Question

What factors do the purchasers of securities under the Securities Act of 1933 need to prove to recover losses from the CPA? What would be a viable defense by the CPA?

Answer 1

The security purchasers need only prove that (1) they sustained a loss and (2) the registration statements was misleading. They need not prove that they relied upon the registration or that the auditors were negligent. On the other hand, if auditors are to avoid liability for the plaintiff’s losses, they generally must affirmatively prove that (1) they conducted the audit with due diligence, (2) the plaintiffs’ losses were not caused y misstated financial statements, (3) the plaintiffs knew of the financial statements misstatements when the securities were purchased, or (4) the statute of limitation – one year after the discovery of the misstatement, but no more than three years after the security was first offered to the public had expired. Auditors’ common law liability to clients and third-party beneficiaries’ states that clients can recover losses for damages caused by an improper audit through both breach of contract and tort actions against the auditors. On the other hand, other third parties mustestablish that losses resulted from the CPA’s performance and that the CPAs breached a duty of due professional care

A. Characterizing the Action: Negligence or Negligent Misrepresentation

The plaintiff in an auditor liability case necessarily makes two claims: that the accountant negligently performed the audit and that the audit report communicated to the plaintiff was misleading because the audit was negligently performed. As a conceptual matter, the plaintiff may bring its action either for negligence (for the improper performance of the audit) or for negligent misrepresentation (for negligently communicating false information in the report

B. The Doctrines

            Whether approaching the accountant liability issue through the lens of negligence or negligent misrepresentation, jurisdictions vary on the scope of liability. There are three general doctrinal positions on the liability rule: the requirement of privity or near privity, the foreseeability test, and the group and transaction test

1. Privity and Near Privity: if the third party is not in a contractual relationship with the defendant accountant, the “end and aim” of the transaction must have been to provide the audit for the third party’s benefit.
2. 2. Negligence: Privity and near privity essentially take accountant liability and other third-party liability cases out of the realm of tort law and place them within the sphere of contract law, allowing recovery only where there is privity or a third-party beneficiary relationship, and under the Credit Alliance linking conduct element, sometimes not even then. An alternative to privity or near privity is to treat these cases the same as ordinary negligence cases and apply a rule of liability for foreseeable harm
3. Negligent Misrepresentation: Information Negligently Supplied for the Guidance of Others:

One who, in the course of his business, profession or employment, or in any other transaction in which he has a pecuniary interest, supplies false information for the guidance of others in their business transactions, is subject to liability for pecuniary loss caused to them by their justifiable reliance upon the information, if he fails to exercise reasonable care or competence in obtaining or communicating the information.

Hence the purchasers of securities must prove that the financial statements were misleading: then, the burden of proof is shifted to the auditors to show that the audit was performed with "due diligence".

The Proportionate liability system permits the allocation of damages among the parties based on the extent to which each is at fault. On the other hand, Joint and several liability represents another approach to liability that in general benefits the plaintiff’s litigation against multiple defendants. Under joint and several liability, the defendants are liable for their pro rata share of any damages awarded, but they may also be held liable for damages of other defendants who prove to be unable to pay their share of the damages.

CPAs may defend by proving that the client’s/purchaser loss occurred because of factors other than negligence by the auditors. If the auditor proves the loss resulted from causes other than the auditor’s negligence, a client may be accused of contributory negligence. If a state follows the doctrine of contributory negligence, the auditor may eliminate their liability to the client based on contributory negligence by the client. Many states do not follow this doctrine Most states permit a jury to assess the fault and apply the correct percentage of fault to the parties involved. This is called comparative negligence.