Who is responsible for assessing privilege in FRC cases: an auditor under investigation or the client to which the privilege relates?

Following the Court of Appeal decision in Sports Direct International Plc and The Financial Reporting Council [2020] EWCA Civ 177 (which we discussed here), a recent High Court decision provides further guidance on legal professional privilege and its application in Financial Reporting Council (FRC) proceedings.
 

In the case of A v B, The Financial Reporting Council Limited [2020] EWHC 1491 (Ch), an issue surrounding privilege arose in the context of the FRC investigating an auditor, and seeking disclosure from the auditor of documents relating to its client, over which the client claimed privilege.  The judgment establishes that under the FRC’s regime it is the auditor’s responsibility to assess whether a document is privileged, not the client’s.

Background

The FRC commenced an investigation under its Audit Enforcement Procedure into the 2018 financial statements of a retailer, the subject of the FRC’s investigation being the retailer’s former auditor and its audit partner.

During the course of its investigation, the FRC used its powers under the Statutory Auditors and Third Country Auditors Regulations 2016 (“SATCAR”) and sought the provision of a number of documents from the auditor. The FRC is entitled to issue a statutory notice under SATCAR “for any purpose related to inspecting or investigating statutory audit work”. FRC statutory notices are enforceable by the FRC making an application to court if a person fails to comply with a notice.

However, there is an exception for complying with a notice under SATCAR if the documents sought are protected from disclosure on the grounds of legal professional privilege. Paragraph 1(8) of Schedule 2 to SATCAR provides that a statutory notice does not require provision of information or documents which the “person would be entitled to refuse to provide or produce ... in proceedings in the High Court on the grounds of legal professional privilege."

Legal professional privilege means that information and advice passed between a client and their lawyer is confidential and not (generally) disclosable.

The Dispute

The auditor wrote to its client via solicitors to inform them that the auditor was required to disclose a copy of the audit file to the FRC. A dispute arose between the auditor and the client about whether certain documents were privileged and whether the auditor was entitled to take its own view on whether the claim to privilege was well founded.

The FRC did not argue that it required the auditor to provide it with material subject to legal professional privilege and following the Sports Direct case, it is established that there is no exception available to the FRC which could override the client’s claim to privilege. The dispute remained squarely between the auditor and its client about what was properly disclosable to the FRC.

The Proceedings

The client issued a claim in the High Court for declaratory relief based on a number of questions. The client asked the Court to rule on whether, in the circumstances where the client has asserted legal professional privilege:

1. the auditor is obliged to withhold production to the FRC on the grounds of the client’s assertion of privilege; or
2. the auditor is obliged and/or entitled to make its own assessment on whether the claim to privilege is valid and only withhold the documents which the auditor considers are subject to a valid claim to privilege on the part of the client.

The client argued that the first question was the correct position, whilst the FRC and the auditor argued that declaratory relief was not appropriate. The auditor argued that if the Court was minded to grant relief it should be reflective of the second question.

In the early stages of the proceedings, the Court identified that the real dispute was between the auditor and its client on the issue of whether or not the documents were indeed privileged. The auditor was allowed to make a counterclaim for a declaration from the Court as to whether the documents in dispute were privileged. This aspect of the claim was heard in private without the FRC.

This left the Court here to decide whether or not to grant the declaratory relief posed by the client and if so, in what form.

Following submissions by all three parties, the Court declined to grant declaratory relief on the ground that the test for such relief was not made out here.  It also said that the declaration sought would be an inaccurate reflection of the true legal position.

However, the Court did go on to give some guidance on how to deal with such a situation where an auditor and its client dispute what is disclosable to the FRC, the key points of which we set out below.

Guidance

1. Importantly, the Court found that the auditor must form its own view on whether documents are privileged and can therefore be withheld on that ground, irrespective of whether the privilege is that of the auditor or its client.
2. The obligation to comply with an FRC statutory notice was on the auditor and disclosure could only be refused on the grounds that a document was actually privileged not that the auditor believes that it is privileged or the client asserts that it is. Mere assertion of privilege by the client was insufficient.
3. If the auditor makes the wrong decision and discloses a privileged document, it will be liable to its client under the terms of their underlying relationship. The Court noted that it is always likely to be the case that an auditor is under a duty to tell its client about a statutory notice. Accordingly, the client’s rights are capable of being protected by proceedings (and if appropriate an injunction) against the auditor.
4. If the auditor decides not disclose a document on the grounds of the client’s privilege, it is always open to the FRC to challenge that decision under SATCAR.
5. The auditor has no obligations to its client pursuant to the terms of SATCAR; only the FRC. The obligation that an auditor has to its client derives from the terms of their relationship. The Court suggested that it would be likely to require clear wording between an auditor and its client for an auditor to maintain a claim to privilege based on only a mere assertion by its client.
6. The making of the declaration in the form requested by the client would interfere with the FRC’s right to apply to court if a person had failed to comply with a notice.
7. The Court recognised that an auditor has its own interests to protect. It may wish to ensure the FRC has access to as much information as possible (as the information assists the auditor) and an auditor has a direct obligation to the FRC to comply with the notice.
8. The Court agreed with the FRC’s submission that there are real advantages in leaving the issue of any disagreement on disclosure to be determined in proceedings by the client against the auditor, as in this case both parties will have the advantage of seeing the document and the Court can reach a fully informed decision.
9. The Court did not accept the client’s submission that where privilege is in issue, it is more appropriate for the FRC to seek a copy of the same document directly from the client. This is on the basis that the client may no longer have the document and the FRC often wishes to see the document as it appears on the audit file.

Commentary

This case provides some useful practical guidance for auditors in the difficult position of a dispute with their clients about whether a document sought by the FRC is subject to privilege. This case makes clear that it is for auditors to determine themselves whether a document is privileged for the purpose of deciding whether to disclose it to the FRC; auditors do not have to just rely on assertions by clients. However, auditors should be aware that if they disclose a document over which privilege is claimed, they may face proceedings from their client.

In practical terms, it may be that there are few documents in dispute; indeed, in this case there were only six.  However, the auditor will want to be satisfied that its assessment is sound.  The auditor has duties to the FRC and to its client; it clearly wants to be able to resolve any issues early to ensure that duties to both parties can be met.  If this issue arises, the auditor should take advice and seek to resolve it with the client, whilst keeping the FRC informed.  This will avoid the FRC forming a view that the auditor is not cooperating sufficiently with its information request under SATCAR. 

Given the specific nature of the SATCAR regime, the specific outcomes in this case do not translate easily across the regulatory sphere.  However, it is likely that similar issues arise in other regulatory proceedings; it would be interesting to see how other regulators, and regulated entities, deal with the thorny questions raised in these proceedings.

About the authors

Julie Matheson is a Partner in the Regulatory team, specialising in defending professionals in the financial and legal fields.  She has particular expertise in defending accountants and accountancy firms in regulatory proceedings brought by the FRC, ICAEW and ACCA.

Sophie Mass is a trainee solicitor in the Regulatory team. She works on matters defending a range of professionals in the legal and financial industries.