Title: Bethlehem Steel Corp. v. Ernst & Whinney
Citation: 822 S.W.2d 592
Docket Number: N/A
State: Tennessee
Issuer: Tennessee Supreme Court
Date: December 30, 1991

822 S.W.2d 592 (1991) BETHLEHEM STEEL CORPORATION, Plaintiff-Appellant, v. ERNST &amp; WHINNEY, Defendant-Appellee. Supreme Court of Tennessee, at Knoxville. December 30, 1991. Michael E. Richardson, Ray L. Brock, Jr., Patrick, Beard &amp; Richardson, P.C., Chattanooga, for plaintiff-appellant. T. Maxfield Bahner, William H. Pickering, Chambliss, Bahner, Crutchfield, Gaston &amp; Irvine, Chattanooga, for defendant-appellee. REID, Chief Justice. Permission to appeal was granted for the purpose of reviewing accountants' liability to non-clients for negligence in the preparation of inaccurate audit reports, an issue that has not been considered by this Court. This case presents an appeal by Bethlehem Steel Corporation (Bethlehem) from the judgment of the Court of Appeals, which reversed a judgment notwithstanding *593 the verdict (JNOV) entered by the trial court in favor of Ernst &amp; Whinney. Bethlehem, which is engaged in the business of manufacturing steel, sued Ernst &amp; Whinney, a national accounting firm, for damages resulting from the negligent preparation of an unqualified audit report regarding W.L. Jackson Manufacturing Company, Inc. (Jackson), which, prior to its insolvency, was a customer of Bethlehem. Bethlehem alleged that it relied to its detriment on the audit report prepared by Ernst &amp; Whinney in extending credit to Jackson. A jury verdict awarding Bethlehem damages in the amount of $500,000 was set aside upon Ernst &amp; Whinney's motion for JNOV, made pursuant to Rule 50.02, Tennessee Rules of Civil Procedure (T.R.Civ. P.), and the trial court conditionally granted Bethlehem a new trial pursuant to Rule 50.03, T.R.Civ.P., on the ground that the evidence preponderates against the verdict. The Court of Appeals, upon finding that the record contains material evidence supporting the jury verdict, reversed the judgment in favor of Ernst &amp; Whinney and affirmed the trial court's grant of a new trial. The judgment of the Court of Appeals is affirmed. The courts have adopted three general views of an accountant's liability to non-clients. The traditional view holds an accountant liable only to those with whom he is in privity or there is a relationship "so close as to approach that of privity." Ultramares Corp. v. Touche, 255 N.Y. 170, 174 N.E. 441, 446 (1931). Several jurisdictions still follow the privity or "near privity" rule. See, e.g., Toro Co. v. Krouse, Kern &amp; Co., Inc., 827 F.2d 155 (7th Cir.1987) (applying Indiana law); Stephens Industries, Inc. v. Haskins &amp; Sells, 438 F.2d 357 (10th Cir.1971) (applying Colorado law); Robertson v. White, 633 F. Supp. 954 (W.D.Ark. 1986); Colonial Bank v. Ridley &amp; Schweigert, 551 So. 2d 390 (Ala. 1989); Idaho Bank &amp; Trust Co. v. First Bancorp, 115 Idaho 1082, 772 P.2d 720 (1989); Thayer v. Hicks, 243 Mont. 138, 793 P.2d 784 (1990), Citizens Nat. Bank v. Kennedy &amp; Coe, 232 Neb. 477, 441 N.W.2d 180 (1989). However, most jurisdictions have abandoned this restrictive standard because it does not impose upon accountants a duty commensurate with the significance of their role in current business and financial affairs. As stated by the Iowa Supreme Court in Ryan v. Kanne, 170 N.W.2d 395 (Iowa 1969): 170 N.W.2d at 401. See Note, Raritan River Steel Co. v. Cherry, Bekaert &amp; Holland: Accountants' Liability to Third Parties for Negligent Misrepresentation, 67 N.C.L.Rev. 1459, 1467-68 (1989). The classes of non-clients who might rely on information provided by an accountant include creditors, investors, shareholders, management, directors, and regulatory agencies. The varying relationships are on a single continuum, and the slices of the continuum encompassing liability may vary in thickness depending upon the factual situation. See Fiflis, Current Problems of Accountants' Responsibilities to Third Parties, 28 Vand.L.Rev. 31, 108 n. 286 (1975). Public policy considerations determine the extent along the continuum to which accountants will be held liable for inaccurate audits. Some states hold accountants liable to the extent that loss incurred was "reasonably foreseeable." This expansive view holds the accountant liable to all persons who might reasonably be foreseen as relying upon his work product. See Int'l Mortgage Co. v. John P. Butler Accountancy Corp., 177 Cal. App. 3d 806, 223 Cal. Rptr. 218 (1986); Touche Ross &amp; Co. v. Commercial Union Ins. Co., 514 So. 2d 315 (Miss. 1987); H. Rosenblum, Inc. v. Adler, 93 N.J. 324, 461 A.2d 138 (1983); Citizens State Bank v. Timm, Schmidt &amp; Co., 113 Wis.2d 376, 335 *594 N.W.2d 361 (1983). See also Biakanja v. Irving, 49 Cal. 2d 647, 320 P.2d 16 (1958) (balancing test approximating "reasonably foreseeable" standard). The trial court in this case applied the reasonably foreseeable standard and charged the jury as follows: This reasonably foreseeable standard has been criticized as extending liability too far. As stated by the North Carolina Supreme Court in Raritan River Steel Co. v. Cherry, Bekaert &amp; Holland, 322 N.C. 200, 367 S.E.2d 609 (1988), 367 S.E.2d at 616. See Note, H. Rosenblum, Inc. v. Adler: A Foreseeably Unreasonable Extension of an Auditor's Legal Duty, 48 Alb.L.Rev. 876, 894-920 (1984). A majority of jurisdictions have adopted the rule set forth in § 552 of the Restatement (Second) of Torts (1977), which provides, in part: The three general standards adopted in the various jurisdictions for holding accountants liable for their defective work product were compared by the Fifth Circuit Court of Appeals in First Nat'l Bank of Commerce v. Monco Agency, Inc., 911 F.2d 1053 (5th Cir.1990), as follows: 911 F.2d at 1059-60 (emphasis in original) (footnote omitted). Tennessee has adopted the Restatement (Second) of Torts § 552 as the guiding principle in negligent misrepresentation actions against other professionals and business persons. Recently, in John Martin Co., Inc. v. Morse/Diesel, Inc., 819 S.W.2d 428 (Tenn. 1991), the Court held that a subcontractor, despite lack of privity, may pursue an action against a construction manager based on negligent misrepresentation. In that case, the Court cited prior Tennessee cases adopting the Restatement standard. One such case was Stinson v. Brand, 738 S.W.2d 186 (Tenn. 1987), which found that an attorney may be liable to a third party for negligence even if no attorney-client relationship was intended. The Stinson Court recognized, as follows, that the Restatement principles could extend to all professions: 738 S.W.2d at 190. The conclusion is that Section 552 of the Restatement is the appropriate standard for actions by third parties against accountants based on negligent misrepresentation in this state. This conclusion, however, leaves a subsidiary issue to be discussed because application of the Restatement rule has not been uniform. See Raritan River Steel, 367 S.E.2d at 617. A restrictive interpretation of § 552 would limit the class of third parties who may recover to those actually and specifically known by the accountant. See, e.g., First National Bank of Commerce, 911 F.2d at 1061-63. Comment (h), in the paragraph discussing subsection (2) of § 552, provides some direction in delineating the limits of liability under the Restatement view: (Emphasis added.) This comment emphasizes that the word "knows" in subsection (2) of the Restatement should not be construed to require that the accountant know by name the specific person or group of persons who will rely on his work. As a court of appeals in Texas stated, Blue Bell, Inc. v. Peat, Marwick, Mitchell &amp; Co., 715 S.W.2d 408, 412 (Tex. Ct. App. Dallas 1986, writ ref'd n.r.e.). Even though specific knowledge is not required in order to hold an accountant liable, liability is limited to those persons or class of persons, as determined by current business practices and the particular factual situation, whom the accountant at the time the report is published should reasonably expect to receive and rely on the information. See Shatterproof Glass Corp. v. James, 466 S.W.2d 873, 879 (Tex. Ct. App. Fort Worth 1971, writ ref'd n.r.e.). See also Note, Accountants' Liability for Compilation and Review Engagements, 60 Tex.L.Rev. 759, 776 n. 90 (1982). With regard to other issues raised in the Court of Appeals and in this Court, the Court affirms the following actions of the Court of Appeals for the reasons stated in its opinion: (1) In reversing the trial court's judgment for Ernst &amp; Whinney; (2) In granting Bethlehem a new trial; and (3) In holding that the applicable limitation of action is three years. The judgment of the Court of Appeals is affirmed, and the case is remanded for a new trial consistent with this opinion. Costs are adjudged one-half to the appellant and one-half to the appellee. DROWOTA, O'BRIEN, DAUGHTREY, and ANDERSON, JJ., concur.