One-Man Company Engaging In Fraud Cannot Sue Its Own Auditors

Moore Stephens (a firm) v Stone & Rolls Ltd (in liquidation) [2009] UKHL 39 The House of Lords, in its final week of sitting before the Supreme Court starts work in October, handed down a welcome judgment for auditors by dismissing an appeal brought by the liquidators of a company (Stone & Rolls Ltd) against the company's former auditors (Moore Stephens) for contractual and tortious negligence. Their Lordships ruled (by a 3-2 majority) that the courts will not assist a one-man company to recover losses which have been brought about by its own fraud.

The sole director and shareholder of Stone & Rolls Ltd ç'S&R'), a Mr Zvonko Stojevic, had used his company to defraud banks of tens of millions of dollars, following which a European bank sued and was awarded substantial damages. Unable to pay, the company was placed into liquidation. In bringing the claim on behalf of its creditors (for losses of $174 million), the liquidators argued that Mr Stojevic's actions were distinct from those of the company, that S&R was itself a victim of the fraud, and that it should not be prevented from bringing a claim for breach of duty (in contract and tort) against the auditors, who had failed to spot the fraud.

The majority in the House of Lords noted that while fraud may be an example of the 'very thing' auditors are engaged to detect, this does not supersede the principle that a company cannot bring a claim that relies on its own illegal conduct (applying the principle of ex turpi causa non oritur actio — often summarised as 'no court will lend its aid to a man whose cause of action is founded upon an illegal or immoral act'). Following Caparo Industries plc v Dickman [1990] 2 AC 603, it was clear that auditors owed a duty to a company's shareholders and not to its creditors (or liquidators). In this case, as the auditors' duty was owed to Mr Stojevic, and therefore the only person to whom the duty was owed was party to the illegal conduct, the company was not entitled to rely on the fraud to claim a breach of duty. Accordingly, ex turpi causa was a complete defence for the auditors and the liquidators' claim was struck out.

Dissenting, Lord Scott and Lord Mance found that ex turpi causa should not be a defence, and that the...