Manchester Building Society v Grant Thornton UK LLP

The Supreme Court considered the scope of duty in professional negligence, applying and explaining the approach in South Australia Asset Management Corpn v York Montague Ltd (SAAMCO) to auditor negligence. The court held that the scope of a professional adviser’s duty is governed by the purpose of the duty, judged objectively by reference to the purpose for which the advice is given, and that counterfactual analysis of the SAAMCO type is a useful cross-check but subordinate to that purposive inquiry. Applying these principles to an auditor who negligently advised that hedge accounting under IAS 39 was permissible, the court held that the loss arising from entering into and subsequently closing long-term swaps was within the scope of the auditors’ duty because the auditors had misrepresented that there was an effective hedging relationship and thus had caused the society to adopt a business model which exposed it to that risk. The society’s damages were reduced for contributory negligence (50%).

The appellant, Manchester Building Society, sued its auditors, Grant Thornton UK LLP, for losses arising from the society’s long-term interest rate swap strategy. Grant Thornton had advised in 2006 and in subsequent audits that the society could apply hedge accounting under IAS 39 to long-term swaps matched to lifetime mortgages. The accounts prepared on that basis concealed volatility in regulatory capital. After the 2008 crisis, the swaps acquired a large negative mark-to-market value and, when Grant Thornton later accepted that hedge accounting could not in fact be applied, the society closed out the swaps in 2013 at a cost of about £32.7m.

(i) Nature of the claim: The claim sought damages for the loss of closing out the swaps (net of gains on the mortgage books), alleging negligent audit and accounting advice. Grant Thornton admitted negligence in advising that hedge accounting could be applied but contended that the claimed losses were not within the scope of their duty or were not caused by their negligence.

(ii) Issues framed: The court framed the issues as (a) what is the proper conceptual location and test for the scope of duty in negligence, (b) whether the scope of duty for professionals should be determined by the purpose of the duty or primarily by a counterfactual/causation test as in SAAMCO, and (c) whether, applying that test to the facts (including the judge’s findings about what the society would have done but for the negligent advice), the losses from the swap strategy fell within the auditors’ scope of duty.

(iii) Reasoning and subsidiary findings: The Supreme Court held that the scope of a professional adviser’s duty is to be determined by the purpose for which the advice is given, assessed objectively. The SAAMCO counterfactual should be treated as a subordinate tool to cross-check the purposive analysis rather than as the determinative test. The court emphasised that one must identify the particular facts or matters which made the advice incorrect and ask whether the loss flowed from those matters. Applying that approach to the facts found by the trial judge (and accepted on appeal), the auditors had negligently misrepresented that hedge accounting could be used and that there was an effective hedging relationship between the swaps and mortgages, a matter which was causally central to the society’s loss. The Supreme Court therefore allowed the appeal and held the loss (after credit for mortgage gains) to be within the scope of the auditors’ duty. The court upheld the judge’s finding of 50% contributory negligence against the society and confirmed that the additional damages to be recovered are approximately £13.4m after that reduction.

Appeal allowed. The Supreme Court held that the scope of a professional adviser’s duty is governed by the purpose for which the advice is given and that SAAMCO-style counterfactual reasoning is a subordinate cross-check rather than the primary test. On the facts, Grant Thornton’s negligent advice that hedge accounting could be applied and its misrepresentation that there was an effective hedging relationship caused the society to adopt the swap strategy and therefore exposed it to the loss of closing out the swaps; those losses fell within the auditors’ scope of duty. Damages are reduced by 50% for contributory negligence.

First instance: Commercial Court, Teare J, [2018] EWHC 963 (Comm); Court of Appeal: appeal dismissed, [2019] EWCA Civ 40; appealed to the Supreme Court: [2021] UKSC 20 (this judgment).