Expert forensic accounting evidence: when is it admissible?

By Nick De Young.

Key Points:
The latest decision in ASIC v Rich highlights the difficulties faced by a forensic accounting expert who has been engaged before the commencement of proceedings to assist in the investigation process and is subsequently briefed to give expert evidence in the proceeding.

On 8 July 2005, Justice Austin handed down his latest decision in the matter ASICvRich [2005] NSWSC650 in relation to the admissibility of an expert forensic accounting report obtained by ASIC.

It highlights the difficulties faced by a forensic accounting expert who has been engaged before the commencement of proceedings to assist in the investigation process and is subsequently briefed to give expert evidence in the proceeding.

The decision also confirms that the scope of a forensic accountant's evidence must be strictly limited to matters within the expert's area of expertise. This issue is particularly relevant to tables, schedules or charts of information extracted from various sources which are produced by the expert. Such evidence will only be admissible if the information is significant and the generation of the table, schedule of chart required some forensic accounting skill or where the information is assembled in a convenient and helpful way (ie. from a mass of documents). Such evidence will be inadmissible if it is no more than the reproduction of evidence readily accessible in documents that can speak for themselves.

Background

ASIC has instituted proceedings against Mr Rich and Mr Silbermann, former directors of One.Tel Limited, alleging contraventions of section 180 of the Corporations Act 2001 (Cth) which requires directors to act with a reasonable degree of care and diligence, and seeking orders prohibiting the defendants from managing corporations and that they pay compensation which ASIC asserts is approximately $92 million.

The trial of the defendants commenced before Justice Austin of the Supreme Court of NSW late last year and is still continuing. During the course of the trial, the defendants objected to ASIC tendering an expert forensic accounting report prepared by Mr Carter of PricewaterhouseCoopers. The report dealt with the One.Tel Group's financial position, the reasons for the Group's financial position, the nature of management reporting to the Board and the reduction in the net worth of the Group, the last matter being relevant to the quantification of the compensation claim.

The defendants' objection to the report arose from the fact that Mr Carter, and others from PwC, were closely involved in the investigation process which led to the proceedings being commenced. Subsequently, a decision was made that Mr Carter would give expert evidence in the proceeding. Thereafter, he played no further role in the preparation of ASIC's case, but others who had worked with him until that time continued to play such a role, and assisted him in the preparation of the report. Mr Carter produced a draft report which was based on a broad range of evidence. At a certain point, however, he was asked to exclude much of the evidence relied on in the draft report (presumably because it could not be proved) for the purposes of his final report.

At first instance, on 7April 2005, Justice Austin found that MrCarter's report was inadmissible because it failed to identify the "true" factual basis of the report as required by the principles in Makita (Australia) Pty LtdvSprowles (2001) 52NSWLR705 (referred to as the "true fact approach"); or alternatively, pursuant to section 135 of the Evidence Act1995 (NSW), because its probative value was substantially outweighed by the danger that the evidence might be unfairly prejudicial, misleading or confusing or result in undue waste of time.

On appeal, on 20May 2005, the NSW Court of Appeal set aside Justice Austin's first instance decision on the basis that there was no requirement in Makita that a report disclose the true factual basis of the opinions; it is sufficient if it discloses the facts and the reasoning process that the expert asserts justify the opinions expressed (referred to as the "asserted fact approach"). It also held that Justice Austin should not have exercised the discretion under section 135 without conducting a systematic analysis of the probative value of MrCarter's evidence.

In Justice Austin's latest decision, in view of the Court of Appeal's decision, he conducted a paragraph-by-paragraph analysis of Mr Carter's report in considering whether to exercise the discretion under section 135. The result was that his Honour rejected more of the report than he allowed.

Justice Austin rejected much of MrCarter's evidence where:

• the report contained nothing more than descriptive summaries of documents;
• defects in the reasoning process or underlying facts meant that the evidence was of low probative value, and that probative value was likely to be substantially outweighed by the danger that the evidence might be unfairly prejudicial, misleading or confusing or result in undue waste of time;
• in the case of tables of information, the evidence involved little accounting skill and could as readily be provided as a submission document based on the documentary evidence; or
• the opinion was not based on MrCarter's specialised knowledge and was merely argument in support of the prosecution case.

On the other hand, Justice Austin allowed some evidence where:

• in the case of tables of information, the selection of the material and the mathematical calculations required some forensic accounting skill; or Mr Carter had assembled the information in a convenient and helpful fashion; or
• there was a rational chain of argument from the identified documents to MrCarter's conclusions.

There are two important issues arising from this case.

1. It is often necessary to obtain expert forensic accounting advice up front to determine whether to commence legal proceedings, and if so, to ascertain the scope of any such proceedings. In this process, it is often necessary to give the expert access to a wide range of information and to make assumptions. Inevitably, some of this evidence or assumptions relied on at an early stage of a matter will not be able to be proven at trial (eg. because the author or source of a document is unknown). In this case, the plaintiff has two options in respect expert evidence in the proceedings: firstly, attempt to "quarantine" the existing expert to evidence which can be proven a trial; or secondly, engage a new expert who is only given access to evidence which can be proven a trial. ASIC v Rich is a good example of the difficulties faced by a party who has attempted to quarantine the existing expert. On the other hand, there are obviously increased costs of engaging a second expert.
2. Experts must limit their evidence to matters within their area of expertise. This rule becomes difficult to apply when considering tables, schedules or charts which contain information extracted from various sources. Such evidence is becoming increasingly important given the complexity of most present commercial transactions and businesses. Justice Austin summarised the principles to be applied in these circumstances as:

"A forensic accountant may give the admissible evidence which involves extracting and distilling, from a mass of documents, information that he or she regards as significant, even where the documents are in evidence and theoretically, counsel and the court might be able to extract the same information without the expert's assistance. Such evidence is to be distinguished from evidence which is no more than the reproduction of evidence readily accessible in documents that can speak for themselves (with explication by counsel in submissions)".

At the end of the day, the resolution of these issues will depend on the circumstances of each case. However, it is important to remember that these issues need to be dealt with as early as possible - it is often too late to adduce alternative evidence at trial if your expert's evidence is ruled inadmissible.

For further information, please contact Sally Sheppard.