Court of Appeal decision in Manchester Building Society v Grant Thornton: clarification of "advice" vs "information" distinction when applying the SAAMCO principle

The Court of Appeal has dismissed the claimant's appeal in Manchester Building Society v Grant Thornton UK LLP [2019] EWCA Civ 40, an important decision on the application of the decision in South Australia Asset Management Corpn v York Montague Ltd [1997] AC 191 (SAAMCO) to cases involving an adviser's negligence. The decision will be of interest to financial institutions and professional advisers generally, including auditors (the subject of the instant decision).

As explained in our banking litigation e-bulletin on the first instance decision, the case concerned an auditor's liability for (admitted) negligent advice regarding the accounting treatment of interest rate swaps. When the auditor's error came to light, the client had to break the swaps early, incurring mark-to-market break costs of £32.7m. The Court of Appeal upheld the decision of the High Court, but did so on different grounds.

The judgment provides a number of helpful points of clarification on the approach to be taken in such cases involving the application of the SAAMCO principle as expanded upon in Hughes-Holland v BPE Solicitors [2017] UKSC 21:

1. In particular, the Court of Appeal clarified that the correct approach in such cases is to consider at the outset whether it is an "advice" or an "information" case. The court emphasised that although there may be a descriptive inadequacy to these labels (so that a dispute involving negligent advice can still fall within the "information" case category), this should not undermine the fact that there is a clear and important distinction between the two categories of case.
2. In determining whether a case falls within the "information" or "advice" category, what matters is the "purpose and effect" of the advice given. If that advice does not involve responsibility for "guiding the whole decision making process" or where the adviser's duty does not extend to "consider all relevant matters and not only specific matters" – the case should fall within the "information" case category.
3. For "information" cases, the adviser will be responsible only for the foreseeable consequences of the advice being wrong. This will require the claimant (who has the burden of proof) to prove the counter-factual, namely that loss would not have been suffered if the advice had been correct. Applying the relevant counter-factual scenario so as to determine which, if any, losses are recoverable will remain a complex exercise in many cases.

In the instant case, the Court of Appeal held that the High Court had erred in approaching the issue of liability by asking in general terms whether the auditor had assumed a responsibility for the mark-to-market losses and found that the present case was an "information" case, and so the auditor was responsible only for the foreseeable consequences of the accounting advice being wrong. This required the claimant to prove the counter-factual, that the same loss would not have been suffered if the advice had been correct, i.e. if the claimant had not exercised the break clause early and continued to hold the swaps. Here, the client was unable to prove its loss on the counter-factual as the discovery of the negligent advice merely crystallised mark-to-market losses on swaps which would have been suffered anyway if the swaps had been held to term.

The fact that the Court of Appeal came to its conclusion by virtue of a completely different analysis highlights that this remains a difficult area of the law, particularly in its application to the facts. Professional advisers can seek to avoid the uncertainty, and the time and cost associated with complex disputes, by ensuring that the scope of their role is clear from the terms of their retainer and, where appropriate, by excluding liability for particular categories of loss.

Background

The background to the dispute is set out in detail in our e-bulletin on the High Court decision. Broadly, however, the case involved a claim brought by Manchester Building Society ("MBS") against its auditor, Grant Thornton ("GT"), arising out of negligent advice given by GT regarding the accounting treatment of interest rate swaps relating to its lifetime mortgage portfolio.

GT had negligently advised MBS in 2006 that it would be able to make use of an accounting treatment known as "hedge accounting" which would allow it to reduce the volatility of the mark-to-market value of the swaps on MBS's balance sheet. In reliance on that advice, MBS acquired and issued lifetime mortgages and entered into swap transactions in order to hedge its interest rate risk.

In 2013, MBS discovered that GT's advice had been incorrect and it could not in fact make use of hedge accounting. This meant that MBS's balance sheet was exposed to volatility as a result of changes in the value of the swaps and, in particular, to the full losses suffered on the swaps following the fall in interest rates in the aftermath of the 2008 financial crisis. Once MBS's accounts were corrected, it no longer held sufficient regulatory capital and was required to close out the swaps. In doing so, MBS incurred a mark-to-market loss of £32.7m.

High Court decision

At first instance, the High Court concluded that MBS had established causation both in fact and in law in respect of the break costs i.e. (a) but for the negligent advice, MBS would not have bought the swaps; and (b) if GT's advice had been correct, it would not have needed to break the swaps in 2013. However, GT escaped liability because the High Court found it had not assumed responsibility for MBS being "out of the money" on the swaps. Rather, the mark-to-market losses suffered by MBS for terminating the swaps flowed from market forces. The court held that only the sum of circa £300,000 was recoverable (reflecting the transaction costs of breaking the swaps and certain other costs).

MBS appealed the High Court's decision.

Grounds of appeal

The principal grounds of MBS's appeal considered by the Court of Appeal were as follows:

1. The judge erred in law in approaching the issue of liability on the basis of assumption of responsibility rather than by following the approach set out in SAAMCO and Hughes-Holland of considering whether this was an "advice" or "information" case.
2. The correct analysis was that GT provided advice to MBS about whether it could apply hedge accounting and this was an "advice" case.
3. Even if this was an "information" case, the judge’s decision was wrong because it failed to hold GT liable for the reasonably foreseeable consequences of the information being wrong (which should include the mark-to-market losses on the swaps).

Court of Appeal decision

The appeal was dismissed. The Court of Appeal's conclusions for each of the principal grounds of appeal are set out further below.

1. Assumption of responsibility or "advice" vs "information" – which approach is correct?

Having considered the authorities discussing the SAAMCO principle (and in particular the clarification provided by Lord Sumption in Hughes-Holland), the Court of Appeal concluded that the High Court had been wrong to analyse the question of whether GT was liable for the mark-to-market losses by asking in general terms whether GT had assumed a responsibility for mark-to-market losses on the swaps. The right approach was to consider whether the case was an "advice" case or an "information" case.

The High Court did not take this approach, largely because of Lord Sumption's reference to the descriptive inadequacy of the labels in Hughes-Holland. However, the Court of Appeal commented that the descriptive inadequacy of the labels used did not undermine the fact that there was a clear and important distinction between the two categories of case.

In summary, the Court of Appeal said that a case will be an "advice" case if it is left to the adviser to consider what matters should be taken into account in deciding whether to proceed with a particular transaction, i.e. the adviser is "responsible for guiding the whole decision making process" and "his duty is to consider all relevant matters and not only specific matters". In such cases, the adviser will be liable for all the foreseeable losses flowing from entering into the transaction.

It continued that, if a case is not an "advice" case, it will by definition be an "information" case. In "information" cases, the adviser will not have assumed responsibility for the client's decision as to whether to proceed with the transaction (the decision itself remains the responsibility of the client). In "information" cases, the adviser will only be responsible for the foreseeable financial consequences of the advice being wrong. Those consequences can be identified by considering what losses would have been suffered if the advice had been correct. Put differently, the adviser can only be liable for losses which would not have been suffered if its advice had been correct.

2. Was this an advice case?

The Court of Appeal concluded, uncontroversially we think, that this was not an "advice" case. In particular:

• While it was true that GT provided accounting advice, GT was not involved in MBS's decision to enter into the swaps. That remained a matter for MBS to decide, taking into account all relevant considerations (not only the information or advice from GT).
• What mattered was not whether advice was given, but the purpose and effect of the advice given.
• In the Court of Appeal's view, GT's accounting advice manifestly did not involve responsibility for "guiding the whole decision making process" and it was plain that "GT's responsibility was limited to the giving of accounting advice, and never came close to extending to responsibility for the entire lifetime mortgage/swaps business".
• The Court of Appeal distinguished Main v Giambrone [2018] PNLR 17 (in which the adviser was found to have assumed the role of "guiding the whole decision making process") from the instant case, in which GT played no such role.

It followed that the analysis applicable to "information" cases needed to be applied.

3. If this was an "information" case, was GT liable for the mark-to-market losses?

On the basis that this was an "information" case and applying the SAAMCO principle, the Court of Appeal concluded that GT was responsible only for the foreseeable consequences of the information being wrong.

MBS contended that this meant it was entitled to recover losses which would not have been incurred if GT's information in relation to hedge accounting had been correct. It referred to the High Court's findings in this hypothetical scenario, that MBS would not have "broken the swaps in 2013 and so would not at that time have incurred the loss which in fact it did", in which case MBS's case would be made out.

However, in the Court of Appeal's judgment, it was a "striking feature" of the case that MBS's claim for damages consisted of the "fair value" of the swaps, and receiving fair value does not ordinarily give rise to any loss. Indeed, if the swaps had been "in the money" when GT's error had been discovered, MBS would still have needed to close them out to remove the resulting accounting volatility and, in those circumstances, they would have sustained no financial loss.

The Court of Appeal therefore proceeded to determine what the proper counter-factual should be. In this context, it held:

• MBS had to do more than establish the fact of the mark-to-market losses in order to prove that it would not have suffered those losses if GT's advice had been correct.
• The Court of Appeal emphasised that the mark-to-market losses reflected market forces. It noted this was supported by the High Court's reasoning (paragraph 179). In particular: "the fact that the swaps were heavily 'out of the money' at the beginning of June 2013 was the result of market forces. The closing out of the swaps at fair value on 6 and 7 June 2013 crystallised the loss resulting from the swaps being 'out of the money', but it did not create that loss".
• The counter-factual that MBS had to prove was that loss would not have been suffered had it continued to hold the swaps. The Court of Appeal noted that this was an aspect of proof of loss.
• MBS failed to prove its loss in this counter-factual scenario.

The Court of Appeal commented that the position might have been different if MBS could show that, had it had not been forced to close out the swaps in 2013, it would have closed them out a later and more advantageous time. That was not, however, MBS's case.

The Court of Appeal therefore concluded that MBS had not proved that the mark-to-market losses would not have been incurred had GT's advice been correct. Accordingly, although the High Court's approach was not correct in law, it reached the correct overall decision and therefore the appeal was dismissed.