Prescription begins to run once there is a reasonable suspicion of negligence by the auditors
In the matter of WK Construction (Pty) Limited v Moores Rowland and Others, WK claimed damages against its auditors. WK Construction’s cause of action was based on a breach of contract.
Between 2007 to 2013, WK Construction suffered a loss of approximately ZAR80-million as a result of one of its erstwhile directors effecting fraudulent transactions. WK Construction recovered a portion of its loss (ZAR26-million) from the erstwhile director and sought to recover the remaining ZAR54-million from its auditors, Mazars.
WK Construction issued summons in August 2016. Mazars raised a special plea of prescription. The special plea was upheld by the High Court, which held that WK Construction’s claim became unenforceable as it was not instituted within three years of the debt becoming due.
Section 12(1) of the Prescription Act, 1969 provides that: “A debt shall not be deemed to be due until the creditor has knowledge of the identity of the debtor and of the facts from which the debt arises: Provided that a creditor shall be deemed to have such knowledge if he could have acquired it by exercising reasonable care.”
The issue before the Supreme Court of Appeal (“SCA”) was when the alleged debt was deemed to have become due. To determine this issue, the SCA was required to make a finding on when WK Construction had the relevant knowledge or could have acquired the relevant knowledge by exercising reasonable care. The SCA also considered what comprised relevant knowledge.
The facts in this case were as follows:
- In February 2013, WK Construction’s financial manager picked up irregular payments made through the general ledger without any corresponding journal entries;
- From February 2013 to April 2013, the financial manager reported the irregularities to the erstwhile director and WK Construction’s Chief Executive Officer. Pursuant to this, reconciliations were prepared and investigations were conducted;
- During August 2013, WK Construction, through its investigations, identified additional fraudulent transactions;
- On 22 August 2013, the erstwhile director’s user certificate for WK Construction’s Nedbank accounts was revoked and a letter was sent to conveyancers who transferred properties into his name; and
- On 24 August 2013, a meeting with representatives of WK Construction and the erstwhile director was scheduled regarding the transactions.
WK Construction contended that by August 2013, it did not have knowledge of the requisite facts giving rise to liability on the part of Mazars. WK Construction argued that Mazars had to prove that the erstwhile director was unable to satisfy the claim for repayment before WK Construction had the requisite knowledge.
The SCA held that prescription begins to run once the debtor has a reasonable suspicion of possible negligence on the part of the auditor.
The SCA commented that:
- An auditor is a scrutineer with a critically enquiring mind who maintains independence at all times and carries out duties with a reasonably high degree of skill and diligence in light of modern conditions and standards;
- In order to succeed with a claim against an auditor, evidence showing that the auditor had been careless in the execution of any aspect of the mandate, measured against the general standards prevailing in the profession at the time would be necessary; and
- For the purposes of prescription, prescription begins to run when auditors are suspected of liability and not when there is evidence supporting this suspicion.
The SCA held that it was clear to WK Construction by 22 August 2013 that the erstwhile director had defrauded it of a large sum of money. The court emphasised that the running of prescription is not postponed until the creditor becomes aware of the full extent of its rights. WK Construction acted on its suspicion in August 2013 by contacting an accounting firm to give expert advice. The SCA was therefore satisfied that the claim had prescribed and Mazars could not be held liable. WK Construction’s appeal was dismissed with costs.
The auditing industry will be encouraged by this judgment. It will mean that their clients cannot pursue claims against them many years after an audit and when working papers are no longer available.
Dispute Resolution | Executive
Dispute Resolution | Senior Associate