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City Litigation

Auditors' duty of care

In Peach Publishing v Slater, the Court of Appeal considered whether Slater & Co, who were the accountants and auditors of ASA Ltd, owed a duty of care to Peach Publishing which purchased ASA. It was alleged that, during the negotiations for Peach to purchase ASA, Slater had made a negligent misrepresentation to Peach in respect of the management accounts of ASA. The High Court had found that Slater had made a negligent misrepresentation to Peach which had induced Peach to buy ASA.

The Court of Appeal, however, allowed Slater's appeal, finding that they did not owe a duty of care to Peach. The Court emphasized that the question was not whether Slater & Co had assumed legal responsibility for the representation, but whether they had assumed responsibility to Peach for the substantial accuracy of the management accounts. This question was to be answered "having regard to all the circumstances of the case and looking at the matter objectively".

The Court emphasized also that both vendor and purchaser had their own advisers, including solicitors and accountants, and Peach's representative was both professionally qualified and an experienced businesswoman. The Court said: "The maxim Caveat Emptor [Let the buyer beware] remains as applicable in such a transaction as ever; one party does not just rely on what he is told by the opposite party or his adviser."

The net effect of this decision is once more to emphasize that the courts will not lightly hold an auditor (or other professional adviser) liable to a third party, particularly where the third party is separately advised and itself experienced in business matters.

Fighting fraud: creating a false share market

The Court of Appeal has taken a dim view of a conspiracy to defraud involving the creation of false share markets to influence the fate of takeovers (R v Ward, R v Howard, R v Hendry, Attorney-General's Reference Nos. 14, 15 and 16 of 1995). The Court was particularly concerned that not only could such action lead to a fraud on shareholders but it could cause considerable damage to the City of London. As such, the Court felt that an important element in sentencing in such cases had to be the deterrent effect. Those who took part should know that, if caught, they would be highly likely to go to prison and payment of compensation orders would not save them.

Sentences were increased from community service orders to two years' imprisonment and seven years' disqualification from holding a directorship of a public company.

Duty to cooperate in fraud investigations

In In re Bank of Credit and Commerce International SA (in liquidation) (No 11), BCCI's liquidators applied, under section 236 of the Insolvency Act 1986, for disclosure of certain documents held by the Bank of America group, which had been closely involved in the affairs of BCCI. The documents sought ran to millions of sheets of paper and were located all over the world. Bank of America complained that such an order for disclosure would be oppressive.

The judge held that although the bare fact of association does not lead to any inference of guilt, any honest person who finds himself to be or have been involved, however innocently, in a major fraud, must cooperate with those charged with investigating the fraud. As a result, he made the order for production by way of staged disclosure.

Unfair prejudice

In Quinlan v Essex Hinge, a director who became in effect a junior partner in a quasi-partnership company, and was then excluded from management by the domineering majority shareholder, successfully petitioned under section 459 of the Companies Act 1985 that the affairs of the company had been conducted in a manner unfairly prejudicial to his interests as a shareholder.

The evidence established that the company had the characteristics of a quasi-partnership, albeit that the petitioner (a minority shareholder) had been a junior partner with the majority shareholder a dominant senior partner. The association between the petitioner and the majority shareholder involved mutual confidence, and an understanding that the minority shareholder would participate in the conduct of the business over and above the specific areas defined in his service agreement — the petitioner had thus established a legitimate expectation of management.

The judge accepted that there was little doubt that the majority shareholder dominated the company's affairs, particularly in deciding, in effect unilaterally, what bonuses should be paid to directors and what amount should be retained by way of reserves. The petitioner was able to bring himself within section 459 simply on the basis of his exclusion from participation in the management of the company.

The judgment underlines how, in such cases, the court will look beyond strict rights under a service agreement, and base its decision on wider equitable considerations, in this case a legitimate expectation of participation in management. The company was ordered to buy the petitioner's shares with no discount for the fact that the holding was a minority one.

De facto directors

In proceedings brought under section 6 of the Directors' Disqualification Act 1986, the High Court noted that formal appointment was not the only way someone could become a director: it was possible to be a 'de facto director' (Secretary ofState for Trade and Industry v Tjolle).

The judge held that it was difficult to postulate any one decisive test: it was a question of degree. The factors to be taken into account include: whether or not there was a holding out by the company of the individual as a director, whether the individual used a title, whether the individual had proper information (such as management accounts) on which to base decisions and whether the individual had to make major decisions. Taking all these into account, one had to ask: was this individual part of the corporate governing structure?

The judge also considered that there would be no justification for the law making a person liable to misfeasance or disqualification proceedings unless they were truly in a position to exercise the powers and discharge the functions of a director; otherwise they would be made liable for events over which they had no real control, either in fact or in law. He held that the individual in question was not a 'de facto director' as she had no involvement with or control over the accounts. As such, she was not subject to disqualification under the 1986 Act.

Neil Mirchandani
City Litigation Group
Lovell White Durrant, London

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