Proceedings of the Standing Senate Committee on
Banking, Trade and
Commerce
Issue 1 - Evidence
OTTAWA, Tuesday, October 21, 1997
The Standing Senate Committee on Banking, Trade and Commerce met this day at 10:00 a.m. to organize the activities of the committee.
[English]
Mr. Paul Benoit, Clerk of the committee: Honourable senators, I see a quorum. We are now in need of nominations for chairman of the Standing Senate Committee on Banking, Trade and Commerce. Does any senator wish to propose names for chairman of the committee?
Senator Austin: I move that Senator Kirby continue as Chairman of the committee.
Mr. Benoit: Is it your pleasure to adopt the motion electing Senator Kirby as Chairman?
Hon. Senators: Agreed.
Mr. Benoit: The motion is carried, and I invite Senator Kirby to take the Chair.
Senator Michael Kirby (Chairman) in the Chair.
The Chairman: Thank you, honourable senators. The next item of business is nominations for deputy chairman.
Senator Oliver: I nominate Senator Tkachuk.
The Chairman: Are there any further nominations?
Senator Kolber: I nominate Senator Angus.
The Chairman: That is a surprise. I did not think that was happening. I am quite stunned.
Senator Angus: Thank you very much, Senator Kolber. In the circumstances, I would decline to stand. I appreciate the gesture.
The Chairman: Are there any further nominations? If not, I declare that Senator Tkachuk is the Deputy Chairman of the committee.
The third item is a motion to have Senator Tkachuk and I have consultation, which we discussed informally yesterday, to appoint another senator to the steering committee. It reads as follows:
That the Subcommittee on Agenda and Procedure be composed of the Chair, the Deputy Chair and one other member of the committee to be designated after the usual consultation:
That the subcommittee be empowered to make decisions on behalf of the committee with respect to its agenda, to invite witnesses and schedule hearings; and
That the subcommittee report its decisions to the committee.
Senator Stewart: I so move.
Senator Kinsella: Do we have the name?
The Chairman: It will be Senator Austin. That is not a matter which is subject to a vote.
Senator Stewart: Normally, it is not even discussed until the Chair and Deputy Chair have had an opportunity to discuss it.
The Chairman: However, we did discuss it informally yesterday.
Senator Stewart: Presumptuously.
The Chairman: All those in favour?
Hon. Senators: Agreed.
The Chairman: The motion is carried.
Motion No. 4 is a motion to print 600 copies of the proceedings. It reads:
That the committee print 600 copies of its proceedings and the Chairman be authorized to adjust this number based on demand.
I would ask the clerk to comment on the reason for 600 copies because I believe that is more than normal for most committees. However, I do know that we always have many requests.
Mr. Benoit: Over 500 copies are committed and sent out, and a certain number is left over for internal use. Our committee proceedings are in high demand. The figure is based on past usage. We have a circulation list of approximately 525 people.
The Chairman: Does someone wish to move that motion?
Senator Kolber: I so move.
The Chairman: All those agreed?
Hon. Senators: Agreed.
The Chairman: The motion is carried.
The fifth item is:
That, pursuant to rule 89, the Chairman be authorized to hold meetings, to receive and authorize the printing of the evidence when a quorum is not present, provided that a representative from both parties is present.
Quorum is four, and last year when there was a storm in Toronto we held a hearing with only three senators present. I do not remember the subject. I assume that is the sort of thing this motion covers.
Senator Stanbury: I so move.
The Chairman: Is it agreed?
Hon. Senators: Agreed.
The Chairman: The motion is carried.
Item No. 6 deals with the financial report and reads:
That, pursuant to rule 104, the Chairman be authorised to report expenses incurred by the committee in the last session.
This is a report on last year's finances.
Mr. Benoit: Yes, it is a report from the last session listing all the expenses and the number of reports and what they covered. The Chairman would table that report this afternoon.
The Chairman: I have not seen it.
Senator Stewart: I so move.
The Chairman: All those agreed?
Hon. Senators: Agreed.
The Chairman: The motion is carried.
Item No. 7 deals with the research staff. It reads as follows:
That the committee ask the Library of Parliament to assign a research officer to the committee:
That the Chair be authorized to seek authority from the Senate to engage the services of such counsel and technical, clerical and other personnel as may be necessary for the purpose of the committee's examination and consideration of such bills, subject-matters of bills and estimates as are referred to it.
That the Subcommittee on Agenda and Procedure be authorized to retain the services of such experts as may be required by the work of the committee: and
That the Chairman, on behalf of the committee, direct the research staff in the preparation of studies, analyses, summaries and draft reports.
Gerry Goldstein of the Library of Parliament, who is head of the economics branch of the library, has acted as the main researcher for this committee, assisted by Margaret Smith and occasionally other members of his staff when required. Motion No. 7 would formally allow us to ask the Library of Parliament for that assistance, and we would get Gerry back again as our researcher.
Senator Meighen: I so move.
The Chairman: All those agreed?
Hon. Senators: Agreed.
The Chairman: The motion is carried.
I would ask the clerk to explain Motion No. 8, which reads as follows:
That, pursuant to section 32 of the Financial Administration Act, authority to commit funds be conferred on the Chairman or in his absence, the Deputy Chairman; and
That, pursuant to section 34 of the Financial Administration Act, and Guideline 3:05 of Appendix II of the Rules of the Senate, authority for certifying accounts payable by the committee be conferred on the Chairman, the Deputy Chairman, and the clerk of the committee.
Mr. Benoit: Motion No. 8 would provide that either the chairman or deputy chairman could commit funds -- that is to say, take an undertaking to purchase some goods or service. The latter part of that item entitles me or the chairman or deputy chairman to certify that those goods or services were received. One is commitment; the other is certification.
The Chairman: It is a standard committee motion; is that correct?
Mr. Benoit: Yes.
Senator Callbeck: I so move.
The Chairman: Is it agreed?
Hon. Senators: Agreed.
The Chairman: The motion is carried.
Item No. 9 has to do with travel and would allow us to designate members of the committee or the staff to travel as required.It reads as follows:
That the committee empower the Chair to designate, as required, one or more members of the committee and/or such staff as may be necessary to travel on assignment on behalf of the committee.
As you know, any time this arose in the last four years, we discussed it long before it happened. No one travelled without all of us understanding what was happening.
Senator Stewart: Did any member or members of the committee travel under commission from the committee?
The Chairman: I believe Senator Hervieux-Payette and Senator Kenny did. Also, a subcommittee of the committee went to London for three days.
Senator Stewart: I am looking for some help because of another committee. A precedent from this committee would be quite convincing.
The Chairman: The clerk tells me that, historically, this has been used for such things as going to conferences where the committee wanted to sent a member, or, usually two members, of the committee. When four or five of us went to London, it was actually to hold hearings and to take evidence.
Senator Stewart: That is helpful. Thank you. I will move the motion.
The Chairman: Is it agreed?
Hon. Senators: Agreed.
The Chairman: The motion is carried.
Item No. 10 deals with travelling expenses of witnesses, and reads:
That, pursuant to the Senate guidelines for witnesses expenses, the committee may reimburse reasonable travelling and living expenses for no more than two witnesses from any one organization and payment will take place upon application.
Typically, in this committee, most witnesses pay their own expenses for attending before us. However, occasions have arisen in the past where we have used this provision. I refer particularly in relation to some of the seniors' groups. I do not remember which bill it was, but we wanted some seniors' groups to attend. We agreed we would pay their expenses. Again, no one's expenses were paid unless the steering committee authorized it, and we always had discussions on that.
Senator Stewart: Again, I am trying to have uniformity. The position taken is that where an organization or an individual seeks to be heard, that potential witness is undertaking to pay his or her or their own expenses unless there is unusual circumstances.
The Chairman: This applies only if people ask to appear or if we want someone to appear and we feel they do not have sufficient resources to pay their own expenses. Typically that has been anti-poverty groups, seniors' groups, and some elements of the consumers association. It does not apply to corporate groups. On one financial services issue, a group in Quebec and a group in Toronto wanted some financial help to appear. We agreed to pay for those two. However, we have never paid for any trade association or corporation which wanted to appear. The rule has been sort of a means test, and the means test is decided by the committee.
Senator Stewart: As well as, presumably, the committee's evaluation of the potential evidence?
The Chairman: That is part of the test as well. If several seniors' organizations asked to appear, we would only support the national one as opposed to ones from every province. On several cases we have paid for academics. We agreed to pay one individual's airfare from British Columbia because we particularly wished to receive their evidence.
Senator Stanbury: Does the steering committee use its discretion as to how many representatives of a group would be covered?
The Chairman: No more than two. We have been very frugal on that, frankly. There has always been a discussion, certainly at the steering committee level and typically among the group of us. It is only travel expenses; we do not pay expenses for preparing briefs or whatever.
Senator Stanbury: I so move.
The Chairman: All those agreed?
Hon. Senators: Agreed.
The Chairman: The motion is carried.
Item No. 11 is an approval for blanket coverage of television. It reads:
That the Chair be authorized to seek authority from the Senate to permit coverage by electronic media of the committee's public proceedings with the least possible disruption of its hearings; and
That the Subcommittee on Agenda and Procedure be empowered to allow such coverage at its discretion.
We were the first committee to do this. We rejected the notion of having to go back to the Senate every time we wanted to do television because our view was that if the media wanted to cover us, the media could cover us. One of the reasons we have this room is because it is the best room for television, and this committee gets more television than anyone else. To avoid having to go back for repeated requests in the Senate, could we have Item No. 11, which is the blanket approval to do television whenever the media wants it?
Senator Oliver: I so move.
The Chairman: Is it agreed?
Hon. Senators: Agreed.
The Chairman: The motion is carried.
Item No. 12 is the time slot for our regular meetings. We have the same slots as last time; however, on Tuesdays, I would suggest that we start at 9:30 rather than 10:00, simply to allow ourselves enough time before the caucus meetings commence. If there are no objections, that will be so.
Our other time slot is 11:00 to 2:00 on Thursday. We make a judgment on the Tuesday as to whether the Thursday session will go through lunch. If we think it will end by 1:00, we do not supply lunch. If we think it will go to 2:00, we supply lunch.
The next items are under the heading of "in Camera". We want to discuss future business of the committee. I am quite happy to do that not being in camera. Does anyone feel strongly about this? The tradition is to go in camera, but I do not think we have anything particularly confidential. I am happy to do it openly.
Senator Stewart: As I understand it, two points arise here. One is that the discussion is private; the second is that there is not a published record. I suspect the reason why some committees go in camera relates not to the first but to the second. What is the point of a lot of "on the one hand" and "on the other hand" and so on being put, at public expense, on a record when we are wallowing around trying to focus down on something? If you mean merely that we do not lock the doors, fine, but I wonder if we need a record of our mental meanderings.
The Chairman: I was referring to the former rather than the latter. Very well, we will agree not to have a record of our discussions, but it is an otherwise open meeting.
The committee continued in camera.
OTTAWA, Thursday, October 23, 1997
The Standing Senate Committee on Banking, Trade and Commerce met this day at 11:00 a.m. to examine the state of the financial system in Canada (professional liability).
Senator Michael Kirby (Chairman) in the Chair.
[English]
The Chairman: Honourable senators, we are back today for our first substantive session of the new Parliament dealing with the issue the title of which we have finally shortened to "professional liability" from the fancier name of "joint and several liability." Nevertheless, it is the issue that which began with a presentation by the Canadian Institute of Chartered Accountants in Calgary, when we started our hearings on corporate governance.
Out of that hearing grew the notion that this was a separate issue to be discussed. We then had a separate presentation by the institute in the late fall of 1996 which, in turn, led to our decision to develop an options paper and, based on that options paper, to hold a discussion as to what option we preferred.
That options paper is before committee members. Indeed, the witnesses who will appear from the CICA and the CBA in particular, helped develop that options paper. The paper gives no views as to a preferred option. We have asked the witnesses today, and the other witnesses will appear during the week of November 3, to give us their preferred option. After that time, the committee will consider its preferred option and make a recommendation to the government.
Before introducing the witnesses, I would add that the other witnesses who have asked to appear thus far are the Canadian Bar Association and the Investment Dealers Association. Both of these groups will be appearing during the week of November 3, hopefully on the same day. There is a potential to hear other associations.
Speaking on behalf of the Canadian Institute of Chartered Accountants will be Michael Rayner, their president, who has been before us before; also William Broadhurst, Past Chairman of the Legal and Liability Task Force.
Mr. Broadhurst, you may want to tell members of the committee about your new full-time job because you represent an organization which does not frequently appear before us.
Also, we have the new Chairman of the Liability Task Force, Mr. Ross Walker. Welcome.
Mr. Michael Rayner, President, Canadian Institute of Chartered Accountants: Mr. Chairman and members of the committee, we are pleased to appear before you and wish to say at the outset how much we appreciate the extensive time and effort that you have been putting forward over the many months that you have been considering this issue of proportionate liability.
There is no question that this is the most pressing issue facing the auditing profession today. Your deliberations have brought us to a point where a full discussion and analysis of the options for reform is possible.
The chairman has introduced my colleagues, but I would add a few notes. Ross Walker is a past chairman of KPMG in Canada, a past officer of KPMG International and was recently appointed chair of the CICA Legal Liability Task Force.
William Broadhurst, as you know, has appeared before this committee on a number of occasions. He is a former senior partner of Price Waterhouse in Canada and a past chair of our Legal Liability Task Force.
The chairman has alluded to Mr. Broadhurst's new job; he has recently been accepted as the vice-chancellor for temporal affairs for the Toronto Archdiocese of the Roman Catholic Church.
One of the important actions which this committee has taken on the issue of liability is to commission the options discussion paper that the chairman referred to a few moments ago. We believe that the paper which has been produced is a comprehensive and balanced document that examines all of the options for dealing with liability reform within the context of the CBCA and the financial institutions legislation.
We followed the committee's deliberations closely since you began studying the liability issue in Calgary in February 1996 and in your subsequent hearings in Toronto, Ottawa and London, England. Over the course of these hearings, we have heard a full and thoughtful discussion of the key issues -- discussion which has raised some important public policy considerations.
With respect to these considerations, Mr. Broadhurst will outline our views on proportionate liability reform as of today. Following that, Mr. Walker will provide a brief overview of our specific proposal for a modified proportionate liability regime. He will also discuss a separate matter that is often proposed as the solution to the liability problem -- the limited liability partnership -- and then take you through the highlights of the submission which was handed out to senators this morning.
Finally, I will make some closing remarks following which we will be happy to respond to your questions.
Mr. William Broadhurst, Past Chairman, Legal Liability Task Force, Canadian Institute of Chartered Accountants: Mr. Chairman and honourable senators, I have one last comment on my new position: I have been on this crusade for six years and I thought perhaps it was time for divine intervention.
This is actually my fourth appearance before this committee on the important issue of liability reform. I should like to echo Mr. Rayner's appreciation of the time and effort that you have put into this matter. You will recall in our previous discussion on the liability crisis facing the auditing profession that we have advocated a move to full proportionate liability as a way to address this crisis.
Having reviewed the extensive testimony from previous hearings, and having benefited from discussions with staff of your committee as well as its individual members, we have amended our proposal to take into account the public policy concerns expressed to us.
It was during our review of the transcripts from your fact-finding meetings in London, England that we took special note of an exchange between the chair of this committee and Mr. Wodehouse of the Solicitors Indemnity Mutual Insurance Association. This exchange regarding differentiating between sophisticated and unsophisticated or naive investors helped us to focus on how this concept could be incorporated into liability reform in Canada.
At that time, the committee chair noted the need to be able to distinguish between protecting an investor who is naïve and therefore less able to assume risk, and protecting a sophisticated investor who, one would expect, has clearly assessed the risks inherent in investing.
As the option discussion paper itself notes, a sound case can be made for the need to make a distinction between these two classes of investors.
Both the testimony of the London hearings and the policy consideration as outlined in the options discussion paper have led us to conclude that the public interest would best be served with the development of a liability regime in Canada that makes the distinction between sophisticated and unsophisticated investors with respect to claims involving the issuance of defective financial information.
Adopting this approach would have the added benefit of addressing another policy objective, as outlined in the committee's interim report of December, 1996: that any solution to the liability problem should be consistent with similar reforms undertaken by Canada's major trading partners, including, of course, the United States.
With these two policy considerations in mind, I will now turn to Ross Walker, who will describe our proposal for reform in greater detail.
Mr. Ross Walker, Chairman, Legal Liability Task Force, Canadian Institute of Chartered Accountants: I should like to do three things today. First, I will outline briefly the auditing profession's proposal for liability reform. Second, I will briefly address the question of limited liability partnerships. Finally, I will summarize the contents of the overall submission that I understand was delivered to you earlier this morning.
Before I start, I would like to repeat the comment that we have been greatly influenced by the deliberations of your committee, the reports issued by it, and discussions with members of our profession, particularly those who have had discussions with some of the members of your committee.
As Mr. Broadhurst has already noted, in our opinion, the public interest would be better served by a liability regime that can distinguish between sophisticated and unsophisticated investors.
Of course, the primary question is: How can this best be achieved? At first blush, one might consider that a distinction should be based on the level of loss incurred. However, upon closer examination, we believe that this would not be an appropriate method. The amount of the financial loss incurred is not an accurate way to distinguish between classes of investors. It is simply not the best way to measure an individual's ability to assess and manage risk associated with granting credit or investing. If we were to pick an arbitrary amount, say a $20,000 loss, and then apply this test to all, including very wealthy individuals, it would lead you to believe that they were unsophisticated individuals, which would hardly be the case.
We believe that a test based on the level of loss incurred would be misleading and would not serve the public interest. Rather, we believe that an appropriate way of making a distinction between sophisticated and unsophisticated investors is a net-worth test. We believe this is a reasonable method and it is already in use in Canada.
We are proposing the adoption of a made-in-Canada, modified, proportionate-liability regime that uses a net-worth test. Under our proposal, we submit that a net-worth test of $100,000 be used. This would be calculated exclusive of equity in a principal residence, home furnishings and automobiles. Sophisticated investors would be those whose net worth is $100,000 or more, and their claims would be addressed under a regime of proportionate liability.
Unsophisticated investors would be those that meet the following criteria: First, they would have a net worth under $100,000, and, second, they would have lost more than 10 per cent of their net worth because one or more of the defendants is insolvent or otherwise unavailable. Such investors would continue to be subject to the provisions of joint and several liability.
We believe that this constitutes a reasonable proposal, meets the public interest, and is in keeping with reforms undertaken by our major trading partner.
It is reasonable because it balances fairness for the unsophisticated investor against the need for fairness for auditors and the need to maintain a high-quality audit function. I will elaborate on this proposal later when I take you through our submission.
I would like to address briefly the perception that LLPs, or limited liability partnerships, are all that is needed to solve the liability problem for auditors. Before elaborating, we feel it is important to note the following: Liability that is internal at the partnership level is distinct from liability among co-defendants. Limited liability partnerships would address the former -- liability at the partnership level. They would not have any effect on liability between co-defendants where joint and several liability comes into play.
To elaborate, LLPs protect only the personal assets of a partner not involved with a claim -- not the assets of a firm or the assets, including the personal assets, of the partners found responsible for the damages.
LLPs would not affect the size of awards assessed. They would not have any impact on the cost or availability of professional liability insurance.
We submit that LLPs would not deal with the inherent unfairness in the joint and several liability rule.
The profession's proposal for modified proportionate liability is not directly linked to the need for LLPs. That LLPs deal with a separate problem is abundantly clear from the U.K. and the U.S. evidence.
I would now like to highlight and summarize the contents of the submission which was prepared for you and delivered to you today.
First, there is an executive summary. It is found on the first two pages. Naturally, it summarizes our submission in a way that is relatively easy to read. It tells you at a glance what is included in our proposal.
Moving on, the introduction begins on page 3. That provides you with background information on how our dialogue on this issue began with government and how it has progressed through this committee and the House of Commons finance committee. You already are familiar with this background and it requires no further elaboration from me.
On page 4, we refer to the limited scope of the reform that we are proposing. It outlines the exact scope of our proposal. We are suggesting that a modified, proportionate liability replace joint and several liability in a limited and targeted area; that is in relation to actions involving the issuance of defective financial information by a CBCA corporation or federal financial institution.
I would add that we believe that this narrow scope is justified, no evidence having been presented to support the need for a wider application of reform.
There is one other important thing to note about the scope of our proposal. The principle of modified proportionate liability would apply to all defendants involved in claims related to the issuance of defective financial information, not just to the auditors.
From page 5 to page 8 of the document, there is reference to fairness. It outlines the foundation of the profession's proposal -- that being fairness.
Before going any further, I want to emphasize that the profession is not looking for guarantees against judgments or protection from bankruptcy or avoidance of our responsibilities. We believe that we should pay for our mistakes and, if our share of the responsibility results in the bankruptcy of an accounting firm, we accept this. However, we do not believe that it is fair to hold us financially responsible for the mistakes of others -- in effect, to put the entire onus on the auditors.
At the same time, we note that there are concerns about protecting the unsophisticated investor who might not be aware of the risks associated with the world of business and finance.
These two issues, we believe, should be taken into consideration in weighing the options for liability reform. It is with these considerations in mind and in the interest of fairness that we have modified our original proposal to address the concerns related to the unsophisticated investor. I will elaborate on this proposal later.
Commentary on the existing limits on liability can be found on pages 8 to 10. This makes reference to recent court cases involving auditor liability and summarizes the effect of these cases on the profession. It is important to note that these decisions do not resolve or reduce the auditor liability problem created by joint and several liability, and they do not dispel the need for liability reform.
On pages 10 and 11, there is discussion on the interplay between professional standards and liability. We quote from Ian Govey of the Australian Treasury in highlighting an important point: Even if proportionate liability were in place, the potential for being held responsible for multi-million dollar damages would exist and would act as a powerful incentive to adhere to professional standards. We note that the prospect for disciplinary action, which can extend to expulsion from membership, is an added incentive to engage in proper professional conduct.
On pages 11 to 13, we get into the effect of joint and several liability on the continuation of high quality audit function. This section summarizes the effects of joint and several liability on the auditing profession. These effects are recognized in the unanimous decision of the Supreme Court of Canada in the Hercules case.
As our submission states, nowhere is the effect of joint and several liability more readily apparent than with respect to professional liability insurance. Adequate commercial liability insurance to cover the risks facing the auditing firms is virtually non-existent today. That fact was confirmed in testimony in the hearings of your subcommittee's fact-finding meeting in London.
On pages 13 through 17, we talk about major trading partners. We summarize the status with respect to liability reforms undertaken by Canada's major trading partners. I will not elaborate on this section in detail other than to say that we included it to summarize liability reforms that are taking place in a number of different jurisdictions currently.
On page 17, we highlight our modified proportionate liability preferred option for reform. I draw your attention to the passage part way through the first paragraph on that page:
We continue to support a proportionate liability regime, but recognize that a legitimate question has been raised before this committee with respect to whether such a regime should make a distinction between sophisticated and unsophisticated investors.
We recognize that the concept of shielding investors from risk, particularly small investors, is embodied in the Canada Deposit Insurance Corporation plan which provides some protection for depositors. We accept that there is a need to protect unsophisticated investors in designing a proportionate liability regime. We have concluded that it is both fair and in the public's interest to build protection for unsophisticated investors into our proposal for reform.
This brings us to the essence of our proposal. We therefore ask that this committee endorse a concept of proportionate liability in all claims involving defective financial information, other than claims brought by individual unsophisticated plaintiffs.
This would mean that a regime of full proportionate liability would be put in place for such claims, modified so that any claim brought by an unsophisticated individual plaintiff would be subject to the application of joint and several liability if, by reason of the insolvency or unavailability of a defendant, that plaintiff suffers a loss of more than a prescribed percentage of his or her net worth.
This brings us to the discussion of the appropriate mechanism for drawing a distinction between sophisticated and unsophisticated investors. We would suggest that a net worth test be applied as follows: Claims by an individual plaintiff whose net worth is under $100,000 and who loses more than 10 per cent of his or her net worth because of insolvency or unavailability of the one of the defendants would be subject to the continued provisions of joint and several liability. The net worth would be determined exclusive of equity in principal residence, home furnishings and automobiles. We believe that this is both a reasonable and relatively easily applied approach.
As to the appropriateness of the net worth test, we have found examples of this net worth approach in Policy Statement 11.4 of the Ontario Securities Commission, which deals with participation in commodity pool programs. This policy statement indicates the following: In order to determine the suitability of a participant in a commodity pool program -- a risky venture -- a net worth test of $75,000 must be met. This net worth calculation is determined exclusive of the home, home furnishings and automobiles.
In the United States, the Private Securities Litigation Reform Act of 1995 uses a similar method to distinguish between sophisticated and unsophisticated investors. We noted that, in that legislation, the net worth test is set at $200,000. However, we also noted that the calculation used to determine the net worth includes the value of home, home furnishings and automobiles.
We believe that our approach is a more straightforward one, one that would make it relatively easy to make a distinction between the two classes of investors, thereby providing protection for unsophisticated investors.
Moving on to page 18, reference is made to wide support for reform. This section outlines the written support which exists for proportionate liability. These letters were all written in support of full proportionate liability -- not the modification that we are proposing today -- and they are an accurate measure of the support for liability reform which exists in Canada.
In particular, I would draw your attention to the endorsement we have received from the Consumers' Association of Canada. This association would not have any objection to proportionate liability being adopted within the context of claims involving defective financial information.
I would add that we are not aware of any real opposition to our proposal. As is evidenced from the letters of support we received, people realize that reform is needed and warranted in the nature of fairness.
Before I turn back to Mr. Rayner for concluding remarks, I would mention that we have included in an appendix the analysis of other approaches for reform as outlined in our options and discussion paper. I will not go into detail at this point but we would be happy to answer any questions that you may have related to it.
Mr. Rayner: Honourable senators, to conclude, we would reiterate that this is one of the most important issues facing the auditing profession today. This committee, through its process of holding extensive hearings and issuing its reports, has raised a number of important public policy considerations. We believe our proposal for modified proportionate liability addresses these considerations. We believe that a made-in-Canada modified proportionate liability regime would provide a mechanism for protecting the unsophisticated investor. We believe that our proposal strikes an appropriate balance by addressing the public policy considerations in a way that is fair to both plaintiffs and to the auditing profession.
In the end, what is the profession seeking to achieve in putting forward this proposal? First, we are seeking fairness -- a liability regime which holds auditors responsible but only for their actions. Second, we are seeking equity. Any liability regime must balance the need for a high-quality audit function against the need to protect unsophisticated investors. We believe that our proposal for modified proportionate liability is a fair and equitable solution.
We respectfully request that your committee recommend that our proposed regime of modified proportionate liability be incorporated into the Canada Business Corporations Act and financial institutions legislation.
The Chairman: I would remind senators in asking questions that, while our focus this morning is on the issues of accountants, as they have said in their opening brief and as we discussed previously, we are dealing with the issue of joint and several liability for all classes of professions. There was never any intention either in the brief or on the part of the committee to have one set of rules apply to one profession and not to others. While our questions this morning relate to accountants, we are also dealing with engineers, architects, and lawyers.
Senator Angus: Welcome back, gentlemen. I personally, and on behalf of all of us, congratulate you on your excellent presentation this morning. We are also pleased that you have followed our deliberations since first appearing before us. We appreciate your saying that your deliberations have been influenced by our own findings. Your proposed solution is creative, and I am interested in hearing more about it.
I also congratulate you, Mr. Broadhurst. You spoke of divine intervention, and I wondered if that was not an intervention to help you escape from the monopolies?
We have seen many developments in your profession, including the pending mega-mergers which would reduce the "big six" to the "mega four," and I wonder to what extent this mitigates or increases the concerns you expressed to us earlier.
Do you, in principle, have any objection to our supporting the same kind of relief or analogous relief for the legal profession, for notaries and doctors, and so forth?
Mr. Rayner: No.
Senator Angus: Do you believe that other professions have a reasonable argument based on fairness and equity?
Mr. Rayner: If I recall the discussion that you had with the representatives of the Canadian Bar Association at your hearings last year, you heard a strong indication that, within the legal profession, there was a need to have similar relief from the joint and several regime. I also believe that the professional engineers indicated that they, too, would like to have a proportionate liability regime.
Senator Angus: Do you feel there is some merit in their arguments?
Mr. Rayner: Yes, we do.
Senator Angus: Your proposed solution is narrowly focussed to the financial information prepared as contemplated in the present Canada Business Corporations Act. Obviously you are talking about an amendment to that legislation which does not in any way deal with lawyers or other professionals. Was that on purpose, and why are you not seeking a much wider relief?
Mr. Rayner: To the extent that lawyers and other professionals are involved in a legal case involving defective financial information, they would enjoy the same protection that we are proposing for the auditors who might be involved in such claims.
The profession has suggested a relatively narrow window, basing it around defective financial information, to resolve the real crisis. The lawsuits and the claims and the settlements occurring in the United States and in Canada and around the world relate to business failures where there has been an allegation of defective financial information. That is the crisis, and that is where the real problem exists. We felt it would be wise to propose a solution that would be as easy as possible to implement in our legal system.
Senator Angus: I understand that. It is creative and would go a long way to satisfying your particular profession. The issue of defective financial information, by definition, would be the result of negligent or poor work by your profession, whereas the malpractice or professional negligence by other professions might deal with other things. It might deal with, in the case of a tax lawyer, a bad interpretation of a tax statute which might lead to huge claims. Some of the literature I have read with a view to this morning's discussion indicates that claims against lawyers are approaching the same level as yours.
Our concern, too, is for fairness and equity, as you have underlined. It has been submitted to us that if we find a solution to your particular problem of professional negligence, we should, in fairness, find one for other professions.
Mr. Broadhurst: The dissemination of financial information is a little broader than the work of accountants. In any situation, other professions could be involved. You can have lawyers; you can have people doing appraisals; you can have insurance people. There is a range of people in the capital-markets context of financial information. We feel that anyone involved in that way should be covered.
It may be that joint and several liability adversely affects the medical profession. We are not making an appeal or a pitch or anything like that for the medical profession. We do not know whether there is any evidence related to the medical profession regarding a problem created by joint and several liability. There may well be. What we simply know is that there is evidence in our profession related to the dissemination of financial information and that this is causing a problem.
Associations of architects and engineers appeared before you a year ago. They did not indicate in answer to your questions that they had any problems with insurance; however, they still wanted to be covered by the joint and several liability proposals.
It seems to us that if acts governing those professions were to be amended, then you are really dealing with a study to find out what the public interests and the public risks are. We do not believe that that study should hold us up this particular matter, if you are convinced there is a problem in this matter.
The application is to all professionals in any way involved with financial information being disseminated. We know there could be problems with municipalities, for example, and they have made that known to their provincial governments. We see that as a separate part of the issue which does not need to be addressed at the same time that as the dissemination of information issue is addressed. You are a long way along the road in this particular issue of dissemination of financial information.
Senator Angus: Mr. Broadhurst, I agree fully with what you said, and I thank you for that clarification. While this case is accurate and appropriate for the accounting profession, it leaves us with a dilemma. As a professional myself, and I am sure you can sense this, I am sympathetic to updating our laws to deal with a situation which has really only become endemic in recent years with globalization, mega cross-border transactions and the kinds of things that you say affect the big six but not necessarily the small local practitioners in your profession. Is that not so?
Mr. Broadhurst: There has been some evidence that these small local practitioners in our profession have access to insurance and are not, at the present moment, saying that they are at risk because of this issue. Obviously, they are exposed to joint and several liability. There is an insurance association related to the CICA which provides, I believe, up to $10 million of insurance. It is accessible to all of them. We are not aware that they view this as their problem at the moment.
Senator Angus: That has been the evidence thus far. It is the same in the legal profession where the smaller firms, which deal with the everyday legal problems of society, do not have a problem. However, it is the big law firms who, like the big six, find it really hard to get insurance. In fact, it is impossible, as you say.
Mr. Broadhurst: When a problem has been identified -- and we have tried to do that to your satisfaction -- and there is a possibility of addressing that problem, we should not have to wait for the resolution of all similar problems which may exist but which have not yet been brought to your attention. If we were to do that, we would never get anything done in this area because you would have to cover the whole range of possibilities, and I cannot imagine what they all are.
Therefore, we are appealing for a decision, a recommendation, in this area which we are addressing.
Senator Angus: We hear you. It is an excellent approach and very creative. In my view, the narrow focus gives it an added appeal. I will not question you on the specific proposal. Many of my colleagues here will have questions in that regard.
I would like to digress into an area that is new since you were here last; that is the latest litigation, the recent jurisprudence, not only involving the Hercules case but some interesting cases in other jurisdictions. I will come back to Hercules in a moment.
I am interested in the issue raised in some recent cases about which I know you gentlemen are aware; that is to say, whether accountants, performing the function of auditors, are officers of the client. I am concerned about the legal ramifications. Indeed, does the directors' and- officers' insurance then apply? This was discussed at some length in recent issues.
I was thinking of the recent decision in Mutual Reinsurance Co. Ltd. v. Peat Marwick Mitchell & Co. There was an interesting discussion in the courts concerning the issue of whether or not auditors are officers. Do you have any comments on that matter?
I think you would agree that our staff has done a superb job in preparing a compendium of methods we may use to address these problems. We all agree there is a problem.
Mr. Walker: I am not particularly familiar with the case to which you refer, senator. However, I do know that officers' and directors' insurance is hard to come by. It is expensive and not sufficient to cover the claims that have been made against auditors. I find it hard to imagine that an auditor would be considered to be an officer of a corporation. I think there is quite a different role for officers and auditors.
Having said that, even if they were to have some additional insurance provided through the directors' and officers' cover, that would not in any way solve the problem.
I would defer to Mr. Broadhurst with regard to the recent legal cases. One observation I would make, senator, regards your comment that this issue arises because of the globalization of business. You are right in one respect; it is the globalization of litigation to a large degree. In fact, many of the large cases in Canada involve domestic organizations, and they are primarily Canadian matters. It is not relative to foreign operations and the complications arising out of globalization.
We must understand that there is a problem in Canada, and Canada alone is being impacted from abroad, perhaps, but not because of the international operations of these organizations.
Mr. Broadhurst: Senator, the only cases we have been following closely are the ones set out in your options paper. Those are the two most directly applicable cases, that is, Hercules in the Supreme Court of Canada, and Kripps in the B.C. Supreme Court. They seem to impact on the issue here. We were trying to say that they deal with the issue of duty of care.
In fact, the Kripps case is somewhat different from some earlier testimony heard by this committee. The earlier testimony implied that as long as you followed generally accepted accounting principles and generally accepted auditing standards, then you were okay. In rendering the decision in Kripps, the judge said that that may not be going far enough; that you need another test on top of that which might be a reasonable standard or a reasonableness test. He said that once you move off the benchmarks of generally accepted standards, then you are into almost a no-man's land.
The Kripps case is disturbing for that reason. It moves the boundaries and you are not quite sure to where it moves the boundaries. When you are within generally accepted principles, you know the boundaries.
Senator Angus: I do not want to belabour this too much. However, I consider that the result of the Supreme Court of Canada in the Hercules case was a very significant victory for you. In fact, I was highly impressed by the way your association managed itself in that litigation. Indeed, I believe you had an official position before the court to bring the issues into focus for the court very much as you have done for us here.
As I understood it, in listening to the plaintiff's lawyer say after hearing the court decision that he felt he had been run over by a truck, the real crisis was over and it would be much harder to pin fault on professionals in your field. That is because the old principles in Anns v. Merton Borough Council, unlike in the U.K. case of Caparo that you discussed with us, were brought into focus. They are now reciting Hercules in the U.K. courts.
I was told there was great rejoicing in your profession and that at least now the chances of your being hung have been cleared up in the Supreme Court decision. I would like to have your comment, please. I may have it wrong.
Mr. Rayner: Our view is that the Hercules decision is very good. We were obviously pleased with the Supreme Court's decision. However, it did not change the fundamental liability regime we work under. It simply reaffirmed and clarified the tests the courts have been applying for a good many years. In that sense, it helped people understand the rules of the game in terms of an auditor's duty of care. However, it did nothing to change the duty of care or to reduce the liability of auditors. We still, despite the clarification of the law, face the same types of claims that existed before that judgment was rendered.
Senator Stewart: Please excuse the naiveté of my question. I plead that I am not familiar with the structure of major corporations.
Are we talking about a situation where a partnership or a corporation engages the services of a firm of auditors, or are we talking about auditors who are actually employees of that partnership or corporation?
Mr. Walker: We are talking only about the former. We are not talking about employees. We are talking only about the auditors, not the employees who happen to be chartered accountants or their internal auditors in an organization. We are referring to the involvement with effective financial information that has been released and on which someone has relied.
Mr. Rayner: Essentially, it is the liability among co-defendants in a legal case as opposed to the relationship amongst partners.
Senator Stewart: The first answer is very helpful.
Senator Meighen: The liability applies only to the partners of the auditing firm; is that correct?
Mr. Rayner: Yes.
Senator Angus: You made a comment or two about limited liability partnerships. There is clearly an enlightened view coming from our various legislators, not only in Canada but elsewhere, which is welcomed by all professions. You clearly pointed out how that does not help you in this crisis. However, would it be fair to understand that you are not against limited liability partnerships?
Mr. Walker: We are enthusiastic about them. They will be helpful because they will protect a partner's personal assets, the partner who was not involved in the event that brought the claim forward.
The one area that will help somewhat in the joint and several issue is that lawyers for plaintiffs use the threat of going to a partner's personal assets as one of the bargaining chips in getting settlements. The biggest single investment for most partners is their investment in their firm, and that is at stake all the time. If the firm goes down, they have lost a lot.
There is a consideration here, but at least their RRSP and their home will not be swept in. They still have a lot at stake
There is no question that lawyers for plaintiffs have threatened that they will go right through the partnership into a partner's personal assets. The partners get nervous, and they are forced to settle sooner rather than go to court and risk the calamitous claim that may come out of the court.
Senator Angus: Does the same apply to the right to incorporate a professional firm, a law firm or an accounting office?
Mr. Broadhurst: First, we considered the structure of practice carefully between corporations and limited liability partnerships. One of the reasons we opted for limited liability partnerships in our discussions with government officials -- and now we are now talking about the provincial level because that is where the thrust is found on that issue <#0107> is that such partnerships are tax neutral.
There is a concern at the different levels of partnership as to whether incorporation has good or bad tax effects. When we were able to discuss the issue in a tax neutral atmosphere, it swept off the table one entire set of considerations.
Second, if you incorporate, you have a number of administrative issues within a partnership to deal with. It did not seem they were necessary to go through either from the point of view of interest or the partnership, so we moved to limited liability partnerships.
Limited liability partnerships are being sought after in the United Kingdom in parallel with reform of joint and several liability. Limited liability partnerships are now available in all but three states of the United States of America. If you deal with any American corporations and look at their audit reports, you will see them signed "so-and-so, LLP." You will see that on a lot of legal stationery from the United States.
Once again, the United States had limited liability partnerships but also saw the need for joint and several reform, or proportionate liability. They are two distinct things, and I think the evidence from those two jurisdictions would also bear that out.
Senator Angus: The bottom line is that, as propositions, we like things that limit our liability.
Mr. Broadhurst: Certainly. We are behind the thrust on limited liability partnerships, and it is well open.
Mr. Walker: But it is not in place yet.
Mr. Broadhurst: No. No place in Canada has limited liability partnerships. Several provincial legislatures are close to considering the issue.
Senator Kenny: The questions of my colleague Senator Stewart may have been naive, but they were artfully naive. My questions are genuinely naive.
You folks have come up with an interesting wrinkle. When you were arriving at it, you must have put up some figures against it. You must have costed it out somehow. You must have said, "This $100,000 definition that we will put in for "unsophisticated" will really mean this in dollars."
You must have taken a series of cases and said: If this had been in place, here is the different outcome that would have affected us.
Can you tell the committee about those different outcomes? Give us some examples of the different outcomes had this rule been in place.
Mr. Walker: We have done quite a bit of work in considering this proposal, but we have not gone back and costed what the outcome of a particular case would have been because so many of the cases have been settlements rather than court cases. There are judgments in some cases, but the vast majority of the serious cases end up being settled because of the threat of litigation. At the end of the day, reasonable people sit down and work it out.
Often the settlements are confidential, and we do not even know the amount of the settlement. That is partly because the feeling is if the marketplace knows that, it will become an additional target.
We have not made those calculations. We came at the issue from the point of view of the average Canadian who perhaps is not well versed in sophisticated matters. Except in class actions in the future, these people rarely come at us. It is the larger, sophisticated organizations that sometimes have little cause to go against the auditors because they did a lot of their own due diligence, but they know the auditors have insurance. The auditors have a reputation to preserve and they have deep pockets, and so they sue the auditors.
We said that if we exclude homes, automobiles and home furnishings, we are really talking about the investments of the average Canadian.
Many of those average Canadians will continue to be swept into the protection of joint and several liability, but wealthy individuals and corporations, those who have the wherewithal to make their judgments on risk and their investing decisions appropriately, will be covered under proportionate liability in the future.
Senator Kenny: I understood the points you made earlier. What I am really saying is I am uncomfortable when a group comes to me with a formula and says that they did not apply any numbers to it so they do not know how it will work out in real life.
I accept that, in many cases, that would be difficult for you to do. I understand that people can be blackmailed into settling; after all, if your house is at risk, you may bargain a little differently than if other things are at risk.
It is hard for me as a member of this committee to accept the formula you put forward, however reasonable it may seem on its face, without hearing from you as to how it would apply in a couple of cases and how the numbers would fall out. I do not know whether that is something you can do and provide the committee with at a later date. If you can, fine, but if you cannot, I will remain sceptical.
I move to my second point, which relates to your definitions of sophisticated and unsophisticated individuals. I understand your proposal using the figure of $100,000, less the house, less the car, less dogs and cats and so on. However, that seems to be a rather arbitrary way of deciding who is sophisticated and who is not sophisticated. We all know people <#0107> perhaps our mothers or aunts -- who have $100,000 after the value of their houses and cars are deducted, yet they are certainly not sophisticated investors. Many of them do not have a clue about the intricacies of the market. This is a very rough-edged sword to be wielding. These are very arbitrary definitions. Is your proposal really the best you can come up with?
Mr. Broadhurst: Senator, we did try to do research on this. As we mentioned in our paper, we found two examples where this type of test has been applied: in the Ontario securities legislation and in the U.S. act.
We went to the United States to try to find out how they arrived at their figure of $200,000, and what we found is that even they had not been able to do the kind of calculation you are suggesting, which we would love to be able to do. They more or less tried to look at the issue of the average wealth of Americans, they had some statistics that are not available in Canada, and eventually, as a compromise, settled on $200,000.
They do not yet know in the United States the results of that legislation. Since that act was passed in December of 1995, there have been no cases which have yet reached the stage of applying that test. Right after December of 1995, everyone transferred their cases to state courts and tried to find a way of getting at the defendants through some other legal mechanism.
There is now a bill before the federal legislators in Washington to try to ensure that these cases cannot be transferred to state courts, that they must be dealt with under this legislation. It will probably take at least another two years before a case under their act reaches the stage of using their test, which uses the figure of $200,000.
We tried to find data in Canada regarding this, and we were not able to find any. There is no way to analyze cases because there are not any. The biggest single case in Canada was the one against the two western banks. That case ended with a settlement in the order of $100 million, the details of which are sealed, but it is certainly apparent that the auditors paid the lion's share of that settlement. However, there are no big cases in Canada which have gone all the way through the courts. Each plaintiff in a class action would have to be analyzed in order to get to that kind of information.
Under those circumstances, we unfortunately will not be able to provide supplementary information regarding that figure. We felt that, in keeping with the policy of being close to, or somewhat like, our major trading partners, we should be conscious of, at the very least, the only other place we could find that has legislation with a similar provision, and that was in the U.S.
Senator Kenny: The last issue I want to address is a fundamental one that we have discussed around this table before. What about the people who will be left out and who will have no recourse to anyone, once the engineers, accountants, architects, and lawyers are taken care of?
We get back to the question: What is your signature worth? What does it mean when you sign the document and say, "These facts are so"? Who will take care of the people who have relied on this signature which has been put on this piece of paper once we have covered off all those professionals?
Mr. Walker: Senator, all I can say in response is that, if the accountants were deficient in their work, they are certainly prepared to pay for their portion of their liability.
What they are concerned about -- and what has been a major concern to our insurance underwriters -- is that when all the other co-defendants disappear, we become the deep pocket and all the blame falls on the auditors. In the interest of fairness, that should not continue.
As for the auditors, they know that if they are responsible for a large portion of the loss, they will have to pay that large portion, which may in some cases result in their bankruptcy. They will have to stand that test. However, they do not feel that others who were involved, and often much more involved, should be able to pass the onus of financial responsibility on to the auditors.
The Chairman: Mr. Broadhurst referred to the two western banks. For the record, he was referring to the Canadian Commercial Bank and the Northland Bank, which collapsed in the late 1980s. This committee had extensive hearings into the cause of those collapses under the chairmanship of Senator Murray.
I have a supplementary to Senator Kenney's question. You described the $100,000 as in part coming out of an Ontario Securities Commission rule. Their rule is actually $75,000, as you pointed out. You also described $100,000 as being parallel to the American $200,000, but their figure includes an investor's home, and you have deleted that. Then you said that the $200,000 U.S., including a home, was derived by taking an average. When I taught statistics, I used to talk about the individual who drowned while swimming across a river with an average depth of only three feet.
I raise that only to say that, in this particular case, I am not sure that an average is the right measure, for precisely the reason that Senator Kenny raised.
Am I correct in understanding that your big concern is with the huge settlements that you might face if people are able to demand hundreds of millions of dollars, and that you might have a greater sense of generosity toward the potential unsophisticated people to which Senator Kenny referred if, in fact, the committee were to decide that the $100,000 figure is somewhat low, if one is to be insured, and that all unsophisticated investors, as the layperson would define unsophisticated, were included?
Mr. Walker: Mr. Chairman, I am not a mathematician, but I would think that the average would probably provide a higher number than the median. I do not know what would be the fair figure in the circumstances.
As I understand it, the amount was based on the net worth of Americans to determine what was a reasonable. The $75,000 figure was put in place about 14 years ago and, with inflation and changes, $100,000 seemed to be a more realistic number today.
The Chairman: Would you comment on the second part of the question?
Mr. Broadhurst: We leave it in the hands of this committee to see if there is a way to determine a proper figure. We would accept a number that was deemed to cover the principle of the unsophisticated or naive investor. However, it should be in the context of our major trading partner. It does not have to be the same, obviously, but in the general ballpark because, with cross-border shopping in legal things, we would hate to become the ones that the international accounting interests would sue. There is a Canadian arm to most corporations, and they might try to domicile lawsuits. However, we are in your hands as to what is a fair number and we would accept what you decide as implementing the distinction that we have been discussing.
Senator Meighen: Presumably there are a great many unsophisticated investors whose net worth exceeds $100,000, and vice versa. By using the term "unsophisticated investor", are you endeavouring to protect individuals who lose at least 10 per cent of their net worth, whether they are sophisticated or unsophisticated?
Mr. Walker: Not really. We are really trying to look after all the small investors who do not have the wherewithal to make the risk decisions on investments and who rely generally on the marketplace, including the involvement of the auditors.
Senator Meighen: Why would you conclude that someone whose net worth is under $100,000 is, ipso facto, more unsophisticated than someone whose net worth is $200,000? By that argument, the richer you are, the more sophisticated you are. Is that what flows from that?
Mr. Broadhurst: In London, one of your members described this as rough justice. I think that was a reasonable description of what we are trying to suggest. We will never reach a precise number that would catch every unsophisticated and sophisticated investor on the right side of the line. With any line you draw, there will be people on both sides who may not be in the right place.
Senator Meighen: I do not dispute that. I just suggest to you that perhaps the test should be the proportion of the net worth that is lost rather than the amount. What if someone's net worth is $1 million and that individual loses $999,000? That is pretty devastating.
Mr. Walker: I would think that most people with a net worth of $1 million have advisors to help them with taking risks and making investments, allocating their assets between various classes of investments, et cetera. We are talking primarily of invested assets, although it may not all be invested.However, I would think that anyone with over $100,000 would have someone to rely on for help in making investment decisions. We conclude that people with less than that amount may be doing much of it on their own and relying on the basic system and the rules and laws in the country. Then they are shocked to find out that they perhaps should not have relied on that because there was a missing piece of information that was important to them.
As Mr. Broadhurst said, it is an arbitrary figure. We spent some time determining what we thought was reasonable. We truly believe that the $100,000, excluding equity in homes, et cetera, will include a very high percentage of Canadians.
Mr. Rayner: At the risk of getting your mathematical chairman back into the act, I will just say that a Statistics Canada survey released about six months ago indicated that the average net worth of a Canadian household is $80,000. That gives you some sense of the size of the ballpark.
Senator Tkachuk: You are talking mostly of investors rather than creditors.
Mr. Walker: Both.
Senator Tkachuk: I notice that you have mainly been talking about investment rather than creditors. Is that your bigger problem?
Mr. Walker: No. Lenders pose a major problem for us as well. A great many suits are initiated by banks which made loans and which maintain they relied primarily on financial statements that turned out to be defective. Our proposal includes any claim, whether it is by a creditor or an investor.
Senator Tkachuk: To me as an investor, an audit would seem almost like a third-party opinion on the particular financial situation of a company as a potential investment site for my money.
Mr. Walker: Indeed it is.
Senator Tkachuk: Surely you would not be in any trouble if there was no fault in what you did in the audit. There could be no legal claim against you if, three years down the road, my investment soured and the company went broke, providing that you had not made any mistakes.
Mr. Walker: I would like to think that was the case. However, even though auditors may believe that their examination was carried out in accordance with the standards and that the financial statements were prepared in accordance with the standards, that does not stop people from suing them. In many cases where the auditors truly believe they should fight a case to the end because they are right, they end up settling. One of the reasons for that is that your insurance company is spending so much money on your defence that at some stage they say that the only logical thing to do is to sit down and settle the case. They do not want to pay the huge legal bills that, as we all know, can sometimes run into millions of dollars.
Senator Tkachuk: But that is why you charge more money for an audit than for a financial statement. As a professional you have an obligation to the consumer, and the consumer is the person who may go to court and press a claim that what he or she relied on was the audit itself. You have discharged your professional responsibility as an auditor if you have provided a clear picture of what went on. Most investors will not rely on the promoter of the company or on the board of directors, because it is in their own self interest to get the investor's cash. They will look to the auditor and the audit for a professional statement upon which they as a potential investor can rely.
Mr. Walker: The primary responsibility for producing financial statements rests with the corporation and its officers and staff. The auditor provides additional insurance that the statement is presented fairly and in accordance with the standards.
If the auditor slipped up in his work and was deficient, the auditor ought to pay something to the investor or lender who lost money, and we accept that. However, with joint and several liability now, in a $100 million claim for which the auditor was judged to be 10 per cent or 20 per cent responsible, if the officers and directors are bankrupt, unavailable, have left the country or whatever, all of that $100 million liability can rest on the auditor. We say that in the interests of fairness, that is not reasonable. We will pay our share. If that share results in huge costs to the audit firm, or even bankruptcy of the audit firm, so be it. That is unfortunate but that is the reality of today's world.
However, we should not be responsible for the other participants, the underwriters, the officers and other advisors such as real estate appraisers who may have had an involvement in the financial information that was put out. For example, in western Canada the list of advisors may include engineers performing evaluations on reserves in oil companies. If the engineer does not have the kind of insurance that the auditor has, investors who have lost money will always attack the auditor because they see us as fair game.
Senator Tkachuk: You are fair game because, when you do an audit, it is to protect consumers and investors. They rely on the audit. You have more of a responsibility to provide fair and accurate information which the investors can rely on in the public market or perhaps in a private placement or in an offering through the securities commission of a particular province. What happens if they cannot rely on you?
Mr. Broadhurst: Senator, we accept the judgments of the courts on those issues.
Senator Tkachuk: I understand.
Mr. Broadhurst: In other words, if there is a challenge from a plaintiff, the court will decide whether the auditor performed to the standard expected in the case involved. The court can judge whether the auditor is fully responsible or is only a marginal defendant.
There have been cases in the United States. One of the landmark cases was Bily v. Arthur Young & Co. in which the California Supreme Court concluded:
...an audit report is not a simple statement of verifiable fact that, like the weight of the load of beans... can be easily checked against uniform standards of indisputable accuracy. Rather, an audit report is a professional opinion based on numerous complex factors... the final product of a complex process involving discretion and judgment on the part of the auditor at every stage. Using different initial assumptions and approaches, different sampling techniques, and the wisdom of 20-20 hindsight, few... audits would be immune from criticism.
They were trying to recognize there that the audit was a professional exercise, not a measurable exercise on a scale of one to ten. Keep in mind, when you get to court on an audit opinion five years later, everyone in that court knows that that company went bankrupt. It is hard to dismiss that from your mind when you are making a decision about what the conditions may have been five years before and why the auditor did not recognize them.
The problem is one of professional judgment. There can be second-guessing -- legitimate second-guessing -- of professional judgment. That is why we say the courts must make the decision in the light of circumstances. Whatever they decide, that is our problem and we must deal with it.
Senator Tkachuk: Thank you. I have some questions on the issue of the sophisticated and unsophisticated investor. I am only asking these questions as it relates to investment because that is where you spend a lot of time.
If a company has sought and found a pool of investors, and if a lawsuit arises, are you saying that some will get to claim fully against that company and some will not?
Mr. Rayner: What we are saying, senator, is that presently everyone gets to claim fully against us. When damages are awarded, we would like to see the damages awarded on the basis of proportionate liability. We know there may be some investors in the field who are less sophisticated and who would be negatively impacted by the proportionate liability. We are saying we should try, in whatever regime comes out of your study, to recognize the fact that there are smaller fish in the investment pool who need some further protection. We are prepared to give it.
We still feel that the proportionate liability is the right way to go, but we are trying to be pragmatic and recognize the concern about the smaller investor. How one defines a small investor or an unsophisticated investor is something that can be discussed. We indicated to Senator Kirby that we would be prepared to consider alternatives.
Mr. Walker: If the auditor is to take on all the risk of all the other participants, then we should probably be charging an insurance premium for taking on that risk, in addition to the charge for the audit services. Life is not like that. We charge for our audit services. We do not charge an insurance premium to guarantee that the financial statement is sound.
Senator Tkachuk: Because you do an audit, though, you do charge for more service than if you were not doing an audit.
Mr. Walker: Yes, we charge based on the time involved. More time is required to do an audit than a non-audit opinion. That audit opinion has greater assurance. We are saying that if the opinion is defective as a result of our mistakes, we will pay for them.
Senator Tkachuk: I want to go back to the issue of sophisticated and unsophisticated investors because, like others on this committee, I have a problem with that.
I understand your principle. I am trying to get at this: If there were five investors, three of which were, by your definition, unsophisticated, and two of which were sophisticated, and if the other participants were bankrupt, then not everyone would get equal compensation. Is that right? In other words, some would get more than others. The investor who has $110,000 in net assets would recover less than the investor who has $100,000 in net assets.
Mr. Walker: That is not unlike the way Canada Deposit Insurance Corporation insures deposits. They insure up to $60,000. If I lose $60,000, I get it all back. If you had invested $100,000, you will still lose $40,000. However, the feeling is that if you have that kind of money, you can get advice or you can spread your risks or whatever. This is a similar kind of concept to look after the very small, unsophisticated investor.
The two investors in your example who do not get full recovery would probably feel that is rough justice. Just because they have a bit more money, they will recover less. However, as Mr. Rayner said, we truly believe the fairest approach for everyone is to get away from joint and several and to go to proportionate liability. The argument is that there needs to be some additional protection for the unsophisticated investor. We say probably there should be some additional protection; we must find a cut-off point.
We can debate the $100,000 and, as Mr. Broadhurst said, we will be interested in your ultimate conclusion on the fairness of that.
Senator Meighen: It has been a year since we were last in this area. It was my recollection that one of the big elements that brought about this crisis was the globalization of accounting firms and the fact that, particularly in the U.S., the amounts of judgments were huge and that judgments seemed to be increasing in Canada as well. Is that correct?
Mr. Walker: It is correct. In some ways, it is the result of globalization of accounting firms, but the principal aspect is the globalization of legal matters. I spent three years on international matters. Many countries, such as Germany, felt that this was not a problem at all. However, with all the publicity, suddenly cases started to appear in Germany. For the first time, German auditors began to realize that this is a problem. To a degree, that is a consequence of globalization, but it is not really because a company like Coca-Cola is a global company; it is more because the world is understanding business practices everywhere and is applying them world-wide.
Senator Meighen: I do not want to get into a legal argument because I am far from sure of my ground, but if your tax partner in the U.S. made a terrible mistake, and if your tax department here had some involvement in the error, and if the error resulted in a huge judgment in the United States, is it your view that you are liable as well?
Mr. Walker: That is a broad question, but, by and large, the firms pool their problems on separate issues, and each judgment would be paid for and apportioned among the firms. Quite likely, there would be some feeling that since there was some Canadian involvement there ought to be some Canadian contribution if they contributed to the defective advice.
Senator Meighen: What you are suggesting today would not have any effect on that problem, would it? The solution you are putting forward here, which is intriguing, would not meet the problem you have just described, would it?
Mr. Walker: It would only meet that problem if there were other co-defendants in that case, in which case the proportion of responsibility to the other co-defendants would not fall back on the auditors, which would be the case today in Canada.
Mr. Broadhurst: Generally speaking, tax advice is a two-part matter between the client and the tax advisor, and the tax advisor will be 10 per cent responsible. That would be the general tax situation. It would also be the general situation in a consulting assignment.
Similarly, it is possible in those assignments that the parties may agree to limit liability by contract. They differentiate from audit assignments.
Senator Meighen: Am I not correct that, where huge judgments are awarded in another jurisdiction -- let us say the United States because that was often cited -- the proposal you have made today would not shield you from your share as a part of a world-wide firm?
Mr. Broadhurst: However, the huge judgment in the United States to which you refer would now be under modified proportionate liability.
Senator Meighen: Is that not true in the United States only if the case is under the Securities Exchange Act?
Mr. Broadhurst: Yes, and most of the major cases are Securities Act-related.
There is a campaign in the United States to bring the principles of the Litigation Reform Act into the state courts and into the state acts. Some 30 states have some form of proportionate liability. In other words, they have moved from pure joint and several liability to some combination. Perhaps some of the other options in your paper come from American state sources.
Senator Meighen: Let me try this once more. I am not clear in my own mind. If we made the amendments you are seeking to the Canada Business Corporations Act, am I correct that they would only be operative in circumstances of a judgment obtained before a Canadian court?
Mr. Broadhurst: That is correct.
Mr. Rayner: Yes.
Mr. Broadhurst: Under that act, that is correct.
Senator Meighen: As I understood earlier testimony, you have real problems with spill-over from American judgments.
Mr. Walker: It is not the spill-over from American judgments; it is the spill-over of the approach to litigation in Canada.
Senator Meighen: If that is so, does Hercules not provide you with a little more comfort than you perhaps indicated in your evidence today? I understood you to say that Hercules is very nice but that all it does is clarify what is there. Does it not go a little further? Does it not give you a little more protection in the United States, for example?
Mr. Walker: Hercules is not Caparo. Caparo is an English case from 1989 which does some of the same things that Hercules does. There have been numerous decisions since the Caparo judgment of 1989. It has not affected the flow because it deals only with the duty of care. It establishes who can sue. Once a person has a right to sue, then the issue becomes joint and several versus proportionate liability. Caparo did not stem the lawsuits in the United Kingdom.
Senator Meighen: Does your investor include a legal person as well as an individual? Suppose the net worth of the ABC Corporation is $98,000. Is the ABC Corporation, which has suffered the loss, able to recover?
Mr. Walker: The intention is that this apply to individuals, not corporations, since corporations have officers who, by and large, can make joint decisions on investments.
Mr. Broadhurst: That, too, would be subject to your thinking, obviously.
Senator Meighen: However, you intended it to apply only to individuals.
Mr. Walker: Yes.
Senator Oliver: My own view is that the threshold is unrealistically low in Canada. Because of our personal tax regime, most Canadians try to put money into RRSPs. If they have been doing it since their twenties, they will have more than $100,000 in their pension plan by the time they reach 40 or 50. In the last few years, many people have seen their funds double. You talk about the principal residence, and the Ontario statute talks about the home. That seems to exclude a summer home, a winter home, and other residences which could easily be over the $100,000 threshold.
For those and many other reasons, I do not think that your $100,000 figure is realistic or helpful.
The researchers indicate that exposing concurrent wrong-doers to potential liability for the entire award of damages motivates potential defendants, particularly deep-pocket defendants such as the auditors and accountants, to implement safety measures. Would decreasing potential liability by abolishing joint and several liability reduce the incentive to avoid negligence?
Mr. Walker: As I indicated in my remarks, whether you are sued for $100 million or $500 million, it is a serious matter. You have the potential to suffer a loss of that magnitude. I do not believe it would change the care that auditors would take. They have the risk of being sanctioned, perhaps even thrown out of their profession, if judged to be deficient. The cost of litigation is high regardless of the actual amount claimed. I truly believe that it would not have an impact on the standards of the profession in the country.
Mr. Broadhurst: Senator, we are talking about very large amounts. Whether you are sued for $50 million or $150 million, either suit would get your attention.
Having had experience with professionals who are under discipline situations, I can tell you that they sometimes take the fact that they are facing discipline a lot harder than any monetary situation involved. Being drummed out of your profession is something that you must live with for a long time. The professional discipline is taken very seriously in all the professions we are aware of, and ours is one of them.
Senator Stewart: Mr. Broadhurst just now spoke of very large amounts being sought in suits.
Let us consider two different kinds of situations. One is a situation in which the audit firm is guilty of negligence. In that situation, my reaction is not very sympathetic to that auditor or that auditing firm.
Let us take another situation and go back a few years. A company invests heavily in real estate, and the professional advice of the auditors advising that investment company is that the real estate market is very good and likely to improve. There, the auditor has given what Mr. Broadhurst referred to earlier as professional advice, the best judgment she or he could give in the circumstances. I find that I am rather sympathetic to the poor auditor in that case, whereas in the case of negligence I was not.
Taking my simplistic dualism of negligence versus professional advice that turned out to be wrong, can you give us any indication of the number of instances or amounts of money sought in each of those categories? It is important because my reaction is very different. In the case of negligence, I have very little sympathy for the auditor. In the other case, I agree with Mr. Broadhurst that the auditor gave professional advice. Everyone on Bay Street and Wall Street would have agreed at that time. Five years later, it turned out that they were all wrong, whether we are talking about real estate in Toronto or Tokyo.
Mr. Walker: If we have left you with the impression that we think negligent auditors should be protected, then we have left you with the wrong impression. We are as unsympathetic to negligent auditors as you are. However, what we are saying is that the auditor ought to pay for his or her proportion of the responsibility for the blame, and not for everyone that was involved with the loss. We are unsympathetic to negligent auditors.
Senator Stewart: Surely, the auditor, given the status of the profession, has a greater liability. People expect a lawyer to do the best he can for his client. The engineer is not expected to conform to quite the public standard of probity of the auditor. Yours is a very respectable profession. Your certification, in a sense, requires that you be more liable than these other fellows.
Mr. Walker: I think that is a point a judge would take into consideration in apportioning what percentage the auditor should contribute to the settlement.
With respect to the question of real estate, I am personally aware of large cases in Canada that directly relate to your point, that is, real estate values went down and, as a result, a financial institution got into difficulty. In such cases, the auditor truly believed that the problem was an "economic condition" that arose after the date of his opinion. Nevertheless, with hindsight, as Mr. Broadhurst has said, five or ten years later everyone recognizes that real estate values went down by 30 per cent or 40 per cent and that that wiped out the capital of that organization. At the end of the day, with the challenge that auditors face to prove that they did a proper job, with the threat of joint and several liability coming into play, and knowing that a lot of the other players, for example, real estate appraisers and investment advisors have not got much to contribute to the settlement in terms of funds, knowing that the issue of joint and several liability may fall back on the auditors and the underwriters for the insurers, there is tremendous pressure on the auditors to settle. We do not really have insurance for the future. However, a few of the old claims go back to the time when we had insurance. Finally, the underwriters and the insurance companies say, "Settle this thing. We agree you should not pay anything into this, that it was an economic event that occurred after your financial statement, but we do not think we can carry it on much further and continue to pay all these costs." A settlement is what you end up with. In spite of the fact that the auditor was making a reasonable judgment at the time, they end up paying. Joint and several liability is such a big threat that we end up having to make that payment.
Mr. Broadhurst: As Mr. Walker says, the situation only arises when there is more than one defendant. If we are the only defendant and the judge says that it was negligent work and the award is $10 million, then that is it, we are on the hook for $10 million. It is when there are co-defendants that there is a problem, for example when directors are sued, a situation that has been arising quite frequently in the last few years. Directors have major responsibilities. Your committee has examined that issue.
Some of the testimony before the Estey commission when he examined the bank failures indicated that there was a considerable level of criticism of directors and audit committees within boards. These are the types of cases where apportioning the liability is appropriate. We say if we are 25 per cent responsible and the directors are 75 per cent responsible, and if the directors can only muster up a small amount of money, then we should not have to pony up the money for them. We should pay our 25 per cent. We should not be their insurer.
That is really the case when there are multiple defendants. Once again, when it is but a single defendant auditor, we agree the auditor should pay the whole amount. However, when there are multiple defendants, the courts should decide our share. We should pay our share and take the consequences. If someone else cannot pay, then that is business.
Senator Stewart: But will you come to my question? Can you give us some information as to how many situations there are in which it is the auditor's negligence which is blamed -- when you are either on the hook or you are not, by reason of negligence -- as compared with situations which could be attributed to changed economic circumstances?
Mr. Broadhurst: In every single lawsuit I can think of involving the dissemination of financial information, the auditors are included as one of the defendants, whether there is any reason to do that or not. Most of the larger cases relate to the audit function. In other words, they are saying that they relied on inappropriate financial information in making a credit-related or investment-related decision. That is behind almost all of the cases. There was defective financial information in the marketplace that someone claims to have relied upon and, as a consequence, suffered a loss. The auditors are linked to that information in every case.
Senator Stewart: You seem to be implying that where professional advice was given in good faith and it then turned out to be an inaccurate prediction, the inclination is to say that negligence was involved.
Mr. Broadhurst: Yes, sir. If you look at testimony surrounding the assessment of loan losses in a banking situation, there is a professional view brought to a loan loss. Three years later when that loan has failed, obviously, you go back and try to recreate the situation three years ago to decide whether the professional judgment was appropriate or inappropriate. It is that kind of situation where professional judgment can be challenged in retrospect or in hindsight.
Mr. Walker: It is even worse than that in the sense that it is not only negligence that is claimed. Sometimes even fraud is claimed. They say the auditor conspired with management to produce unreliable financial statements.
Senator Callbeck: To follow up on Senator Stewart's question, let us say an audit was done on March 31, for example, and there was real estate assessed at $10 million. All the indications at the time were that the economic climate was good, et cetera. Then, six months later, the market collapses and it is worth only $2 million. Do I understand correctly, then, that the auditors could be sued on that basis?
Mr. Walker: They likely would be. Let me take it one step further. Often, financial institutions find that they lend on real estate, the real estate value goes down, and therefore their security is less and their loan becomes impaired. The auditor can be sued because the lender says that that loan was unfairly valued. It is a very broad question.
Senator Callbeck: In terms of a ratio, how many cases involve actual negligence and how many cases involve the type of situation I am talking about, where auditors fail to detect errors in information given to them, such as my example with regard to real estate?
Mr. Walker: One of the problems an auditor is often faced with is that an audit is a very complex engagement. Often, one aspect of the audit could have been done a bit better, particularly with hindsight. Therefore, it is fairly easy to have some other professional say, "I would have done it differently. Therefore, the auditor was negligent." Sometimes that mistake in that area of the audit does not bring the organization to its knees or bankrupt it. Nevertheless, the auditor is extremely vulnerable because another professional has been able to give testimony that that is not the way he would have done that or the judgment that he would have reached applying reasonable standards.
It is hard to say that there are "x" number of cases that involve negligence and "x" number of cases which involve professional judgment. I think it is a reasonable consideration. At the end of the day, you settle a lot of these cases. You almost throw the towel in, primarily under pressure from insurers to get rid of the case by settling it. It is costing too much money to carry on.
Very often when there is a settlement, there is no acknowledgement of guilt or responsibility. You just put the money in the pot. It is distributed and you are released from your obligation in that case.
I do not think statistics as to which cases were negligence and which cases were professional judgment would help us an awful lot. The world has changed; economic cycles have changed.
If you look at the claims against auditors, they are directly parallel to economic cycles. In boom times, things are going well, but as soon as things turn down, the suits start to come against the auditors because financial institutions and other major corporations get into financial difficulty.
Senator Stewart: I think that is a very interesting observation. Auditors are expected to be better prophets than the market.
Senator Callbeck: You mentioned that in the United States there are 30 states with various forms of proportionate liability. Has that lessened the concern of auditors there regarding liability?
Mr. Broadhurst: The kind of reform that took place in the Litigation Reform Act at the federal level has certainly reduced the concerns of auditors. If they are a minor co-defendant and maybe 5 per cent or 10 per cent responsible, they are more likely now to defend the suit and let it go through to judgment. Under the old scheme, if they felt they were at a 5 per cent or 10 per cent level, defending the suit placed them at risk of having to pay 100 per cent.
Many of the states have different variations of that. You will see a number of them in your options paper. The attempt at the moment is to create a uniform way of judging these things -- in other words, to bring state law into conformity with federal law so that we do not have a situation like that of California where everyone is trying to sue. They want to bring some sanity into the business issues surrounding lawsuits. The tendency is to bring the states into conformity with the federal law, and that is a long, tedious process. However, there is the recognition in 30 states that joint and several liability is not always the way to go. That was the significance of my comment.
Senator Callbeck: I really wanted to talk about the sophisticated and unsophisticated investor, but that has been pretty well discussed. I, like many other senators, have a concern about that issue, as to whether net worth is the way to make that distinction. If it is, I think the figure of $100,000 is very low.
Senator Kelleher: It seems to me from our discussion this morning that we are getting into a bit of a quagmire. We have gotten ourselves into a discussion of the sophisticated and unsophisticated investor. You can see from our questions this morning that that may not work, notwithstanding your best intentions. I am wondering why we do not go to the simple system that we have with our banks of a $60,000 limit. We insure you up to that point, and above that amount, you are on your own. Why do you not say, fine, up to a certain amount, we are liable jointly and severally, and after a certain limit -- like any type of co-insurance -- we have the opportunity for proportionate liability? Is that an approach to which you would object? Perhaps you could take it away and examine it. I sense from our questioning this morning that you will have some trouble, notwithstanding your best intentions.
Mr. Walker: We concluded that an amount was not necessarily the best indicator. We feel that a regime probably could work with amounts. Again, it would be rough justice for some people as against others.
If I can just touch on Senator Oliver's question about RRSP plans and pensions, we did debate that. That is an issue your committee could consider if you wanted to add RRSPs as another exclusion. I am not encouraging that, but that is an option if you think it is important to the average Canadian.
We could consider a limit like the CDIC amount of $60,000. Beyond that, everyone would be totally at risk. However, we are not certain that is the best way to judge whether someone is unsophisticated or sophisticated. Obviously an IQ test would not fly. You have to relate it to some monetary amount.
Senator Kelleher: With the CDIC approach, we would avoid that problem. The CDIC provides a standard that the public appears to accept, and it puts depositors on a little better footing. If you followed that approach, you would not get into this hideous problem of who is sophisticated and who is not. Investors would know that, just as they do when they deposit money.
I offer that to you as a thought. If you think there is any merit in it, I would appreciate an addendum from you on this so that we have an option. I sense that you will have problems with your other approach to the problem.
Mr. Broadhurst: We would be delighted to do that. We were really basing our proposal on what we thought was a concern expressed in your hearings. We were trying to address a specific concern.
Senator Kelleher: I am not disparaging your good intentions.
Mr. Broadhurst: If it could be better addressed by the CDIC approach, I think it probably would be easier to apply. That would generally meet the test we are proposing.
Senator Kelleher: The principle remains, but your way of calculating and arriving at it may keep you out of trouble.
Senator Angus: There is another approach you may wish to consider because I see many problems inherent in the CDIC approach. Besides having to deal with inflation, the CDIC is running into other problems.
I have always favoured a contracting-out provision. I am well aware that there are other laws, either laws that govern the professions or some provincial statutes, which prevent you from contracting out.
The Chairman: For those of us who are not lawyers, can you explain what you mean by "contracting out"?
Senator Angus: In a contract for professional services, you would have a clause saying --
Mr. Walker: Our liability is limited to 10 times the fees, or something like that.
Senator Angus: Or the parties agree that, if they are found responsible for their negligence, there will be proportionate liability; or if they are found responsible for their acts, there will be a limit of $100,000. I know there is an issue of how it can be extended to third parties, but I think there is a way. I am wondering if we could not look into that as a solution.
Mr. Broadhurst: There is an another issue there, and that surrounds the jurisdiction in the United States. Many of our largest corporations are presently registering under the SEC and listing on stock exchanges. In the rules of the SEC, there seems to be a prohibition on that kind of contractual relationship between the auditor and the corporation. You have already raised the third-party issue.
Senator Angus: I am aware of the SEC issue as well. I thought we should approach it at that level because you have legitimate concerns. No one seems to deny there is a real problem, not just for auditors but for other professionals as well. The narrow focus of your very creative proposal and the problems Senator Kelleher has perceived may prevent it from working.
Do any of you have evidence, or is it your belief, that if your proposal were accepted and enacted in an amended CBCA, there would be more insurance capacity available to you?
Mr. Walker: I have absolutely no doubt about that. I have spoken extensively with our underwriters over many years. Probably 20 years ago I was told that the biggest single problem in Canada is joint and several liability. They said they were paying so much as a result of that type of liability that they had to increase our premiums. It got to the point where there was no availability in the marketplace. I believe our underwriters feel very strongly that the market will come back if joint and several liability disappears or is modified with some form of proportionate liability.
Senator Angus: I take it you all agree with that?
Mr. Broadhurst: With one small proviso: It will not come back instantly. People will want to see how the events unfold, but the feeling is it would return.
Senator Angus: It is a difficult question because the insurance market is getting much softer at the moment. However, there are many kinds of professional indemnity underwriters looking for professional work, where until recently they were not. There is a complex array of reasons for that. I realize we discussing principle here, but I am not sure that your best argument is the problem of uninsurability. There are other logical reasons.
The Chairman: Politicians are often interested, if they are going to give out a benefit to some people, to get something in return. As I understand it, in the 1995 changes to the federal act in the United States, there were additional accountability measures imposed on the auditing profession. I would not necessarily say they were imposed in return for the move to the modified proportionate liability, but they both happened at the same time, even if one was not in return for the other. Could you tell us what those additional accountability measures were and also what your reaction would be to a similar package in the Canadian context?
Mr. Rayner: Whether these were additional or quid pro quo is questionable.
The Chairman: They occurred at the same time.
Mr. Rayner: There were a couple of provisions that went in in addition to proportionate liability. One related to future-oriented financial information and provided what is called a "safe harbour" for information that was disclosed, if appropriately disclosed, that had to do with future-oriented information.
Second, a part of the legislation <#0107> and this affected auditors -- provided that there was a responsibility for the reporting of fraud if it has been detected.
In fact, what that piece of legislation provided is not all that different from what is now the case in Canada in any event. For example, if one looks at the financial institutions legislation in Canada and how one interprets the well-being provisions under that legislation, one can see they are similar.
The Chairman: They were changed in the last set of revisions.
Mr. Rayner: Our view is that the present requirements in Canada with respect to the auditor's responsibility for fraud are not much different from what, in fact, was imposed through that legislation in the United States.
The Chairman: In fact, in Canada the changes were not made concurrently, and they were made in connection with the financial institution legislation.
Mr. Rayner: What the American legislation did was specify reporting to the Securities Exchange Commission under certain circumstances. At the same time - and this is interesting, from our point of view - it also provided that if an auditor found himself in a position where he had to report an illegal act or fraud, he would be protected from civil liability for exercising his responsibility to report to the SEC.
There was a tiny linkage to the liability issue but this appeared to be something additional. My contacts in the United States tell me that it was not a quid pro quo as part of a deal on the legislation. It apparently arose because a particular senator or member of their house had a view on the matter and wanted to see it enacted, and it simply became a part thereof.
The Chairman: It was coincident rather than quid pro quo.
Mr. Rayner: That is our impression.
The Chairman: On behalf of the committee, I thank all of you for coming. You will agree you certainly had an exhaustive discussion of your proposal.
Senators, I remind you that on Tuesday we meet at 9:30. Our witnesses will be from the Office of the Superintendent of Financial Institutions.
Senator Kelleher: Mr. Chairman, in that regard, there are problems arising under that act with respect to the disposition of surplus. The most recent example we had of that was in the Eaton's restructuring. That is always a problem. We are told -- I do not know this -- that employers have great concern about perceived unfairness.
The Chairman: I understand the issue.
Senator Kelleher: I am hoping that our researchers will guide and advise us and see to it that we have some witnesses who can discuss this issue.
The Chairman: That is frankly how we ended up scheduling the second day. We have invited the Canadian Labour Congress, who are on one side of that issue, and an employers' group on the other side. We have not yet had a reply from them. However, our hope is they will appear next Thursday.
Senator Kelleher: I just wanted to raise that concern.
The Chairman: They have certainly been asked to come. If they decide not to come, they will not come. They are aware of the hearings.
The committee adjourned.