Court Opinion

ID: 9593291
Source: CourtListenerOpinion
Date Created: 2023-08-22 00:21:16.333808+00
Date Added: 2024-06-11T18:01:19.810597
License: Public Domain

KENNARD, J.
I dissent.
Defendant, one of the nation’s largest certified public accounting firms, wrote an audit report expressing its unqualified opinion that a corporation’s financial statements fairly presented its financial condition and had been prepared in conformity with generally accepted accounting principles. Defendant printed 100 copies of this report and gave them to the corporation, which in turn gave copies to potential investors, including plaintiffs. Many of these investors relied on defendant’s report when deciding to invest in the corporation.
The audited financial statements contained material errors that defendant would have discovered had it performed a reasonably careful audit using generally accepted auditing standards. As a result of defendant’s carelessness, many investors incurred significant losses when the corporation became bankrupt. A jury reviewed the evidence, found that defendant had been negligent, and awarded damages to those plaintiffs who had relied on defendant’s audit report. The principal question is whether defendant was under a duty to exercise due care to protect plaintiffs, as foreseeable users of the audit report, from injury resulting from their reliance on defendant’s unqualified opinion.
The majority concludes that defendant owed plaintiffs no duty. Rummaging in the archives of legal history, amidst the debris of discarded dogmas, the majority retrieves and revives, as an element of a cause of action for negligence, the requirement of privity, which this court had described more than 20 years ago as “virtually abandoned in California.” (Heyer v. Flaig (1969) 70 Cal.2d 223, 227 [74 Cal.Rptr. 225, 449 P.2d 161].) Under the strict version of the privity rule that the majority adopts, an accountant’s liability for professional negligence in the conduct of an audit “is confined to the client” who retained the accountant to audit its financial statements. (Maj. opn., ante, p. 406.)
Turning to plaintiffs’ cause of action for negligent misrepresentation, the majority adopts a rule that is equally arbitrary in operation and only slightly less restrictive than the rule it adopts for negligence liability. The majority holds that an accountant is liable to a third party for negligent misrepresentation in an audit report only if the third party relied on the misrepresentation in a transaction that the accountant intended to influence.
The effect of these holdings is to give negligent accountants broad immunity for their professional malpractice in rendering audit opinions.
*418In defining the scope of duty in negligence cases, courts must balance competing concerns. The burden imposed by the duty should bear some reasonable relation to the moral fault of the negligent party and should not be so onerous that those held liable are unwilling or financially unable to engage in socially beneficial activity. On the other hand, tort liability is itself socially beneficial to the extent that it provides both an incentive for due care, thereby preventing avoidable injuries, and compensation for those who have been injured. Courts should not define a legal duty so narrowly as to preclude these positive effects of tort liability, as the majority has done in this case.
Lenders and investors use the reports prepared by independent auditors so widely, and rely on them so heavily, that it is difficult to conceive how our complex modern capital markets would function if they were no longer available or no longer able to inspire confidence. In weighing the competing policy considerations that factor into a decision defining the scope of the accountant’s duty in this context, a court must seek to fashion a rule that, without making the provision of auditing services prohibitively risky, ensures that the quality of those critically important services will be maintained at a high level. Such a rule is necessary so that lenders and investors will continue to have confidence in audited financial reports and so that the usual and foreseeable users of audit reports will receive fair compensation when they have been victimized by the occasional failure of an accountant to meet prevailing professional norms.
In my view, the law that has existed in this state until today strikes the proper balance. Until today, California law had recognized that accountants owe a duty of care to all persons who reasonably and foreseeably rely on accountants’ professional opinions. (International Mortgage Co. v. John P. Butler Accountancy Corp. (1986) 177 Cal.App.3d 806 [223 Cal.Rptr. 218].) Extending the duty to all such users provides a necessary incentive for due care in the conduct of audits and in the preparation of audit reports, and ensures fair compensation to innocent victims of auditors’ negligence. Unlike the majority, I am not persuaded that the duty so defined has excessively burdened the accounting profession, or that it has caused or is likely to cause a significant reduction in the availability of auditing services. Even if these unfortunate consequences could be demonstrated, the remedy should come in the form of carefully crafted legislation, not wholesale curtailment of legal duty.
I
Unlike the majority, I would not adopt one rule for negligence liability and a different rule for liability under the conceptually distinct but factually *419related theory of negligent misrepresentation. Under these two liability theories, essentially the same standard of care is applied to the same conduct by the accountant. Given this overlap, it is anomalous to hold that the class of persons to whom the accountant owes a duty varies depending on which legal theory has been pleaded. Although the focus of this separate opinion is the theory of negligence, an analysis under the theory of negligent misrepresentation would yield the same result.
Any discussion of the scope of negligence liability in this state ought to begin with the following basic rule that our Legislature established long ago: “Every one is responsible, not only for the result of his [or her] willful acts, but also for an injury occasioned to another by his [or her] want of ordinary care or skill in the management of his [or her] property or person, except so far as the latter has, willfully or by want of ordinary care, brought the injury upon himself [or herself].” (Civ. Code, § 1714, subd. (a).) Under this rule, an individual who has acted negligently is liable for all reasonably foreseeable injuries caused by that negligence. To this rule of general liability, courts will make only those exceptions that are “clearly supported by public policy.” (Rowland v. Christian (1968) 69 Cal.2d 108, 112 [70 Cal.Rptr. 97, 443 P.2d 561, 32 A.L.R.3d 496]; accord, Burgess v. Superior Court (1992) 2 Cal.4th 1064, 1079 [9 Cal.Rptr.2d 615, 831 P.2d 1197]; Christensen v. Superior Court (1991) 54 Cal.3d 868, 885 [2 Cal.Rptr.2d, 820 P.2d 181].)
Under the fundamental principle governing the scope of negligence liability, accountants are liable for all reasonably foreseeable injuries caused by the negligent performance of their professional duties. This would necessarily include injuries to foreseeable users like the plaintiffs in this case. If negligent accountants are to be granted special dispensation from the general scope of liability, this dispensation must be justified by considerations of public policy.
To determine whether public policy justifies a limitation on the scope of the duty owed in a particular context, courts consider these factors: “the foreseeability of harm to the plaintiff, the degree of certainty that the plaintiff suffered injury, the closeness of the connection between the defendant’s conduct and the injury suffered, the moral blame attached to the defendant’s conduct, the policy of preventing future harm, the extent of the burden to the defendant and consequences to the community of imposing a duty to exercise care with resulting liability for breach, and the availability, cost, and prevalence of insurance for the risk involved.” (Rowland v. Christian, supra, 69 Cal.2d 108, 113; see also Burgess v. Superior Court, supra, 2 Cal.4th 1079, 1080; Thompson v. County of Alameda (1980) 27 Cal.3d 741, 750 [167 Cal.Rptr. 70, 614 P.2d 728, 12 A.L.R.4th 701]; Tarasoff v. Regents *420of University of California (1976) 17 Cal.3d 425, 434 [131 Cal.Rptr. 14, 551 P.2d 334, 83 A.L.R.3d 1166]; Biakanja v. Irving (1958) 49 Cal.2d 647, 650 [320 P.2d 16, 65 A.L.R.2d 1358].) Therefore, the rule established by the majority, granting negligent accountants special dispensation from liability, must be evaluated by reference to these policy considerations.
A. Harm to Third Persons Is Foreseeable
Why do corporations have their financial statements audited by certified public accountants? Although corporations find audit reports useful as a check on their internal accounting procedures, this is not the sole or even the primary purpose for which most corporate businesses now obtain audit reports. As the majority itself acknowledges, “audit reports are very frequently (if not almost universally) used by businesses to establish the financial credibility of their enterprises in the perceptions of outside persons, e.g., existing and prospective investors, financial institutions, and others who extend credit to an enterprise or make risk-oriented decisions based on its economic viability.” (Maj. opn., ante, p. 382.)
Defendant in this case does not plead ignorance of the common uses for the audit reports it prepares. As one of the nation’s largest accounting firms, and a prominent member of the business community in its own right, defendant knows that its work product gives the client’s financial statements an essential measure of credibility in the eyes of those individuals and entities who, in dealings with the client, must make business decisions based on an assessment of the client’s financial position. Defendant knows, in brief, that audit reports invite and produce reliance, and that injury results when reliance proves unjustified. Because the normal and common uses of audit reports are well known throughout the business community, an accountant can readily foresee that negligence in the conduct of the audit or the preparation of the audit report will result in harm to individuals and corporations that receive the report and rely on it in their business dealings with the client.
As neither the majority nor defendant disputes the foreseeability of harm to relying third parties, this point need not be belabored. But neither should it be slighted. As this court has stressed, foreseeability of harm is the “most important” of the policy considerations governing negligence liability. (Tarasoff v. Regents of University of California, supra, 17 Cal.3d 425,434; see also J’Aire Corp. v. Gregory (1979) 24 Cal.3d 799, 806 [157 Cal.Rptr. 407, 598 P.2d 60] [“. . . this court has focused on foreseeability as the key component necessary to establish liability . . . .”].)
*421B. Economic Injury to Third Persons Is Certain
Courts have expressed concern that recognizing tort liability in some situations would encourage false claims based on feigned injuries. This concern has been noted primarily, if not exclusively, when the only claimed injury is an intangible harm such as emotional distress. (See Burgess v. Superior Court, supra, 2 Cal.4th 1064, 1073, fn. 6; Molien v. Kaiser Foundation Hospitals (1980) 27 Cal.3d 916, 925 [167 Cal.Rptr. 831, 616 P.2d 813, 16 A.L.R.4th 518]; Quesada v. Oak Hill Improvement Co. (1989) 213 Cal.App.3d 596, 609 [261 Cal.Rptr. 769].)
Unlike emotional distress, economic loss is not readily simulated. When a corporation has become bankrupt, and shares of its stock are worthless, the resulting injury to the corporation’s shareholders is unquestionably genuine. If no funds remain to repay loans and accounts payable, the injury to suppliers and lenders is likewise incontestable. “No one has suggested any difficulty in proving the fact of injury when an accountant’s negligence is involved.” (Wiener, Common Law Liability of the Certified Public Accountant for Negligent Misrepresentation (1983) 20 San Diego L.Rev. 233, 256.) Nor has the majority suggested that the plaintiffs’ losses in this case could be other than real. The certainty of the injury must be counted as a factor that favors continuing recognition of accountants’ liability to relying third parties for negligent auditing.
C. The Accountant’s Conduct Is Closely Connected to the Injury Suffered
. To recover damages for an accountant’s negligence in rendering an unqualified audit opinion, a plaintiff must prove both reliance on the audit opinion and a factual nexus between the plaintiff’s loss and the undisclosed defects in the audited financial statements. To establish reliance, the third party must prove that it reviewed the client’s financial statements, that the statements contained material errors or omissions, that it would not have entered into a business transaction with the client (as investor, lender, supplier, etc.) had the financial statements revealed the true facts, and that it would not have accepted the client’s financial statements at face value had the accountant not endorsed them with an unqualified audit opinion. To establish the required factual nexus, the plaintiff must show that the loss was a foreseeable result of the fact or condition that the financial statements misrepresented or concealed. (See Restated Torts (1977) § 548A, com. b.)
When the third party has demonstrated causation in this manner, showing that the accountant’s opinion played an essential role in the third party’s business decision and its resulting loss, the connection between the auditor’s *422negligence and the third party’s injury must be judged close by any reasonable measure.
The majority does not dispute that when reliance exists, the accountant’s negligence is closely connected to the third party’s resulting injury. Rather, the majority implies that reliance is easily feigned, and that false claims of reliance are difficult to disprove. (Maj. opn., ante, pp. 400-401.) Thus, the majority asserts that juries will be deceived into awarding substantial damages to plaintiffs who did not rely at all on the audit report, or for whom the audit report was only a minor and insignificant factor in the decision to lend to or invest in the client. The majority’s concern is unwarranted.
As noted, an independent auditor’s report invites and produces reliance. Businesses retain accountants to audit their financial statements because they know that audit reports are effective in inducing investors to invest and lenders to lend. If audit reports were not a substantial factor in the decisions of investors and lenders, businesses would have little need for independent auditing services. Thus, accountants can hardly argue that third party reliance is anything other than a routine and predictable response. Claims of actual reliance are more likely to be genuine than feigned.
Because the plaintiff must show that reliance was reasonable, an accountant is not defenseless when faced with a claim of reliance that is dubious under the circumstances of the particular case. By means of expert testimony that a reasonable investor or lender would not have relied on the accountant’s opinion under the same circumstances, the accountant can rebut the claim of reliance.
The supposed problem of feigned reliance claims differs neither in degree nor in kind from the many other credibility issues routinely resolved by triers of fact in civil litigation. It cannot justify a blanket rule of nonliability that would preclude compensation for genuine injuries caused by negligence in auditing. Some words of the United States Supreme Court are appropriately recalled here. Rejecting an argument similar to that made by the majority, the court said: “Petitioner’s entire argument... is founded on the premise that the jury will not be able to separate the wheat from the chaff. We do not share in this low evaluation of the adversary process.” (Barefoot v. Estelle (1983) 463 U.S. 880, 901, fn. 7 [77 L.Ed.2d 1090, 103 S.Ct. 3383].)
D. Moral Blame Is Comparable to Other Actionable Professional Negligence
As independent auditor of a business’s financial statements, an accountant assumes a moral responsibility to third parties who may be expected to rely *423on the audit report. Courts and commentators have long recognized this moral obligation: “ ‘The certified public accountant acknowledges a moral responsibility (and under the Securities Act this is made a legal and financial responsibility) to be as mindful of the interests of strangers who may rely on his [or her] opinion as of the interests of the client who pays his [or her] fee. [f]... The certified public accountant, therefore, in providing accounting statements which all concerned may accept as disinterested expressions, based on technically sound procedures and experienced judgment, may serve as a kind of arbiter, interpreter, and umpire among all the varied interests. Thereby he [or she] can eliminate the necessity for costly separate investigations by each party at interest, as well as endless doubts, delays, misunderstandings, and controversies which are so much sand in the economic machine.’ ” (Rosenblum v. Adler (1983) 93 NJ. 324 [461 A.2d 138, 150, 35 A.L.R. 4th 199], quoting Carey, Professional Ethics of Public Accounting (1946) pp. 13-14.)
The United States Supreme Court, in refusing to recognize an accountant-client privilege for tax accrual workpapers, described the accountant’s responsibility in these terms: “By certifying the public reports that collectively depict a corporation’s financial status, the independent auditor assumes a public responsibility transcending any employment relationship with the client. The independent public accountant performing this special function owes ultimate allegiance to the corporation’s creditors and stockholders, as well as to the investing public. This ‘public watchdog’ function demands that the accountant maintain total independence from the client at all times and requires complete fidelity to the public trust.” (United States v. Arthur Young & Co. (1984) 465 U.S. 805, 817-818 [79 L.Ed.2d 826, 835-837, 104 S.Ct. 1495], italics in original.)
The Securities and Exchange Commission expressed the same view some 35 years ago: “ ‘The responsibility of a public accountant is not only to the client who pays his [or her] fee, but also to investors, creditors and others who may rely on the financial statements which he [or she] certifies.’ ” (Rosenblum v. Adler, supra, 93 NJ. 324 [461 A.2d 138, 149], quoting In re Touche, Niven, Bailey & Smart (1957) 37 S.E.C. 629, 670.)
Accountants themselves do not dispute or disclaim their ethical obligation to third party users of audit opinions: “A distinguishing mark of a profession is acceptance of its responsibility to the public. The accounting profession’s public consists of clients, credit grantors, governments, employers, investors, the business and financial community, and others who rely on the objectivity and integrity of certified public accountants to maintain the orderly functioning of commerce. This reliance imposes a public interest responsibility on *424certified public accountants.” (2 American Institute of Certified Public Accountants, Prof. Standards (CCH 1988) § 53.01.)
Because an accountant’s moral, ethical, and professional responsibilities extend to foreseeable users of audit opinions, such as lenders and investors, an accountant whose carelessness causes economic loss to a foreseeable user is as morally blameworthy as an attorney who negligently drafts a will or contract, or a broker or escrow holder who negligently mishandles important documents in a real estate transaction. In each instance, the breach of a professional responsibility through lack of due care should result in liability to those to whom the professional owes an established moral and ethical obligation. Although defendant and the majority advance various arguments against this conclusion, none is persuasive.
Defendant argues that accounting is more art than science, that it requires the exercise of professional judgment, and that even the most carefully performed audit cannot guarantee that the audited financial statements are entirely free of error. From this, defendant would have this court conclude that little if any moral blame attaches when an accountant fails to detect errors in a client’s financial statements.
Defendant’s argument proceeds from a faulty premise. It incorrectly assumes that an accountant will be liable for negligence whenever an audit fails to uncover a material mistake in a financial statement. No such strict liability is at issue. On the contrary, accountants are held only to the standards of their profession: “The auditor is neither required to investigate every supporting document, nor deemed to have the training or skills of a lawyer or criminal investigator.” (Rosenblum v. Adler, supra, 93 N.J. 324 [461 A.2d 138, 148].)
The law fully recognizes that, just as an attorney does not guarantee a client’s success in litigation, nor a doctor a patient’s complete recovery from sickness or injury, an accountant performing an audit does not guarantee the accuracy of the client’s financial statements. (International Mortgage Co. v. John P. Butler Accountancy Corp., supra, 177 Cal.App.3d 806, 818.) Negligence liability results only when the accountant has failed to meet the standards of the accounting profession. More specifically, an accountant performing an audit is subjected to negligence liability only upon proof of a failure to perform a reasonably careful audit according to generally accepted auditing standards. When such a breach of due care has been proven, the accountant’s conduct is morally blameworthy to the same extent as other forms of professional malpractice for which negligence liability is routinely imposed. (See, e.g., Burgess v. Superior Court, supra, 2 Cal.4th 1064, 1081.)
*425The majority maintains that in cases like this one it is wrong to impose liability on an accountant for failing to detect errors in financial statements, because the accountant’s wrongdoing is slight when compared to that of the client who committed the errors in the first instance. If the client is more at fault than the accountant, this greater fault is relevant in an action by the accountant against the client for indemnity, but it provides no reason to absolve the negligent accountant from liability to third parties. When the client is not a party to the lawsuit, and the only question is whether a loss should fall on the negligent accountant or on a third party who reasonably and foreseeably relied on the accountant’s integrity and professional skill, considerations of relative moral fault necessarily require placing the loss on the party whose use of care could have prevented it, rather than on a wholly innocent victim. (See Iselin-Jefferson Financial Co. v. United California Bank (1976) 16 Cal.3d 886, 890-892 [129 Cal.Rptr. 670, 549 P.2d 142] [holding notary public who negligently acknowledged a forged signature on a guarantee agreement liable to a purchaser of accounts receivable who relied on the notarization]; see also, Civ. Code, § 3543 [“Where one of two innocent persons must suffer by the act of a third, he [or she], by whose negligence it happened, must be the sufferer.”].)
The majority asserts that holding negligent accountants liable to foreseeable users of audit opinions will subject accountants to “a claim for all sums of money ever loaned to or invested in the client” (maj. opn., ante, p. 400), and result in “vast numbers of suits and limitless financial exposure” (ibid.). The majority uses such assertions to justify its claim that liability to foreseeable users of audit opinions would be out of proportion to fault.
The majority’s characterizations of the scope of the liability that until now has existed in this state are gross exaggerations, yet typical of the hyperbole that seems to infect any debate of accountants’ negligence liability to third parties. Such liability is indeterminate (like virtually all other forms of tort liability), but it is not limitless. Because liability has extended only to those business transactions conducted in reliance on the audited financial statements, and because audited financial statements become obsolete within a few years at most, the accountant’s liability exposure has been finite and reasonably predictable in duration. Liability continues only so long as the audited financial statements reasonably influence business decisions. The amount of the potential liability is also measurable. Because it depends on the client’s investment and borrowing potential, the scope of liability is necessarily proportional to the size and growth rate of the audited business.
These boundaries of time and amount mark the outer limits of accountant liability for negligence in auditing. Within those limits, a negligent accountant will be liable for only a fraction of the money invested in or lent to the *426client. No liability ensues absent reliance, and, as the majority states, “the ultimate decision to lend or invest is often based on numerous business factors that have little to do with the audit report.” (Maj. opn., ante, p. 401.) A bank’s decision to make a fully secured loan, for instance, may be little influenced by financial statement inaccuracies having no bearing on the security’s value. In such cases, the necessary element of causation will be lacking, and the accountant will not be liable.
The factor of moral blame, I conclude, supports a rule that makes a negligent accountant liable to an innocent third party for economic losses resulting from the third party’s reasonable and foreseeable reliance on the negligent accountant’s audit opinion.
E. Liability Prevents Future Harm
Civil Code section 3274 declares that in this state money damages are not only the prescribed remedy “for the violation of private rights,” but also “the means of securing their observance.” As a particular application of this broad principle, it is generally recognized that tort liability prevents harm by deterring negligent conduct. (See, e.g., Burgess v. Superior Court, supra, 2 Cal.4th 1081-1082.) The majority fails to explain why this is not as true for independent audits of financial statements as for other professional activities. In my view, the deterrent effect of tort liability is especially important in this area.
In capital markets, accurate financial reporting is indispensable for sound decisions and thus for the efficient allocation of resources. To ensure that the financial data they receive is accurate, lenders and investors insist that financial statements in all substantial transactions be verified by the unqualified opinion of a certified public accountant. In risking their capital on the basis of financial data thus verified, lenders and investors depend on the integrity and expertise of the certified public accountant in deciphering the complexities of modern financial information.
When the trust of lenders and investors proves misplaced, the loss may extend well beyond the particular lenders and investors involved. Lenders who suffer substantial losses will pass the costs on to their customers and society at large through higher interest charges, tighter lending controls, higher loan application costs, and, too often, the massive costs associated with failed financial institutions. Investors who suffer losses through investment in failing businesses that appeared sound on paper will not be able to use the funds thus wasted to foster the growth of other, more deserving companies. Having suffered losses due to unreliable financial information, *427both lenders and investors may concentrate their funds in the most well-established businesses, to the detriment of young, start-up companies with innovative products or services. Finally, the losses resulting from misallocation of funds and the sudden collapse of reportedly sound companies have economy-wide consequences in terms of loss of employment and failure of investor confidence in the stock market.
Does the rule holding negligent accountants liable to persons who reasonably and foreseeably rely on their audit reports of financial statements serve to avert these many forms of harm? I submit it does. As one commentator has put it: “Negligent auditing will be deterred as accountants, realizing that their mistake will involve potentially greater financial consequences, will use even greater care to avoid them.” (Paschall, Liability to Non-clients: The Accountant’s Role and Responsibility (1988) 53 Mo. L.Rev. 693, 729.) This reasoning is supported by both common sense and judicial authority. (See International Mortgage Co. v. John P. Butler Accountancy Corp., supra, 177 Cal.App.3d 806, 820 [liability “provides a financial disincentive for negligent conduct and will heighten the profession’s cautionary techniques”]; Citizens State Bank v. Timm, Schmidt & Co. (1983) 113 Wis.2d 376 [335 N.W.2d 361, 365] [“Unless an accountant can be held liable to a relying third party, this negligence will go undeterred.”]; Rosenblum v. Adler, supra, 93 N.J. 324 [461 A.2d 138, 152] [liability will “cause accounting firms to engage in more thorough reviews,” which will “reduce the number of instances in which liability would ensue”].)
Customer demand is not sufficient to ensure the quality of independent audits. What clients of auditing services want above all is not a carefiil audit but an unqualified opinion to satisfy investors, lenders, and others concerned with the clients’ financial health. Indeed, defendant itself acknowledges that a client “may, for reasons of its own, actively seek to publish less than accurate financial information.” Accountants are strongly motivated to satisfy their clients because it is they who pay the accountants’ fees and provide future business. The accountant is thus caught between client pressure to produce an unqualified opinion and the moral and ethical obligation to maintain high standards of care and thoroughness. It is vital that accountants resolve this conflict in favor of careful auditing. The threat of liability to third parties reinforces the accountant’s independence from the client, thereby helping to prevent loyalty to the client from consciously or unconsciously interfering with the accountant’s professional judgment.
To deter negligent conduct, it is not necessary that negligent parties be held liable for each and every injury resulting from their negligent acts. Liability to a limited class of victims may suffice. And in fact, most of this *428court’s recent decisions limiting or precluding negligence liability have involved claims by secondary victims seeking recovery for collateral effects of the wrongful conduct. For example, when a defendant has negligently caused physical injury to another, this court has carefully limited the defendant’s liability to third parties for emotional distress occasioned by the injury to the primary victim. (Thing v. La Chusa (1989) 48 Cal.3d 644, 667-668 [257 Cal.Rptr. 865, 771 P.2d 814].) We have also denied recovery for loss of consortium to a child, parent, or unmarried cohabitant of a person physically injured by a defendant’s negligence. (See Elden v. Sheldon (1988) 46 Cal.3d 267 [250 Cal.Rptr. 254, 758 P.2d 582]; Baxter v. Superior Court (1977) 19 Cal.3d 461 [138 Cal.Rptr. 315, 563 P.2d 871]; Borer v. American Airlines, Inc. (1977) 19 Cal.3d 441 [138 Cal.Rptr. 302, 563 P.2d 858].) In each of these situations, the defendant’s liability to the primary victim, the person physically injured by the defendant’s negligent conduct, provided an adequate deterrent.
This case is different. The losses for which plaintiffs seek recovery are not a mere ripple effect of some primary wrong to a different party. In cases such as this one, the accountant’s client is not a primary victim, for the client has not been harmed by the accountant’s failure to detect mistakes in the client’s own financial statements. Although the majority makes accountants liable to third parties for negligent misrepresentation when the accountants intended to influence a transaction between the third party and the client, these situations are exceptional. The net effect of the majority’s holding, then, is that in the usual case, in which the accountant lacks specific knowledge of the client’s intended dealings with third parties, the accountant can perform the audit and issue the audit report with virtual assurance that no liability will ensue no matter how negligently the job is done. With no liability deterrent, the incentive for care is reduced, the incidence of negligence rises, and harm to third parties multiplies.
F. Burden to Accountants and Consequences to Community of Imposing Liability
How heavy is the burden to accountants and what are the consequences to the community when the law makes accountants liable to foreseeable users of audit opinions? These are serious questions, deserving serious consideration. They should be answered on the basis of facts, not speculation. Yet the record before this court includes no competent evidence that would be helpful in addressing these issues. Absent a reliable and satisfactory basis for decision, this court can make no informed judgment on these issues and should not invoke these considerations in support of a rule that denies liability in derogation of the fundamental principle making persons liable for all foreseeable consequences of their negligence.
*429This evidentiary void cannot be excused by a lack of experience with the liability rule in question. For several years now, accountants have been liable to foreseeable users of audit opinions in this state, as well as in New Jersey, Mississippi, and Wisconsin. (See International Mortgage Co. v. John P. Butler Accountancy Corp., supra, 177 Cal.App.3d 806; Rosenblum v. Adler, supra, 93 N.J. 324 [461 A.2d 138]; Touche Ross v. Commercial Union Ins. (Miss. 1987) 514 So.2d 315, 322; Citizens State Bank v. Timm, Schmidt & Co., supra, 113 Wis.2d 376 [335 N.W.2d 361]; see also, Blue Bell v. Peat, Marwick, Mitchell & Co. (Tex.Ct.App. 1986) 715 S.W.2d 408, 412 [“we find the reasoning of the cases and commentators urging adoption of the foreseeability test persuasive”].) The federal securities laws have an even stricter rule. An accountant who has certified any part of a registration statement containing an untrue statement of material fact is liable to any purchaser of the registered security. (15 U.S.C. § 77k(a)(4).) In an action under this federal law, the plaintiff need not prove that the accountant was negligent, although the accountant may escape liability by proving due diligence. (Id., § 77k(b)(3); see Herman & MacLean v. Huddleston (1983) 459 U.S. 375, 382 [74 L.Ed.2d 548, 555-556, 103 S.Ct. 683].)
Has the strict rule of liability under the federal securities laws caused accountants to refuse to certify financial data in registration statements? Is liability insurance available to accountants who engage in this work? Are accounting services more costly or less available in New Jersey than in New York? How have the different liability rules affected the incidence of accountant malpractice in New York and New Jersey? We simply do not know. It is reasonable to assume, however, that if serious adverse consequences had resulted from the rule of liability under the federal securities laws, or from the rule existing in New Jersey, Mississippi, and Wisconsin, those rules would have succumbed to legislative abrogation. Their continued existence is itself eloquent testimony that a rule of liability to foreseeable users of audit opinions does not destroy the accounting profession or otherwise have consequences demonstrably inimical to public welfare.
Were it to be demonstrated that the burden of the existing liability rule is excessive, the proper solution would not be the severe and arbitrary curtailment of duty adopted by the majority. Rather, liability could be capped in a variety of less extreme and more evenhanded ways. For example, an accountant’s maximum exposure for negligence in an independent audit could be fixed at a percentage of the reported net worth of the audited company. Or the accountant’s opinion in the audit report could be backed by a surety bond in a similar amount, with recovery on the bond being a third party’s sole recourse in cases of proven negligence. These approaches would preserve most of the benefits of the existing tort liability rule—especially the incentive for due care—while at the same time making less indeterminate the *430accountant’s liability exposure for auditing work. To be sure, solutions like these would require legislation, but this is inherently a legislative problem because it requires thorough investigation and debate, followed by compromise, a certain amount of experimentation, and fine tuning of the law based on practical experience with its operation.
G. Availability, Cost and Prevalence of Insurance
The availability and cost of liability insurance is significant in strict liability cases because in those cases the defendant’s superior ability to spread the victim’s loss, through insurance or price adjustments, is a major justification for imposing liability. This factor has much less significance when liability is based on fault, as it is in negligence cases like this one. In any event, there is no competent evidence before this court establishing that liability insurance is unavailable or prohibitively expensive for accountants who perform audits. Finally, even if such evidence were to be presented, the proper means of addressing the problem would be carefully crafted legislation such as I have previously discussed.
H. Summary and Conclusion
The foreseeability standard “provides a logical and just limit to an accountant’s liability.” (Imark Industries v. Arthur Young & Co. (1987) 141 Wis.2d 114 [414 N.W.2d 57, 66].) Holding negligent accountants liable to those who reasonably and foreseeably rely to their detriment on defective audit reports compensates innocent victims, encourages greater care in the performance of audits, reinforces the independence of accountants from their clients, and avoids misallocation of capital resources, all to the benefit of the accounting profession, those who rely on its services, and the public at large. I find no public policy considerations sufficient to warrant an exception to California’s well-established general principles of tort liability.
II
For the tort of negligence, the majority resurrects in its strictest form the “anachronistic privity barrier.” (Note, The Enlarging Scope of Auditors’ Liability to Relying Third Parties (1983) 59 Notre Dame L.Rev. 281, 282.) Thus, under the rule the majority adopts, only the client can recover for the accountant’s negligence in performing audit services. To my knowledge, no decision from any jurisdiction in recent times has so restrictively defined the scope of an accountant’s liability for professional malpractice. Even New York, in which the privity rule was first applied to negligence in auditing, has relaxed the harsh privity rule to permit recovery by persons other than *431the accountant’s immediate client. (See Credit Alliance v. Arthur Andersen & Co. (1985) 65 N.Y.2d 536 [493 N.Y.S.2d 435, 483 N.E.2d 110, 118].)
The majority justifies its retrograde restriction by offering the prospect that some few third parties may recover, under the rubric of negligent misrepresentation. The majority explains that any third party recovery should be under this legal theory, rather than simple negligence, because it “more precisely captures the gravamen of the cause of action.” (Maj. opn, ante, p. 413.) For the tort of negligent misrepresentation, the majority adopts the test articulated in the Restatement Second of Torts. Under the Restatement rule, a person who negligently supplies false information is liable for a loss suffered “(a) by the person or one of a limited group of persons for whose benefit and guidance he [or she] intends to supply the information or knows that the recipient intends to supply if, and (b) through reliance upon it in a transaction that he [or she] intends the information to influence or knows that the recipient so intends or in a substantially similar transaction.” (Rest.2d Torts (1977) § 552, subd. (2), italics added.)
When applied to the audit opinions of independent accountants, the Restatement rule imposes liability only when the negligent accountant has specific knowledge of the client’s intended use of the audit report, and not when the intended use, although not specifically revealed, is perfectly obvious to the accountant by virtue of the client’s financial situation and common business practices. The arbitrariness of this distinction has been justly condemned: “There is apparently no reason for preferring a foreseen user over a foreseeable one. Neither party pays for the audit, and neither party is owed a greater duty of care from the accountant. Since modern auditors fully expect third parties to rely on their opinions, the distinction is simply indefensible.” (Note, The Enlarging Scope of Auditors’ Liability to Relying Third Parties, supra, 59 Notre Dame L.Rev. 281, 287; see also Blue Bell v. Peat, Marwick, Mitchell & Co., supra, 715 S.W.2d 408, 412 [“To allow liability to turn on the fortuitous occurrence that the accountant’s client specifically mentions a person or class of persons who are to receive the reports, when the accountant may have that same knowledge as a matter of business practice, is too tenuous a distinction for us to adopt as a rule of law.”].)
By permitting recovery only by those persons, or limited groups of persons, that the accountant actually knows will receive and rely upon the audit report, the Restatement rule penalizes knowledge and rewards ignorance. To avoid liability, the accountant need only agree with the client to remain blissfully unaware of the report’s proposed distribution and the uses to which it will be put. (See Note, The Enlarging Scope of Auditors’ Liability *432to Relying Third Parties, supra, 59 Notre Dame L.Rev. 281, 287 [“. . . a clever accountant could circumvent the Restatement provision by asking his [or her] client not to reveal the intended users of the statements.”].)
Here, for example, defendant gave the client corporation 100 printed copies of a booklet containing the audited financial statements and its audit report, thereby demonstrating (if such demonstration were even necessary) that it knew the client would widely distribute the report. Although defendant must necessarily have realized from its review of the client’s records that the client was in need of additional capital, and indeed had discussed a proposed public stock offering with the client, it apparently was never told of tiie specific plans by which the client later obtained capital from plaintiffs. Under these circumstances, it is arbitrary and unfair to make liability turn on defendant’s knowledge of the precise use of the audit report. That this defendant’s knowledge did not extend to the details of proposed transactions —with whom, when, how much, and so forth—should be legally irrelevant.
The majority insists that it is unnecessary to extend liability beyond specifically known users because other victims of negligent auditing, those who reasonably and foreseeably rely on a professionally deficient audit opinion, can minimize their losses by diversifying their investment and loan portfolios. There are several problems with this argument. First, it is based on the principle of caveat emptor (“buyer beware”), which in this context conflicts with the moral and ethical responsibility of accountants to exercise due care to avoid harm to foreseeable users. Second, it ignores the general principle that the risk of loss should be placed on the party best able to prevent its occurrence. (See Escola v. Coca Cola Bottling Co. (1944) 24 Cal.2d 453, 462 [150 P.2d 436] (cone. opn. of Traynor, J.).) Finally, it affords the least protection to those most in need of it. This is so because the ability to diversify is proportional to the funds available. Diversification is easy for large institutional investors and lenders, but it is difficult or impossible for lenders and investors of modest means, who may have no choice but to concentrate their funds in one or a few loans or investments.
In a similar vein, the majority argues that lenders and investors may conduct their own audits of the client’s financial statements or negotiate a separate opinion directly from the independent auditor retained by the client. But separate audits by each lender and investor, although no doubt a boon to the accounting profession, will result in a socially wasteful duplication of effort and expense, resulting in disruption and delay of business activity, together with higher transaction costs, leading to higher interest charges and demands for higher investment returns.
Moreover, as with the majority’s previous argument, those most in need of protection are least able to avail themselves of these protective measures. *433Small investors and lenders may find separate audits prohibitively expensive, and they may lack the sophistication to request separate opinions.1 In short, the majority’s rule is one that protects the wealthy and financially savvy at the expense of those innocent investors and lenders whose only faults are their modest means and their willingness to place their trust in independent audit reports.
The jury’s verdict in this case stands against the majority’s assertion that plaintiffs should have taken additional steps to protect themselves. This assertion constitutes a charge that plaintiffs acted negligently when they invested their funds in reliance on the audit report. Yet the jury expressly found no comparative negligence on plaintiffs’ part.
The majority imposes no duty on accountants to take their own protective measures in high risk situations. Accountants can limit their liability through agreements with the client restricting distribution of their audit reports. (See Paschall, Liability to Non-clients: The Accountant’s Role and Responsibility, supra, 53 Mo. L.Rev. 693, 726-729.) In addition, “The auditors could in some circumstances, such as when auditing a privately owned company, expressly limit in their certificates the persons or class of persons who would be entitled to rely upon the audit.” (Rosenblum v. Adler, supra, 93 NJ. 324 [461 A.2d 138,152].) Such disclaimers give fair notice to all potential report users and prevent third parties’ reliance from being reasonable.
Naturally, accountants would prefer not to limit distribution of audit reports or to put disclaimers in their opinions because the value of the audit to the client would then be reduced. But accountants should not be permitted to have it both ways: they should not profit from the value produced by anticipated third party reliance and yet escape all responsibility when their negligence results in injury to relying third parties. Those accountants who are unable or unwilling to accept the burden of negligence liability to foreseeable third party users of their audit opinions should bear the burden of notice through liability disclaimers. Absent liability disclaimers, the law ought to protect the reasonable expectations of third parties who rely on an accountant’s statement of professional opinion in a document obviously prepared for general business use.
Conclusion
The majority recognizes that accountants acknowledge a responsibility to third parties who foreseeably rely on audit reports in their business dealings *434with the audited company. Yet the majority adopts a rule that betrays the expectations of third party users whose reliance makes the audit report valuable to the audited company. Under the majority’s rule, the audit report is made a trap for the unwary, because only the most legally sophisticated and well advised will understand that the report will not deliver what on its face it seems to promise: a qualified professional’s actual assurance that the financial statement fairly states the financial situation of the audited company. An assurance with no legal recourse is essentially a hoax. Under the rule the majority adopts, any value that third parties place on the unqualified opinion is mistaken, because the law now insists that reliance upon the opinion, no matter how reasonable and foreseeable, is unjustified.
Finally, and perhaps most important, the majority pays too little attention to the importance of negligence liability as a means of preventing bad financial data from entering and polluting the waters of commerce. Without a liability rule that enforces the reasonable expectations of third party users of audit reports and provides an adequate incentive for due care, we may expect less careful audits, inefficient allocation of capital resources, increased transaction costs for loans and investments, and delay and disruption in the processes of lending and investing.
Existing law should be preserved. Negligent accountants should be held accountable for reasonably foreseeable injuries caused by the faulty performance of their professional duties in auditing financial statements. I would affirm the judgment of the Court of Appeal.
Mosk, J., concurred.
The petitions of respondent Robert R. Bily and appellants J. F. Shea Co., Inc., et al., for a rehearing were denied November 12, 1992, and the opinion was modified to read as printed above. Mosk, J., and Kennard, J., were of the opinion that the petition should be granted.

Contrary to the majority’s assertion, ordering a separate opinion from an auditor requires a level of business acumen and sophistication significantly above that needed merely to comprehend and rely upon an accountant’s unqualified opinion in an audit report.