True and Fair View: 
Accounting or Legal Concept?

Singapore’s regulator, Accounting and Corporate Regulatory Authority (‘ACRA’), issued Practice Direction 4 in 2005. It states that the criterion of a ‘true and fair view’ is not an accounting criterion; the courts say it is a legal test. This has been the 
traditional view.  

The Companies Act requires public accountants to express an opinion on whether financial statements are true and fair. If the courts’ view is that this can only be determined conclusively by a court of law, should lawyers then issue a joint opinion with auditors? Or would companies be better off if they included a legal opinion in their annual reports on the truth and fairness of the financial statements?

As part of a wider international debate, there have, in fact, been discussions on extending responsibility for, effectively, determining the audit opinion to third party advisers (eg lawyers and bankers) although such persons undertake a clearly different role as contracted advisors to management as opposed to statutory auditors with a duty of care to shareholders. Against this backdrop are some recent developments that are changing the dynamics and challenging a public accountant’s primary role of exercising his or her judgment on whether a set of financial statements is true and fair.

Legal Compliance with Financial Reporting Standards

In 2003, Financial Reporting Standards (‘FRS’) were given legislative effect. As a result, these standards may potentially be subject to interpretation by the courts. In doing so, precedents could be set by the courts – outside the standard-setting process – which may limit the exercise of professional judgment and/or create possible inconsistencies and contradictions with the views of accounting standard-setters. There are concerns that this would simply add to the uncertainty of how to achieve the true and fair view under the Companies Act. It is perhaps not surprising, therefore, to hear reports of some auditors in Singapore referring their clients to legal firms to obtain opinions on contentious accounting matters.

‘Standardisation’ of the True and Fair View

Lord Denning in Candler v Crane Christmas & Co 1 All ER 426 [1951] opined:

There is a great difference between the lawyer and the accountant. The lawyer is never called on to express his personal belief in the truth of his client’s case, whereas the accountant, who certifies the accounts of his client, is always called upon to express his personal opinion … and he is required to do this not so much for the satisfaction of his own client, but more for the guidance of shareholders … who may have to rely on the accounts in serious matters of business.

With the widespread adherence to a common set of international accounting standards, the dynamics of delivering an opinion on a set of financial statements has changed somewhat. Would a ‘personal opinion’, not supported by social consensus, meet the expectations of shareholders today? Auditors, like judges in a court of law, now seem to have to undertake the role of interpreting the increasingly detailed accounting standards rather than issuing personal opinions in a regulatory vacuum. And just like judges, where the accounting standards do not cover certain situations or where they are ambiguous, they look to ‘precedents’ in the published reports of large companies or other sources.

A review of the above developments raises a disturbing question for accountants: Will the accounting profession be absorbed and subsumed under the legal profession in the next decade, as a legal specialism?

Is the True and Fair View Necessarily a Legal Concept?

In Vita Health Laboratories [2004] 4 SLR 162 the court ratified the ‘business judgment rule’ when it decided that it is the role of the marketplace and not the function of the court to punish and censure directors who have in good faith made incorrect commercial decisions. The court held that directors should not be coerced into exercising defensive commercial judgment, motivated largely by anxiety over legal accountability and consequences. Bona fide entrepreneurs and honest commercial men should not fear that business failure entails legal liability. This, of course, could raise the following questions: If accountants make professional judgments in good faith which resulted in audit failures, should their professional judgments be subject to detailed scrutiny by a court of law? Would there be a place for a ‘professional judgment rule’? The ‘business judgment rule’ which the court applied in Vita Health is recognised in various jurisdictions. The rule has the effect of shielding corporate decision-makers from judicial second-guessing.

With the growing complexity of the FRS, one wonders whether the idealistic notion of a court of law deciding on whether a set of financial statements is true and fair can be sustained. While there is a traditional reluctance to interfere in commercial decisions of directors, the courts appear to have appointed themselves experts in accounting practice. Should not the courts confine themselves to deciding whether the professional judgment made by the accountant, as to whether the financial statements showed a fair presentation, was made in good faith and with due diligence? Are auditors showing signs of exercising defensive professional judgments, motivated largely by anxiety over legal accountability and consequences? Indeed they are. Observe the caveats in a Letter of Engagement, a Letter of Representation and an Auditor’s Report. The same dysfunctionalities that the courts fear would plague directors if the courts interfered will be obvious when observing the behaviour of public accountants.

All the years of training and rigorous examinations (both academic and professional) have only one objective – to enable the public accountant to make an informed judgment as to whether financial statements are true and fair. The public accountant has to keep up with a veritable mountain of accounting literature, international standards and interpretations supplemented by years of practical experience and supported by a regulatory and professional environment. How then does a judge in a court of law, far removed from the marketplace with little continuous exposure to accounting issues, decide on whether a set of financial statements is true and fair?

A related question is whether we require any further legal test in the Companies Act, since International Accounting Standard/FRS 1 (‘IAS’) already includes an ‘internal override’. Under the current IAS/FRS 1.17, the Standard states that ‘in extremely rare circumstances in which management concludes that compliance with a requirement in a Standard or an Interpretation would be so misleading that it would conflict with the objective of financial statements, as set out in IASB’s Framework, the entity shall depart from that requirement in the manner set out in the Standard’ (which specifies relevant disclosures by management, including the financial impact of the departure). The additional legal test and the related override provision in the Companies Act therefore appear superfluous in 
this context.

Conclusion

The role of the courts of law in scrutinising the decisions by public accountants on what is true and fair should be critically assessed. Future judgments on this matter should cite Vita Health Laboratories and other similar cases as precedents for returning the primary role of the auditor to 
the auditor.

Joseph Alfred

ACCA Singapore Pte Ltd