Acca aaa s21 Notes

September 2021 to June 2022 exams
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3. The duty of care
For a duty of care to be owed by an auditor to a third party, a 'three-fold test' must be satisfied:
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The auditor knew or should have known that that person would rely on the auditor’s work (ie 
damage was foreseeable).
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The third party has sufficient proximity (effectively, ‘close enough’ to reasonably rely on the 
auditor’s work).
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It must be ‘fair, just and reasonable’ to impose a liability on the auditor. 
Some cases illustrate these principles:
Caparo Industries v Dickman (1990)
Caparo sued an auditor after buying shares in a company they claimed was overvalued because of 
inaccurate financial statements. They claimed that the auditor owed potential investors a duty of care.
The claim was unsuccessful as it was held by the House of Lords that the financial statements are 
prepared for existing shareholders, as a class, and that the auditor has no common law duty to 
individual investors (whether existing or prospective).
Royal Bank of Scotland v Bannerman (2002)
Bannerman was the auditor and issued ‘clean’ auditor's reports for a client. The client was a customer 
of the Royal Bank of Scotland and used the financial statements to support a successful loan 
application. The financial statements greatly overstated the company's assets and profitability as the 
result of alleged fraud.
The claim was successful. The court held that the auditor knew that the bank would rely on the 
accounts for lending decisions and therefore owed the bank a duty of care. The court stated that if 
the auditor's report had contained a disclaimer warning that only members of the company should 
rely on it then there would be no duty of care to third parties.