7 minute read | February.09.2024
The English High Court recently dismissed a claim by Ickenham Travel Group Limited against its former auditor, Tiffin Green Limited.
The decision sheds light on how English courts are likely to approach scope of duty in audit negligence cases following the Supreme Court’s decision in Manchester Building Society v Grant Thornton UK LLP.
ITG was a travel agency with two divisions: a business travel division called Business Travel Direct (BTD) and a consumer travel agency. The consumer travel business was licensed by the Civil Aviation Authority (CAA).
Tiffin Green audited ITG’s accounts from 2014 to 2017.
ITG discovered “serious irregularities in its accounting systems and records” in 2019, resulting in a £4.5 million understatement in its consumer travel business. In the context of ITG’s business (which had a combined turnover of £95 million) this was a material amount.
When ITG reported the position, the CAA required ITG to ring-fence new customer money. As a consequence, ITG sold BTD in 2019 for £5 million in order to meet its working capital requirements.
ITG issued proceedings against Tiffin Green alleging negligence and breach of contractual duties as auditors for failing to identify the accounting irregularities and the understatement. ITG claimed Tiffin Green were liable for:
Tiffin Green denied liability.
The Court found in favour of Tiffin Green. The Court accepted that Tiffin Green had failed to act as a reasonably competent auditor. However, in the Court’s judgment, ITG did not prove it suffered a loss when it sold BTD. It also did not prove the consequences would have been different had the irregularities and understatement been discovered in 2014 or during subsequent Tiffin Green audits.
To succeed in this part of this claim, ITG needed to show that it sold BTD for less than its true value. ITG asserted that it had lost the chance to sell BTD to another buyer for £11 million, and that this sum was therefore BTD’s true value.
However, the Court concluded that the ‘other’ transaction was no more than “speculative” (i.e., less than a 10% chance) and the prospective buyer had lost interest in buying BTD by the time ITG learned of the issue with its financial statements. Nor was there any evidence that ITG had been able to identify a potential purchaser willing to pay more than the eventual sale price despite trying to sell BTD for around 18 months.
Even if ITG could prove it sold BTD at an undervalue in 2019, it would have needed to show that, on the balance of probabilities, this loss would not have arisen ‘but for’ Tiffin Green’s negligence. The question for the Court was whether ITG would have taken the same steps in 2014 had Tiffin Green identified the accounting irregularities and understatement then, with the same consequences.
In 2014, the amount of the understatement was at least £2.5 million. The Court was satisfied that, if Tiffin Green had discovered the understatement at the time, ITG would have had to report it to the CAA and the CAA would have been sufficiently concerned to take action, so ITG would still have needed to raise funds.
There was no evidence that any other source of internal or external funding was available to ITG in 2014 that was not available in 2019. Therefore, the Court concluded that ITG would have found itself in the same position (i.e. needing to sell BTD), whether the accounting irregularities and understatement were discovered in 2014 or 2019. There was also no evidence that the professional fees incurred by ITG in 2019 were in excess of the fees ITG would have incurred in 2014.
The Court therefore concluded that any loss ITG suffered on the sale of BTD and the professional fees would have been incurred by ITG in any event.
Because ITG’s arguments on loss and factual causation failed, the Court did not need to decide whether the alleged loss of value on the sale of BTD was a type of loss for which Tiffin Green as auditors would be liable. However, the Court briefly set out its views in this respect.
According to the majority judgment in Manchester Building Society v Grant Thornton UK LLP, the scope of the duty of care assumed by a professional adviser is governed by the purpose of the duty, judged objectively by reference to the purpose for which the advice was given.
It was not disputed that Tiffin Green’s duty to ITG included the customary duties of an auditor under the Companies Act 2006. However, ITG argued that the scope of Tiffin Green’s duty went further, since they also held themselves out as having “particular expertise in the travel business.” Tiffin Green recognised this in its engagement letter. As a result, ITG argued that Tiffin Green had represented themselves as having “a purpose in auditing the accounts that went beyond the normal purpose of auditors”; in particular, to assist ITG in maintaining its approval by the CAA.
In its defence, Tiffin Green accepted that the purpose of their retainers was to prepare and audit ITG’s financial statements to maintain ITG’s accreditation with the CAA, amongst other things. The Court said that, if this was an accepted purpose of the retainer, then it was reasonably foreseeable that a failure by Tiffin Green to properly carry out their obligations was likely to impact ITG’s CAA approval. The reasonably foreseeable consequences of that impact might include the steps ITG would be required to take to maintain its approval. To the extent that those steps caused loss to ITG, whether by sale of assets at an undervalue or by incurring fees, then Tiffin Green might be liable for those losses. However, given the Court’s factual findings, it was not necessary to go further into the question of legal causation.