Manchester Building Society v Grant Thornton UK LLP

Trinity Term

[2021] UKSC 20

On appeal from: [2019] EWCA Civ 40

Appellant

Respondent

Benjamin Parker	Adam Rushworth
Harry Wright	Sophie Shaw
(Instructed by Squire	(Instructed by Taylor
Patton Boggs LLP	Wessing LLP (London))

(Manchester))

LORD HODGE AND LORD SALES: (with whom Lord Reed, Lady Black and Lord Kitchin agree)

Introduction

1. This appeal is concerned with the application of the concept of scope of duty in the tort of negligence, as illustrated by the decision of the House of Lords in Banque Bruxelles Lambert SA v Eagle Star Insurance Co Ltd; South Australia Asset Management Corpn v York Montague Ltd [1997] AC 191 (“SAAMCO”) in relation to recovery of damages for economic loss. The context is professional advice given by expert accountants. The appeal was heard by the same expanded constitution of the court which heard the appeal in Khan v Meadows [2021] UKSC 21, which is concerned with the same issue in the context of professional advice given by a medical expert. The reason the appeals were heard by the same constitution of the court was to provide general guidance regarding the proper approach to determining the scope of duty and the extent of liability of professional advisers in the tort of negligence. It is therefore desirable that the judgments in the two appeals should be read together as reflecting and supporting a coherent underlying approach. The present judgment should be read with our judgment in Khan v Meadows.

2. Accountancy advice is usually given pursuant to a contract, as was the valuation advice in SAAMCO and the legal advice considered in the other leading judgment in this area, Hughes-Holland v BPE Solicitors [2017] UKSC 21; [2018] AC 599 (“Hughes-Holland”). In such cases, there is a parallel duty of care in tort and in contract. The extent of the responsibility assumed by the professional adviser, and the extent of their liability if they fail to act with reasonable care, is the same in tort and in contract. Medical advice may also be given pursuant to a contract, in the private medical sector. There too there is a parallel duty of care in tort and in contract, and the extent of the responsibility assumed by the professional adviser and the extent of their liability will again be the same. In what follows, for ease of exposition we will focus on the scope of the duty of care in tort. The scope of the parallel duty of care in contract depends on the same factors.

3. In the present appeal we have had the benefit of reading the judgment of Lord Leggatt. We agree with much of it. In particular, we find his explanation of the valuer cases illuminating. We have reservations about his explanation of the auditor negligence case involving a payment of dividends (paras 130-131), as it is not obvious to us why recovery of damages should be limited to a payment out of capital which would not have been made but for the negligent advice but would not be capable of covering a payment out of retained profits which would not have been made but for that advice, where the sum paid would otherwise have been retained by the company as available working capital. But it is not necessary to discuss that issue further in this judgment. We are grateful for his account of the facts of the case, albeit there are certain features of the facts found by the trial judge, Teare J, which we think require greater emphasis. We address those below. We agree with the outcome of the appeal which Lord Leggatt proposes and with which Lord Burrows also agrees. But we find ourselves, with respect, unable to support Lord Leggatt’s approach to SAAMCO and the question of the scope of the duty of the accountants, Grant Thornton, in this case. Our approach in the present case is closer to, but not fully aligned with, that of Lord Burrows. Given the importance of the issues, we think we should explain our own view. The divergence of opinion about SAAMCO and the scope of duty principle at this level serves to emphasise the importance of seeking to arrive at an authoritative view after debate within the court.

4. In summary, our view is that (i) the scope of duty question should be located within a general conceptual framework in the law of the tort of negligence; (ii) the scope of the duty of care assumed by a professional adviser is governed by the purpose of the duty, judged on an objective basis by reference to the purpose for which the advice is being given (in the context of this judgment, we use the expression “purpose of the duty” in this sense); (iii) in line with the judgment of Lord Sumption in Hughes-Holland at paras 39-44, the distinction between “advice” cases and “information” cases drawn by Lord Hoffmann in his speech in SAAMCO should not be treated as a rigid straitjacket; and, following on from this, (iv) counterfactual analysis of the kind proposed by Lord Hoffmann in SAAMCO should be regarded only as a tool to cross-check the result given pursuant to analysis of the purpose of the duty at (ii), but one which is subordinate to that analysis and which should not supplant or subsume it. The points which we make below in relation to the facts of the case as found by the judge reflect our view regarding the proper approach to be adopted.

5. In our view the scope of duty principle can more readily be understood without placing the emphasis which Lord Leggatt does on causation and the counterfactual test; the focus on causation, which gave rise to the debate discussed in Hughes-Holland at paras 37 and 38, distracts attention from the primary task of identifying the scope of the defendant’s duty. Subject to what we say below about the facts, we are in broad agreement with what Lord Burrows says about those matters. However, we differ from Lord Burrows in our understanding of the location of the scope of duty issue in the scheme of the law of tort and in thinking that the focus for the analysis of that issue should be on the purpose of the duty without involving reference back to policy. The policy decision has already been made that the proper approach to the scope of duty issue is to derive it from the purpose of the duty. In our opinion it is unnecessary to reintroduce a policy-based analysis and to do so would create the risk of uncertainty: see our judgment in Khan v Meadows, para 59. A focus on the purpose of the duty is, in our view, both more principled and more in line with authority.

(i)        The location of the scope of duty question in the scheme of the law of the

tort of negligence

6. Lord Sumption explained in Hughes-Holland at paras 20-29 that the idea of limiting the damages recoverable in the tort of negligence to those falling within the scope of the duty of care assumed by the defendant long pre-dated the decision in SAAMCO. As we say in Khan v Meadows, para 28, it is helpful to analyse the place of the scope of duty principle in the tort of negligence in the following way. When a claimant seeks damages from a defendant in the tort of negligence, a series of questions arise:

(1) Is the harm (loss, injury and damage) which is the subject matter of the claim actionable in negligence? (the actionability question)

(2) What are the risks of harm to the claimant against which the law imposes on the defendant a duty to take care? (the scope of duty question)

(3) Did the defendant breach his or her duty by his or her act or omission? (the breach question)

(4) Is the loss for which the claimant seeks damages the consequence of the defendant’s act or omission? (the factual causation question)

(5) Is there a sufficient nexus between a particular element of the harm for which the claimant seeks damages and the subject matter of the defendant’s duty of care as analysed at stage 2 above? (the duty nexus question)

(6) Is a particular element of the harm for which the claimant seeks damages irrecoverable because it is too remote, or because there is a different effective cause (including novus actus interveniens) in relation to it or because the claimant has mitigated his or her loss or has failed to avoid loss which he or she could reasonably have been expected to avoid? (the legal responsibility question)

Application of this analysis gives the value of the claimant’s claim for damages in accordance with the principle that the law in awarding damages seeks, so far as money can, to place the claimant in the position he or she would have been in absent the defendant’s negligence.

7. The first question is a threshold question and asks whether the matter about which the claimant complains is actionable. A claimant may have a cause of action in negligence to recover damages for physical injury, psychiatric injury, damage to property and economic loss, but not all complaints are actionable in negligence. Personal upset or annoyance and diminished enjoyment of a person’s property resulting from noises or smells are not actionable in negligence. A defendant may act carelessly without incurring liability to a claimant in the absence of actionable loss.

8. The second question addresses the scope of a defendant’s duty and is the central question in this appeal. The fact that the defendant owes the claimant a duty to take reasonable care in carrying out its (the defendant’s) activities does not mean that the duty extends to every kind of harm which might be suffered by the claimant as a result of the breach of that duty. In Spartan Steel Ltd & Alloys v Martin & Co (Contractors) Ltd [1973] QB 27, for example, the duty of care owed by workmen not to cut off electrical power to the claimant’s factory was imposed in order to protect the claimant from suffering damage to its property, so the claimant could only sue for damages to compensate it for property damage it had suffered as a result of the breach of the duty of care, and not for damages to compensate it for the distinct loss of business it had suffered as a result of the loss of power. Similarly, in Caparo Industries plc v Dickman [1990] 2 AC 605 (“Caparo”) it was recognised that although the auditor of a company’s accounts owes a duty of care to shareholders in the company for some purposes, breach of that duty does not mean that a shareholder can claim damages for loss flowing from its reliance on the audited accounts to make investment decisions (p 627 per Lord Bridge of Harwich; pp 651-653 per Lord Oliver of Aylmerton; pp 660-662 per Lord Jauncey of Tullichettle). As Brennan J stated in Sutherland Shire Council v Heyman (1985) 157 CLR 424, at 487:

“It is impermissible to postulate a duty of care to avoid one kind of damage - say, personal injury - and, finding the defendant guilty of failing to discharge that duty, to hold him liable for the damage actually suffered that is of another independent kind - say, economic loss. … The question is always whether the defendant was under a duty to avoid or prevent that damage, but the actual nature of the damage suffered is relevant to the existence and extent of any duty to avoid or prevent it.”

9. The discussion in SAAMCO regarding the scope of the duty of care is relevant to the second question. SAAMCO was concerned with a single type of loss, namely pure economic loss. In Platform Home Loans Ltd v Oyston Shipways Ltd [2000] 2 AC 190, Lord Hobhouse of Woodborough made the acute observation at p 209G that Lord Hoffmann’s development of scope of duty reasoning in SAAMCO was that “instead of applying it to kinds or categories of damage,” he “applied it to the quantification of damage” (emphasis in the original). Some confusion has arisen from references in the cases to “the SAAMCO principle”, whereas on proper analysis SAAMCO is not a distinct principle but rather is an illustration in a particular context of the scope of duty principle.

10. It is a basic element of a cause of action in negligence that the claimant can allege that he has suffered loss falling within the scope of a duty of care owed to him by the defendant. That is why in SAAMCO Lord Hoffmann said that the Court of Appeal in that case, by moving directly to ask what damages should be awarded to put the claimant in the position he would have been in had the breach not occurred, had started in “the wrong place” (p 211, quoted in Hughes-Holland at para 27). It had failed to ask whether and to what extent the loss for which damages were claimed was within the scope of the duty of care. As Lord Hoffmann said in the same passage, “[a] correct description of the loss for which the valuer is liable must precede any consideration of the measure of damages. For this purpose it is better to begin at the beginning and consider the lender’s cause of action.” Consideration of the scope of the duty of care owed by the defendant valuers led to the conclusion that they were not responsible in law for the full extent of the loss suffered by the claimant banks.

11. For the same reason, the burden of proof lies on the claimant to show that the loss for which he claims damages lies within the scope of the duty of care owed to him by the defendant: see SAAMCO, p 220 per Lord Hoffmann, and Hughes- Holland, para 53 per Lord Sumption. That is the essence of the claimant’s cause of action in tort. This is also the point made, perhaps slightly cryptically, by Lord Sumption in Hughes-Holland at para 38 when he says that the question posed by the scope of duty principle as illustrated by SAAMCO is not one of causation in the conventional sense of identifying the consequences which flow from a breach of duty, but “rather whether the loss flowed from the right thing, ie from the particular feature of the defendant’s conduct which made it wrongful. That turns on an analysis of what did make it wrongful.”

12. In some cases, a claim may be answered at stage 2 without the need to address the questions of breach and factual causation. However, in cases where the scope of duty question is relevant to the extent of loss of a particular kind, as in SAAMCO and Hughes-Holland, it is generally more appropriate to examine this after first ascertaining on a simple “but for” basis what is the extent of the loss which has flowed from the alleged breach of duty. Proceeding in this way means that one identifies the losses which are in fact in issue so that it is possible to focus with greater precision on the extent to which they fall within the scope of the duty of care owed by the defendant. This was the approach adopted in the valuer negligence cases which followed SAAMCO. As Lord Nicholls explained in Nykredit Mortgage Bank plc v Edward Erdman Group Ltd (formerly Edward Erdman (an unlimited company) (No 2) [1997] 1 WLR 1627, 1631, one begins by identifying what he called “the basic measure” of the claimant’s loss and what Lord Hobhouse in Platform Home Loans described as “the basic loss” which the claimant has suffered (ie the loss which can be identified as flowing from the alleged breach of duty as a matter of “but for” factual causation), and then examines the extent to which that loss falls within the scope of the duty assumed by the valuer (see also Hughes- Holland, para 31, and our judgment in Khan v Meadows, para 52). This is the reason why in this sort of case it is appropriate to ask the duty nexus question at stage 5. But it should be recognised that this is simply a practical approach to working out the implications of the scope of duty concept which arises, in principle, earlier in the analysis, at stage 2.

(ii)       The scope of the duty of care in professional advice cases

13. In our respectful opinion, the scope of duty question can and should be approached in a more straightforward way than is suggested by Lord Leggatt. In our view, the scope of the duty of care assumed by a professional adviser is governed by the purpose of the duty, judged on an objective basis by reference to the reason why the advice is being given (and, as is often the position, including in the present case, paid for). Lord Hoffmann was explicit about this in SAAMCO at p 212:

“How is the scope of the duty determined? In the case of a statutory duty, the question is answered by deducing the purpose of the duty from the language and context of the statute: Gorris v Scott (1874) LR 9 Ex 125. In the case of tort, it will similarly depend upon the purpose of the rule imposing the duty. Most of the judgments in the Caparo case are occupied in examining the Companies Act 1985 to ascertain the purpose of the auditor’s duty to take care that the statutory accounts comply with the Act. In the case of an implied contractual duty, the nature and extent of the liability is defined by the term which the law implies. As in the case of any implied term, the process is one of construction of the agreement as a whole in its commercial setting. The contractual duty to provide a valuation and the known purpose of that valuation compel the conclusion that the contract includes a duty of care. The scope of the duty, in the sense of the consequences for which the valuer is responsible, is that which the law regards as best giving effect to the express obligations assumed by the valuer: neither cutting them down so that the lender obtains less than he was reasonably entitled to expect, nor extending them so as to impose on the valuer a liability greater than he could reasonably have thought he was undertaking.”

14. The other leading authorities confirm that this is the proper approach. All the speeches in Caparo emphasised that the scope of the auditor’s duty of care in that case was to be derived from an examination of the purpose served by the duty to audit the accounts of the company. This observation by Lord Roskill is representative (p 629B): “… before the existence and scope of any liability can be determined, it is necessary first to determine for what purposes and in what circumstances the information in question is to be given.” See also, in particular, p 627C-D per Lord Bridge; p 652 (“In seeking to ascertain whether there should be imposed on the adviser a duty to avoid the occurrence of the kind of damage which the advisee claims to have suffered … [o]ne must … ask, in what capacity was his interest to be served and from what was he intended to be protected?”; “Before it can be concluded that the duty is imposed to protect the recipient against harm which he suffers by reason of the particular use that he chooses to make of the information which he receives, one must … first ascertain the purpose for which the information is required to be given”) and p 654 per Lord Oliver; and pp 655D-E and 660D-F per Lord Jauncey (auditors are aware that the audited accounts will be seen and relied on by shareholders, but “that does not answer the fundamental question of the purpose, and hence the very transactions, for which the annual accounts of a company are prepared and distributed to its members”).

15. Similarly, in Aneco Reinsurance Underwriting Ltd (in liquidation) v Johnson & Higgins Ltd [2001] UKHL 51; [2002] 1 Lloyd’s Rep 157 (“Aneco”) (discussed in Hughes-Holland at para 43) the House of Lords addressed the issue of the extent of the liability of the defendant broker by analysing the purpose of the task which he undertook. The claimant reinsurer proposed to reinsure a book of excess of loss business, but only if he could retrocede part of the book into the market, and instructed the defendant to place the retrocession. The defendant reported that he had placed it, but he had failed to represent the risk fairly, with the result that after the claimant had written the reinsurance his retrocession was avoided. The appellate committee was divided as to the relevant factual analysis and the result, but agreed as to the approach to be adopted. The majority held that the claimant was entitled to recover damages for its full loss flowing from the writing of the reinsurance because, on their view of the facts, one part of the purpose of the duty assumed by the defendant was to advise the claimant whether there was any market at all for the book of business to be written by him; the defendant should have advised that there was none; and if so advised the claimant would have declined to write any part of the business: see para 17 per Lord Lloyd of Berwick (the difference as to the scope of the duty did not depend on calling one aspect of the advice given “information” and the other “advice”, according to the suggestion by Lord Hoffmann in SAAMCO; rather, “[i]t depends on a difference of substance … on the scope of the advice which the brokers undertook to give”) and paras 23 and 40 per Lord Steyn. Lord Millett, dissenting on the facts, also proceeded by analysing the purpose of the duty assumed by the defendant: at para 64 he cited Lord Roskill’s speech in Caparo at p 629, quoted above; at paras 95-100 he analysed the purpose for which the defendant was engaged to give advice; and at para 110 he concluded that the full extent of the loss claimed did not fall within the scope of the defendant’s duty because learning about the general state of the reinsurance market for this kind of business was “not the purpose for which Aneco wanted to know that cover was available”.

16. In Hughes-Holland, Lord Sumption analysed the cases in this way and again emphasised the importance of the purpose of the duty: see para 23 (Caparo), para 28 (SAAMCO), para 43 (Aneco) and paras 54-55 (explaining the outcome in Hughes- Holland itself, on the basis that the defendant solicitors did not assume responsibility for their client’s decision to lend money which was then lost, since “[t]heir instructions were to draw up the facility agreement and the charge, nothing more”). Although Lord Sumption uses the concept of assumption of responsibility in his judgment (see, in particular, paras 44 and 54), it is clear that this is found to arise where the defendant adviser has taken on responsibility for a particular task having a particular purpose.

17. Therefore, in our view, in the case of negligent advice given by a professional adviser one looks to see what risk the duty was supposed to guard against and then looks to see whether the loss suffered represented the fruition of that risk. This is the point of the mountaineer’s knee example given by Lord Hoffmann in SAAMCO at p 213.

(iii)      “Advice” cases and “information” cases

18. The distinction drawn by Lord Hoffmann in SAAMCO between “advice” cases and “information” cases has not proved to be satisfactory. Put shortly, as explained by Lord Sumption in Hughes-Holland at paras 39-44, the distinction is too rigid and, as such, it is liable to mislead. In reality, as Lord Sumption emphasises at para 44, the whole varied range of cases constitutes a spectrum. At one extreme will be pure “advice” cases, in which on analysis the adviser has assumed responsibility for every aspect of a transaction in prospect for his client. At another extreme will be cases where the professional adviser contributes only a small part of the material on which the client relies in deciding how to act. In some cases (such as those involving valuers) it is readily possible to say that the purpose of the advice given is limited and that the adviser has assumed responsibility under a duty the scope of which is delimited by that purpose, which Lord Hoffmann called an “information” case. However, Lord Sumption observed (para 44), “[b]etween these extremes, every case is likely to depend on the range of matters for which the defendant assumed responsibility and no more exact rule can be stated”.

19. In our view, for the purposes of accurate analysis, rather than starting with the distinction between “advice” and “information” cases and trying to shoe-horn a particular case into one or other of these categories, the focus should be on identifying the purpose to be served by the duty of care assumed by the defendant: see section (ii) above. Ascribing a case to one or other of these categories seems to us to be a conclusion to be drawn as a result of examination of that prior question.

20. This also corresponds with Lord Sumption’s explanation at paras 40 and 41 of what is involved in an “advice” case and an “information” case, respectively. In an “advice” case, the adviser’s duty “is to consider all relevant matters and not only specific factors” (and what counts as a relevant matter for the adviser is determined by the purpose for which he has agreed to give advice: see para 44). Where the adviser is responsible for guiding the whole decision-making process, the adviser’s responsibility extends to the decision. In that circumstance, as Lord Sumption explains (para 40), “[if] the adviser has negligently assessed risk A, the result is that the overall riskiness of the transaction has been understated. If the client would not have entered into the transaction on a careful assessment of its overall merits, the fact that the loss may have resulted from risks B, C or D should not matter”.

21. By contrast, in an “information” case (Hughes-Holland, para 41), the adviser contributes a limited part of the material to be relied on, “but the process of identifying the other relevant considerations and the overall assessment of the commercial merits of the transaction are exclusively matters for the client” (emphasis added), and in such a case “the defendant’s legal responsibility does not extend to the decision itself”; the result then is that the defendant is “liable only for the financial consequences of [the information] being wrong and not for the financial consequences of the claimant entering into the transaction so far as these are greater”.

22. We welcome Lord Leggatt’s proposal (para 92) to dispense with the descriptions “information” and “advice” to be applied as terms of art in this area. As Lord Sumption points out in Hughes-Holland, para 39, both “advice” and “information” cases involve the giving of advice. For the reasons we give, we think it is important to link the focus of analysis of the scope of duty question and the duty nexus question back to the purpose of the duty of care assumed in the case in hand.

(iv)       Application of SAAMCO-style counterfactual analysis

23. Related to the issues examined in sections (i) to (iii) above is the use of counterfactual analysis as set out by Lord Hoffmann in SAAMCO. Lord Hoffmann proposed a form of counterfactual analysis as a way to assist in identifying the extent of the loss suffered by the claimant which falls within the scope of the defendant’s duty, by asking in an “information” case whether the claimant’s actions would have resulted in the same loss if the advice given by the defendant had been correct. This procedure generates a limit to the damages recoverable which has been called the SAAMCO “cap”. As Lord Sumption said in Hughes-Holland, para 45, this is “simply a tool for giving effect to the distinction between (i) loss flowing from the fact that as a result of the defendant’s negligence the information was wrong [ie the loss falling within the scope of the defendant’s duty] and (ii) loss flowing from the decision to enter into the transaction at all [ie by application of a simple “but for” test]”. As so explained, it is clear that the use and, in particular, the correct framing of the counterfactual scenario follows from the prior question, which is, what purpose was the duty of care assumed by the defendant supposed to serve? In that regard, we agree with Lord Burrows (paras 195-203) that the counterfactual test may be regarded as a useful cross-check in most cases, but that it should not be regarded as replacing the decision that needs to be made as to the scope of the duty of care (albeit he describes that as a policy decision, whereas we think it reflects more fundamental issues of principle: see section (ii) above).

24. In SAAMCO the House of Lords had to explain why the Court of Appeal in that case had erred by simply applying the general tests of foreseeability and remoteness of loss, and the counterfactual analysis was deployed by Lord Hoffmann as a way of giving emphasis to the importance of the scope of duty principle which he applied in that case. It helped to show why the valuers could not be taken to have assumed responsibility for the whole loss flowing from the fall in the market. But it would have been sufficient to arrive at that conclusion (and to determine the amount of recoverable damages) to ask what was the purpose of the valuer’s duty to advise: it was to allow the lender to determine at market values current at the time of the advice the amount of security which it would take.

25. Also, linking the use of the counterfactual analysis to “information” cases in the “advice” and “information” framework is unhelpful, because of the problems associated with that framework: see section (iii) above. By contrast, examination of the purpose of the duty provides an appropriate and refined basis for identifying, out of what may be a wide range of factors which contribute to the claimant’s loss, the factors for which defendant is responsible.

26. Another problem associated with counterfactual analysis of this kind is the danger of manipulation, in argument, of the parameters of the counterfactual world. Lord Leggatt points out (paras 128-132) that the counterfactual test can yield the right result if it is properly applied. However, the more one moves from the comparatively straightforward type of situation in the valuer cases, as illustrated by SAAMCO, the greater scope there may be for abstruse and highly debatable arguments to be deployed about how the counterfactual world should be conceived. One has to take care, therefore, not to allow the counterfactual analysis to drive the outcome in a case. To do so would create a risk of litigation by way of contest between elaborately constructed worlds advanced by each side, which would become increasingly untethered from reality the further one moves from the relatively simple valuer case addressed in SAAMCO. There was an element of this in the present appeal, as Mr Salzedo QC for Grant Thornton sought to persuade us that the counterfactual world in this case should be constructed in such a way as to show that Manchester Building Society (“the society”) would have suffered the same loss if Grant Thornton’s advice had been correct and the society responded in kind with elaborations of its own. This in part explains why an aspect of the society’s submissions took the form which Lord Leggatt criticises at para 151 et seq, even though its pleaded case was a straightforward one to the effect that Grant Thornton were aware, when they advised in 2006 and thereafter, of the commercial significance of hedge accounting for the society in terms of its impact on its regulatory capital position and, had non-negligent advice been given, the society would not have engaged in the business of matching swaps and mortgages at all and would not have been exposed to the loss which it eventually suffered when it had to unwind that business to protect and so far as possible restore its capital position. Lord Leggatt engages in a sophisticated analysis to answer the elaborate variants of the submissions advanced by the parties (para 143 et seq), but the fact is that a distinguished constitution of the Court of Appeal fell into error because of them. Again, it seems to us that the better approach is to focus more directly on the purpose for which the defendant gave the advice in question. There is no need to apply a counterfactual test to arrive at the correct conclusion and it has the potential to confuse rather than assist the correct analysis.

27. The points which we make in this judgment are interrelated. Identifying the scope of the duty of care by reference to its purpose is a reasonably determinate test, applicable in principle from the outset of the parties’ relationship. It seems to us that a focus on this criterion is a surer and simpler guide than a causation-based analysis as proposed by Lord Leggatt. It is fair to say that the two modes of analysis may often lead to the same outcome, but problems arise where it is unclear whether they do or not. A choice then has to be made, and in our view it should be in favour of clear adoption of the purpose of the duty of care as the relevant test. Analysis using the counterfactual “tool” as deployed in SAAMCO was designed to assist with looking at the scope of duty question from a causation-based perspective. Therefore, once it is accepted that the scope of duty inquiry turns on identifying the purpose of the duty, it can readily be seen that a SAAMCO-type counterfactual analysis is just a cross-check, rather than the foundation of the relevant analysis. By contrast, if emphasis is given to a causation-based analysis of the scope of duty question and the related duty nexus question, then SAAMCO-type counterfactual analysis moves centre stage and appears to assume greater significance than it should do.

(v)        The facts in this case

28. The present case has some unusual features which differentiate it from the type of valuer case illustrated by SAAMCO. Grant Thornton advised the society in circumstances where the management of the society had made their own assessment about the nature of the commercial markets for lifetime mortgages and for swaps and had made their own judgment that a business model matching swaps and mortgages would be commercially attractive. This is not a case in which Grant Thornton was asked to give advice about these matters. Also, the management of the society understood the true underlying financial position of the society. They appreciated that the mark-to-market value of swaps was subject to constant variation and that the society would have to make payments to swaps counterparties reflecting varying interest rates. They had made the commercial decision for themselves that the interest payments in relation to the swaps would be matched by those to be received by the society under the mortgages, which would protect the society over the life of the swaps as interest rates happened to change. Grant Thornton was not asked to provide commercial advice about these matters.

29. However, the society had an interest in the accounting treatment of the swaps and the mortgages from a distinct commercial perspective. As a lending institution, the society was subject to regulation. At the material time, the regulatory authority was the Financial Services Authority (“the FSA”). Under the regulatory regime, the society was required to maintain a substantial level of capital to ensure its continuing viability should it come under stress, which is referred to as “regulatory capital”. If it failed to do so, the FSA could take steps to close its operations. Also, the more the society’s financial activities were subject to volatility, the higher the level of regulatory capital it was required to have in place as a safeguard. The tool which the FSA used to monitor volatility and the level of regulatory capital the society was required to maintain was its accounts.

30. In 2005 the society changed the format for the preparation of its accounts from one set of accounting standards, under which swaps were not included on its balance sheet, to the International Financial Reporting Standards (“IFRS”), under which swaps did have to be brought onto its balance sheet. In the context of the IFRS, Lord Leggatt has explained the significance of application of the “hedge accounting” convention. Application of that convention in the society’s accounts would have the effect that swaps were matched with the society’s mortgage book, thereby greatly reducing the appearance of volatility in the society’s profits and greatly reducing the level of capital which it would be required to maintain to meet regulatory requirements.

31. Teare J made findings that Grant Thornton understood from their discussions with the society’s management the regulatory capital issue and the importance for the society of being able to use hedge accounting as a “key tool in avoiding the profit volatility caused by recognising … hedging instruments at fair value” (para 162). He also found that in discussions between the society and Grant Thornton in late 2005 and early 2006 the society was looking to Grant Thornton for advice whether it was entitled to use hedge accounting in drawing up its accounts and that it needed that advice in order to make a commercial decision whether to enter into swaps to be matched against mortgages, in other words to begin to carry into effect its proposal for a new business model involving matching swaps and lifetime mortgages. He further found that Grant Thornton were also asked to advise on whether the practice which the society was proposing to adopt of substituting different lifetime mortgages in the future against long term swaps would be permitted under the hedge accounting rules and that they confirmed by an email dated 11 April 2006 that this would be permitted and on that basis approved the society’s proposal to use hedge accounting in drawing up its accounts. The significance of this was that in regulatory capital terms the society would be able to afford to implement its business model.

32. In reliance on that advice, the society decided to pursue the matched swaps and mortgages business model. It decided not to unwind its two existing swaps and it entered into further swaps. It did so not in order to trade in swaps or to treat them as a speculative investment, but (as Grant Thornton knew) with a view to holding them to maturity, matching them against its book of lifetime mortgages.

33. Grant Thornton’s advice was repeated thereafter each year it signed an audit opinion stating that the society’s annual accounts, drawn up on the basis of the hedge accounting policy, gave a true and fair view of its financial position. Their original advice was related to this later advice, since the original advice was given to inform the society that it would be appropriate to draw up its accounts using hedge accounting and that Grant Thornton would be willing to sign audit opinions in the future to certify that the society’s accounts so prepared did give a true and fair view. However, the original advice given in 2006 was particularly significant, since it was on the basis of that advice that the society entered into new swaps (and decided not to unwind the existing swaps) and the disruption of financial markets in the financial crash of 2008 followed soon afterwards, resulting in a sharp fall in interest rates and exposing the society to the risk of significant financial loss if it were to be forced to break the swaps.

34. In the circumstances in which Grant Thornton gave its advice, the purpose of the advice was clear. They advised that the society could employ hedge accounting in order to reduce the volatility on its balance sheet and keep its regulatory capital at a level it could afford in relation to swaps to be held to term on the basis that they were to be matched against mortgages. In other words, the society looked to Grant Thornton for technical accounting advice whether it could use hedge accounting in order to implement its proposed business model within the constraints arising by virtue of the regulatory environment, and Grant Thornton advised that it could. That advice was negligent. It had the effect that the society adopted the business model, entered into further swap transactions and was exposed to the risk of loss from having to break the swaps, when it was realised that hedge accounting could not in fact be used and the society was exposed to the regulatory capital demands which the use of hedge accounting was supposed to avoid. That was a risk which Grant Thornton’s advice was supposed to allow the society to assess, and which their negligence caused the society to fail to understand.

35. In our view, in the light of the findings he had made, Teare J was essentially correct in his summary at paras 172-173 in so far as he said:

“172. I accept that it can be said … that the defendant [Grant Thornton] provided one piece of information or advice and that the claimant’s [the society’s] decision to enter into the swaps was based upon not only that information or advice but also upon other (commercial) considerations as to which no advice was given by the defendant. However, the information or advice supplied by the defendant was supplied with the accepted purpose of avoiding or mitigating the volatility to which the balance sheet would be exposed if hedge accounting were not deployed. Thus it was advice or information which was intended to protect the claimant from the consequences of that volatility. The defendant did not give any advice about the wisdom or otherwise of entering the swaps but must have appreciated that unless hedge accounting could be deployed [against] the volatility caused by changes in the fair value of the swaps the claimant’s regulatory capital position would be susceptible to adverse change. Hedge accounting was designed to protect the claimant from the effects of that volatility. That feature is not to be found in the classic information case referred to in SAAMCO and Hughes-Holland. Although the defendant in a classic information case owes no duty of care to the claimant in respect of his entering the transaction (see Hughes-Holland para 35) the defendant in the present case owed a duty of care in respect of one prospective consequence of the claimant entering into the transaction, namely, the volatility risk to which the claimant’s balance sheet is vulnerable from changes in the fair value of interest swaps. …

173. This approach does not make the defendant an insurer in respect of the claimant’s business. For the defendant is not liable for all losses which might have resulted from entering into the swaps. For example if a counterparty to a swap became insolvent causing losses to the claimant such losses would not be within the scope of the defendant’s duty. Similarly, if a counterparty chose to exercise a right to terminate the swap thereby causing the claimant to have to pay the costs of such termination such costs would not be within the scope of the defendant’s duty. Such losses would not have been attributable to the respect in which the defendant’s advice was wrong, namely, that hedge accounting could be applied. Such losses would still have occurred had the defendant’s advice been correct.”

The society entered into the swap transactions in and after 2006 and did not close the prior swap transactions in 2006 because they were advised that hedge accounting could be deployed to counter the volatility risk and its consequences for the society’s regulatory capital. Those transactions exposed the society to the volatility on its balance sheet and its consequences for its regulatory capital when Grant Thornton’s error was discovered.

36. However, the judge did not draw the conclusion that Grant Thornton were liable for the losses suffered by the society in being compelled to break the swaps once the true accounting position was appreciated. It is our view, with respect, that he should have done. As he said at para 149, “[i]t was the volatility of the balance sheet which led to the swaps being closed in 2013”, and hence to the loss suffered by the society. On the judge’s findings the society had suffered a loss which fell within the scope of the duty of care assumed by Grant Thornton, having regard to the purpose for which they gave their advice about the use of hedge accounting.

37. The judge described the society’s argument as “cogent”, but then gave a

series of reasons why he did not accept it. We agree with Lord Leggatt (paras 169-
172) that those reasons cannot be supported.

38. In one respect our analysis is similar to that set out by Lord Leggatt at paras 166-168. He relies on Grant Thornton’s misrepresentation about the existence of an “effective hedging relationship” between the swaps and the mortgages as the reason why the society’s loss fell within the scope of its duty of care. We agree that this is critical. But for the purposes of analysing whether the loss suffered by the society fell within the scope of the duty of care owed by Grant Thornton we think it is important to have regard to the commercial reason, as appreciated by Grant Thornton, why advice about this was being sought and why this was fundamental to the society’s decision to engage in the business of matching swaps and mortgages. That reason was the impact of hedge accounting on the society’s regulatory capital position. Use of hedge accounting allowed the society to make the assessment that, in terms of the constraints imposed on it by the regulatory capital requirements to which it was subject, it had the capacity to proceed with that business whereas otherwise it did not. In our opinion, reference to the reason the advice was sought and given is important, because that is the foundation for the conclusion that the purpose of the advice was to deal with the issue of hedge accounting in the context of its implications for the society’s regulatory capital. It is not in dispute that the loss in issue formed part of the society’s “basic loss” flowing from Grant Thornton’s negligent advice. Examination of the purpose for which that advice was given shows that the loss fell within the scope of their duty of care. Having regard to that purpose, we consider that Grant Thornton in 2006 in effect informed the society that hedge accounting could enable it to have sufficient capital resources to carry on the business of matching swaps and mortgages, when in reality it did not. In our opinion, this is analogous to a dividend payment case, where an auditor negligently advises a company that it has capital resources at a level which would permit payment of a dividend when in fact it does not.

39. We also agree with what Lord Leggatt says about legal causation: paras 173- 174. Further, like him, we consider that the judge was entitled to make the assessment that the society’s damages should be reduced by 50% on the basis of its contributory negligence. The contribution by the society to its own loss arose from the mismatching of mortgages and swaps in what was an overly ambitious application of the business model by the society’s management.

LORD LEGGATT:

I.          Introduction

40. On this appeal (and that in Khan v Meadows [2021] UKSC 21, heard by the same panel of seven Justices) this court is once more asked to consider questions about the extent of a professional person’s liability for loss caused by giving negligent advice. A firm of accountants incorrectly and negligently advised its client, a building society, that the society’s accounts could be prepared using a method known as “hedge accounting” and that the accounts prepared using that method gave a true and fair view of the society’s financial position. In reliance on that advice, the society carried on a strategy of entering into long-term interest rate swap contracts as a hedge against the cost of borrowing money to fund mortgage lending. The misstated accounts served to hide volatility in the society’s capital position and what became a severe mismatch between the negative value of the swaps and the value of the mortgage loans which the swaps were supposed to hedge. When after seven years the accountants realised their error, the society had to restate its accounts to show substantially reduced net assets and insufficient regulatory capital. To extricate itself from this predicament, the society closed out the swaps at a cost of over £32m.

41. The issue on this appeal is whether the society can recover this cost as damages from the accountants (reduced by 50% for the society’s contributory negligence). The trial judge and the Court of Appeal held that it cannot. Their reasoning, although different, was in each case based on their understanding of the principle illustrated by the leading case of South Australia Asset Management Corpn v York Montague Ltd [1997] AC 191 (“SAAMCO”). This principle has proved difficult to formulate as well as difficult to apply, but is generally expressed by saying that a professional adviser is only liable for losses which are “within the scope” of the adviser’s duty of care. The scope of duty principle was recently clarified by this court in Hughes-Holland v BPE Solicitors [2017] UKSC 21; [2018] AC 599. However, its application continues to give rise to difficulties, as the present case has shown.

42. For the reasons explained in this judgment, I consider that, on a correct

appreciation of the principle, it does not limit the extent of the accountants’ liability
in damages in this case.

II.        The facts

(1) The parties

43. The claimant (and appellant) is a small mutual building society, which I will refer to as “the society”. From 1997 until 2012, the society’s accounts were audited by the defendant (and respondent to this appeal), Grant Thornton UK LLP, a large firm of accountants.

(2)	The lifetime mortgages

44. Between 2004 and 2010 the society purchased and issued lifetime mortgages. These were mortgage loans designed to release the equity in the borrower’s home. Interest on the loan was charged at a fixed rate but neither the interest nor the capital sum was repayable until the borrower died, moved out of the property or chose to repay the loan and redeem the mortgage. Until that time, which was necessarily uncertain, the interest on the loan was compounded. The borrowers under these lifetime mortgages were homeowners (over the age of 50) in the United Kingdom and Spain. Between 2004 and 2008 the society acquired UK lifetime mortgages with a total value of £68m; and between 2008 and 2010 the society issued Spanish lifetime mortgages with a total value of over £40m.

(3)	The interest rate swaps

45. The mortgage loans were funded by borrowing at variable rates of interest. In order to protect itself against the risk that the variable cost of borrowing would exceed the fixed rate of interest receivable on the mortgage loans, the society entered into interest rate swap contracts. Under these swaps, the society agreed to pay a fixed rate of interest on a notional sum in return for the counterparty’s agreement to pay a variable rate of interest on the same sum. The interest payments were periodically netted off against each other with the balance payable by one party to the other (depending on whether the fixed or variable interest rate was higher during the period). The intention was that the variable rate of interest payable by the swap counterparties should match the variable rate payable by the society to borrow money, while the fixed rate payable by the society under the swaps was less than the fixed rate of interest receivable under the lifetime mortgages. In this way, when the lifetime mortgages were eventually redeemed, the society would be guaranteed to make a profit.

46. For the hedge to be effective, the value and duration of the swaps needed to match the value and duration of the mortgages.

47. Between May 2006 and February 2012, the society entered into 14 additional interest rate swaps (leaving aside one which was replaced by another) to hedge the UK lifetime mortgages. The total notional value of these swaps was £74.2m and most were for a term of 50 years. Between July 2008 and May 2012, the society also entered into 14 interest rate swaps to hedge the Spanish lifetime mortgages, with a total notional value of €57m. These swaps were for terms of between five and 30 years.

48. The “mark-to-market” (“MTM”) value of a swap is the price (or estimated price) for which it can be traded in the market at a given date. This price is calculated by estimating the value of all the future payments to be made over the remaining term of the swap and discounting these payments to a net present value. At the very beginning and end of the term, the MTM value will be zero. It will be zero at the beginning because the swap is priced to reflect the market rate of interest (for the term of the swap) at that time. It is zero at the end because there are no further periodic payments to make. Between those dates the MTM value of the swap will fluctuate according to the market’s forecast of future interest rates over the remaining term of the swap. The MTM value is not a sum that either party will actually pay or receive, unless the swap is traded or terminated prematurely. However, when the MTM value of a swap is negative, the party “out of the money” may be obliged to provide collateral in the amount that would be payable to the counterparty on early termination.

(4)	Hedge accounting

49. From 2005 onwards, the society was required to prepare its accounts in accordance with the International Financial Reporting Standards, which require swaps to be accounted for on the balance sheet at their fair value. The fair value of a swap is its MTM value. The mortgage loans, on the other hand, were accounted for at their amortised cost (or book value). A consequence of accounting for the swaps at fair value was that the value shown on the balance sheet would reflect movements in interest rates. The society’s reported financial position would accordingly become volatile. This volatility would in turn increase the amount of capital needed to satisfy regulatory requirements.

50. However, such volatility could be mitigated if (and only if) the society was able to use “hedge accounting”. Where hedge accounting is permitted, the carrying value of the hedged item (here, the lifetime mortgages) can be adjusted to offset changes in the fair value of the hedging instrument (here, the swaps), thus reducing accounting volatility.

(5)	Grant Thornton’s advice

51. In April 2006, Grant Thornton advised the society that it could apply the hedge accounting rules under International Accounting Standard 39 (“IAS 39”) to the lifetime mortgages and swaps. Under IAS 39, hedge accounting is only permitted if (amongst other conditions) there is formal designation and documentation of the hedging relationship and of the entity’s hedging strategy and if the hedge is expected to be “highly effective” in achieving offsetting changes in fair value attributable to the hedged risk during the period for which the hedge is designated. The society calculated the carrying value of the lifetime mortgages and the effectiveness of the hedges on the basis that the lifetime mortgages would mature on the same dates as the swaps with which they were paired. This was almost certain to be untrue, particularly where swaps were for terms of 50 years. Plainly, the chance that a borrower aged over 50 when the mortgage loan was made would live (and remain in the same home) for (exactly) the next 50 years was vanishingly small. However, Grant Thornton advised that it was permissible to apply hedge accounting on the basis that, when a mortgage was redeemed before the maturity of the swap with which it was paired, another mortgage loan - at the same fixed rate of interest - could be substituted for it as the hedged item. Whether such substitution would in reality be possible would clearly depend on the level of interest rates prevailing when the mortgage was redeemed.

52. The society relied on Grant Thornton’s advice in preparing its financial statements for each of the years ending 31 December 2006 to 2011. The society also relied on Grant Thornton’s advice that its use of hedge accounting was legitimate when entering into more lifetime mortgages and swaps during this period.

53. For each of the years ending 31 December 2006 to 2011, Grant Thornton audited the society’s financial statements and, in each year, signed an unqualified audit opinion certifying that the financial statements gave a true and fair view of the society’s financial position. Each audit report also repeated Grant Thornton’s advice that the society was entitled to apply hedge accounting.

(6)	Subsequent events

54. Following the 2008 financial crisis, there was a sustained fall in interest rates which caused the MTM value of the society’s interest rate swaps to become a substantial liability. This liability was offset on the society’s balance sheet by the adjustment made to the reported value of the mortgages using hedge accounting. However, because of the negative MTM value of the swaps, the society was required to provide cash collateral to swap counterparties which, by the third quarter of 2012, amounted to £39.29m.

55. In March 2013, Grant Thornton informed the society that it was not after all permitted to apply hedge accounting in preparing its financial statements. The effect of that realisation was that the society had to account for the fair value of the swaps in its 2012 accounts without any adjustment to the book value of the mortgages. The society also had to restate its accounts for 2011, with the result that the society’s profit of £6.35m for 2011 became a loss of £11.44m and its net assets were reduced from £38.4m to £9.7m.

56. As a result of these corrections to its accounts, the society had insufficient regulatory capital. Whereas in 2011 it had reported capital “headroom” of £20.4m, once it was appreciated that hedge accounting could not be used, this figure had to be altered to a capital deficit of £17.9m (ie an overall downwards adjustment of £38.3m).

57. To extricate itself from this situation, the society terminated all of its interest rate swap contracts early at a cost of £32,682,610. This amount comprised the MTM value of the swaps as at 6 and 7 June 2013, when they were closed out, and transaction costs of £285,460 payable to the swap counterparties because of the early termination of the contracts.

58. The society also sold its book of UK lifetime mortgages for £68.4m in December 2013. This sale price reflected a small premium (of £3.5m) on the “par” value of the mortgage book (ie the total amount loaned plus the rolled up interest). The society did not sell the Spanish lifetime mortgages because it did not receive an offer at or close to “par”. It was agreed at trial that, on a sale of these mortgages, the society would be likely to receive £3.3m more than their par value - amounting to a net profit of £2.46m after deducting the costs of administering the Spanish mortgage book.

III.      These proceedings

(1) The claim

59. In these proceedings the society has claimed compensation from Grant Thornton for losses suffered as a result of relying on Grant Thornton’s negligent advice. The main loss claimed (and the only head of claim still in issue) is the amount paid to close out the swaps in 2013.

60. In its defence Grant Thornton admitted that it had been negligent in advising the society when auditing its accounts for each of the years 2006 to 2011 that the society was entitled to apply hedge accounting. There were various reasons why that advice was wrong and should not have been given by any reasonably competent accountant. A major reason was that there was a significant mismatch between the 50-year duration of many of the swaps and the much shorter expected duration of the mortgages. Furthermore, the substitution of mortgages hedged by the swaps on which the society was relying to achieve a match was not permitted under IAS 39.

61. Grant Thornton defended the claim on the grounds that its negligence did not cause the losses claimed by the society and/or that those losses are not recoverable in law because they are not losses from which Grant Thornton owed the society a duty to protect it.

(2)	The judge’s findings

62. The trial of the action took place over 17 days in the Commercial Court before Teare J: [2018] EWHC 963 (Comm); [2018] PNLR 27. For reasons given in a careful judgment, the judge awarded damages to the society of only £316,845 (plus interest) - the main item of damages being the transaction costs payable to terminate the swaps early.

63. The only dispute of primary fact at the trial was whether Grant Thornton was aware in April 2006 that the society intended to hedge lifetime mortgages by entering into long-term swaps. This went to whether Grant Thornton had been negligent in advising the society in April 2006 that hedge accounting could be used, in addition to its admitted negligence in giving such advice when subsequently auditing the society’s accounts for the years ending 31 December 2006 to 2011. The judge decided this issue in favour of the society (see para 71 of the judgment).

64. The judge also found as a fact that, but for Grant Thornton’s negligent advice in April 2006 and in its subsequent audits, the society would not have entered into any more long-term interest rate swaps after April 2006 and would have closed out those already entered into (para 139). In that event the costs of £32.7m paid to close the swaps in 2013 would not have been incurred. The judge further found that Grant Thornton’s negligent advice was an effective cause in law of that loss (para 146) and that the loss was a reasonably foreseeable consequence of Grant Thornton’s negligence and therefore not too remote to be recoverable (para 201).

65. Nonetheless, the judge held that the society could not recover damages for this loss from Grant Thornton (apart from the transaction costs paid to terminate the swaps early). He derived from SAAMCO, as explained in Hughes Holland, the test that a defendant is only responsible for losses if they flow from matters for which the defendant has “assumed responsibility” (paras 150-151). The judge considered that there were cogent arguments on each side of this issue, but ultimately concluded that this test was not satisfied essentially because, “looked at broadly, sensibly and in the round,” the losses flowed from market forces for which Grant Thornton did not assume responsibility (para 179).

5.         Applying the SAAMCO principle to the facts of this case

204. We are now in a position to apply the SAAMCO principle to the facts of this case. It is not in dispute that Grant Thornton was negligent in advising that hedge accounting could be used. But very importantly, it is also not in dispute that, in the context of that advice, Grant Thornton negligently misstated the underlying financial position of the society in the specific respect that, in truth, there was no effective hedging relationship between the swaps and the mortgages (see Lord Leggatt’s judgment at para 168).

205. As we have seen in paras 184-185 above, had Grant Thornton performed its contractual or tortious duty of care properly, the society would not have suffered the overall factual loss of £26.7m. The question posed by the SAAMCO principle is whether the factually caused net loss (£26.7m) was within the scope of the auditor’s duty of care. That is a question of law, focusing especially on the purpose of the advice or information, and rests on the underlying policy as to the fair and reasonable allocation of the risk of loss as between the parties.

206. It was of critical importance to the society, in pursuing its business model, to know whether hedge accounting was acceptable or not. Grant Thornton advised the society that it was. The purpose of that advice was clear to Grant Thornton in that it knew that the society was explicitly relying on that advice in pursuing its business model. That in itself might, perhaps, not have been enough to reach the conclusion that the risks consequent on adopting that business model were appropriately borne by Grant Thornton. But the crucial additional factor that makes it clear that it was fair and reasonable for the risk of the loss to be borne by Grant Thornton was the negligent specific misrepresentation that there was an effective hedging relationship between the swaps and the mortgages. It was that specific misrepresentation, in the context of the advice on hedge accounting, that meant that the business model was pursued despite the society having insufficient regulatory capital. Clearly Grant Thornton knew that the purpose of that representation was to provide a true picture of the society’s financial position on which the society would rely in pursuing its business model. In my view, therefore, the society has established (the burden of proof being on the society, as claimant) that the loss was within the scope of Grant Thornton’s duty of care.

207. What about the SAAMCO counterfactual test? As I have been at pains to make clear, the application of a counterfactual test is not always helpful even if one is dealing with the provision of fairly specific information rather than wide-ranging advice. But what answer would be given by applying such a test? Both Teare J and the Court of Appeal in this case regarded the relevant counterfactual test (if applicable) as requiring the court to ask, would the same loss have been suffered had it been true that it was acceptable to use hedge accounting? Applying that counterfactual test, it is clear that the society would not have broken the swaps, and thereby suffered the break cost (of £32.7m) in June 2013. That counterfactual test might, therefore, be thought to support the view that the loss is recoverable. That was the view on the counterfactual test reached by Teare J and, because it contradicted his view as to Grant Thornton not having assumed responsibility for the break loss, he decided that the application of a counterfactual test was here unhelpful. However, the Court of Appeal thought that Teare J’s application of the counterfactual was incorrect because, if it had been true that it was acceptable to use hedge accounting, one would need to run the counterfactual through to the end of the terms of the long-term swaps. And as the best present evidence (taking the fair market value of the swaps) was that, at the very least, the society would have suffered the same loss (and the present evidence indicated a much greater loss) at the end of the swaps, the application of the counterfactual supported, rather than contradicted, the view that the loss was outside the scope of Grant Thornton’s duty of care.

208. One might baulk at that application of a counterfactual test by the Court of Appeal on the grounds that it is placing an inappropriately difficult burden of proof on the society. Counsel for the society, Rebecca Sabben-Clare QC, submitted that, by analogy to, for example, the contractual rule that it is for the defendant to show that the claimant’s proved reliance loss does not exceed the expectation loss (see Omak Maritime Ltd v Mamola Challenger Shipping Co (The Mamola Challenger) [2010 EWHC 2026 (Comm); [2011] Bus LR 212; [2011] 1 Lloyd’s Rep 47), once the society had shown that the loss would not have been suffered in 2013, the burden of proof in relation to an extension of the counterfactual to the end of the swaps should lie on Grant Thornton not the society. However, any argument for a modification of the burden of proof faces the challenge that, while not essential to the decision, in Hughes-Holland, para 53, Lord Sumption, with whom the other members of the Supreme Court agreed, took the view that the legal burden of proof in relation to SAAMCO was on the claimant not the defendant. In any event, one would have thought that the present market value is the best evidence of the value of the swaps at the end of their term, whichever party has the burden of proof.

209. However, in my view, in agreement with Lord Leggatt, that was not the most helpful counterfactual to apply. I have indicated in para 206 above that, on these facts, the crucial additional factor in here allocating the risk of loss was the specific misrepresentation that there was an effective hedging relationship between the swaps and the mortgages. In line with that, the most helpful counterfactual test is, with respect, not the one applied by Teare J or the Court of Appeal. Rather the question one should be asking is, would the same loss have been suffered had it been true that there was an effective hedging relationship between the swaps and the mortgages? If that had been true, the break cost (of £32.7m) would clearly not have been suffered (because, as gains and losses from movements in interest rates would roughly match, there would have been no significant break cost). It follows that this version of the counterfactual test supports the view that the net loss of £26.7m is recoverable as falling within the scope of Grant Thornton’s duty of care.

210. This analysis neatly illustrates that there is flexibility in the application of a counterfactual test. It performs a useful function as a cross-check in most cases but the crucial decision as to the scope of the duty of care focuses especially on the purpose of the advice or information and rests on the underlying policy as to the fair and reasonable allocation of the risk of loss as between the parties. On these facts, an examination of the purpose of the auditor’s advice and the specific misrepresentation that there was an effective hedging relationship between the swaps and the mortgages make clear that, subject to any contributory negligence by the society, it is fair and reasonable for the risk of the break cost to be allocated to Grant Thornton not the society. And the version of the counterfactual test set out in the previous paragraph supports that decision.

211. Two final points should be made. The first is that it was submitted by counsel for Grant Thornton, Simon Salzedo QC, that, if its primary submission on the SAAMCO scope of duty was rejected, the net loss of £26.7m was in any event irrecoverable because the breach of duty did not legally cause that loss. For essentially the same reasons as those given by Teare J, at paras 140-149 of his judgment, I consider that the breach of duty was an effective legal cause of the loss and that the chain of causation was not broken by an intervening event or action. Secondly, what I have here set out is subject to there being a reduction for the contributory negligence of the society both in entering into 50-year swaps, greatly exceeding the likely duration of the mortgages, and in considering that hedge accounting was available when it was not. Teare J thought that the relevant contributory negligence should be 50% (para 255) and there has been no appeal against that figure.

6.         The judgment of Lord Hodge and Lord Sales

212. Since writing this judgment, I have had the benefit of reading the joint judgment of Lord Hodge and Lord Sales. It can be seen that our reasoning on SAAMCO is closely aligned not least in relation to avoiding a causation explanation of the SAAMCO principle, the flexible role of the counterfactual test and the importance of the purpose of the duty in determining the scope of the duty of care (although, like Lord Leggatt at para 168 and Lord Hodge and Lord Sales at para 38, I regard the misrepresentation explained in para 206 above as being critical on these facts). While I have stressed that the decision on the scope of the duty of care is underpinned by the policy of achieving a fair and reasonable allocation of the risk of the loss as between the parties, I do not see that as representing a significant difference between us. Where we fundamentally differ is that, with respect, I do not consider it necessary or helpful in this case or in Khan v Meadows - as I explain more fully in my judgment in that case at paras 78-81 - to depart from a more conventional approach to the tort of negligence which begins with the duty of care, treats the SAAMCO principle as being concerned with whether factually caused loss is within the scope of the duty of care, avoids the novel terminology of the “duty nexus”, and sees contributory negligence as one of several possible defences. I would emphasise that there is no dispute in this case that a duty of care was owed by the defendant to the claimant as regards pure economic loss, that there has been a breach of that duty of care, and that the loss in question has been factually caused by the breach. The question that is being focused on is whether the loss in question was within, or outside, the scope of the duty of care (ie within, or outside, the SAAMCO principle).

7.         Conclusion

213. It is for these reasons that, in my view, the appeal should be allowed in this

case. The overall net loss of (approximately) £26.7m is recoverable, subject to a
50% reduction for contributory negligence by the society.

JUDGMENT

Manchester Building Society (Appellant) v Grant

Thornton UK LLP (Respondent)

before

Lord Reed, President
Lord Hodge, Deputy President
Lady Black
Lord Kitchin
Lord Sales

Lord Leggatt Lord Burrows

JUDGMENT GIVEN ON

18 June 2021

Heard on 14 and 15 October 2020