Citizens State Bank v. Timm, Schmidt & Co., S.C.

• Decision Date: 01 July 1983
• Docket Number: No. 81-801,81-801
• Citation: 335 N.W.2d 361,113 Wis. 2d 376
• Parties: CITIZENS STATE BANK, Plaintiff-Appellant-Petitioner, v. TIMM, SCHMIDT & CO., S.C. and General Casualty Co. of Wisconsin, Defendants-Respondents.
• Court: Wisconsin Supreme Court

Page 361

335 N.W.2d 361

113 Wis.2d 376

CITIZENS STATE BANK, Plaintiff-Appellant-Petitioner, v.TIMM, SCHMIDT & CO., S.C. and General Casualty Co. of Wisconsin, Defendants-Respondents.

No. 81-801.

Supreme Court of Wisconsin.

Argued April 26, 1983.

Decided July 1, 1983.

John S.(Jack) Bartholomew (argued), Shawano, for plaintiff-appellant-petitioner; and Bartholomew & Greenhill, Shawano, on briefs.

Rebecca Erhardt(argued), Madison, for defendants-respondents; Henry A. Field, Jr., Boardman, Suhr, Curry & Field, Madison, on brief.

DAY, Justice.

This is a review of an unpublished decision of the court of appeals108 Wis.2d 771, 324 N.W.2d 296 which affirmed a judgment and order of the Circuit Court for Portage County, Honorable Fred A. Fink, Judge.The judgment granted the respondents', Timm, Schmidt & Company and General Casualty Company, (hereinafter Timm)motion for summary judgment dismissing Citizens State Bank(hereinafter Citizens) negligence cause of action ¹ in this accountant malpractice case.The order denied Citizens' motions for leave to file a supplemental affidavit and for reconsideration.

The issue considered on review is: May an accountant be held liable for the negligent preparation of an audit report to a third party not in privity who relies on the report?

We conclude that an accountant may be held liable to a third party not in privity for the negligent preparation of an audit report under the principles of Wisconsin negligence law.We also conclude that the information in the record raises a material issue of fact so that the summary judgment motion was improperly granted.We reverse the decision of the court of appeals and remand the case to the trial court for a trial on the negligence cause of action.

From the record, the following facts appear to be undisputed.

Timm is an accounting firm in Stevens Point.For the years 1973-1976, Timm employees prepared financial statements for Clintonville Fire Apparatus, Inc.(hereinafter CFA).These financial statements included: a comparative statement of financial condition, a statement of yearly income, a statement of retained income and a statement of changes in financial position.In addition, for each year except 1973, ² Timm sent an opinion letter to CFA which stated the the financial statements fairly presented the financial condition of CFA and that the statements were prepared in accordance with generally accepted accounting principles.

In November, 1975, CFA obtained a $300,000. loan from Citizens.The loan was guaranteed by the Small Business Administration, a federal agency (hereinafter SBA).Citizens made the loan to CFA after reviewing the financial statements which Timm had prepared.Additional loans, apparently not SBA guaranteed, were made by Citizens to CFA in 1976.By the end of 1976, CFA had a total outstanding indebtedness to Citizens of approximately $380,000.

In early 1977, during the course of preparing CFA's financial statement for 1976, Timm employees discovered that the 1974 and 1975 financial statements contained a number of material errors totalling over $400,000. once all period adjustments were made.

Once these errors were corrected and Citizens, as a creditor of CFA, was informed by Timm of the errors, Citizens called all of its loans due.As a result, CFA went into receivership and was ultimately liquidated and dissolved.As of the date the complaint was filed, the amount outstanding on Citizens' loans to CFA was $152,214.44.

Citizens filed an action against Timm and its malpractice insurance company on September 14, 1979, seeking to recover $152,214.44, the amount due on its loans to CFA.

Timm answered in October, 1979.On March 25, 1980, Timm filed a motion for summary judgment on the grounds that the pleadings and affidavits it submitted with its motion raised no issue of material fact and showed Timm was entitled to judgment as a matter of law.The affidavits submitted with the motion came from every member of the Timm firm who had worked on the CFA account.Each affidavit stated that the affiant had no knowledge, until after the fact, that CFA intended to or had obtained any loans from Citizens.The affidavit of Elmer Timm, president of the firm, also stated that he was never informed by any person that any audit report prepared by his firm for CFA would be used by any lender for the purpose of determining whether or not to make a loan to CFA.

Citizens submitted a number of affidavits in opposition to the motion for summary judgment.The affidavit of Den E. Hood, a certified public accountant, stated that he had examined the audit procedures used by Timm employees in preparing the 1974 and 1975 financial reports.Hood concluded after examining the procedures that the audit examinations had not been conducted in accordance with generally accepted auditing standards.He also concluded that had such standards been complied with, the material errors in the 1974 and 1975 statements should have been discovered and corrected prior to the issuance of each statement.

Citizens also submitted affidavits from its president, Gerald Beier, and a transcript of part of a deposition taken from Elmer Timm.Beier's affidavit contains a reference to a letter in Citizens' files from an employee of SBA "which indicated that they were waiting for more financial information from the accountants for CFA before approving and guaranteeing the loan to CFA, which was ultimately made by [Citizens'] in November of 1975."Beier also stated that Citizens' loans to CFA were made in reliance upon financial statements which had been prepared by Timm.The Elmer Timm deposition includes testimony showing that he knew the audited statement his firm prepared for CFA for the year ending in 1974 would be used by CFA to receive a guarantee on a loan through SBA.In the deposition however, there is a statement suggesting that he misspoke and actually intended to refer to the statement his firm had prepared for the year ending December 31, 1973, instead of 1974.³

Citizens also filed two affidavits from John Dando, CFA's president.The first was filed on October 8, 1980 and was considered by the trial judge in his original decision.That affidavit recited that Dando believed Timm was aware that statements its employees prepared would be submitted to SBA and that audited statements were a requirement of SBA loans.

Dando's second affidavit was not filed until October 28, 1980.⁴Although the trial court in its decision did not consider this affidavit and also refused to grant Citizens' motions for leave to file this affidavit, the trial court in its decision on the motion for reconsideration stated that it would consider the affidavit.Therefore the October 28, 1980 affidavit is part of the record before this Court.

In that affidavit, Dando stated that Timm was "told that as soon as the third quarter [1975] statement was finished, it would be personally picked up at [Timm's] office and taken directly to Citizens State Bank in order to expedite the loan application."

Based upon all of the affidavits except Dando's supplemental October 28, 1980 one, the trial court granted Timm's motion for summary judgment.The court concluded that under the Restatement of Torts (2d)section 552, ⁵ accountants may be held liable to third parties for their negligent acts.However, the judge also concluded that, based upon the affidavits before him, the Restatement did not extend Timm's liability to Citizens.

Citizens moved for reconsideration of this decision.The trial court denied this motion.In its decision on reconsideration, the trial court reviewed the Dando affidavit of October 28, 1980, but determined that it contained only "conclusionary facts" and thus was not sufficient to raise an issue of fact so that summary judgment would be inappropriate.

Citizens appealed.The court of appeals affirmed the trial court.It concluded that, even assuming that section 552 of the Restatement should be the law in this state, there was still no genuine issue of fact as to whether Citizens was within the class protected by its provisions.Therefore, the court of appeals concluded summary judgment was properly granted.

The question on review is whether accountants may be held liable for the negligent preparation of an audit report to a third party not in privity who relies on the report.

This is a question of first impression in this state.However, the issue has received wide consideration in both courts⁶ and law journals.⁷

Accountants have long been held not liable for their negligence to relying third parties not in privity under an application of Judge Cardozo's decision in Ultramares v. Touche, 255 N.Y. 170, 174 N.E. 441(1931).In Ultramares, Judge Cardozo absolved the defendant accountants from liability for overvaluing the assets of a company in an audit report to a plaintiff who had loaned money in reliance on a certified balance sheet in the report.Judge Cardozo expressed the concern that "if liability exists, a thoughtless slip or blunder ... may expose accountants to a liability in an indeterminate amount for an indeterminate time to an indeterminate class."174 N.E. at 444.

According to Associate Justice Howard Wiener of the California Court of Appeals, Ultramares was relied on by every jurisdiction to consider this question to deny accountant liability to third parties.⁸However, in recent years, Ultramares has received new attention and courts have started to find accountants liable to third parties.

In Rusch Factors, Inc., v. Levin, 284 F.Supp. 85(D.C.RI1968), the court, citing section 552 of the Restatement, imposed liability on an accountant to a relying third party not in privity.In Rusch Factors, the accountant knew the statements he prepared were to be used by his client for the purpose of obtaining credit from a third party even though they did not know of the specific relying third party.Nevertheless, the court...