Smith v Gould  VSC 461
In this issue of Expert Matters, Kellie Badge, Associate Director of KordaMentha's Melbourne Forensic practice, considers the judgement in a case where there was only one accounting expert engaged. The trial judge found that the expert was in breach of the Expert Code of Conduct by solely relying on inadequate instructions and assumptions provided by the lawyers. This resulted in the expert providing an opinion that was irrelevant to the true issue in question – the value of the interest of Mr Smith and Mr Gould ('the Parties') in the assets in dispute – leaving the Judge to undertake the assessment himself.
Background to the case
The case concerns the failed domestic relationship between Mr Geoffrey Smith and Mr Robert Gould and the allocation of property including domestic real estate, investment real estate and a significant collection of modern Australian artwork accumulated over a fourteen year period.1
The dispute centred on the allegation that 54 artworks sourced from Mr Smith, Mr Gould and Gould Galleries ('the Gould-Smith Collection') comprised a jointly-owned private collection and should be included in the pool of assets to be divided between the Parties. In addition, the property dispute involved Mr Gould's share in Dukville Pty Ltd ('Dukville') and its associated entities, E&R Gould Unit Trust ('Gould Trust') and Edrob Nominees Pty Ltd which operates Gould Galleries ('the Business'). Gould Galleries trades in Melbourne (and previously Sydney), focussing on the contemporary and secondary art markets for Australian Art.
In 1996 Mr Gould purchased his Mother's 50% interest in Gould Galleries, bring his holding to a 100% interest at the date of separation (June 2004). Mr Gould's interests in relevant entities are depicted in the diagram below:
The steps taken by the Court
Dixon J set out the three steps which he considered were necessary when dealing with the division of property in this type of matter:
- Identification and valuation of the property of the Parties (the 'divisible property');
- Evaluating and balancing the Parties' respective contributions, resulting in the percentage apportionment between the Parties at the date of the hearing; and
- Determination of the orders required to sufficiently recognise and compensate the plaintiff for his contributions.
At Step 1 the Court's role was to rule on the interests of the domestic parties in the property or financial resources of one or both of them.
In this respect, the Court found that the units in the Gould Trust did not form part of the divisible pool of assets. However, in considering the financial resources available to Mr Gould, the value of Mr Gould's shares in Dukville (and consequently Gould Galleries via the Gould Trust) represented the whole of the relevant financial resources available to Mr Gould which primarily consisted of art work held as inventory by Gould Galleries.
The expert evidence
Mr X was initially engaged by Mr Smith's lawyers to provide limited expert evidence about the accuracy and reliability of financial reports of the Gould entities. Just prior to the trial commencing, Mr X was asked to provide an expert opinion about the increased value of the Business between 1991 and 2004 ('the first period'), and between 1996 and 2004 ('the second period'). Mr X was asked to assume, for the purposes of these valuations, that the net business assets comprised the value of the art works held as inventory (i.e. a valuation using an 'asset based' approach). Mr X commented that the value of inventory was between 66% and 80% of the total value of business assets. Mr X valued the Business based on its net business assets as "the instructions did not enable a suitable figure for maintainable earnings to be established". On that basis alone, Mr X opined that the asset based approach was the appropriate valuation approach to adopt.
In respect of the increased value of the Business in the first and second periods, Mr X concluded that the value increased in both periods, assuming assets and liabilities were accurately stated in the financial statements. However, he said he was unable to conclude whether either Mr Gould's or the Gould Galleries' income and expenses had been fully and accurately disclosed. Only on cross-examination, and notwithstanding that he based his opinion on these financial statements, did he draw attention to the significant discrepancies apparent to him upon examining the financial records concerning inventory.
Much later in the trial amended financial statements for the year ending 30 June 2006 were provided to Mr X for comment, and he was highly critical of the unrealistic value of closing inventory. It was found that the accountants for Mr Gould had identified the following issues in relation to the value of inventory:
- The value of inventory in FY02 to FY06 was understated in the financial statements and tax returns and Mr Gould's accountants recorded all financial adjustments for the five years in the FY06 financial statements and tax return, as opposed to preparing amended financial statements and lodging amended tax returns of each financial year;
- The understatement of inventory in FY02 to FY06 and subsequent adjustment to the FY06 financial accounts and tax return resulted in a significant tax liability in FY06, which skewed the financial results; and
- Inventory was recorded on the balance sheet at cost, which was understated when the current market value of any particular painting to a willing seller is based on the current market value, influenced by the popularity of particular artists or styles of artwork.
Such significant issues meant Mr X was unable to express any meaningful opinion in relation to the increased value of the Business.
The Judge's criticisms and rulings
The Judge was scathing of the Parties and Mr X. He found that:
- Mr X breached the Expert Witness Code of Conduct ('the Code') by relying on assumptions set by the lawyers without establishing an opinion based on his own expert knowledge and the circumstances of the case.
- Mr Smith's advisors failed to direct Mr X to the proper questions to be considered, and he was unable to express any meaningful opinion addressing the issues that the Court had to determine.
- Mr X, by virtue of his expertise, should have sought proper instructions to establish a suitable maintainable earnings figure.
- The proceedings were not subject to close judicial case management. This revealed how limited the modern view taken by litigation solicitors was of their obligations to the Court. Had the parties sought to conduct the dispute 'sensibly', an appropriate expert would have been appointed by the Court for the purposes of valuing the Business.
- After time-consuming and expensive interlocutory disputes, the Court was left with unsatisfactory and unprincipled evidence from which to make a finding about the value of the Gould Galleries at the relevant date and about the nature of Mr Smith's contribution to the relationship.
In the absence of appropriate expert evidence, the Judge was forced to carry out the valuation of the Business. In doing so, he relied on the limited evidence put before him, including the Gould Galleries' financial statements (even though he did not accept that they reflected a true and fair view of the financial position at relevant balance dates). He rejected the net assets valuation approach and ruled that a capitalisation of future earnings approach was most appropriate. He ordered that a review of the change in gross profit margin of the business after the Parties commenced their relationship should be completed, as the components of the margin calculations would show the effects of Mr Smith's contributions to the Gallery due to his expertise.
Similar breaches of the Code have been seen in the matter of Orrong Strategies v Village Roadshow2. The accounting expert in that case was instructed by his client to adopt parameters that produced two widely different results, which he did without providing an opinion as to whether the assumptions were reasonable, even though he considered they produced 'commercially nonsensical' results. In Orrong Strategies v Village Roadshow the Judge held that the expert was in breach of the Code because he withheld significant information from the Court that the expert regarded as relevant. Whereas in Smith v Gould the Judge held that the expert breached the Code because he provided an opinion that was not based on his own expert knowledge and the circumstances of the Case. In both of these cases, the Experts did not question the assumptions provided by the client or provide an opinion as to whether they were reasonable.
In this case, the criticisms from the Judge highlight three very important factors that experts should always keep in the forefront of their minds:
- Their overriding duty is to the Court to assist with analysing the matters and issues of the case that fall within their expertise and present their opinions, either written or oral, in simple language that a non-expert can understand. They are to conduct themselves within the rules of the Code and not simply pay 'lip service' to them.
- When presented with an assumption, they should consider its reasonableness in light of their expert knowledge and provide their opinion, supported by appropriate relevant evidence, before the Court.
- They should assist the client in focussing on the most relevant areas of opinion evidence required by the Court. This will have a two-fold effect of the client gaining value for money in relation to the costs of expert evidence and ensuring relevant evidence is placed before the Court for the judge to make an informed judgement.
Ultimately an expert's reputation is gauged by the robustness of their oral and written opinions, compliance with the Code and ability to assist the Court with complex matters. Their reputation can quickly be tainted when a Judge's unfavourable ruling is published in publically available rulings and case transcripts.
1This matter was heard by the Supreme Court of Victoria under the Property Law Act. For relationships that ceased from 1 March 2009 (or 1 July 2010 in South Australia) matters of de facto property settlement are now heard by the Family Law Court and the Federal Magistrates Court, with the exception of those domiciled in Western Australia.
2Orrong Strategies Pty Ltd v Village Roadshow Ltd  VSC 1 (25 January 2007).
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