Choosing between differing accountancy standards LAw Reporter

  • Date:01 Jul 2005
  • Type:CompanyDirectorMagazine
As Australia develops a closer affinity with an international regime of accounting regulation (the Government requires Australian companies to comply with international accounting standards), companies which do not necessarily find the international climate completely to their liking, will face the difficult task of choosing which accounting standard or regime they should adopt in disclosing their results.

Choosing between differing

accountancy standards

The role of auditors in resolving clashing accounting principles

As Australia develops a closer affinity with an international regime of accounting regulation (the Government requires Australian companies to comply with international accounting standards), companies which do not necessarily find the international climate completely to their liking, will face the difficult task of choosing which accounting standard or regime they should adopt in disclosing their results.

This may arise whether the accounting policies or standards are international, or different versions of local accounting standards that have received recognition here.

Where an auditor is asked to review the accounts of a company which has chosen a particular accounting standard (which may not necessarily be the most amenable to the results of the company), this may result in some uncertainties as to how the accounts are to be assessed.

The auditors in the case of Stanilite Pacific Ltd (in liq) v Seaton (t/as Price Waterhouse) ((2004) 52 ACSR 646) faced a situation caused by the fact that they had relied on the company's accounting methodology on various matters which threw up some unusual results.

This decision, decided by Bergin J on 12 May 2004, has only recently been reported. The facts of the case (as taken from Butterworths Company Law Report) were these.

Price Waterhouse (PW) were auditors for the Stanilite Group. Two companies in the group, Stanilite Pacific Ltd and SL Electronics Pty Ltd, went into liquidation in August 1996. Pacific and SL Electronics brought proceedings against PW for breach of contract and negligence and breach of s 995 of the Corporations Law - i.e. misleading or deceptive information (this is similar to the current provision).

The proceedings related to unqualified audit opinions PW gave about the group's accounts for the half-year ended 31 December 1994 (accounts) and the financial year ended 30 June 1995 (1995 accounts), and PW's consent - on 16 March 1995 - to the inclusion of its opinion on the accounts in a prospectus issued by Pacific.

Pacific and Electronics claimed that a reasonably competent auditor in PW's position:

(a) would have insisted on the accounts being redrawn or would have qualified their opinions in respect of those accounts;

(b) would not have consented to the inclusion of their unqualified audit opinion on the accounts in a prospectus lodged for a rights issue;


(c) would have insisted on the 1995 accounts being redrawn or would have qualified their opinions in respect of those accounts and the 1995 accounts.

The litigation assumed that PW had either actual or constructive knowledge of a number of matters including how certain revenue items and expenses of the company were to be treated in the books of the company in the context of accounting standards and rules and procedures which the company had adopted.

It is unnecessary, for the purposes of this note, to delve into these issues. It is sufficient to note that PW denied it had acted negligently, in breach of contract or in breach of s 995 of the Corporations Law. It also argued that the allegations were statute barred as it had given its opinion back in March 1995 and the summons was filed more than six years later. That issue was resolved in favour of PW by Bergin J.

The critical issue was just what role the auditors played in the context of the accounting standards, books of the company prepared by the company for the auditors to review.

Throughout PW argued that it had acted on the advice of the two companies - Pacific and Electronics - in relation to how the costs were to be treated, how the income items were to be assessed, and how revenue items were to be evaluated in providing its auditors' report.

As readers will know, the role of auditors is to act independently and to ensure that there are no conflicts in the way in which they evaluate the financial affairs of the company, are quite significant in today's climate.

Even though the events in relation to this case occurred well before the corporate collapses that led to the changes in accounting standards, the decision provides useful insights on this area of the law.

It this context, especially in light of the obligations of auditors to advise ASIC if the company has not complied with the law - see section 311 of the Corporations Act - the comments made by Justice Bergin on how the accounting task is to be undertaken are very helpful.

In dealing with these responsibilities Bergin J (at para 138 of the case) refers in particular to the recent New South Wales Court of Appeal decision in Daniels (formerly practising as Deloitte

Haskins & Sells) v Anderson (1995) 37 NSWLR 438) and made a number of interesting observations:

"Management has an obligation to prepare the accounts of a company and the auditor has a separate duty to give an independent opinion whether the accounts have been drawn up in accordance with applicable accounting standards and whether they represent a true a fair view of the company's financial position. There is no issue in this case that the defendants owed both a duty of care and a contractual duty to the plaintiffs to give such an independent opinion." (at para 128)

There was no disagreement between the parties that there was a duty on the part of the auditors to provide their opinion in the context of what they knew and how they dealt with their particular obligations.

In this particular case the auditors faced the tricky task of having to decide which two accounting policies should be applied in assessing the financial position of the company. Bergin J summed up in these words:

"Where two accounting policies are available for application, it is for the directors to select between these two policies. Selection [of the relevant policy] is outside the responsibility of an auditor, and it is not open for an auditor to qualify the accounts of a company because he prefers an alternative policy [to the one that the directors] do not prefer. It is not for the auditor to contradict directors about a matter of accounting policy unless the auditor has evidence to the effect that the directors are clearly wrong. An auditor has to be careful and sure of his or her ground before qualifying accounts particularly where the auditor puts a proposition to the directors with which the directors vehemently disagree." (at para 130)

In this case there was a division of opinion on which accounting standard should apply. Where there is no clear category of which of the two accounting standards should apply, and the directors have favoured one as against the other, it is not for the auditors to contradict the role of the directors in that particular decision-making process.

This short treatment of the role of the auditor in the context of such a clear division of opinion as to which accounting standards should apply is a reminder that an auditor cannot be a judge on what the law is or is not in a particular circumstance.

If there is clear evidence that the law is not being complied with then that is a different matter - the obligation of the auditor is to refer the matter to the board or if that is not a satisfactory conclusion then to the regulator, in this case ASIC. That was not the position in this case and the auditors were therefore cleared of any potential liability.

The decision will no doubt be welcomed by the accounting profession and, in all seriousness should be seen as the preferred view for companies.

It is not the auditing profession, rather than the board, to decide how they wish their accounts to be prepared unless the clear message is that the preferred method is not one that is an acceptable one in the context of the law and international standards.

Aiding and abetting is part of an offence

When are directors participating in breaches of the law? - an interesting new decision

Most of the cases in Law Reporter concerning breaches of directors' duties are concerned with the primary (or direct) involvement of the relevant person charged with the breach of the law.

Often, however, other persons engaged in running the company may be "caught up" in a claim that a breach of law has occurred by virtue of their own failure to ensure that appropriate steps taken to avoid the breaches.

A recent decision of Palmer J (Australian Securities and Investments Commission v Australian Investors Pty Ltd (No 2) [2005] NSWSC 267), ASIC discussed this particular issue as well as a number of other interesting side issues concerning the liability of other persons involved, as it were on the sidelines of the case.

The facts are quite complex and the judgment is an extremely long one (94 pages). The case involved allegations against a large number of individuals who were either directors or officers or otherwise involved with the corporations. A large number of corporations were also the subject of the litigation.

At paras 112 and following of the judgment Palmer J discussed issues surrounding the interpretation of s 79 of the Corporations Act which creates a framework against which the question of whether persons are engaged in a particular facts scenario are "aiding, abetting, counselling or procuring" the commission of the relevant provisions.

The language of s 79 of the Corporations Act which has parallels in the Trade Practices Act and other important pieces of regulation, is critical in evaluating when persons who are party to joint actions in the context of a possible breach of the law should be held to be involved or accessories etc. The section provides as follows:

"A person is involved in a contravention if, and only if, the person:

(a) has aided, abetted, counselled or procured the contravention; or

(b) has induced, whether by threats or promises or otherwise, the contravention; or

(c) has been in any way, by act or omission, directly or indirectly, knowingly concerned in, or party to, the contravention; or

(d) has conspired with others to effect the contravention."

Palmer J commenced his discussion by relying on a statement of Santow J in the famous ASIC v Adler litigation (Law Reporter, April 2002). Santow J noted "that a person was involved in the contravention if that person 'knew the actual events, though only the essential ones, which constitutes contravention' ". Palmer J went on to note that knowledge could be inferred "from the fact that the person is exposed to the obvious, but that is not to say that constructive knowledge of any of the essential facts is sufficient. Actual knowledge is always required although, as Burchett J pointed out (in an earlier decision) Richardson and Wrench (Holdings) Pty Ltd v Lygon No 174 Pty Ltd a person's actual knowledge may have been reduced to a minimum by the person's willful act in choosing to be informed only of the barest essentials in order to avoid being implicated in some wrongdoing." (This particular proposition had been approved by the NSW Court of Appeal in Forge v ASIC, discussed in the May issue of Law Reporter.)

The critical question according to Palmer J was this:

"At what point of time must a person have knowledge of the essential facts constituting a contravention? More particularly for the purposes of this case, can a person be 'involved' in a contravention if he acquired knowledge of one or more of the essential facts constituting the contravention after the contravention has already occurred?" (at para 113).

In the context of this particular set of facts (which involved contravention of a provision relating to the trading of securities), the involvement of a person in the contravention "requires that such involvement must occur prior to, or in the course of commission, of the contravention. The fact that a person comes to know of the essential facts constituting the contravention only after the contravention has occurred and is complete does not constitute involvement within the meaning of s 79 [of the Corporations Act]." (at para 114)

This evaluation, although it related to a specific provision dealing with securities trading (s 772(1) of the Corporations Act) must be relevant as well for all aspects of the corporations legislation in my view. I would agree with the conclusion reached by Palmer J that the definition of the word "involvement" in s 79 of the Corporations Act (which refers to "aiding, abetting, counselling or procuring") makes it clear that such an approach is the right one.

The judge added "the words 'aiding' and 'abetting' do not have separate meanings. They are synonymous and are used to describe the action of a person who is present at the time of the commission of an offence and takes some part therein - often called 'a principal in the second degree'. Likewise, 'counsel and procure' are synonymous terms and describe the action of a person who, although not present at the commission of the offence, is an accessory before the fact. Acquiring knowledge of an offence after its commission and failing to take the appropriate action is not 'aiding, abetting, counselling or procuring' in the common law" (and the judge cited a number of cases the most recent of which being R v Nato [1999] NSWCCA).

In the view of Palmer J the words "aiding, abetting, counselling or procuring" have the same meaning at s 79 of the Corporations Act as they have in the common law and in support of this he cited a decision of the High Court of Australia in a leading trade practices case - Yorke v Lucas ((1985) 158 CLR 661 at 668).

The other words in s 79 which we have set out above in his view added nothing to this interpretation of the law. As Palmer J noted:

"They seem to be no more than a re-statement of the common law definitions of aiding, abetting, counselling and procuring. Section 79(b) refers to inducing a contravention: clearly, this means encouraging or bringing about the commission of a contravention before it occurs, i.e. being an accessory before the fact. Section 79(c) refers to being concerned in, or party to the contravention, i.e. being engaged in some way in the acts which result in the contravention, as they occur either as a principal in the first degree or a principal in the second degree." (at para 117).

He added that s 79(b) should be interpreted as referring to the conspiring to effect a contravention - that is to agree with another person to do something, to bring about a contravention as an accessory before the fact.

Palmer J concluded that none of the sub-paragraphs of s 79 allowed for a construction which would encompass within the meaning of the word "involvement", the doing of something "after the contravention has already been committed and is complete, even if what is later done is to conceal, ratify or knowingly derive benefit from the contravention."

Palmer J agreed with the views of Davies AJ in ASIC v Pegasus Leveraged Options Group Pty Ltd ((2002) 41 ACSR 561) that the relevant section does not provide "that the person who is comprehended by its provisions is to be treated as the person who [actually] contravened the Act."

Another interesting observation in this case is the fact that Palmer J ruled that even though the case concerned both civil and criminal breaches of the law, that in assessing liability the court should apply the higher criminal standard.

This, in his view, was the direct result of the High Court's decision in Rich v ASIC ((2004) 50 ACSR 242).One final observation which is of interest, especially in view of the High Court's "non-decision" in the Carabelas as discussed in last month's Law Reporter, was his clear view that the shareholders could not forgive a breach of the civil penalty provisions of the Corporations Act.

In his view:

"The civil penalty provisions of the Corporations Act enable a company in a position of [this company] to recover loss occasioned by the delinquencies of its officers, not just for the benefit of shareholders but also for the benefit of creditors. It is unthinkable that, in a case such as the present, those who, as officers of a corporation, contravene the [Corporations Act] should be entitled, as shareholders, to ratify their

own wrongdoing and thereby deprive creditors of remedies which the legislation provides" (at para 35).

Even more taxing times for directors

Further evidence of director liability - the taxation regime in operation

With the two discussion papers issued by the Corporations and Markets Advisory Committee (CAMAC) commented on briefly in the previous issue, it is interesting to reflect on the comments by the NSW Court of Appeal in the decision of Canty v Deputy Commissioner of Taxation [2005] NSWCA 84 in which the question of the liability of directors for the taxation debts of a company were considered.

The case again emphasises the position that directors face if they do not take all necessary steps to ensure that company debts (including taxation debts) are paid.

As will be seen from the facts of this case the relevant director ceased being involved in the affairs of the company but nevertheless had the liability that was imposed on the company driven home to him.

The decision was an appeal from the District Court of NSW about whether the appellant, Canty, formerly a director of Quality Images Australia, was liable to a penalty equal to unremitted group tax deductions of the company.

The company's liability was incurred through "sporadic though not infrequent' default of payment over the period between 10 December 1998 and 19 August 1999, amounting to $402,917.05.

Gibson DCJ had found the appellant liable to pay the amount less a credit, together with pre-judgment interest.

In a separate judgment, with which Beazley and Santow JJA concurred, Handley JA considered provisions of the Income Tax Assessment Act 1936 (Cth) (the Act). Subdivision B of Div 9 of Pt VI of the Act penalised directors of a company that failed to remit group tax deductions to the Commissioner of Taxation.

In the view of Handley JA, the various relevant provisions of the Act indicated that a "director liable to penalty under s 222AOC of the Act need not be in office when notice is given" (at [14]).

Section 222AOC provided for a penalty to be imposed on "each person who was a director of the company at any time during the period beginning on the first deduction day and ending on the due date". According to the judge, it was "an essential condition of a director's liability that he or she should be in office for at least some of the period before the due date when the company became liable to make a payment of group tax to the commissioner" (at [25]), and the appellant would not avoid liability to pay the penalty by having later resigned from office.

Handley JA rejected the appellant's defence under s 222AOJ(3) of the Act that he had taken all reasonable steps to ensure the directors had complied with s 222AOB(1) or there were no steps that could have been taken, respectively the defence under paras (a) and (b) (at [31]). Section 222AOB(1) provided:

"The persons who are directors of the company from time to time on or after the first deduction day must cause the company to do at least one of the following on or before the due date:

(a) comply with its obligations in relation to deductions (if any) and amounts withheld (if any) whose due date is the same as the due date;

(b) make an agreement with the Commissioner under section 222ALA in relation to the company's liability under a remittance provision in respect of such deductions (if any) and amounts withheld (if any);

(c) appoint an administrator of the company under section 436A of the Corporations Act 2001;

(d) begin to be wound up within the meaning of that Act."

Handley JA found the defence under paras (a) and (b) to be cumulative and not mutually exclusive (at [38]). In his view, the defendant may establish the defence under para (b) in relation to any or all of the four possible events the judge also discussed what steps should be taken if different circumstances arose in relation to each of paragraphs. He added these comments:

"Reasonable steps taken in pursuit of one option fail, non-compliance and the obligation of the ... former director will continue ... [and the] former director will therefore have to take reasonable steps to achieve compliance in another way (at [41]). By contrast, the defence would fail where an option was reasonably chosen but there was a failure to take all reasonable steps to bring the selected event about, or in circumstances where the option was unreasonably chosen. (at [40]). In circumstances where non-compliance continued for a prolonged period, each of the possible events would eventually have to be addressed and the sub-s (3) defences would have to cover all the possible events" (at [41]).

According to Handley JA, the duty of achieving compliance with s 222AOB(1) was imposed on the appellant, a director in office, on the due dates of payment (at [43]) and both the obligation and breach continued until the expiration of the notices (at [44]).

The natural meaning of s 222AOJ(3) was that the combined defences needed to cover the whole of that period (at [45]) and, in the judge's view, proof that no reasonable steps could be taken at various times during that period would not establish that no such steps could have been taken at other times. Similarly, proof that all reasonable steps were taken at various times would not establish that all reasonable steps were taken (at [46]).

In the present case, the appellant argued in defence that he had arranged with another director for the sale of company property who would pay the arrears of group tax deductions and current payments out of the net proceeds of sale or the company's cash flow (at [51]).

From that point onwards, the appellant "regularly sought and obtained verbal assurances [from the other director] that the arrears and current obligations were being paid" (at [51]).

The judge held the defence failed in light of the appellant's knowledge of the company's financial difficulties, arrears and past defaults (at [58]). The appellant failed to establish all reasonable steps were taken to ensure compliance by simply delegating performance to the other director and accepting the other director's verbal assurances that "all was well" (at [60]).

The other judges reached similar views. The harsh reality of the decision is that a very significant regime had been imposed on directors. The need for clarification in this area (hopefully as a result of consideration of the two CAMAC papers referred to in last month's Law Reporter) will provide some more equitable regime for directors in many similar circumstances.


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