Commercial and Corporation Law: Auditor's Liabilities to Third Parties

This report delves into the critical area of auditor liabilities to third parties within the framework of commercial and corporation law, particularly within the Australian context. It examines the evolving legal responsibilities of auditors, including the duty of care and diligence, and the potential for civil and criminal liability. The report highlights the significance of auditors in ensuring the accuracy of financial statements for various stakeholders, including known and predictable users. It explores the legal foundations of auditor liability, referencing relevant legislation such as the Corporations Act 2001 and the Trade Practice Act 1974, along with key case laws like Re Kingston Cotton Mill Co., Mutual Life and Citizen’s Assurance Co Ltd v Evatt, and Esanda Finance Corp Ltd v Peat Marwick Hungerfords. The analysis covers various aspects of auditor responsibilities, including the obligation to report any discrepancies in financial reports and the potential liabilities concerning securities. The report concludes by emphasizing the crucial role auditors play in upholding legal and ethical standards in financial reporting.

RUNNING HEAD: COMMERCIAL AND CORPORATION LAW
Commercial and Corporation Law

COMMERCIAL AND CORPORATION LAW
Liabilities of Auditor against third parties
Introduction
Concerns about auditor’s legal responsibility remain to develop daily. Auditors are very
significant individuals because they are eventually accountable for improving the accuracy of
financial statements for all types of internal customers. Like other experts, in carrying out
their responsibilities, they can experience civil and criminal liability. In this project, the
liabilities of the auditor against the third parties will be defined along with the case laws
relating to it.
Liabilities of Auditor against the third party
Auditor liability is an increasingly important area, especially in view of the shifting and
widening of audit commitments in Australia.1 Auditors are currently subject to a extensive
variety of legislations scaling from contract law to common law and statute. The act of
accountants and auditors is regulated by numerous professional institute, such as the Institute
of Chartered Accountants in Australia (ICAA) and CPA Australia, through the provision of
norms and guidelines. Apart from these agencies, some governmental agencies also govern
the auditing profession like Australian Securities and Investment Commission (ASIC) and
Australian Competition and Consumer Commission (ACCC).
It is usually understood that auditors are accountable to two types of third parties: firstly
recognized users of the accounts and secondly, a restricted category of predictable users who
depend on the accounts.2 Known users of the accounts are the real shareholders and the
company's creditors. The business usually retains by name a complete list of all these people.3
The second group of predictable users’ needs some judgment. The first and foremost duty of
the auditor against the third party is obligation of due care and diligence as stated in the case
of Re Kingston Cotton Mill Co.4 An obligation of care and skill is levied on the auditor while
auditing a company’s fiscal statements. In the case of Mutual Life and Citizen’s Assurance
Co Ltd v Evatt5, it was noted by the court that there has been a close relationship where the
1 Enshen Li, Business and Corporate Law Guidebook (Thomson Reuters, 2018)
2 Paul Latimer, Australian Business Law (CCH Australia LTD,2014)
3 Lipton & Herzberg, Understanding Company Law (Thomson Law Book, 2013)
4 (No.2) (1896) 2 Ch 279
5 (1968) 122 CLR 556
1

COMMERCIAL AND CORPORATION LAW
auditor understands or should have understood that the complainant envisioned to use the
information or suggestions for a specific reason.
The auditors owe obligation of care and skill against third party was held in the case of San
Sebastian Pty Ltd v The Minister6.
The second duty of the auditor is to caution the organization of any indiscretions provided in
financial reports of business. As in the case of Acceptance Corporation Ltd v Forsyth7, it was
held by the court that the main part of the auditor is to form estimation relating to obedience
of the fiscal statements along with the appropriate accounting norms and the common
legislation.
However, the High court by declining third party success in their claims for negligent
misstatement against auditors, narrowed the ambit of responsibility of auditors in the case of
Esanda Finance Corp Ltd v Peat Marwick Hungerfords8.
Auditors have various liabilities against third parties under the statute law as well in
Australia. Due to wide ambit of statutory obligations, auditors are subject to great extent of
responsibility towards company and third parties. The ASIC are mainly responsible for
managing the Corporation Act 2001(CA).9 Any company preparing to issue fresh bonds to
the civic must list with ASIC and perform periodic audits of accounts under s 301. The Act
inflicts on businesses the obligation to provide on-going disclosure of public access financial
statements pursuant to s 314. As part of the annual report and subsequent accounts, the law
needs financial accounts to be generated and presented by an auditor's report. The Act also
deals with several issues, such as the abolition of powers and responsibilities of auditors by
assignments of credentials. In circumstances where the auditors have committed any conduct
that infringes the provision of the act, the commission shall have the power to file
proceedings against the auditor and to inflict sanctions.
Another imperative clause is 311, which involves auditors to notify ASIC where it is
appropriate to suspect that any portion of the law has been infringed by a business. It is also
an offense for an auditor to deliberately register with an ASIC statement recognized as to be
false or misleading. Apart from this, auditors also have liabilities regarding securities. Certain
parts of the corporate law relate to the problem of securities. Sec 728 refers to any incorrect
6 (1986) 162 CLR 340
7 (1970)92 WN (NSW) 29
8 (1997) 142 ALR 750
9 Ford, Austin and Ramsay, Principles of Corporation Law (LexisNexis, 2018)
2

COMMERCIAL AND CORPORATION LAW
or misleading claims in the prospectus of a business. It appears that auditors may be held
responsible prima facie for breach of these parts.
Apart from the Corporation act, the Trade Practice Act 1974 (TPA) also provides for the
liability of the auditors against the third party. As per TPA, it contains a statutory obligation
enabling third parties to file civil suit for loss against auditors for deceptive and misleading
conduct.10 As well as auditor may be liable under TPA for future representation if the act of
the auditor is misleading and deceptive.11 As in the case of Mackman v Stengold Pty Ltd &
Ors12 it was held by the court that the respondents were liable under sec 52 for misleading
and deceptive conduct.
Conclusion
Concisely it can be concluded that auditor plays a significant role in the company. It is their
duty to exercise their powers and obligations in consonance with the provisions of statute and
common law. Mainly the liability of auditors to the third party is to provide fair accounts,
duty of care and skill and not to provide false misstatement.
10 The Trade Practice Act s 52
11 The Trade Practice Act s 51A (1)
12 (1991) 13 ATPR 41-105
3

COMMERCIAL AND CORPORATION LAW
Bibliography
Austin, Ford, and Ramsay, Principles of Corporation Law (LexisNexis, 2018)
Latimer, Paul, Australian Business Law (CCH Australia LTD,2014)
Li, Enshen, Business and Corporate Law Guidebook (Thomson Reuters, 2018)
Lipton & Herzberg, Understanding Company Law (Thomson Law Book, 2013)
The Trade Practice Act s 52
The Trade Practice Act s 51A (1)
Acceptance Corporation Ltd v Forsyth (1970)92 WN (NSW) 29
Esanda Finance Corp Ltd v Peat Marwick Hungerfords(1997) 142 ALR 750
Mackman v Stengold Pty Ltd & Ors (1991) 13 ATPR 41-105
Mutual Life and Citizen’s Assurance Co Ltd v Evatt (1968) 122 CLR 556
Re Kingston Cotton Mill Co (No.2) (1896) 2 Ch 279
San Sebastian Pty Ltd v The Minister (1986) 162 CLR 340
4