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The 2d U.S. Circuit Court of Appeals has ruled that an accountant has a duty in some circumstances to correct its certified opinion on a company’s financial statement. Overton v. Todman & Co., No. 06-2496-cv. Todman & Co. audited the financial statements of broker-dealer Direct Brokerage Inc. from 1999 to 2002. In certifying Direct’s 2002 statement, Todman issued an opinion stating that it accurately reflected Direct’s financial position. The problem was the preceding years: 1998, when Direct’s payroll taxes were the largest line item, 1999 and 2000 when the financial statements audited by Todman showed zero payroll tax liability, and 2001 and 2002, when Todman allegedly failed to uncover either of these errors. David Overton sued Todman, asserting a fraud claim under Section 10(b) of the Securities Exchange Act of 1934 and U.S. Securities and Exchange Commission Rule 10b-5, and related state law claims. He charged that the auditors ignored several “red flags” that would have shed light on the accuracy of Direct’s financial statements. Overton claimed he had relied on the 2002 audited financial statement certified by Todman when he invested $500,000 in Direct and agreed to loan the broker-dealer $1.5 million. Judge John Sprizzo of the Southern District of New York dismissed the federal securities fraud claim for failure to plead a viable theory of primary liability, and dismissed the state law claims for lack of subject-matter jurisdiction. The 2d Circuit reversed. Writing on behalf of the panel, Judge Chester Straub said that “an auditor may incur primary liability under � 10(b) and Rule 10b-5 when the auditor makes a statement in its certified opinion that is false or misleading when made, subsequently learns was reckless in not learning that the earlier statement was false and misleading, knows or should know that potential investors are relying on the opinion, yet fails to take reasonable steps to correct or withdraw its opinion and/or the financial statements.” Straub said that a “fundamental principle of securities law is that before an individual becomes liable for his silence, he must have an underlying duty to speak . . . .In a line of cases beginning with ITT v. Cornfeld, 619 F.2d 909 (2d Cir. 1980), we have alluded to one such duty to speak: an accountant’s duty, in certain circumstances, to correct its certified opinion.” But in Cornfeld, he said, the court limited that duty only to “those statements that the accountant actually prepared and certified.” Cornfeld dealt only with the alleged duty of the accountant to disclose a raiding conspiracy between a mutual fund and a complex of companies. It concerned allegations not of primary liability, but of aiding and abetting liability. Fourteen years later, aiding and abetting liability was found to be not actionable under Section 10(b) by the U.S. Supreme Court in Central Bank of Denver v. First Interstate Bank of Denver, 511 U.S. 164 (1994). Straub said the Central Bank court held that “secondary actors such as accountants may incur primary liability based on their omissions.” The current opinion was in line with Central Bank. “First, we remain true to the prohibition on aiding and abetting liability because we require that an accountant make its own misleading omission by failing to correct its certified opinion,” he said. “Second, we require, as a component of the underlying duty to correct, what Central Bank labeled a ‘critical’ element under � 10(b) and Rule 10b-5: reliance by potential investors on the accountant’s omission.” The court issued a note of caution on the limits of its holding, saying that the “duty requires that the accountant correct statements that were false when made,” and that “an accountant need only correct those particular statements set forth in its opinion and/or certified statements.”

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