The case of Manchester Building Society (MBS) v Grant Thornton LLP was a landmark professional negligence case that significantly impacted the understanding of audit negligence and the scope of duty in such claims. This article focuses on Lord Leggatt's specific judgment and the principles he articulated, which remain highly relevant to accountancy negligence disputes.
Background
Manchester Building Society (MBS) instructed Grant Thornton (GT) – a major accountancy firm - to audit its financial statements for the years 2008-2011. The audits certified that the accounts gave a true and fair view of MBS's financial position. However, GT failed to identify significant errors in the accounting treatment of certain financial instruments, specifically relating to hedge accounting.
In 2013 this error came to the fore and wrought havoc on the MBS balance sheet. The errors meant that MBS's regulatory capital was overstated. Had the audit been conducted with proper care, MBS would have been required to take corrective action sooner, avoiding losses that ultimately materialised. MBS sued GT for professional negligence, claiming damages of approximately £27 million.
The Central Legal Questions
Lord Leggatt's judgment addressed two fundamental questions that had generated uncertainty in auditor professional negligence cases:
- The scope of duty question:
Did GT’s duty extend to protecting MBS from the business losses that resulted from the misinformed decisions it made while unaware of its true financial position? - The counterfactual question:
How should damages be assessed? What would MBS have done differently had the audit been performed correctly?
Lord Leggatt's Analysis of the Scope of Duty
A key contribution of Lord Leggatt's judgment was his rejection of the rigid distinction between "information" and "advice" from earlier cases, particularly South Australia Asset Management Corp v York Montague Ltd (the SAAMCO case). That earlier principle suggested that a party should not be liable for losses flowing from decisions made on the basis of the provision of information only.
Lord Leggatt clarified that this distinction was unhelpful and potentially misleading. He emphasised that the real question is not whether the defendant provided "information" or "advice," but rather ‘for what purpose and in what context was the information provided?’
The purpose of a statutory audit, he explained, is to enable management to make informed financial decisions based on accurate information. Therefore, an auditor’s duty extends to protecting the client from losses caused by acting on incorrect financial information – precisely what happened in MBS’s case.
The "Counterfactual" and Assessment of Damages
Having established that GT’s duty extended to protecting MBS from losses caused by decisions made in ignorance of its true financial position, Lord Leggatt turned to the assessment of damages.
The Basic Comparison Exercise
Lord Leggatt confirmed that damages should be assessed by comparing:
- The position MBS was actually in (having acted without knowledge of the true position); with
- The position MBS would have been in had GT performed the audit properly
This required the court to determine what MBS would have done differently had it known its true financial position.
A crucial aspect of Lord Leggatt's judgment concerned how to handle evidential uncertainty about what the claimant would have done in the counterfactual scenario. He held that:
- Where it is uncertain what action the claimant would have taken, the court must make findings on the balance of probabilities;
- The burden of proof rests on the claimant to establish what it would have done; and
- The court should be realistic and consider all the pressures and constraints that would have operated on the claimant in the counterfactual scenario.
In MBS's case, this meant examining what actions MBS would realistically have taken between 2008-2011 if it had known about the accounting errors, considering regulatory constraints, market conditions, and the practical options available to the building society.
Conclusion
Lord Leggatt’s judgment marks a pivotal development in professional negligence and audit liability law. . By focusing on causation and the rejection of traditional distinctions between advice and information, his approach broadens the potential scope of accountancy negligence and clarifies the responsibilities of auditors in ensuring accurate reporting. His approach reinforces that auditors’ liability hinges on whether their negligence caused the ultimate loss, rather than on broader policy considerations.
By focusing on causation and rejection of traditional distinctions between advice and information, his approach potentially widens professional liability and clarifies the test for scope of duty in audit negligence claims.
For the accounting professions, the judgment provides welcome clarity while also serving as a reminder of the serious responsibilities that auditors undertake. The decision will undoubtedly influence how auditor negligence claims are analysed and defended in the years ahead, cementing Lord Leggatt's contribution to this important area of commercial law.
The Commercial Litigation team at BPE Solicitors provides expert legal advice in professional negligence, audit and accountancy negligence claims, representing clients across Cheltenham, Gloucestershire, the South West and nationally in complex financial disputes. Contact us here to discuss any of the topics discussed.
