Practice and Procedure

BARINGS PLC (In liquidation) & ANOR v COOPERS & LYBRAND (A firm) & ORS : BARINGS FUTURES (SINGAPORE) PTE LTD (In liquidation) v MATTAR & 36 ORS (2003)

PUBLISHED June 17, 2003

Deloitte & Touche (Singapore) were negligent in their 1992 and 1993 audit of the accounts of Barings Futures (Singapore) Ltd but they were not liable for losses incurred after April 1994 when their negligence ceased to be an operative cause of the company's losses. The damages awarded were also to be reduced for contributory negligence and under the Singaporean equivalent of s.727 Companies Act 1985.Action by Barings Futures (Singapore) Ltd ('BFS') against its auditors Deloitte & Touche (Singapore) ('D&T') for damages for negligence. BFS was part of the Barings group which collapsed in 1995 as a result of unauthorised trading conducted on the Singapore International Monetary Exchange ('SIMEX') by the general manager of BFS ('L'). BFS was an indirect subsidiary of Barings' securities trading company ('BSL'). L's trading incurred losses amount to ?791 million. BFS claimed that D&T's audits of its 1992 and 1993 statutory accounts were negligent because they should have uncovered L's unauthorised trading. No claim was made regarding losses occurring after the end of 1994. In 1992 BFS only executed orders on behalf of other companies in the Barings group and their clients. In 1993, L began proprietary trading on behalf of BFS and was in charge of both trading and settlement at BFS. L conducted his unauthorised trading through a BFS account numbered 88888. L used the 88888 account: (i) to book unauthorised trades, which he carried out as a speculation and/or to conceal his losses; (ii) to conceal the fact that he had not matched all positions at the end of each trading day by transferring unmatched positions into the 88888 account; and (iii) to adjust the price of legitimate trades so as to make them appear more profitable than they were at the cost of the 88888 account. In order to conceal his unauthorised trading on the 88888 account, which was consistently loss-making, L needed to bring the balance on the account to nil over any relevant reporting date. L arranged for reports of trading activity using the 88888 account to be omitted from BFS's reporting to Barings in London. At the end of September 1992 L concealed the deficit on account 88888 by arranging for BSL to send him a payment which was received in BFS's bank account on 1 October but credited by L to the 88888 account in BFS's books as received on 30 September. L used the same technique to eliminate the balance on the 88888 account at the end of December 1992. In most months from February 1993 onwards L caused false accounting entries to be made in BFS's books at the month end to cancel out any balance on the 88888 account. The entries were reversed on the following day. L also used the sale of options to conceal losses at some month and years end including December 1993. Premiums on options sales would be credited to the 88888 account so as to reduce or cancel the accumulated losses. At the end of December 1994 L used a false option trade to conceal the deficit on the 88888 account. BFS was required by SIMEX to obtain significantly more margin from its customers than it was required to deposit with SIMEX and L financed his unauthorised trading using the excess customer margins. By early 1994 L needed more funding to cover the losses on his unauthorised trading. He began to ask for and receive from BSL funding in US dollars which was not linked to individual customers ('the dollar funding'). D&T's 1992 and 1993 audits of BFS were substantive audits involving direct verification of balances and of the transactions and documents underlying them. BFS claimed that the 1992 and 1993 audits were negligently carried out by D&T. D&T counterclaimed alleging that L had made fraudulent misrepresentations for which BFS was vicariously liable and that the representation letters given by BFS to D&T in respect of the 1992 and 1993 audits were negligently signed. D&T also relied on contributory negligence and sought to be relieved of liability under the Singaporean equivalent of s.727 Companies Act 1985.HELD: (1) In 1992 and 1993 there was an inherent risk that an employee of BFS might have engaged in unauthorised trading. But that risk was no higher than was present in any futures broker. L's position in charge of both front and back offices was usual for small brokers in Singapore and only increased the risk to a minimal extent. D&T did not fail to perceive there to be a substantial risk of unauthorised trading and its concealment. (2) D&T was not negligent in failing to carry out a test for open positions in 1992 or 1993. D&T was entitled to assume that an account with a zero balance would not have open positions. Therefore having verified and reconciled the balances owed to customers and owed to or by SIMEX, D&T was reasonably entitled to assume that financial statements were complete. The procedure followed by D&T would have detected any form of unauthorised trading except where it was concealed by fraudulently manipulating the balances to zero. The audit procedures that D&T followed gave them reasonable assurance that there had been no mis-statement due to unrecorded or unauthorised trading and D&T was not obliged to devise further procedures specifically directed to that risk. There was no reason for them to require confirmation of the balance on account 88888. (3) D&T should not have accepted an accounting treatment of the 1 October 1992 payment as having been received on 30 September. Acceptance of the explanation given without further investigation was negligent. That negligence was a cause of the subsequent losses because if D&T had not been negligent, the 88888 account and L's unauthorised trading would have been revealed. (4) D&T negligently failed to investigate the fact that in 1993 BFS's balance sheet showed total margin held of behalf of customers to be less than the amount receivable from SIMEX when the position should have been the other way round. The imbalance represented margin on positions at SIMEX not held on behalf of customers and indicated that BFS was trading for its own account. D&T would have discovered the large number of positions booked to BFS but not confirmed by clients. (5) BFS was vicariously liable for the fraudulent representations made by L. The representations induced D&T to sign the audit certificate, but the cause of D&T's exposure to suit was not their signature of the audit certificate but its negligent failure to detect the falsity of those representations (Reeves v Commissioner of Police for the Metropolis (2000) 1 AC 360 applied). The representations were part of the concealment of the fraud and were not an effective cause of D&T's loss because it should have detected both the fraud and the representations intended to conceal it. It could not escape liability by showing that they were not negligent in believing a single false representation. Therefore the counterclaim based on L's misrepresentations failed. (6) The counterclaim based on negligent signature of the representation letters was not a complete defence to BFS's claim. Damages under the counterclaim fell to be apportioned in accordance with comparative fault. (7) D&T was in breach of the duty of care they owed to BFS in contract and tort. They negligently certified BFS's accounts as giving a true and fair view of BFS's affairs in those periods of account. They failed to alert BFS and BSL to L's unauthorised trading. (8) The court rejected D&T's contention that the losses incurred as a result of the continuation of BFS's trading after the commencement of the dollar funding were not recoverable from them by BFS because they were beyond the scope of D&T's duty to BFS. It was conceded that loss caused by unauthorised trading was foreseeable and such loss did not cease to be foreseeable merely because the trading was funded from an unforeseeable source. (9) Barings' management failings were such that by the end of April 1994 D&T's negligence ceased to be an operative cause of BFS's losses. By that time BSL was itself enabling L to continue his fraud by providin
g the dollar funding. The dollar funding continued for such a time that BSL should have investigated it. Apart from the dollar funding, BSL management should by then have investigated L's trading and detected his fraud. It was open to D&T to elect the date by reference to which damages were to be assessed so long as it was after the date on which their negligence ceased to be an operative cause of BFS's loss. D&T's liability fell to be calculated by reference to the loss on the 88888 account as at 2 May 1994 which was the date on which the losses were lowest. (10) There was substantial contributory fault on the part of BFS. BFS was responsible for fault in the management of BFS's business, even where the individuals concerned were employed by other companies in the Barings group. (11) Reeves (supra) did not support a principle, such as BFS proposed, that would limit the deduction for contributory negligence in respect of all management fault, whether or not the auditors should have detected it. BFS could only rely on that principle to the extent that its failure to supervise its business and guard against fraud was excused by its reliance on D&T's audits. (12) L's fault was to be attributed to BFS for the purposes of apportionment under the Law Reform (Contributory Negligence) Act 1945. (13) The managing director of BFS did not fulfil his responsibilities. If he had, L's fraud would have been prevented or detected. BFS was at fault in failing to supervise L's running of the BFS settlements department. Reasonable diligence by the part-time finance director and head of operations at BFS would have prevented or detected L's fraud. There was a failure by BFS to train and supervise back-office staff. BFS failed to supervise L's trading. (14) The reduction in damages recoverable by virtue of BFS's contributory fault should be 50 per cent from November 1992 to mid-August 1993, 60 per cent from mid-August 1993 to end December 1993, and 80 per cent from end December 1993 to end April 1994. (15) D&T's contribution claim against Barings companies failed. (16) BFS would have continued in existence if L's fraud had been discovered and 50 per cent of its revenue from non-switching activities between November 1992 and March 1994 fell to be deducted from BFS's damages. BFS did not benefit from the apparent profits of L's switching business paid to other Barings companies and it was not required to give credit for those profits. BFS was not obliged to give credit for recoveries made by other Barings companies in proceedings against other auditors. (17) D&T acted reasonably for the purposes of the Singaporean equivalent of s.727 of the 1985 Act. The negligence found proved was limited in extent and technical in nature. Under s.727 D&T should be relieved from liability to BFS for the profits received by other Barings companies arising from L's switching business. Also under s.727 D&T should be allowed to elect the date by reference to which damages were to be assessed after the date on which their negligence ceased to be an operative cause of BFS's loss.Judgment accordingly.

[2003] EWHC 1319 (Ch)