Auditors’ Liability to Third Parties: In Pari Delicto – Part II

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The application of the in pari delicto defence in the United States is subject to significant jurisdictional variability. Case law reveals at least two different approaches to the scope of the defence: (i) a narrow application available to innocent but negligent (not complicit) defendants; and (ii) a broad application available to both negligent and complicit defendants in circumstances in which the plaintiff bears at least equal responsibility for the wrong alleged.

For example, in 2010, the Supreme Court of Pennsylvania applied in pari delicto narrowly in Official Committee of Unsecured Creditors of Allegheny Health Education and Research Foundation (AHERF) v. PricewaterhouseCoopers LLP, 607 F3d 346. The members of senior management of a non-profit corporation misstated financial results to conceal the corporation’s financial difficulties. Following discovery of the fraud and the corporation’s bankruptcy, a group of innocent unsecured creditors brought an action against the company’s auditors, alleging that they had colluded with senior management to issue clean audit reports. The Court held that the purpose of the defence of in pari delicto is to protect innocent third parties where the corporation’s agent has acted within the actual or apparent authority delegated to it by the corporation. Therefore, in Pennsylvania, in pari delicto is available to negligent auditors, to the extent that they acted in good faith and did not collude.

By way of contrast, in Kirschner v. KPMG LLP (“Kirschner”) and Teachers’ Retirement System of Louisiana and the City of New Orleans v. PricewaterhouseCoopers LLP (“Teachers”), 15 N.Y.3d 446, the Court of Appeals of New York applied in pari delicto broadly to protect both innocent and colluding auditors on the basis that corporations and their owners, rather than third parties (including auditors), are in the best position to monitor the corporation’s management and so there was no good reason to “immunize” so-called innocent shareholders. In Kirschner, the trustee in bankruptcy of a brokerage clearinghouse claimed that the auditors failed to detect the concealment of millions of dollars in uncollectable debt by the company’s president and Chief Executive Officer. In Teachers, shareholders brought a derivative action on behalf of American International Group (“AIG”) against the auditors for failing to detect the senior officers’ fraudulent misstatement of AIG’s financial affairs. In both cases, the plaintiffs invoked the adverse interest exception to the corporate attribution doctrine. They argued that where the wrongdoers benefitted personally from the impugned conduct, it should not be attributed to the corporation, even if the corporation also benefitted in the short term. The Court disagreed and held that the adverse interest exception does not apply where the corporation also receives a benefit to avoid the difficult task of measuring the benefit or adversity to the corporation of the wrongdoer’s action. Therefore, in pari delicto was a defence available to the auditors. 

The recent decision of the Ontario Superior Court of Justice in Livent Inc. v. Deloitte & Touche LLP, 2014 ONSC 2176, canvassed in our next blog, was the perfect opportunity for the Ontario Courts to consider these approaches.

 

Topics:  Auditors, In Pari Delicto, Third-Party Liability, Third-Party Relationships

Published In: Civil Procedure Updates, General Business Updates

DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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