Axiam Holdings Limited v Deloitte & Touche

The Business Bank Limited (TBB) appointed Deloitte & Touche as its auditor for the financial year ending 31 March 1999. Deloitte conducted the audit and issued an auditor's report on 1 July 1999 certifying that the financial statements fairly presented TBB's financial position. The statements were materially inaccurate: they reflected a net profit before tax of R29,266,176 when TBB had actually suffered a net loss of R77,899,201. In February 2000, two companies within the PSG group (including the PSG bank) concluded agreements with TBB to purchase shares and finance its business, relying on the 1999 statements. PSG bank paid R241,069,222.43, which it could not recover. The right to recover this amount was ceded to Axiam Holdings. Axiam sued Deloitte alleging two bases: (1) that Deloitte had actual knowledge of the inaccuracies and failed to warn PSG (main claim); and (2) that Deloitte could reasonably have been expected to know of the inaccuracies and failed to warn PSG (alternative claim). Deloitte excepted to both claims.

• Whether an auditor owes a legal duty to warn third parties of inaccuracies in financial statements when the auditor has actual knowledge that the statements are inaccurate and knows the third party will rely on them
• Whether an auditor owes a legal duty to warn third parties when the auditor could reasonably have been expected to know of inaccuracies (constructive knowledge)
• Whether silence or failure to warn can constitute a representation within the meaning of section 20(9)(b)(ii) of the Public Accountants' and Auditors' Act 80 of 1991
• Whether it is appropriate to decide questions of wrongfulness and legal duty at the exception stage

The majority (3:2) upheld the appeal with costs including costs of two counsel. The order of the court below was substituted with an order dismissing the exceptions with costs. The matter would proceed to trial on both the main and alternative claims.

The binding legal principles established by the majority are: (1) A claim alleging that an auditor failed to warn a third party of inaccuracies in financial statements, where the auditor could reasonably have been expected to know of the inaccuracies and could reasonably have been expected to know the third party would rely on them, is sustainable at exception stage and discloses a cause of action. (2) Such failure to warn can constitute a representation within the meaning of section 20(9)(b)(ii) of the Public Accountants' and Auditors' Act - specifically, a representation by omission that the prior certification was correct. (3) Whether wrongfulness and legal duty exist in such circumstances requires consideration of all relevant factors and circumstances as set out in Standard Chartered Bank of Canada v Nedperm Bank and Minister of Law and Order v Kadir, and should generally not be decided at exception stage. (4) It is premature to decide questions of legal duty on exception where the law is developing incrementally and the legal result is sensitive to the full factual matrix which can only emerge at trial. (5) Silence or inaction can constitute a misrepresentation where there is a duty to speak, and whether such a duty exists in relation to an auditor's subsequent silence about prior negligent certification requires full factual investigation.

Navsa JA made several obiter observations: (1) Courts and counsel should not spend excessive time applying English law and dicta from English judgments rather than applying South African law principles, though English law may provide useful reassurance on global commercial norms. (2) Where an auditor has actual knowledge of misstatements and knows a third party will rely on the statements, this approximates fraud and a duty to speak would be more readily found. (3) The nature, context, purpose of statements, knowledge thereof and relationship between parties are all relevant to determining whether a legal duty exists. (4) Legal convictions of the community could well consider it unacceptable for an auditing firm that issued a seriously negligent report to escape legal duty simply because it was ignorant (even negligently ignorant) of its own negligence. (5) The law on liability of professional advisors for negligent misstatement is in a state of transition and development, developing pragmatically and incrementally, and is pre-eminently an area where legal results are sensitive to facts. Cloete JA (dissenting) observed: (1) Section 20(9) was included in the PAA Act specifically to address the problem of potential limitless liability for pure economic loss. (2) It is illogical to impose a duty to speak where an auditor had no reason to believe what he had done may have been negligent - you cannot disclose what you do not know. (3) Public policy does not require imposition of a duty to speak based on constructive knowledge as it would create limitless liability and place an undue and unfair burden on auditors. (4) Third parties can protect themselves by appointing their own auditors or asking the auditor whether they can rely on the audit.

This case is significant in South African law for several reasons: (1) It addresses the contentious issue of auditors' liability to third parties for negligent misstatement causing pure economic loss. (2) It clarifies that section 20(9) of the Public Accountants' and Auditors' Act 80 of 1991 creates a statutory framework limiting auditors' liability to third parties, but that liability can arise where the auditor represents (including by silence where there is a duty to speak) that inaccurate statements are correct. (3) It demonstrates the tension between limiting professional liability to avoid indeterminate liability while ensuring accountability where professionals act negligently in circumstances approximating fraud. (4) It illustrates the proper approach to exceptions involving questions of legal duty and wrongfulness - such issues should generally not be decided at exception stage but require full factual investigation at trial. (5) It emphasizes that South African delictual principles, particularly those from Standard Chartered Bank v Nedperm Bank, should be applied rather than automatically following English law. (6) The split decision (3:2) reflects the difficulty in balancing competing policy considerations in this area of law.