The Increasing Scope Of Auditors' Negligence: 'Livent Inc. v. Deloitte & Touche LLP'

 
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In a decision with far-reaching implications for the accounting industry, on April 4, 2014, Deloitte & Touche was found liable for $85 million for its negligent audits of Livent Entertainment of Canada Inc. in 1996 and 1997.1

Livent was founded as an entertainment company intended to be publicly traded on the North American markets. It raised capital through a Canadian IPO in May 1993, an equity issue in the USA in May 1995, and various other private and public debt and equity issues over the next three years, in part based on the unqualified audit opinions of Deloitte that Livent's financial statements presented "fairly, in all material respects, the financial position of the company...in accordance with generally accepted accounting principles in Canada."

That image of financial health was false. The 1998 restatement of Livent's financial statements for 1996 and 1997 resulted in a significant downward adjustment of reported income and share value fell from USD $6.75 to $0.28 per share. The company's downfall resulted in multiple judicial and quasi-judicial rulings over the next decade including criminal convictions, cross-border bankruptcy proceedings, hearings before the SEC and OSC, and prosecutions of certain Deloitte partners before the Discipline Committee of the Institute of Chartered Accountants.

Livent, by its Receiver, brought an action for negligence and breach of contract against Deloitte regarding the audit of Livent's financial statements.

Standard of Care

The Court highlighted a significant change in the standard of care to be applied to auditors in the modern era. Deloitte argued that the standard required was that of "a reasonably competent and cautious accountant". The Court held, however, that the standard of care applicable to auditors in 1990s Canada was not as limited as that asserted by Deloitte. It held that the circumstances of a particular case may dictate that more than the minimum standard of a "reasonably component and cautious accountant generally" may be required.

The Conduct of the Audit

At trial the Court found that Deloitte's conduct in the 1996 and 1997 audits fell short of the applicable standard of care. Deloitte's assessment of the engagement risk for the 1996 audit was "greater than normal", which the Court found to be a euphemism for "high risk". In addition, planning memos for 1996 provided a clear mandate to increase the level of professional skepticism on all fronts and it was anticipated that...

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