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Comments from ACCA
March 2007

ACCA is pleased to comment on the Commission's working paper on the above.

We welcome the Commission's review of auditor liability and the work carried out for it by London Economics. As a UK-based professional body which licences and regulates company auditors under the Eighth Company Law Directive (as recently amended) we have an active interest in this area and a keen understanding of the exposure which auditors risk in carrying out their work. In this, we are conscious that auditors have long been in a minority among professional practitioners, at least in the UK , in that they have not been entitled to limit their liability to their clients. For this reason and others, we feel that a government-level review of the position of auditors is long overdue. It is especially welcome given that recent developments in other comparable jurisdictions across the world risk leaving EU auditors in a more exposed position than their counterparts elsewhere.

We are generally favourable to reform of the law which addresses the issues of reasonableness, competition in the audit market and the availability of insurance cover. Any reform should not restrict the rights of shareholder bodies and other legitimate plaintiffs to bring proceedings against a negligent auditor. It should, rather, aim to ensure that the auditor is not seen as the guarantor of shareholders' losses, as has effectively been the case in the past. Any EU-wide reform should also be broadly-based and ensure a level playing field for the audits of quoted and unquoted companies alike.

Our comments on the four consultation questions are set out below.

Q1. Do you agree with the analysis of the option of fixing a single monetary cap at EU level?

The analysis correctly identifies the difficulty of setting one monetary cap for the whole of the EU. While we accept that the focus of the paper is on the audit of quoted companies, it should not be forgotten that 99% of all companies in the EU are SMEs. While many of these will not today be audited, we do not think it practicable to think in terms of identifying one single figure which could be considered appropriate for both quoted companies and SMEs. The German experience suggests that it could be feasible to set different liability caps for quoted and unquoted companies respectively. Even if this sort of approach were adopted on an EU-level, however, the disparity in economic circumstances among EU states would make it unlikely that a figure could be arrived at which was both fair and reasonable for all parties. The clear disadvantage of a fixed cap as far as plaintiffs are concerned is that their rights of recovery are restricted, through no fault of their own, possibly leaving them with no other option than to write off their losses.

Q2. Would a cap based on the size of the listed company, as measured by its market capitalisation, be appropriate?

In a way this approach would, potentially, be more realistic than the single monetary cap since auditors would know that, the bigger their client, the bigger their exposure to liability would be: they would therefore be able to take this into account when tendering for work. Whether this element of greater certainty as regards liability would be sufficient in itself to encourage more mid-tier firms to take on quoted company work, however, must be very doubtful since the heightened risk associated with auditing larger clients is already well recognised: this factor, together with the comparative lack of resources of the smaller firm, are the major factors which deter smaller firms from entering the quoted company market.

Q3. Would a cap based on the audit fees charged to the company be appropriate?

We agree that this would be a feasible option as far as the company and the auditor were concerned in terms of how the liability limit was calculated. However, it would still need to be decided what single multiplier was appropriate: conceivably, a multiplier of 50 in the context of a small company might not be appropriate in the context of a large multinational.

Q4. Do you agree with the analysis of the option of introduction of the principle of proportionate liability (PL)? What are your views on the two ways in which PL might be introduced?

We agree that the analysis given in paragraph 3.4 of the paper is fair, although it is important to make clear that liability on the part of any party under PL would depend, first and foremost, on that party being to some extent negligent and responsible for the economic loss caused to a plaintiff. It is of course assumed that the courts would make such a decision.

We consider that, in principle, the PL approach is the fairest and most realistic option available to governments for the limitation of auditors' liability. It is in principle fairer than a monetary cap in that the damages claimable by a plaintiff from a negligent auditor under this approach would not be restricted to an arbitrary amount which might be substantially less both than the loss caused and the share of that loss which might be reasonably attributable to the work of the auditor. It is also consistent with the nature of the audit function in that the auditor, while acting as a principal and having his own legal and professional responsibilities to perform, is never the only party involved in the publication of a set of financial statements. The management of the audited company has its r own separate legal responsibilities in relation to the preparation of the accounts and it is invariably the case that when plaintiffs complain of having suffered loss as the result of defective financial statements, the management will be at fault in respect of those accounts to as great an extent as the auditor if not more so.

For auditors to be liable not only for their own mistakes but those of others is, in our view, unsustainable. It has led to the creation of a situation whereby auditors are sued by plaintiffs not because they are the party that is considered to be the party most at fault but because, via the insurance cover that professional rules require them to hold, they are the party that is most likely to be able to pay. We understand the argument that an innocent, or legally blameless plaintiff should not be prevented from pursuing the whole of his or her claim. But restricting the liability of an auditor, via PL or any of the other bases discussed in the paper, would not in itself prevent the innocent plaintiff from pursuing other negligent parties. As a means of facilitating alternative channels of redress, governments should consider making liability insurance cover as mandatory for directors as it is for auditors.

Of the two possible approaches to the implementation of proportionate liability that are set out under paragraph 3.4, we think it would be fairer to introduce a general rule which would apply in all cases, viz the first option. The second of the two options offered is a more complicated formula and would require the development of supplementary rules and guidance to cover the mechanics of how any arrangement was to be negotiated and approved. This second option also opens up the prospect that some audits would be undertaken in accordance with PL, under an approved agreement, while in others the auditors would be liable on a joint and several basis. This would create a degree of uncertainty for auditors and would not be materially helpful in terms of reducing the pressure on insurance cover generally. Whether a PL agreement would be approved in individual cases could, also, depend on the respective negotiating positions of, on the one hand, a company's board and its major shareholders and, on the other hand, the audit firm.

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