The critical issue common to these two appeals is whether an accountant may be held liable, absent privity of contract, to a party who relies to his detriment upon a negligently prepared financial report and, if so, within what limits does that liability extend.
In Credit Alliance Corp. v Andersen & Co. ("Credit Alliance"), plaintiffs are major financial service companies engaged primarily in financing the purchase of capital equipment through installment sales or leasing agreements. Defendant, Arthur Andersen & Co. ("Andersen"), is a national accounting firm. Plaintiffs' complaint and affidavit
It is alleged that both statements overstated Smith's assets, net worth and general financial health, and that Andersen failed to conduct investigations in accordance with proper auditing standards, thereby failing to discover Smith's precarious financial condition and the serious possibility that Smith would be unable to survive as a going concern. Indeed, in 1980, Smith filed a petition for bankruptcy. By that time, Smith had already defaulted on several millions of dollars of obligations to plaintiffs.
In August 1981, plaintiffs commenced this suit for damages lost on its outstanding loans to Smith, claiming both negligence and fraud by Andersen in the preparation of its audit reports. The complaint alleges that Andersen knew, should have known or was on notice that the 1977 and 1979 certified statements were being utilized by Smith to induce companies such as plaintiffs to make credit available to Smith. The complaint further states that Andersen knew, should have known or was on notice that the certified statements were being shown to plaintiffs for such a purpose.
On Andersen's motion to dismiss the complaint, Special Term initially held the negligence cause of action to be barred by the Statute of Limitations, but denied the motion with regard to the claim for fraud. On reargument, the court reversed its dismissal
The Appellate Division granted Andersen's motion for leave to appeal to this court and certified the following question: "Was the order of the Supreme Court, as affirmed by this Court, properly made?" Because the allegations in plaintiffs' complaint and affidavit fail to set forth either a relationship of contractual privity with Andersen or a relationship sufficiently intimate to be equated with privity, the first cause of action should be dismissed. Further, inasmuch as plaintiffs' second cause of action, sounding in fraud, comprises mere conclusory allegations, it also should be dismissed. Accordingly, in Credit Alliance, we now reverse and answer the certified question in the negative.
In European Am. Bank & Trust Co. v Strauhs & Kaye ("European American"), the complaint, together with the affidavit in opposition to the motion to dismiss, alleges that plaintiff, European American Bank and Trust Company ("EAB"), made substantial loans to Majestic Electro Industries and certain of its subsidiaries (collectively, "Majestic Electro") in March 1979 pursuant to their written agreements. Several months later, EAB partially financed Majestic Electro's acquisition of Brite Lite Lamps Corp. by again advancing substantial funds.
Beginning in 1979, and continuing thereafter at all relevant times, Majestic Electro retained defendant Strauhs & Kaye ("S & K"), an accounting partnership rendering services in this State, to audit its financial records in accordance with GAAS and to report its findings in conformity with GAAP. During the course of its lending relationship with Majestic Electro, EAB relied upon the interim and year-end financial reports prepared by S & K to determine the maximum amounts it was willing to lend. From 1979 through 1982, S & K allegedly, inter alia, overstated Majestic Electro's inventory and accounts receivable, and failed to disclose the inadequacy of Majestic Electro's internal recordkeeping and inventory control.
EAB commenced this action in May 1983, seeking damages for those losses allegedly resulting from its reliance upon S & K's reports. EAB specifically alleges negligence in that S & K, in performing auditing and accounting services for Majestic Electro, at all relevant times knew that EAB was Majestic Electro's principal lender, was familiar with the terms of the lending relationship, and was fully aware that EAB was relying on the financial statements and inventory valuations certified by S & K. Moreover, it is alleged that representatives of EAB and S & K were in direct communication, both oral and written, during the entire course of the lending relationship between EAB and Majestic Electro, and, indeed, that representatives of EAB and S & K met together throughout this time to discuss S & K's evaluation of Majestic Electro's inventory and accounts receivable and EAB's reliance thereon.
On S & K's motion, Special Term dismissed the complaint holding that, absent a contractual relationship between the parties or an allegation of fraud, the complaint failed to state a cause of action. On appeal, the Appellate Division unanimously reversed and reinstated the complaint in its entirety. Focusing on the direct communications between the parties, the court held that contractual privity was not a prerequisite to liability inasmuch as S & K specifically knew that their reports would be relied upon by EAB for a particular purpose.
The Appellate Division granted S & K's motion for leave to appeal to this court and certified the following question: "Was the order of this Court, which reversed the order of the Supreme Court, properly made?" Because EAB's complaint and affidavit posit a direct nexus between the parties, to wit: the direct communications between them concerning EAB's intended reliance upon S & K's financial evaluation of Majestic Electro, the causes of action for negligence and for gross negligence or reckless indifference are adequately alleged. Accordingly, in European American, we now affirm and answer the certified question in the affirmative.
In the seminal case of Ultramares Corp. v Touche (255 N.Y. 170), this court, speaking through the opinion of Chief Judge Cardozo more than 50 years ago, disallowed a cause of action in negligence against a public accounting firm for inaccurately prepared financial statements which were relied upon by a plaintiff having no contractual privity with the accountants. This court distinguished its holding from Glanzer v Shepard (233 N.Y. 236), a case decided in an opinion also written by Cardozo nine years earlier. We explained that in Glanzer, an action in negligence against public weighers had been permitted, despite the absence of a contract between the parties, because the plaintiff's intended reliance, on the information directly transmitted by the weighers, created a bond so closely approaching privity that it was, in practical effect, virtually
The doctrine of privity is said to have had its source in the classic enunciation of its rationale in Winterbottom v Wright (10
By the time 90 years had passed, however, this court could note in Ultramares that the "assault upon the citadel of privity is proceeding in these days apace." (255 NY, at p 180.) We acknowledged that inroads had been made, for example, where third-party beneficiaries or dangerous instrumentalities were involved. (Id., at p 181.) Indeed, we referred to this court's holding in MacPherson v Buick Motor Co. (217 N.Y. 382) where it was decided that the manufacturer of a defective chattel — there an automobile — may be liable in negligence for the resulting injuries sustained by a user regardless of the absence of privity — a belated rejection of the doctrine of privity as applied to the facts in Winterbottom. Nevertheless, regarding an accountant's liability to unknown parties with whom he had not contracted, the considerations were deemed sufficiently dissimilar to justify different treatment.
Although accountants might be held liable in fraud to nonprivy parties who were intended to rely upon the accountants' misrepresentations, we noted that "[a] different question develops when we ask whether they owed a duty to these to make [their reports] without negligence." (Ultramares Corp. v Touche, supra, at p 179.) Disputing the wisdom of extending the duty of
In Ultramares, the accountants had prepared a certified balance sheet for their client to whom they provided 32 copies. The client, in turn, gave one to the plaintiff company. The latter, relying upon the misinformation contained in the balance sheet, made loans to the accountants' client who, only months later, was declared bankrupt. This court, refusing to extend the accountants' liability for negligence to their client's lender, with whom they had no contractual privity, noted that the accountants had prepared a report on behalf of their client to be exhibited generally to "banks, creditors, stockholders, purchasers or sellers, according to the needs of the occasion". (255 NY, at pp 173-174 [emphasis added].) In reciting the facts, we emphasized that: "Nothing was said as to the persons to whom these [copies] would be shown or the extent or number of the transactions in which they would be used. In particular there was no mention of the plaintiff, a corporation doing business chiefly as a factor, which till then had never made advances to the [accountants' client], though it had sold merchandise in small amounts. The range of the transactions in which a certificate of audit might be expected to play a part was as indefinite and wide as the possibilities of the business that was mirrored in the summary." (Id., at p 174 [emphasis added].)
The accountants' report was primarily intended as a convenient instrumentality for the client's use in developing its business. "[O]nly incidentally or collaterally" was it expected to assist those to whom the client "might exhibit it thereafter". (Id., at p 183.) Under such circumstances, permitting recovery by parties such as the plaintiff company would have been to impose a duty upon accountants "enforce[able] by any member of an indeterminate class of creditors, present and prospective, known and unknown." (Id., at p 184.)
By sharp contrast, the facts underlying Glanzer bespoke an affirmative assumption of a duty of care to a specific party, for a specific purpose, regardless of whether there was a contractual
Explaining the imposition upon the weighers of a "noncontractual" duty of care to the buyer, this court held: "We think the law imposes a duty toward buyer as well as seller in the situation here disclosed. The [buyer's] use of the certificates was not an indirect or collateral consequence of the action of the weighers. It was a consequence which, to the weighers' knowledge, was the end and aim of the transaction. [The seller] ordered, but [the buyer was] to use. The defendants held themselves out to the public as skilled and careful in their calling. They knew that the beans had been sold, and that on the faith of their certificate payment would be made. They sent a copy to the [buyer] for the very purpose of inducing action. All this they admit. In such circumstances, assumption of the task of weighing was the assumption of a duty to weigh carefully for the benefit of all whose conduct was to be governed. We do not need to state the duty in terms of contract or of privity. Growing out of a contract, it has none the less an origin not exclusively contractual. Given the contract and the relation, the duty is imposed by law (cf. MacPherson v. Buick Motor Co., 217 N.Y. 382, 390)." (233 NY, at pp 238-239 [emphasis added].)
The critical distinctions between the two cases were highlighted in Ultramares, where we explained: "In Glanzer v. Shepard * * * [the certificate of weight], which was made out in duplicate, one copy to the seller and the other to the buyer, recites that it was made by order of the former for the use of the latter * * * Here was something more than the rendition of a service in the expectation that the one who ordered the certificate would use it thereafter in the operations of his business as occasion might require. Here was a case where the transmission of the certificate to another was not merely one possibility among many, but the `end and aim of the transaction,' as certain and immediate and deliberately willed as if a husband were to order a gown to be delivered to his wife, or a telegraph company, contracting with the sender of a message, were to telegraph it wrongly to the damage of the person expected to receive it * * * The intimacy of the resulting nexus is attested by the fact that after stating the case in terms of legal duty, we went on to point
Several years subsequent to the decision in Ultramares, this court reiterated the requirement for a "contractual relationship or its equivalent" (State St. Trust Co. v Ernst, 278 N.Y. 104, 111), and more recently, in White v Guarente (43 N.Y.2d 356), such an equivalent was presented for our consideration. There, the accountants had contracted with a limited partnership to perform an audit and prepare the partnership's tax returns. The nature and purpose of the contract, to satisfy the requirement in the partnership agreement for an audit, made it clear that the accountants' services were obtained to benefit the members of the partnership who, like plaintiff, a limited partner, were necessarily dependent upon the audit to prepare their own tax returns. After outlining the principles articulated in Ultramares and Glanzer, this court observed that: "[T]his plaintiff seeks redress, not as a mere member of the public, but as one of a settled and particularized class among the members of which the report would be circulated for the specific purpose of fulfilling the limited partnership agreed upon arrangement." (43 NY2d, at p 363 [emphasis added].) Because the accountants knew that a limited partner would have to rely upon the audit and tax returns of the partnership, and inasmuch as this was within the specific contemplation of the accounting retainer, we held that, "at least on the facts here, an accountant's liability may be so imposed." (Id., at p 358.) The resulting relationship between the accountants and the limited partner was clearly one "approach[ing] that of privity, if not completely one with it." (Ultramares Corp. v Touche, supra, at p 183.)
We are aware that the courts throughout this country are divided as to the continued validity of the holding in Ultramares. Some courts continue to insist that a strict application of the privity requirement governs the law of accountants' liability except, perhaps, where special circumstances compel a different result. (See, e.g., the following cases where the courts have applied the "general" or "predominant" rule and denied recovery to nonprivy reliant parties: Shofstall v Allied Van Lines (455 F.Supp. 351 [ND Ill] [no special relationship of any kind existed between plaintiff and the accountants]); Koch Indus. v Vosko (494 F.2d 713 [10th Cir] [plaintiff was unknown to the accountant]); Stephens Indus. v Haskins & Sells (438 F.2d 357 [10th Cir] [no liability for negligence to nonprivy parties — even those the accountant knew or should have known were relying on his audit]); Canaveral Capital Corp. v Bruce (214 So.2d 505 [Fla App] [no liability to nonprivy parties absent fraud or gross negligence]). On the other hand, an increasing number of courts have adopted what they deem to be a more flexible approach than that permitted under this court's past decisions. A brief examination of some decisions of those courts is instructive.
Likewise, in Shatterproof Glass Corp. v James (466 S.W.2d 873 [Tex Civ App]), where the court held that the accountants were under a duty to exercise due care toward the third party who had loaned money to the accountants' client in reliance on the financial statements, it was noted that the accountants knew that their reports would be issued to and relied upon by a particular creditor. Moreover, the accountants had furnished information directly to the third-party creditor as authorized by their client and, indeed, they had charged their client a separate and additional amount for rendering such services. Similarly, in Coleco Indus. v Berman (423 F.Supp. 275 [ED Pa]), the nonprivy parties who relied upon the financial statements had, in fact, chosen the accountants, explained to those accountants the role they were to play in the ongoing transactions, and had direct dealings with them. The court concluded that the "lack of strict privity" should not preclude a negligence claim against the accountants. The relationship existing between the accountants and the nonprivy parties was found to be "`so close as to approach that of privity, if not completely one with it.'" (Id., at p 309.)
In Seedkem, Inc. v Safranek (466 F.Supp. 340 [DC Neb]), the court declined to apply Ultramares "rigidly" to preclude a suit in negligence by a reliant nonprivy party. There, it was observed, the accountant's own notes to the financial statements specifically identified plaintiff, recognizing it as a party in privy with the accountant's client, a principal creditor thereto, and responsible for the client's incorporation in the State. Under somewhat analogous facts, the court in Rusch Factors v Levin (284 F.Supp. 85 [DC RI]) permitted liability where the accountant had actually prepared balance sheets for the nonprivy party, with the "end and aim" of influencing that party to extend credit to the accountant's client.
In the appeals we decide today, application of the foregoing principles presents little difficulty. In Credit Alliance, the facts as alleged by plaintiffs fail to demonstrate the existence of a relationship between the parties sufficiently approaching privity. Though the complaint and supporting affidavit do allege that Andersen specifically knew, should have known or was on notice that plaintiffs were being shown the reports by Smith, Andersen's client, in order to induce their reliance thereon, nevertheless, there is no adequate allegation of either a particular purpose for the reports' preparation or the prerequisite conduct on the part of the accountants. While the allegations state that Smith sought to induce plaintiffs to extend credit, no claim is made that Andersen was being employed to prepare the reports with that particular purpose in mind. Moreover, there is no allegation that Andersen had any direct dealings with plaintiffs, had specifically agreed with Smith to prepare the report for plaintiffs' use or according to plaintiffs' requirements, or had specifically agreed with Smith to provide plaintiffs with a copy or actually did so. Indeed, there is simply no allegation of any
By sharp contrast, in European American, the facts as alleged by EAB clearly show that S & K was well aware that a primary, if not the exclusive, end and aim of auditing its client, Majestic Electro, was to provide EAB with the financial information it required. The prerequisites for the cause of action in negligence, as well as in gross negligence, are fully satisfied. Not only is it alleged, as in Credit Alliance, that the accountants knew the identity of the specific nonprivy party who would be relying upon the audit reports, but additionally, the complaint and affidavit here allege both the accountants' awareness of a particular purpose for their services and certain conduct on their part creating an unmistakable relationship with the reliant plaintiff. It is unambiguously claimed that the parties remained in direct communication, both orally and in writing, and, indeed, met together throughout the course of EAB's lending relationship with Majestic Electro, for the very purpose of discussing the latter's financial condition and EAB's need for S & K's evaluation. Moreover, it is alleged that S & K made repeated representations personally to representatives of EAB, on these occasions, concerning the value of Majestic Electro's assets. It cannot be gainsaid that the relationship thus created between the parties was the practical equivalent of privity. The parties' direct communications and personal meetings resulted in a nexus between them sufficiently approaching privity under the principles of Ultramares, Glanzer and White to permit EAB's causes of action.
Finally, disposition of the second cause of action alleged in Credit Alliance need not detain us long. The cause of action for fraud repeats the allegations for the negligence cause of action and merely adds a claim that Andersen recklessly disregarded facts which would have apprised it that its reports were misleading or that Andersen had actual knowledge that such was the case. This single allegation of scienter, without additional detail concerning the facts constituting the alleged fraud, is insufficient under the special pleading standards required under CPLR 3016 (b), and, consequently, the cause of action should have been dismissed. (Cf. Dworman v Lee, 83 A.D.2d 507, affd 56 N.Y.2d 816; see also, Federation Chems. v Chemical Constr. Corp., 31 A.D.2d 799, affd 27 N.Y.2d 564.)
Accordingly, in Credit Alliance both causes of action should be dismissed, the order of the Appellate Division reversed, with
In Credit Alliance Corp. v Andersen & Co.: Order reversed, etc.
In European Am. Bank & Trust Co. v Strauhs & Kaye: Order affirmed, etc.
In its affidavit in opposition to S & K's motion to dismiss, EAB elaborated (see, n 1, supra) with, inter alia, the following allegations:
See also, e.g., the following where recovery was allowed despite the absence of privity: Haddon View Inv. Co. v Coopers & Lybrand (70 Ohio St.2d 154, 436 N.E.2d 212); Spherex, Inc. v Grant & Co. (122 N.H. 898, 451 A.2d 1308); Larsen v United Fed. Sav. & Loan Assn. (300 N.W.2d 281 [Iowa]); Seedkem, Inc. v Safranek (466 F.Supp. 340 [DC Neb]); Merit Ins. Co. v Colao (603 F.2d 654 [7th Cir], cert denied 445 U.S. 1017); Coleco Indus. v Berman (423 F.Supp. 275 [ED Pa]); Bonhiver v Graff (311 Minn. 111, 248 N.W.2d 291); Aluma Kraft Mfg. Co. v Fox & Co. (493 S.W.2d 378 [Mo App]); Rhode Is. Hosp. Trust Natl. Bank v Swartz, Bresenoff, Yavner & Jacobs (455 F.2d 847 [4th Cir]); Shatterproof Glass Corp. v James (466 S.W.2d 873 [Tex Civ App]); Ryan v Kanne (170 N.W.2d 395 [Iowa]); Rusch Factors v Levin (284 F.Supp. 85 [DC RI]).
See generally, Public Accountants — Liability, Ann., 46 ALR3d 979.