Assessing the fallout from Livent v. Deloitte

If the importance of any event is determined by the speed in which a conference is held on the topic, then the recent ruling from the Supreme Court on Canada ( SCC) on Livent v. Deloitte more than passes the test.

A day after the SCC’s decision, the Capital Markets Institute at Toronto’s Rotman School of Management called for a Jan. 22 gathering. The panel — a mix of lawyers, investment professionals and academics — will be assessing the implications of the decision “for auditor responsibility, governance and Canadian public corporations.”

The session is set to explore questions relating to auditors’ responsibilities in cases where senior executives of a corporation have committed fraud including to whom do auditors owe a duty and the scope of this duty.

In essence there were two parts to the SCC decision regarding Livent, a company that was launched in 1989 after the principals acquired the live entertainment division of Cineplex Odeon, raised capital via a prospectus offering in 1997 and sought bankruptcy protection in 1998.

( Since then there have been jail terms for some of the key principals and tons of litigation, most of which hasn’t been favourable to the auditors.)

The first part of the ruling concerned whether the auditors (Deloitte) were liable to Livent for work performed in connection with a public equity offering, a transaction that raised $27.5 million. The seven SCC justices decreed the auditors were not liable — the effect of which was to reduce the damages awarded.

The second part focused on whether the auditor was liable to the issuer for damages in connection with a negligent audit. A quick history: That audit, which was finalized in April 1998, was for the 1997 financials. When the fraud was discovered, the receiver sued the auditor. At trial, the judge ruled the auditor was negligent and ordered an $ 85 million payment for damages. The Appeal Court upheld that decision. (After the SCC’s decision damages, now stand at $40 million.)

For that part, the panel ruled four to three that the auditor had such a responsibility.

There has been commentary already. The firm Blake Cassels & Graydon, said the decision affirms the “duty of care but reduces auditor’s damages.”

Andrea Laing and Adam Nickerson, members of its l i tigation group, did the write- up. The two said the court didn’t accept Deloitte’s argument that “the receiver could not stand in the shoes of t he company f or t he purpose of advancing the claims.” It also rejected the argument that damages be reduced “to account for the contributory negligence of Livent.”

So what are the implications?

For starters, the purpose under which a professional services firm is engaged is “critical” for those cases involving pure economic loss. “The existence of a duty, and the parties to whom it is owed, depends on the nature of the specific mandate undertaken,” they write.

The second conclusion is the court’s determination that the “corporate identification doctrine does not apply in this case” could also have significant implications “for the allocation of losses between auditors and directing minds who perpetrate frauds in other cases.”

But there are some matters — including the extent to which the decision will affect the dynamics of the audit process — on which assessments will be a work in progress. The authors note there are a number of “open questions,” including the effect on the costs of audits, the terms on which they will be conducted, the diligence audit firms will need to perform before accepting a retainer or the ability of corporations, especially those with heightened risk profiles, to obtain audited financial statements.”

Some of those questions may receive a clearer focus on Jan. 22.