No Such Thing As Indeterminate Liability For Damages: A Case Comment On Livent (2017 Scc 63)
Seven Judges of the Supreme Court of Canada have split, 4-3, on whether an auditor owes the audited company (and its creditors/shareholders) a duty of care, and the analysis of the scope of such duty.
The test for duty of care in Canada, referred to as the Anns test, requires the Court to ask:
(1) whether a prima facie duty of care exists between the parties; and
(2) if so, whether there are any residual policy considerations which should negate or limit the scope of the duty, the class of persons to whom it is owed or the damages to which a breach of it may give rise.
Under the first part of the test, a prima facie duty of care is recognized where a “sufficiently close relationship between the plaintiff and the defendant” exists such that “in the reasonable contemplation of the [defendant], carelessness on its part may cause damage to the [plaintiff]” (Hercules, at para. 22; Kamloops, at p. 10). The analysis thus involves considering whether it is reasonably foreseeable that a breach by the Defendant of the duty of care would cause damage to the Plaintiff.
In dissenting reasons, now former Chief Justice Beverly McLaughlin found that the losses at issue were not proven to fall within the scope of the auditor’s duty of care. She accepted the trial judge’s finding that the auditor’s reports were negligently made, but not that the shareholders and management would have made decisions that would have limited the company’s losses had the reports been differently stated. She thus concluded that the first part of the Anns test had not been met: in the absence of proof of reliance upon the auditor’s reports, the loss did not fall within the scope of the duty of care.
She further found that accepting reliance by the shareholders on the auditor’s reports as reasonable reliance for the purpose of supervising the management (and more specifically the fraudsters) would lead to “an unfair allocation of loss and indeterminate liability for auditors’ statements” and so (as put by the minority) a “veto” under the second part of the test. She noted that it would result in an auditor becoming the “virtual guarantor” or “underwriter” for everything that management did, which would not be a fair allocation of responsibility. Her concern, under the second part of the Anns test, was that liability would be indeterminate.
Justices Gascon and Brown (for the majority) disagreed on whether certain of the losses fell within the scope of the duty of care. The majority found that the losses that flowed from the 1997 auditor’s report were reasonably foreseeable, and so the Defendant was responsible, but that the losses that flowed from the earlier “comfort letter” were not reasonably foreseeable (because of the purpose of the letter). The majority did not require proof of reliance (as did the minority) but found it was sufficient with respect to the auditor’s report that the reliance and losses were of the type that was contemplated at the time the report was made.
Unlike the analysis in some previous cases which comparatively brushed over the duty of care analysis, to simply find “yes”, auditors owe a duty of care to the shareholders of the company they are auditing, the test now requires much more precision and analysis up front.
After finding that a duty of care was owed, the majority did not negate the duty of care because of a finding of indeterminate liability. In fact, the majority found that a concern for indeterminate liability should not exist if the first part of the test was completed properly:
In other words, a finding of indeterminate liability at the damages stage strongly suggests that a legal error occurred at the duty stage, since a finding of a prima facie duty of indeterminate scope underlies the resulting indeterminate liability.
In finding that there was no concern of indeterminate liability, the majority held:
(a) No temporal indeterminacy: The injury from an annual audit cannot flow over an indeterminate time window, since the audit is annual. The time is limited to damages that flow over one year.
(b) No claimant indeterminacy: In this case, there was one claimant, the company itself. The Court left it open as to whether there could be a concern of indeterminacy if the class of potential claimants was indeterminate.
(c) No value indeterminacy: Having found that the first two aspects were determinate, the Court determined that the value could also be determined. It distinguished significant liability (the scale being disproportionately high to the wrong), from indeterminate liability (being impossible to gauge the scale). Here, the liability was determinative at the time of the wrong, such being the value of the company.
Although in this case the Court found that the auditors were liable for some of the losses awarded by the trial judge (the award being substantially reduced), the Court has not done away with the important safeguards in the law developed to date. Although the requirement for proving actual reliance is weakened (or subsumed in the damages/contingencies analysis), reasonableness of reliance is still a fundamental part of the test. There are also important cautions in the decision, which limit the scope of the duty of care, and which will no doubt be noted in the cases and discussion that will inevitably follow this important decision:
Rights, like duties, are, however, not limitless. Any reliance on the part of the plaintiff which falls outside of the scope of the defendant’s undertaking of responsibility — that is, of the purpose for which the representation was made or the service was undertaken — necessarily falls outside the scope of the proximate relationship and, therefore, of the defendant’s duty of care.
In short, while indeterminate damages should no longer be a concern in the case law, this does not mean that damages will ever be limitless.
This blog entry has been placed on our website to inform readers in a general way of the authors’ view of the law at the time of its presentation. It is not intended as legal advice and no reliance may be placed on its contents. Some principles of law or procedure may have changed and may no longer be applicable since its publication. The authors and our firm disclaim any liability arising from reliance on any part of this blog entry.