Were the opinions misleading or deceptive?
38 One matter should immediately be adverted to in this connection, namely, the expertise which was being exercised. Pannell Kerr Forster Australia was a firm of accountants with an established and substantial practice. There are aspects of the Report which might lead a reader to believe that it was an accountant's report: there was reference to audit, investigating accountant's opinion, detailed verification of information and Australian accounting standards. However, the Report is provided by PKFCA, which is described as an independent industry expert. An accountant would not normally be so described. The form of the Report seems to me to reflect expertise in both the hotel and hospitality industry and in accounting relevant to that industry, as might be expected from the consulting arm of a firm of accountants. As will appear, the author of the Report was a person with skills in the hotel and hospitality industry rather than accounting, and it was in that area that the controversy exists. However, the accounting flavour of the document could well (and, in this case, did, as will appear) add weight to the opinions expressed.
39 The case against PKFCA primarily consisted of a detailed report by Mr Warren Wilton. Wilton is a bachelor of commerce and a chartered accountant who, for many years, was a partner of Ernst & Young Australia. He retired from the partnership on 30 June 2000, but has been retained as a full-time consultant with his particular role being Director of Services to Property and Tourism clients. He had occupied the role of National Director of Services to the Property and Tourism industry at the time of his retirement from the partnership. He had also been Australian representative on the Ernst & Young International Property and Tourism Steering Committee. Over a number of years he has specialised in the property, construction and tourism area. He described his area of expertise as tourism, hospitality and leisure advisory, audit and assurance services, acquisition and due diligence, special investigations, prospectus, including investigating accountants' reports, and property advisory. He gave evidence of an impressive list of clients and a wide variety of specific assignments in the field. He is well qualified to express opinions as to all aspects of accounting as they relate to the prospectus in question, and I am satisfied that he is familiar with the business side of the industry and with the data available in that field, although he is not what might be described as a business expert. Wilton essentially provided a critique of the Report and the process and methodology by which it was prepared. He was very critical of many aspects of and relating to the Report, ranging from the procedures adopted to a number of issues of substance. He did not express any independent substantive opinion as to reasonableness of the promoters' forecasts or as to what a proper report might have concluded.
40 The author of the Report was Stephen Kelly. In 1977 he had obtained a diploma in catering and hotel operations at William Angliss College. In 1987 he was appointed a consultant to the Sydney office of PKF in their tourism and leisure section. By then, he had worked, since graduation, in the hospitality industry, mainly on the food and beverage side. In 1991 he left PKF and became the group operations manager for Resort Hotels Management Pty Ltd (the management arm of Resort Hotels of Australia). In 1992 he rejoined PKF, then Pannell Kerr Forster Consulting Pty Ltd, but left again in 1993 and started his own company, Hospitality Management Australia Pty Ltd, to provide consulting services to hotels and resorts, providing operational and strategic advice. In August 1995 he was approached by PKF and obtained a licence (or franchise) to use the name Pannell Kerr Forster Consulting Australia. Kelly became a director. Mr David Barbuto was appointed a director of PKFCA at the time. It provided tourism advice in the hospitality sector, its historical base being to provide market demand and feasibility studies for clients in the industry. Kelly was able to provide expertise in food, service and hospitality operations. Barbuto had experience in gaming. Neither had expertise as an accountant. Kelly has given evidence as to the steps he took to put himself in a position to draft the Report as he did, and his justification for the opinions expressed. He was hampered, to an extent, by reason of the fact that he was unable to locate some important back-up documents.
41 There is one fundamental difficulty with Kelly's position. His evidence as to his understanding of his role is reflected in par 10 of his statement, which is as follows:
"In either the initial conversation with Catherine Warburton or conversations which I had with her shortly thereafter words to the following effect were said:
CW: 'The apartment hotel complex will be managed by Astor Goldsbrough Management. They have engaged Lyndsay Mackee of Genitron 2000 Pty Limited to prepare forecasts for the prospectus. They don't need you to prepare a complete report on the viability of the project and the likely returns and room rates. This has already been done by Mr Mackee. They need you to review his figures for the purpose of preparing an industry expert's report.'
SK: 'Does that mean you don't need me to complete a full report detailing the projected room rates and occupancy figures?'
CW: 'Yes that's right. You will be signing off on the Directors' figures as prepared by Mackee'."
42 Lyndsay Mackee was identified in the 1997 Prospectus as one of the directors of the Trust manager. It was disclosed that Genitron had been paid a fee of $10,000 for providing its report and forecasts in the prospectus. Incidentally, it had been disclosed that PKFCA had been paid a fee of $15,750 for providing the Report. Section 7, "Overview of the Hotel and Serviced Apartment Market", commences as follows:
"The following overview of the Sydney hotel and serviced apartment markets has been prepared for inclusion in this Prospectus by Genitron 2000 Pty Limited. The hotel and serviced apartment markets are relevant as the Astor Goldsbrough is an apartment hotel and thus draws on the hotel market and the serviced apartment market. As an apartment hotel the Astor Goldsbrough offers short term letting accommodation with features similar to a serviced apartment and a hotel. It offers apartments which are serviced daily and on check out (unlike a serviced apartment which is usually only serviced weekly and on check out) as well as offering all the facilities of a hotel. A capability statement and background of Lyndsay Mackee, director of Genitron 2000 Pty Limited is included in section 9, "Parties Involved". Lyndsay Mackee is a director of the Trust Manager."
There is a biography of Mackee in section 9, where he is described as having an extensive background in the tourism and hospitality industry in Australia, New Zealand, Japan and Asia, Europe and the Americas, and Genitron is described as a company providing an integrated approach to business and marketing solutions for the tourism and hospitality industry. Mackee was said to have conducted extensive research and analysis of the Sydney accommodation sector and was identified as the author of section 7 and section 11 of the 1997 Prospectus.
43 The description of the scope of Genitron's work in section 11 was as follows:
"In preparing the financial forecasts, Genitron 2000 Pty Limited carried out the following analyses and made appropriate enquiries to prepare a realistic business model for the Astor Goldsbrough Apartment Hotel. These analyses and enquiries consisted of:
· extensive discussions with the CEO and staff of Astor Apartment Management Pty Limited;
· regular site inspections of the Astor Goldsbrough Apartment Hotel, including the prototype display apartment;
· consultation with a range of tourism industry participants, including tour operators, airlines, the Sydney Convention and Visitors Bureau, Tourism New South Wales, the Australian Tourism Commission and existing serviced apartment and hotel operators;
· analyses of forecasts of domestic and international demand growth, forecasts from the Tourism Forecasting Council and Tourism New South Wales and the Sydney and Environs, Accommodation Demand and Supply Study - 1994/2000 initiated by the Tourism Olympic Forum were used in the preparation of the business model;
· a benchmarking analysis of Sydney CBD Hotels and Apartments has been conducted to identify competitive positives and to establish a market position for the Astor Goldsbrough Apartment Hotel, through identifying optimum apartment features as well as proper consideration and analysis of service facilities to attract key market segments at competitive rates."
44 After the initial verbal instructions were confirmed in writing on 4 June 1996, Kelly, together with a subcontractor, Mr Len O'Mara, conducted an examination of the Genitron figures. Kelly gave the following evidence:
"31. On or about 11, 12 or 13 June 1996, I had a conversation with Gresham to the following effect:
SK: 'I don't agree with the methodology used by Mackee in deriving the room rates and occupancies. It will take too long for me to go through every step of the way that you have prepared your figures to the way I think would be appropriate. Instead, what I propose to do is run my own model which we have set up as a spreadsheet. If the figures that I come out with for occupancy and room rate accord with your figures, I'll be happy to sign-off on the figures prepared by Mackee. If they don't, the figures will have to be reviewed.'
KG: 'I understand that. Will it cost me more?'
SK: 'No, because we were always going to prepare our own demand and supply model as it is the only way we know to validate your results.'
32. I cannot recall whether I identified, in that conversation, the reasons for my disagreement with Mackee's methodology. The disagreement I had with Mackee's methodology related to his process of building his figures for occupancy and room rates. Mackee calculated the growth of occupancy and room rates by an analysis of competitors' hotels, projecting further annual occupations and room rates by an estimate of their market mix. In my opinion the preferable approach was to analyse historic compound growth trends and, using this as a base, apply these growth rates to determine market place estimates and derive the subject property's results as a percentage (market penetration) under a fair market share approach on an annual basis. PKFCA's demand and supply model adopted the latter approach."
Kelly goes on to describe in some detail the steps that he and O'Mara took, which involved quite separate methodology to that of Mackee, utilising several special modelling databases and the supply of data from sources different to those apparently utilised by Mackee. His evidence was that he was satisfied that the total revenue forecasts and the net and gross operating profit forecasts in the 1997 Prospectus fell within a range that he considered reasonable in the circumstances, based upon his own assessment and he was therefore prepared to give the opinions that he did.
45 In closing address, counsel for the applicant gave as an example of a critical difference between Kelly and Mackee the express assumption made in the forecasts as to anticipated growth in room night demand, which included the following:
"… forecast occupancy levels for 1998-2000 expected to be at or above 90%"
The same proposition is put graphically showing occupancy levels in 1996 at 84.78%, 1997 at 90.71% and 1998 at 97.19%; in the sensitivity analysis for 1998 and 1999 the calculation forecast return if occupancy increased by five per cent depended upon occupancy levels of 90%. Kelly, on the other hand, held the view, then and now, that it is difficult to achieve more than 85%.
46 Kelly's evidence included the following:
"14. Normally, when I am engaged as a consultant, my role is to prepare the projected room rates and occupancy figures and, from this, to determine the likely revenues and expenses of the proposed project. I then provide a report to the client, setting out my findings and assumptions relied upon. …
15. In this case, because projected room rates and occupancy figures had already been prepared by Mr Mackee ('Mackee'), I understood that my role in relation to the Astor Goldsbrough Apartment Hotel ('AGAH') was merely to confirm that the figures which had been provided to me were within a range which was reasonable in the circumstances.
…
112. … Rather, my understanding was that PKFCA's role was to provide an opinion as to the overall reasonableness of the prospectus figures and, in particular, as set out in PKFCA's industry expert's report, the trading forecasts contained in the section headed 'Financial Projections' in the Prospectus (Section 11). My understanding was that PKFCA's role was not to verify every figure listed in sections 7 and 11 of the Prospectus but rather to determine whether, taken as a whole, those figures produced a result that was reasonable in the circumstances. As a result, while PKFCA reviewed the figures and statements in section 7 and 11 in a general sense, it did not do so for the purpose of determining whether each and every figure set out in that section was properly calculated.
…
118. … As outlined above, my understanding was that PKFCA's role was to ensure the overall figures proposed in the Prospectus fell within a range that was reasonable, but did not extend to checking the accuracy of each figure and calculation. However, in the course of my review, I noted that many of the statements made in section 7 of the Prospectus were very broad and/or not properly referenced. …
…
121. … As outlined above, PKFCA did not verify each and every figure in section 7 of the Prospectus since my understanding was that PKFCA was not, nor did it hold itself out to be, retained to check each and every calculation in the Prospectus. Having reviewed the overall results obtained by Genitron in the Prospectus, PKFCA took the view that the overall figures fell within a range that was reasonable. …"
47 In re-examination, Kelly gave the following evidence:
"A number of times today you have been asked and given answers to the effect that your methodology differed from Genitron's methodology in certain respects? --- Correct.
In what respects did your methodology differ from Genitron's methodology? --- Specifically where I object to Genitron's methodology as I understand it, they had taken what they believed were the competitors. They stated, Mackee stated that he had interviewed each of the general managers of those hotels or those operations. Some of them were obviously apartments and as a result of that he was able to state what the occupancy and room nights and rates were for historic band of years and then of the basis of what he said they had told him about sales mix for each of those properties. He was then able to take out the sales mix for the coming years and therefore calculate the rate, particularly the rate, but the rate and occupancy for those properties, property by property. We have never in our experience other than one market place being Adelaide ever got close to having all the properties in the area state what all their rates and occupancies were and be able to estimate through a range of devices and interview techniques what the rates were that they were giving out to corporates at 200 real nights a year versus leisure people and so on. So, our methodology, or our view was it was erroneous to do that because nobody could get that information even though we were getting it to some extent from a range of the competitors in our PKF trends database. We've always adopted the view that it was safer to rely on the BTR Tourism and Forecasting Council and ABS. Sorry, let me start again. In the historical drive we would use a compound rate based on known statistics put out by the ABS sources through BTR, ABS and international visitor surveys. That would conform our compound growths that we would use to drive forward the marketplace. The only market segmentation in room night demand levels that we ever felt comfortable with until the Tourism Forecasting Councils started to break things up in leisure versus business and conference was the breakdown of international and domestic. That was purely based on analysing the five year compounds, or three year compound growths, we used either depending on the time series and any changes. That was the basis that we grew - that we would traditionally use at the base to grow our market growth out. So, in a nutshell, we did not agree with the fact that anyone could sit there and say, 20 hotels and apartments across Sydney for the next three years were going to have this level of occupancy and rate each and this was their market positioning. We preferred to take the view that you could only grow and develop the market by the international and domestic known historical statistics and from that derive a trend."
48 In my opinion, it was misleading and deceptive to express the opinions as he did, without qualification, given his own evidence as to how he approached the task and the method by which he drew his conclusions. An ordinary reader of the 1997 Prospectus would reasonably conclude that one of the tasks (and perhaps the only task) which PKFCA had undertaken was an expert review of the Genitron forecasts and, as I have endeavoured to show, the bottom line cannot be severed from the methodology by which it is deduced. In my view, the least that was required was that Kelly for PKFCA should have disclosed the disagreement that he had with the methodology adopted by Genitron (and the effect of the disagreement upon the integers set out in the Forecast Tables), explained what PKFCA had independently done by way of investigation and methodology, and, in that light, expressed the opinion that the ultimate forecasts were within a reasonable range. That conclusion is emphasised in the present case by reason of the fact that Mackee was, effectively, a promoter who had been put forward as an expert. It was material to know that the chosen independent expert disagreed with the manner in which Mackee had approached the task.
49 In any event, it follows from the evidence of Kelly that there was no proper or reasonable basis for the statement in the Report which was made as to the sensitivity analysis, when properly understood, as he admittedly did not turn his mind to the real issue, but only concerned himself with arithmetic.
50 There is little debate about the principles involved - see Bulfin v Bebarfalds Ltd (1938) 38 SR (NSW) 423 and Fraser v NRMA Holdings Ltd (1995) 55 FCR 452 at 463-468. Consideration of contravention of these sections in the context of a prospectus directed to a class consisting of a large number of different people with no link apart from ownership of apartments in the one building is approached at a level of abstraction not present where the representation is made to a particular individual or a small group of known persons. It is necessary to contemplate the effect of the conduct on the hypothetical reasonable members of the class (Campomar Sociedad Limitada v Nike International Ltd (1999) 202 CLR 45 at [101]-[105]). In my opinion, the omission of any reference to the matters to which I have pointed made misleading and deceptive that which was said in the Report. Having chosen to express an opinion, PKFCA was under an obligation not to mislead in doing so. Put another way, PKFCA did not hold the opinions it expressed in the manner those opinions would be understood by the reader, namely, that they related to the disclosed Genitron forecasts, not to some entirely separate exercise by the expert.
51 The alternative contention for the applicant that PKFCA did not have a proper basis for, and did not exercise proper care and skill in arriving at, the substantive conclusion to which it came as to the reasonableness of the bottom line forecast (albeit not expressed) raises different considerations. As I said, Wilton gave a detailed account of what he saw as deficiencies in the manner and method of PKFCA in carrying out its task. These deficiencies depended, in part, upon the application of certain Australian Securities Commission (as it then was) standards and certain accounting standards to what are described as negative assurance opinions.
52 Reliance was placed upon ASC Practice Note 67 issued 4 August 1997. Although this is after the prospectus was issued, Wilton gave evidence which I accept that it accorded with the understood practice amongst experts at the time of publication of the 1997 Prospectus. Some relevant portions of it are as follows:
"PURPOSE
1. In this practice note, the ASC gives guidance about the standards it expects of disclosures with a director's or expert's financial forecast in a prospectus. It outlines the ASC's view that a prospectus must disclose the basis of any forecast so that investors can properly assess the forecast. The ASC also explains its view about the need for a supplementary prospectus if a forecast changes significantly.
2. This practice note does not set out when a forecast must be included in a prospectus. Directors must assess this on a case-by-case basis. However, the ASC considers that when directors consider that they do not have a reasonable basis for a reliable forecast then:
(a) no forecast should be included; and
(b) a forecast will not be required by s 996 or s 1022 of the Law.
Directors should not include a forecast without a reasonable basis, even if they have used estimates of future performance for internal planning purposes or if comparable issuers have included forecasts in their prospectuses. A forecast that does not have a reasonable basis would not be material to investors, nor would an investor reasonably require it or reasonably expect to find it in a prospectus.
…
SUMMARY
4. An investor must be able to make an informed assessment of the reliability of a forecast. Therefore they must be able to assess:
(a) the validity of the assumptions on which the forecast is based;
(b) the likelihood of the assumptions actually occurring; and
(c) the effect on the forecast if the assumptions vary.
5. The ASC recognises that excessive amounts of information should not be included in prospectuses because it makes them less comprehensible. However, the ASC considers that a prospectus must give investors enough information to assess any forecast it contains. A prospectus containing a forecast must tell investors about:
(a) the assumptions made when preparing the forecast (see paras 19-21);
(b) the limits of the forecast in terms of the period of the forecast and the risks that the forecast will not be achieved (see paras 23-26); and
(c) an explanation of how the forecast was calculated. If the figures are not calculated on a basis that is in accounting standards or decisions of the Urgent Issues Group this will generally need to be explained (see paras 22-27).
…
FORECASTS
7. Prospective financial information can be prepared on the basis of assumptions about:
(a) future events which management expects to take place; and
(b) the actions management expects to take as at the date the information is prepared. (These are called "best-estimate assumptions".)
Information about likely future results prepared on this basis may be referred to as a forecast.
8. Auditing Standard 804 issued by the Australian Accounting Research Foundation on behalf of the Institute of Chartered Accountants and Australian Society of Certified Practising Accountants, makes a distinction between a forecast and a projection. A financial forecast is generally understood to be prospective financial information based on:
(a) best-estimate assumptions about conditions; and
(b) events that may occur in the future and possible action intended by management.
…
PROVISIONS OF THE CORPORATIONS LAW
…
18. The ASC considers the following matters of fact when assessing how the Law applies to a forecast in a prospectus (other than a s 1022AA prospectus):
(a) What information do investors or their professional advisers reasonably require and reasonably expect to find in a prospectus in relation to a forecast so that they can make an informed assessment about the prospects of the corporation (or prescribed interest undertaking) on the basis of the forecast?
(b) What information about a forecast is necessary so that the forecast is not misleading?
…
ASSUMPTIONS
19. A prospectus must disclose specifically the assumptions used to compile a financial forecast that materially affect the forecast outcome. The assumptions relating to expenditures, as well as revenues, should be disclosed in a profit forecast. The assumptions must give a reasonable basis for a forecast (as distinct from a projection). In a projection some assumptions will be hypothetical. However, the assumptions must still represent a realistic outcome or they will be likely to mislead. A clear statement of the assumptions on which the forecast is based puts a forecast in its proper context and reduces any tendency for it to be misleading.
20. The ASC expects prospectuses to disclose material assumptions about:
(a) specific future economic conditions; and
(b) particular circumstances affecting a corporation and the industries it operates in.
An assessment of the impact of these assumptions on a forecast should also be included. However, the prospectus does not have to:
(a) state general assumptions, such as the absence of war or natural disasters, unless the forecast takes these events into account; or
(b) disclose assumptions that would not materially affect the forecast.
Including a sensitivity analysis will often be the best way of showing how significant the key assumptions are to the forecast. (emphasis added)
…
Methodology
22. To assess the prospects of a corporation or prescribed interest undertaking based on a forecast, investors must be able to assess the reliability of the forecast. To do this, investors must be able to assess whether the key assumptions are likely to occur. Therefore, a prospectus must disclose the material details about the enquiries and research undertaken and the process followed in preparing the forecast.
…
RISK TO FORECAST
24. Any prospectus with a forecast must indicate what factors may lead to a significant difference between the forecast and the actual results. A forecast is likely to be misleading when the person making it has reason to believe that the actual results are likely to differ materially from those in the forecast. In these circumstances the person would not have a reasonable basis for their forecast and they should not include it.
Use of ranges
25. Presenting a forecast in terms of a range (rather than a single point best estimate) makes the level of uncertainty in a forecast clearer. For example, the forecast could be that there will be a profit of 10 to 14 million dollars in the next financial year. There is a level of uncertainty inherent in any forecast. Presenting a forecast as a range may reduce the risk that investors will place undue weighting on it, as may occur with a single point forecast. However, giving a range is only appropriate for figures for significant totals, such as net profits or net assets. Ranges may be confusing or misleading if they are used for every item that appears in a profit and loss statement or balance sheet.
26. A range in a forecast must be small enough to give meaningful information about the prospects of the corporation or prescribed interest undertaking. The prospectus should state what variables will have a significant effect on the outcome within the forecast range. It may be misleading to include a range when the directors expect the results to be at the lower end of the range. If a forecast range is given, the linkage between the assumptions and the upper and lower ends of the range should be clear. It may be appropriate to express a forecast as a statement that a result of at least a certain amount is likely. (emphasis added)
ACCOUNTING STANDARDS
27. A prospectus may show a forecast in the format of the corresponding financial statements required by the Law, such as a profit and loss statement or a balance sheet. These formats or references to terms such as "profits" create an expectation that the forecast is calculated under accounting standards. The ASC's view is, as a general principle, that the following should be disclosed in a prospectus:
(a) the reasons for any departure from current accounting standard or decision of the Urgent Issues Group;
(b) the reason a particular accounting standard is applied in a particular way when there is some discretion involved; and
(c) the reason a particular accounting or disclosure treatment is adopted when current practices differ among the relevant professionals.
The issuer should also disclose the effects on the forecast of the accounting treatment chosen. The effects should be disclosed in enough detail for investors to properly assess the forecast. The need to give reasons for preparing a forecast will not apply if it would not be material to investors. The ASC is not concerned with trivial or unimportant differences in accounting treatment in a prospectus. See also Practice Note 64.
AVOID HIDING INFORMATION
28. If significant information about a forecast is presented in a way that investors are likely to overlook, the prospectus may be misleading: Fraser v NRMA Holdings Ltd (1995) 13 ACLC 132, Pancontinental Mining Ltd v Goldfields Ltd (1995) 16 ACSR 463. Therefore, a prospectus must present the information needed for assessing the reliability of a forecast in a way that clearly makes the connection between this information and the forecast. This normally means that the information about assumptions, and other matters underlying a forecast, must be found in the same part of a prospectus as the forecast itself.
EXPERTS' REPORTS ON FINANCIAL FORECASTS
29. In Practice Note 43 the ASC has set out the additional standards it expects for the content of expert reports. Experts should refer to Practice Note 43 as well as this practice note for guidance when preparing a financial forecast, or a report on a financial forecast made by the directors or others, for a prospectus."
53 Prior to preparation of the Report, the attention of Kelly was drawn to auditing standard AUS 804. It commenced as follows:
".01 The purpose of this Auditing Standard (AUS) is to establish standards and provide guidance on engagements to audit and report on prospective financial information prepared using best-estimate and/or hypothetical assumptions. For engagements to review prospective financial information, refer to AUS 902 "Review of Financial Reports"."
54 AUS 902 was relied upon by Wilton in his criticism of Kelly and non-compliance with it is one of the particulars of breach. Whilst the standard must be viewed as a whole, it is helpful to set out some parts of it:
".01 The purpose of this Auditing Standard (AUS) is to establish standards and provide guidance on the auditor's1 professional responsibilities when an engagement to review a financial report is undertaken, and on the form and content of the report that the auditor issues in connection with such a review.
1The term "auditor" is used throughout this AUS. Such reference is not intended to imply that a person performing a review need necessarily be the auditor of the entity nor that the service being provided is an audit. The term is used to indicate that the work is required to be performed and the report prepared by persons who have adequate training, experience and competence in auditing.
…
.03 The objective of a review of a financial report is to enable an auditor to state whether, on the basis of procedures which do not provide all the evidence that would be required in an audit, anything has come to the auditor's attention that causes the auditor to believe that the financial report is not prepared, in all material respects, in accordance with an identified financial reporting framework (negative assurance).
..
.06 The auditor should plan and perform the review with an attitude of professional scepticism, recognising that circumstances may exist which cause the financial report to be materially misstated.
.07 For the purpose of expressing negative assurance in the review report, the auditor should obtain sufficient appropriate evidence primarily through inquiry and analytical procedures to be able to draw conclusions.
…
.09 A review engagement provides a moderate level of assurance that the information subject to review is free of material misstatement. The report provides this assurance in the form of negative assurance. (emphasis added)
.10 While reviews involve the application of audit skills and techniques, they do not usually involve many of the procedures ordinarily performed during an audit. In an audit, because the auditor's objective is to provide a high, but not absolute, level of assurance on the reliability of the financial report, the auditor will use more extensive audit procedures than in a review.
.11 Reviews involve limited procedures comprising inquiries of company personnel and analytical procedures applied to financial or non-financial information. Reviews of financial reports do not ordinarily involve:
(a) a study and evaluation of internal accounting controls;
(b) tests of accounting records; and
(c) tests of responses to inquiries by obtaining corroborating evidence through:
(i) inspection;
(ii) observation; and
(iii) confirmation.
The auditor may, however, decide that additional information is required from management and/or additional procedures are necessary to obtain sufficient appropriate evidence on aspects of the financial report subject to a review (for example when the auditor has doubts as to the completeness and accuracy of the financial report). The acquisition of information in this way does not convert the engagement to an audit engagement. A review engagement may bring to the auditor's attention significant matters affecting the financial report, but it provides less assurance than would be provided by an audit that the auditor will become aware of all significant matters.
.12 Although the procedures to be performed in a review will be less extensive than those necessary in an audit, the scope of the auditor's work remains the responsibility of the auditor and not that of the client. It is necessary for the auditor to consider, for example, whether any restrictions in the scope of the auditor's work imposed by the client are of such significance that a moderate level of assurance could not be provided. In such cases, the auditor would withdraw from the engagement and consider whether there is an obligation to report the circumstances necessitating the withdrawal to third parties.
…
.29 If the auditor has reason to believe that the information subject to review may be materially misstated, the auditor should seek additional information from the management of the entity and/or carry out additional or more extensive procedures to obtain sufficient appropriate evidence to be able to express negative assurance, or to confirm that a qualification is required.
…
.30 The review report should contain a clear written expression of negative assurance. The auditor should review and assess the conclusions drawn from the review evidence obtained as the basis for the expression of negative assurance.
.31 Based on the work performed, the auditor should assess whether any information obtained during the review indicates that the financial report is not presented fairly in accordance with the identified financial reporting framework stated. If so, the auditor would request that the necessary revisions be made in the financial report.
…
.34 The review report should:
(a) state that nothing has come to the auditor's attention based on the review that causes the auditor to believe that the financial report is not presented fairly in accordance with the identified financial reporting framework (negative assurance); or
(b) if matters have come to the auditor's attention, include in the review report a separate section headed "Qualification" which describes the matters that were not presented fairly in accordance with the identified financial reporting framework, including the quantification of the effects of the matters or, if this is not readily determinable, a statement to that effect, and under the heading "Qualified Review Statement" either:
(i) an "except for" statement of negative assurance; or
(ii) an adverse statement that the financial report is not presented fairly in accordance with the identified financial reporting framework when the effect of the matter is of such a magnitude, or is so pervasive or fundamental that the financial report taken as a whole is, in the auditor's opinion, misleading or of little use to the addressee of the auditor's report; (emphasis added)
(c) if there is a limitation in the scope of the engagement that, in the auditor's opinion prevents the provision of moderate assurance, include in the review report a separate section headed "Qualification" which describes the limitation and under the heading "Qualified Review Statement" a qualified statement of negative assurance that is qualified as to the effects of such adjustments, if any, as might have been required had the limitation not existed. There may be circumstances when the possible effects of a limitation are so pervasive or fundamental that the auditor will be unable to provide any assurance;
(d) an emphasis of matter section, suitably headed and placed immediately after the Statement section, in the appropriate circumstances as described in AUS 702 (that is additional disclosure, inherent uncertainty, inconsistent other information and subsequent events that result in a new auditor's report or a revised financial report). The review report should not, except in these circumstances, draw attention to or emphasise any matter which has, in the auditor's opinion, been adequately dealt with in the financial report."
It will be seen that the guidance to be obtained from ASC Practice Note 67 and AUS 902 is consistent with the opinions I have expressed.
55 Kelly gave evidence that he had received legal advice from Mallesons Stephen Jaques that it was not necessary to comply with the accounting standards. Be that as it may, Kelly gave detailed evidence of the steps which he, his subcontractor and staff had taken in carrying out his task. This led to a supplementary report from Wilton. In that report, Wilton continued to contend that PKFCA should have followed the accounting standards and did not, but also said:
"24. Kelly claims that PKFCA did a considerable amount of work on information contained in the Prospectus on which he was engaged to report. From his Statement, it now appears that he may have undertaken more work than I gave him credit for in my original report. My difficulty in this area stems from his documentation which was not:
· properly organized;
· correctly indexed;
· orderly;
· systematically cross referenced;
· designed to facilitate review; and
· updated.
The documentation sighted by me does not provide meaningful support for the prospective financial information on which PKFCA reported. Accordingly, I am [un]able to express an opinion as to whether or not PKFCA conducted their assignment in a professional manner as contemplated by Auditing Standards and ASIC Practice Notes.
…
27. In Kelly's Statement, he explains the methodology used to prepare the Per available room/per occupied room (PAR/POR) analysis and the Demand and Supply model. The methodology includes a detailed description line by line for each computer model. I would have expected to see, in this instance, a detailed "model" with every line item of financial information on which he is reporting, agreed and cross referenced in a systematic fashion and "tied back" to detailed work papers.
28. The model would re-compute all numbers so as to detect the mathematical errors in the Prospectus and assure the overall robustness of the forecasts. For each line item, there would be an explanation or justification and/or verification of each number, amount or percentage as the case may be. In my opinion, the PKFCA work papers were disorganized, difficult to follow and incomplete, for example:
- there was no evidence of updating the various models for the 100 and 250 apartment Astor Goldsbrough Apartment Hotel (demand and supply models and per available room/per occupied room analyses) for the numerous changes made over the six month period immediately preceding the issuance of the Prospectus;
- there was a lack of justification or explanation for the assumptions used for each individual line item;
- there was no indication that many of the queries raised and concerns voiced by Kelly were dealt with and why his concerns were dissipated to such an extent to allow him to issue his Independent Expert's Report;
- the work papers were poorly identified, cross referenced and indexed;
- mathematical errors in the draft and final copies of the Prospectus escaped detection; and
- the financial projections (per available room/per occupied room analyses) were not properly or completely recalculated for the changes made in the financial year end reporting, for example, 30 June financial year end versus calendar year end basis.
In my opinion, given the above deficiencies, PKFCA has not demonstrated that they properly conducted their review assignment in accordance with the standards and requirements detailed in my previous Report and this Supplemental Report to enable them to arrive at a professional opinion on the prospective financial information contained in the Prospectus upon which they were reporting."
56 In cross-examination, Wilton made it clear that he had not done a comprehensive critique of Kelly's statement and the documents produced with it, and did not revise his own statement line by line in response to it. Counsel for PKFCA did not seek to cross-examine Wilton in a comprehensive fashion designed to cause him to retract from particular opinions expressed in his first report. This leaves the trier of fact in a difficult situation. The issue of predicting the performance of this proposed apartment hotel is a subject requiring expertise. Wilton, who also has relevant expertise, raised a number of serious questions as to the care, skill and diligence with which Kelly carried out his task. Kelly, also with relevant expertise, gave an account which, on its face, appeared to answer or go towards answering many of the criticisms. There was an absence of either detailed refutation by or detailed cross-examination of Wilton about this evidence.
57 The consequence is that much depended upon the cross-examination of Kelly, which took place for about a day. I take into account the circumstance that the forecasts proved to be hopelessly wrong. Whilst this does not establish that there was no proper basis for the forecasts, and whilst there is a danger in the use of hindsight, the discrepancy here is so marked as to call for critical scrutiny of the evidence of Kelly. In the course of this cross-examination, he made some concessions and I was not convinced by his explanations in relation to some of the matters put to him. I must confess to feeling some disquiet during his evidence. However, he did not resile from his methodology nor the resultant opinion which he formed, which he says independently verified the bottom line of the forecast. In my view, no particular matter put to him was sufficient to destroy the basis of his opinion. I take into account the fact that Kelly's expertise in actually conducting or carrying out the business side of a forecast was, in my opinion, superior to that of Wilton. I note, in this connection, that Wilton did not do any such exercise himself. I also take into account the fact that Kelly did not attempt to comply with any of the relevant accounting standards and does not deal with the evidence that ASC Practice Note 67 codifies pre-existing practice. It is far from clear to me that, if his explanation as to what he did (and supervised) is accepted, there would be any material breach of either which would have operated here, apart from the lack of qualification of the opinions expressed to which I have referred.
58 My consideration of the evidence as a whole leads me to the view that the only basis for finding against Kelly on this aspect of the matter would be if I were prepared to hold that the exercise he undertook was not bona fide but was manipulated in order to arrive at a favourable result. I am not prepared to go that far, and, indeed, I doubt whether the cross-examination of Kelly and the submissions made on behalf of the applicant would permit that finding to be made. I therefore reject the alternative basis for finding that the Report was misleading or deceptive.
59 In coming to my conclusions as to whether the Report was misleading or deceptive, I have not relied upon s 51A of the Trade Practices Act (or the equivalent s 12BB of the ASIC Act and s 765 of the Corporations Law). The application of that section to a report of this character is controversial (Sykes v Reserve Bank of Australia (1998) 88 FCR 511 at 515, 520-521; Sydney Harbour Casino Properties Pty Ltd v Coluzzi [2002] NSWCA 74 at [48]-[53] and the cases referred to therein). There is no need to consider that issue further.