This article was first published in the February 2012 Ireland edition of Accounting and Business Ireland magazine
While the intent of S202 of the Companies Act (CA) 1990 is to ensure that companies keep proper books of account by holding directors responsible for non-compliance with its provisions, the court’s interpretation of the provisions potentially impose unfair measures on auditors of limited companies by requiring them to release their working papers and accounts and relinquish any lien over such works that they ought properly to hold.
S202 CA states:
‘Every company shall cause to be kept, proper books of account, whether in the form of documents or otherwise, that –
(a) correctly record and explain the transactions of the company,
(b) will at any time enable the financial position of the company to be determined with reasonable accuracy,
(c) will enable the directors to ensure that any balance sheet, profit and loss account or income and expenditure account of the company complies with the requirements of the Companies Acts, and,
(d) will enable the accounts of the company to be readily and properly audited.’
The effect of non-compliance with S202 can result in the imposition of fines and criminal liability on officers of the company under S203 and personal liability for some or all of the company’s debts attaching to company officers under S204.
By virtue of the fact that an auditor is an officer of the company and having regard to the court’s jurisprudence on this area, professional accountancy bodies have advised its members acting in the capacity as auditor to a limited company to release working papers on their audit with the audited financial statements to any successor auditor regardless of whether there are unpaid fees owed in respect of such works. Their advice appears to be based on the premise that, by withholding such documentation, it could lead to proper books of account not being maintained by the company and as such, an infraction of S202 occurring potentially leaving its members liable under S203 and S204 CA.
While there is no authoritative case law dealing directly with this matter, it is submitted that such advice, if correct, causes a distinct competitive disadvantage on auditors by refusing them a lien over their intellectual property where there are unpaid fees. Given that a lien is a well-established principle of common law, enjoyed by other professionals such as bankers, architects and solicitors, this potentially leaves auditors in an unacceptable position in current recessionary times. This article focuses on the court’s interpretation of what constitutes proper books of account under S202, in an attempt to understand whether an auditor could be held so liable, the nature of liens and what the courts consider such liens to encompass before suggesting proposals to rectify this miscarriage of law.
‘Proper books of account’
While ss. 202 (3)(a) to (d) CA attempt to define proper books of account, it is far from a succinct definition and implies more than the mere keeping of books of account by the requirement that such books must give ‘a true and fair view’ of the state of affairs of the company and explain its transactions. As there is little alternative assistance to be gleaned from the
Companies Acts in interpreting the meaning of ‘proper books of account’, we turn to case law to attempt to define same and as such whether a failure by an unpaid auditor to surrender their working papers and accounts to a successor auditor could result in liability or sanctions being imposed on them under the Companies Acts. From an examination of such jurisprudence, it appears so. In R v. Bennett and Anor, the courts indicated that audited accounts would be required to comply with the section by stating that merely retaining or storing such records as happen to come into possession is not sufficient but that there is an obligation imposed to create such records which are not already in existence and retained. Some doubt is cast on this decision, however, in the case of Brian Conroy v. Mary Corneill and John Corneill, where Smyth J. stated that the phrase ‘books of account’ does not require them to show the financial position of the company but that they must as such enable the position to be determined. The judgment stated that, while the requirement to keep proper books of account would not be complied with if the company kept only basic accounting records, such as cheque books, deposit books, bank statements, invoices and the likes, it would be if by using such basic records an accountant would be able to construct further records that would enable the financial position of the company to be determined. These comments indicate that accounts need not be available, but must be capable of being created by an accountant, thereby implying in any event that auditors’ working papers must be made available for such purposes.
This view was endorsed in the subsequent case of David F. Mehigan v. John Duignan, where the court held that the company did not keep proper books of account by virtue of missing prime books and records (such as stock sheets, cheque books and invoices). Therefore, the company had not properly recorded its financial transactions to enable its financial position to be determined with reasonable accuracy and its accounts to be readily and properly audited. Accordingly, it appears that an auditor withholding information could be held in contravention of S202. However, the more pressing matter under S203 and S204 CA is whether they would be held personally liable for such infraction. Assistance on this matter can be obtained from the case of O’Keefe v Ferris, in which the learned judge stated that a contravention of S202 would require as a condition precedent to liability, any of the following to occur:
(a) Such infraction to contribute to the company’s inability to pay its debts;
(b) The infraction to create substantial uncertainty as to the company’s assets and liabilities; and,
(c) Such infraction to impede the orderly winding up of the company.
The judgment acknowledged the highly discretionary powers afforded to the courts under the aforementioned sections but justified these by virtue of the Companies Acts being a post-1937 statue. It stated that the discretion given to court depends on causation, culpability and duration. In the absence of further case law, it remains to be seen whether a court would consider a failure by an auditor to release his or her working papers would result in the imposition of liability. In conclusion, while a cursory glance at S202 may lead one to believe that it is merely confined to directors’ failure to keep proper books of account as has been held in cases such as the Director of Corporate Enforcement v. Patrick Rodgers and Paul Rodgers, and Keane v. Kalsi, the section as currently worded actually nullifies an auditors’ lien over his intellectual property.
Given the unfair effect of this, we now examine the nature of liens, what the courts jurisprudence has adjudged in this regard and whether the true interpretation of S202 conflicts with the common law position on auditors’ liens.
Nature of liens
A lien is a long established right under common law. They may be defined as ‘a right of a person to retain possession of the owner’s property until the owner pays what he owes the person in possession’. They are further categorised as particular liens and general liens. A particular lien may be defined as ‘a lien over property which can be retained only until payment of a particular debt due in respect of that property is paid’.
A general lien is further defined as ‘a lien over property that can be retained until payment of all amounts that the debtor owes the creditor, however arising’. With regard to such liens, it is generally accepted that an auditor does not have a right to a general lien only a particular lien; although there is a dearth of authority in support of the former. For the purposes of this article, we shall assume that a particular lien, ought to only exist as it sufficient to demonstrate the specified unfairness of the law.
The first decisive case in which an accountant or auditors lien was adjudicated upon is the UK case of Re; Hill, ex parte Southhall (1848). In that case, the judge stated he could see no reason whatsoever why accountants should not have a lien of some kind, although he did not elaborate upon whether such lien should be specific or general. It was over a century later before the matter came before the courts attention again in the case of Chantrey Martin v. Martin. In that case, it was held that working papers brought into existence by accountants in the preparation of a final audit of a client’s books are the property of the accountant, both in respect of documents owned by the defendants and those which are subject to the lien. The courts further strengthened the right to a lien by refusing any process of discovery or inspection because they felt that this would invalidate the lien.
In Woodworth and Another v. Conroy and Others, the right to a lien was endorsed further. The defendants, a firm of accountants, were requested by their former clients on the termination of their relationship to return their documents, papers and correspondence which were in the defendants’ possession. The defendants refused the request and sent fee notes to the plaintiffs claiming substantial sums for outstanding fees. It was held in the subsequent appeal, that accountants in the ordinary course of their work of producing and auditing accounts, advising on financial problems and negotiating with the Revenue, had at least a particular lien over books of accounts, files and papers which had come into their possession in the course of that work and, therefore the defendants had a lien over their files in respect of any unpaid fees. It should be noted, however that the courts have never endorsed the right of an accountant or auditor to hold a lien over a client’s original books of account. This was established in D.T.C. (C.N.C.) Ltd. v. Gary Sergeant & Co. in which the court sought to examine whether an accountant or auditor could exercise a lien over ‘accounting records’ as defined under Section 221 of the Companies Act 1985 (broadly identical to S202 CA 1990). It was held that an accountants’ lien over a client’s books of account, files and papers in respect of unpaid fees was unenforceable in so far as it conflicted with statutory provisions requiring such documents to be available for inspection by the company’s officers or to be kept in a specified place and that original documents, which constituted accounting records, did not cease to be such merely because the information contained within them had been collated and transposed in whole or in part onto a fresh document. The jurisprudence of the courts clearly establishes that an auditor has a particular lien where there are outstanding fees due to them. Indeed, it is stated that the courts actually appear to favour liens as they recognise alternative courses of action, such as litigation, often leave the debtor in a position whereby any judgment obtained may not be capable of enforcement. They have also stated that the retention of documents rather than an unsatisfied judgment is generally of greater value to the debtor and intrinsic to any lien is that the documents subject to the lien cannot be copied or inspected. They have copperfastened their views by stating that before granting an order for inspection of such documents such sum that equates to the fee should a ordinarily be lodged in the court.
The foregoing jurisprudence clearly outlines that the courts strongly endorse an auditor’s lien over his or her intellectual property where there are unpaid fees. The institutes have issued guidance in accordance with such interpretation and claim that a member is entitled to exercise a lien over their accounts and working papers provided the following conditions are satisfied:
(i) The documents retained are the property of the client who owes the money and not of a third party.
(ii) The documents must have come into the possession of the member by proper means.
(iii) Work must be done by the member in respect of the documents and a fee note must be issued in respect of such works or an oral demand made for payment within a reasonable period of time.
(iv) The fees for which the lien is exercised must be outstanding in respect of such work and not in respect of other unrelated work.
The guidelines further state that such liens are subject to the general exclusions referred to infra such as statutory books of companies and the companies own books and records. However, in spite of acting in accordance with such authorities, an auditor could be held in contravention of S202 CA by virtue of the current wording of the section. On this basis, it is submitted that this imbalance and potential miscarriage of law be immediately amended by excluding auditors from the provisions of S202 CA in circumstances where there are unpaid fees owed to them. It is submitted that such amendment would restore the bona fides of the section in ensuring that directors and not auditors are responsible for maintaining proper books of account and further ensure that an auditor was paid in a proper and timely basis for their rendered professional services.
Andrew Feighery is an associate with CGC Associate