The Gazette 1992

GAZETTE

MARCH 1992

from the holder that such certificates have been lodged with a bank or stockbroker." Where money has been advanced by the company the auditor must consider whether they are realisable, whether the security for them is adequate and what the cost of realisation is. The question of the value of debtors is a matter of considerable subjectivity, as is the decision as to the method of depreciation of company assets. 12 Auditors liability in relation to stock valuation in Thomas Gerrard& Sons Ltd., 13 the auditors were held liable where a managing director had falsified the accounts by altering invoices and the auditors, having come across the altered invoices, failed to make sufficiently exhaustive inquiries. They had accepted the assurances of the managing director that the dates on the invoices for stock purchased by the company during the financial year in question had been altered by him to dates in the following year because the stock had not been delivered. In fact delivery had taken place and the managing director's alterations were part of a system to hide the fact that the company had been suffering losses by showing current assets at the end of the financial year at an inflated figure and a reduced figure for its current indebtedness. plaintiffs were the directors of a company making crystal glass and they entered into an agreement in 1977 to purchase a company making bone china, Royal Tara China Ltd. Prior to concluding the agreement they were furnished with audited accounts of Royal Tara for 1973 to 1976, which had been prepared by a member of the defendant firm of accountants, acting as auditor for Royal Tara China. The plaintiffs held a number of meetings with the defendants prior to the sale during which the figures as to the stock were explained. Having taken over Royal Tara China, the plaintiffs became aware of production difficulties in the company and In the Irish case of Kelly -v- Haughey Boland & Co' 4 the

wrote to the vendors claiming that the figures for stock in 1973 and 1974 had been understated, and that these had been brought forward to 1976 to produce an exaggerated view of Royal Tara's trading position at the date of purchase. The plaintiffs subsequently commenced proceedings against the defendant auditors, claiming damages for breach of the duty of care owed to them. Lardner J held in the High Court that the defendants did owe a duty of care to the plaintiffs in respect of those accounts prepared at the time when they knew or ought reasonably to have known that they would be used by a third party who they knew would rely on the accounts in taking a decision as to whether to invest in Royal Tara. This would include the accounts prepared for 1975, when there was a reasonable possibility of a sale, and 1976, in respect of which accounts were prepared from the plaintiffs. However it would not include the accounts for earlier years. The court held that members of the defendant firm which had prepared the Royal Tara accounts had been negligent in relation to the stock- taking in failing to attend physically any stock-taking made by Royal Tara, since although the relevant accounting standards did not specify attendance as necessary, it was regarded as good practice and a reasonable method of ascertaining a true and fair view of accounts as an auditor; and while failure to attend physically at some stock-taking might not have amounted to a lack of care, the evidence was that for 20 years there had never been any attendance. However, since the plaintiffs had not made out the allegation that the defendants had failed to verify the information on which the accounts for 1975 and 1976 were based and since it was not established that the stock figures for 1973 and 1974 were understated or had been brought forward to 1975 and 1976, the plaintiffs had not established that the figures for these years were false or misleading. The claim was therefore dismissed.

"An auditor is not bound to be a detective, or . . . to approach his work . . . with a foregone conclusion that there is some- thing wrong. He is a watch-dog not a bloodhound". 5 This was also the approach adopted in Re London and General Bank (No. 2) 6 where it was stated that an auditor could not be equated with an insurer. 7 Thus he will not be held liable for failing to uncover frauds or defalcations which the company's accounting records do not make apparent, or which are not discoverable by the exercise of reasonable care and skill. This was the position in Re City Equitable Fire Insurance Co Ltd. 8 where an auditor was held not to be liable for failing to notice from the company's accounting records that it had regularly bought investments shortly before successive annual audits and had disposed of them shortly afterwards and for failing to enquire what had been done with the money representing the investments during the greater part of the year. These enquiries would have shown that the managing director has used the funds received from these annual sales for his own purposes. However an auditor must consider the possibility that errors have been made somewhere. 9 If the contents of the accounts are such that the suspicions of a competent accountant would be raised, then he must increase his investigation of the affairs of the company so that these suspicions are put to rest. 10 Debtors, investments and the auditor Where a company is listed on the stock exchange, its accounts will be used for the valuation of the company. Therefore, it is of particular importance that an accurate representation of its assets be shown in its accounts. If investments have been made by a company (public or private) the auditors should seek certificates in relation to them or confirmation

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