UK: Accountants’ Exposures – A Snapshot From Clyde & Co

Last Updated: 8 August 2014
Article by James Roberts

Welcome to the new look Clyde & Co accountants' newsletter. In this and forthcoming editions, we will look at a range of issues affecting accounting firms, with a core focus on liability and regulatory exposures. We will also consider the wider context in which firms wrestle with exposure risks (for example, the interface with employment, and the growing threat to professional services firms both in the UK and overseas from cyber liability and data breach) as well as the knock-on effects of developments affecting audit/accountancy clients.

In this first edition, in addition to introducing two key liability themes, to which we will return in future editions, we offer a practical guide for accountancy firms to the shared parental leave legislation coming into force next year, accompanied by a digest of some recent cases of the last 12 months in the core areas of liability, regulation and tax.

Changing business models

Turning to the present, at an individual firm level, in the UK we have finally begun to see the take-off of "Alternative Business Structures" (ABSs), particularly the new facility for "multidisciplinary practices", which provide opportunities for developing new business models. As ever, alongside such opportunities come challenges. For example, a significant feature of the Mehjoo case (upon which we comment later), is that the defendant accountants were "general" practitioners, and were therefore not to be held to the standards of specialist advisers on complex tax issues. Compare this to the 2007 decision in the Earl of Malmesbury v Strutt & Parker, where a general practice surveyor within a major national firm was held to the standard of the firm's specialisms taken as a whole, on the basis that recourse to a specialist department was reasonable and appropriate. The distinguishing feature would appear to be the presence, in Malmesbury, of specialist expertise elsewhere in the firm. How might that play out in an era of multidisciplinary practices, where the appropriate recourse might now not simply be to a specialist in your own profession, but potentially also to other allied professional fields? The Prudential decision also begins to look even more archaic (and policy driven) when one may start increasingly to see accountants and lawyers working even more closely together under the same roof.

Regulation, regulation, regulation

The professional regulators do not seem to have focused on the practicality of working together to supervise firms with the result that ABSs will now be facing, at least in the short term, overlapping regulators. Notwithstanding the push in favour of regulator co-operation, regulators can be jealous of their own patch, and one does not have to be too sceptical to anticipate that boundary disputes may arise.

Adopting a broader perspective, these are also naturally themes that play out across geographical boundaries, given the expanding global footprint of professional services. High-profile examples provide the clearest demonstration that, in the interests of facilitating crossborder enforcement, regulators from different jurisdictions are now ushering in an era of unprecedented co-operation. There are numerous examples of UK professionals on the receiving end of "long arm" US jurisdictional enforcement, fully aided and abetted by UK authorities. In 2013, for example, the FCA received more than 1000 requests for international assistance. Indeed, cases such as Innospec (2010) show that the UK's prosecuting authorities see positive advantage in joining up with their US counterparts, albeit that our court system did not at that time facilitate a joined up global prosecution settlement in both jurisdictions. This is likely to be remedied by the introduction (in February 2014) in the UK of Deferred Prosecution Agreements. The UK's published guidance gives some cause for confidence that we will manage to pull off the benefits of DPAs for defendants, without some of the abuses frequently seen in the US (including against large professional service firms).

Whilst co-operation may currently be in favour, there are also still significant areas of conflict between regulators, and accountants and other professional service firms can get caught in the middle. The SEC tussle with its PRC equivalent over access to documents held by the largest accounting firms which might, if disclosed, cause the firms to be in breach of Chinese "state secrecy" laws is just one example. That long running tension has been mirrored for a large accountancy firm based in Hong Kong, resulting in a May 2014 Hong Kong court decision ordering disclosure, notwithstanding the concerns about Chinese secrecy laws. Whilst this conclusion was based on a decision that, there was no evidence that disclosure of the relevant documents to the Hong Kong regulator would breach the PRC's nondisclosure rules, there remains the very real risk for the firm that the PRC regulator may take a different view.

Closer to home, we are also reminded that such "secrecy" laws preventing disclosure are not solely the product of a muscular emergent economy with a different political and economic tradition. In 2013, the UK's Court of Appeal had to grapple, in the Servier Laboratories case, with the so-called French "blocking statute", which has been in place since 1968 and contains a very broad prohibition on disclosure of documents, outside France, for the purposes of evidence in foreign proceedings. The English court held that this was no bar to the making of an ordinary order for disclosure in English proceedings, even if compliance with that order would involve the party acting illegally under French law. The Court of Appeal took comfort that, on the facts, the evidence suggested that the French authorities were very unlikely actually to take action against the party for breach of the "blocking statute". How much comfort, however, would that be for the party itself?

The nature of regulatory attention is also becoming ever more intense in its focus. The role professionals, particularly accountants, play in the financial affairs of their clients, and the potential exposure to fraud or to the funding of terrorist or other criminal activity, means that they will always be a significant focal point for regulators. We are currently seeing a shift from enforcement activity based on adverse outcomes (actual money-laundering, actual bribes etc) to a focus on the adequacy and effectiveness of internal processes and compliance policies, and scrutiny of whether firms are "living the process". In the past 18 months significant fines have been imposed on banks for failures to comply with AML rules, and on an international broker for its "unacceptable" approach to bribery in overseas markets. In none of the cases was there any evidence of actual money laundering or bribery - the regulators' concern was solely that there was a risk of breach.

The focus across many regulators is now on individual personal responsibility, rather than just entity liability – and where there is an entity risk, the focus across many regulators is on enhancing the scale of financial penalties which can be levied. The MG Rover case is an example of the manifestation of this trend within the accountancy profession.

Looking forward

What do we see ahead? We predict that the rise of the regulators will continue to be a marked feature, as well as cross-border issues. The largest firms have long demonstrated exceptional ability to develop finely honed risk management practices to respond to these challenges, and we have no doubt that will continue. Whilst firms have long moved away from reliance on insurance as an antidote to liability exposures (given the broader ramifications that insurance cannot remedy), there is nevertheless no doubt that traditional insurance solutions can be reinvented in order to better serve the needs of accounting firms and professional service firms of all kinds, and this is another theme that we will explore in future editions of this newsletter.

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James Roberts
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