Directors cleared of liability under the Financial Reporting Act

Represented by Bell Gully, the former directors of Feltex Carpets Limited successfully defended charges under section 36A of the Financial Reporting Act 1993 (the Act) for certain errors that appeared in Feltex's 2005 interim accounts.

In this case¹, the directors relied on the defence provided in section 40 of the Act that they took "all reasonable and proper steps" to ensure compliance with the Act. In the first ruling on this section by a New Zealand court, Judge Doogue agreed that the directors had taken all reasonable and proper steps by:

• ensuring that the company had a well resourced financial management team;

• establishing a comprehensive transition process from the old accounting standards to the new ones (GAAP to IFRS);

• engaging a reputable accounting firm to:

• prepare an IFRS assessment report to identify the differences in reporting resulting from the introduction of IFRS;

• supervise a steering committee at Feltex to conduct a standard-by-standard review of IFRS; and

• conduct a review of Feltex's 2005 interim accounts;

• having processes in place to ensure that all relevant documents and information were made available to its accountants;

• obtaining assurances from the chief financial officer that the company's internal financial controls were adequate and effective; and

• having a properly constituted audit committee to oversee the integrity of the financial reporting and control process.

The decision confirms that directors are entitled to rely on the advice of properly qualified professional advisers, provided the directors are properly informed about the company's affairs and have proper systems and processes in place.

Judge Doogue dismissed the prosecution's argument that the directors themselves should have reviewed the lengthy and complex IFRS standards and then applied those to Feltex's interim financial statements. This proposition was found to be "utterly unrealistic", as "company directors will not have anywhere near the same level of knowledge and expertise in accounting standards that a specialist auditor will have, and the best course for a director is to seek and follow the advice of an expert". Further, "reliance on advice, where appropriate conditions are satisfied, does not detract from, but enhances, the quality of directors' duties".

¹ Ministry of Economic Development v Feeney DC Auckland CRI-2008-004-29199, 2 August 2010

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