Posted by Chris Deeley, Trainee Solicitor
Contributing authors: Bharat Nahar
With the evidence right under their noses – are the auditors actually to blame for Patisserie Valerie collapse?
Whether or not Patisserie Valerie is saved from the brink, this will likely be of scant consolation to the current shareholders who have seen millions of pounds wiped off the value of their collective investments. With details of the fraud and its perpetrators still unknown, the spotlight may fall on the company’s auditors, Grant Thornton. With reports of “thousands of false entries” in Patisserie Valerie’s ledgers, could they be liable to the shareholders for failing to spot the fraud apparently passing right under their noses?
The short answer is, possibly. An auditor’s main duties are to the company whose accounts it is auditing, with whom it will have a direct contractual relationship, and any relationship with the shareholders is usually only through the company. However, case law* has established that auditors do owe duties to the shareholders of a company as a group, primarily because it is foreseeable to all involved that shareholders will rely on audited accounts in making decisions about the running of the company.
The difficulty for Patisserie Valerie’s shareholders is that the English courts have sought to limit the scope of such a duty because an auditor’s report can be read by unconnected third parties and so require protection from the courts from attack by persons they do not reasonably owe any responsibility to. Emphasis is therefore placed on the purpose of the audit – which is normally to enable the shareholders to hold the directors of a company to account. It is not, by contrast, to enable investment decisions. Shareholders who argue that they relied on the reports of the auditor that Patisserie Valerie was in better shape than it actually was when they invested are unlikely to get very far. It is usually accepted that auditors do not ordinarily owe duties to individual shareholders, nor to prospective investors.
By contrast, the shareholders collectively might have a greater chance of success with a claim that had the fraud been picked up earlier, they could have taken action earlier against the relevant individuals. This is the exact purpose of the audit – to enable scrutiny of the directors running of the company. Indeed, Patisserie Valerie director Chris Marsh was arrested when the fraud first came to light (the extent of his involvement is still unclear), and the company has made significant changes to its directors in the months since. Perhaps the argument goes that, had the auditors been more thorough, any directorial involvement in the fraud would have been spotted earlier and dealt with, and the damage to the company would not have been quite so catastrophic.
Of course, any claim would be on the basis that Grant Thornton had acted negligently. However, the courts have emphasised that auditors are ‘watchdogs not bloodhounds’: and their responsibilities are to detect and investigate obvious errors, not to hunt down potential frauds or guarantee the accuracy of the accounts. So, if the fraud was particularly sophisticated in its concealment – and given it lay undetected for so long, one can only speculate – it might be that Grant Thornton has not been negligent.
Although the temptation is to point the finger at anyone who could have intervened, it should be remembered that it is the perpetrators of the fraud who are ultimately to blame and who are the true cause of any loss.
*most notably Caparo v Dickman (1990)
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