificate, on the basis that there was an assumption of responsibility, or because it was fair, just and reasonable in the circumstances to impose such a duty.

The Buyers relied on the fact (i) of an existing business relationship with the Defendants, including Mr Christofi, who had been involved in the negotiation of the SPA and had communicated directly with the Buyers and with the sellers of the company on the Buyers' behalf; (ii) that the SPA required the Buyers to procure completion accounts post-completion and not for the usual accounting period of the company; (iii) that it was known and intended that the Buyers would use the net asset figure in the accounts and the Completion Certificate to calculate the final price under the SPA; and (iv) EAGK, via Mr Christofi, provided the Completion Certificate to the Buyers separately from the accounts and addressed it to the Buyers and the former shareholders of the company.

The Defendants relied upon the case of Barclays Bank Plc v Grant Thornton UK LLP [2015] 1 CLC 180. In this case, a Bannerman clause in very similar terms was held to preclude the claim. However, the court in the present case distinguished it from Barclays because of the factual circumstances, such as the fact of continuing communications between the parties excluding the sellers at relevant times (which did not occur in Barclays), including while EAGK's audit was under way. Further, there was evidence indicating that Mr Christofi was supporting the Buyers' professional team, including with requests relating to the SPA. This indicated a direct and continuing commercial relationship between the parties which did not exist in Barclays, which could constitute an assumption of responsibility to the Buyers, but not to the sellers. Another distinguishing factor was that EAGK knew and intended that the Buyers relied upon the correct figure being identified in the Completion Certificate. The court also noted that there would be disclosure and evidence of fact to come in the present case.

Accordingly, the court declined to grant summary judgment on the claim in tort.

Comment

This decision of the High Court has been made on an interim basis, with the court applying the tests for strike out and summary judgment to determine whether or not the claim (and indeed, each issue in the claim), should proceed to trial. For a definitive answer on the issues raised in this case, we will need to see how the issues are decided at trial.

However, some learning points can be taken from this decision:

1. Accountants have aspects of their work product publicised more than most professionals, and are understandably keen to limit their exposure to third parties. However, the inclusion of a Bannerman clause in engagement documentation may not of itself be enough to prevent a duty of care arising to third parties. On the facts and circumstances of this case, the court considered there was enough to allow a claim that a duty was owed to the Buyers to go to a full trial;

2. If accountants are instructed to carry out different roles in respect of a company (audit, preparation of completion accounts, due diligence, etc.), they should ensure that contractual documentation accurately reflects the nature of the work, what is being done for whom and contains appropriate disclaimers of liability. And, importantly, they should ensure that their actions are consistent with the written position, so that it cannot later be argued that they have assumed additional responsibilities by conduct.

"The question for me at this stage is, of course, only that of whether there is a realistic as opposed to a fanciful prospect of the claimants succeeding at trial in showing that there was an assumption of responsibility by EAGK towards the buyers in relation to the Completion Net Assets figure shown in the Completion Certificate ... I consider that the claimants have an entirely realistic prospect of so showing, and I would not grant summary judgment on the claim in tort on this ground." – Source: https://www.bailii.org/ew/cases/EWHC/Ch/2023/2312.html