Ct. App. Reverses Business Court on Audit Choice of Law Issue

The Court of Appeals faced that rarest of truffles this week:  an outcome-determinative choice of law question.  The Court adhered to its traditional roots and rejected a new test fashioned by the Business Court.

At issue in Harco Nat'l Ins. Co. v. Grant Thornton, LLP was an audit of a company providing bail and immigration bonds in North Carolina and other states.  The plaintiff, an insurance company, entered into an agreement with the bonding company on the basis of that audit.  When the bonding company went defunct, the plaintiff ultimately became liable for $15 million in bonds issued in North Carolina alone.

Conflict of laws professors seeking exam questions, take note of these facts:  The plaintiff is an Illinois corporation who paid most of the $15 million from its corporate bank account in Illinois, but did not pay any of that money to any Illinois recipient.  The audit itself was performed by the defendant in Pennsylvania and the audit report was delivered to the bonding company in that Commonwealth as well.

Unlike many choice of law disputes, this one actually made a difference due to the great variety of standards among states for auditor liability to third parties not in privity with the auditor.  The plaintiff argued that North Carolina law applied and, under North Carolina law, the defendant would not be entitled to summary judgment.  The defendant argued that Illinois law applied and that no liability was possible under that state's law.

As we noted last April, the Business Court went its own way, determining that Pennsylvania law applied.  In doing so, Judge Tennille held that the law of the state in which an audit is performed should govern the auditor's liability to third parties not in privity.  The Business Court's analysis was premised on principles of certainty, predictability, and the avoidance of forum shopping.

The novelty of this approach clearly bothered the Court of Appeals in its somewhat tersely-worded opinion:

The Business Court’s Audit State test seems to be the only such test of its kind.  Our research has not revealed a single case in any jurisdiction that purports to utilize such a test for the purpose of determining the choice of law in an auditor liability
case. As the Business Court’s order acknowledges, claims for negligence and negligent misrepresentation are claims sounding in tort.  It is the nature of the cause of action, not the occupation of a defendant, that controls the determination of the applicable choice of law test.  While the Business Court expressed concern that “[u]sing the law of the state where the injury occurred is problematic[,]” it was required to apply the lex loci test to plaintiff’s tort claims pursuant to the prior holdings of our Supreme Court and the doctrine of stare decisis.

In other words, a tort is a tort is a tort, and any deviation from the First Restatement: Conflict of Laws (1934) will be punished.  (The Second Restatement, at not yet 40 years old, apparently lacks the gravitas necessary for such issues).

Applying the traditional lex loci test, the Court of Appeals held that Pennsylvania, although the site of the alleged misrepresentations, was not the site where the injury was felt.  Nor was Illinois, the location of Plaintiff's business.  Instead, the place of harm was North Carolina, in which the plaintiff's funds were seized by the Department of Insurance.

Note that the Court of Appeals affirmed the Business Court's denial of the defendant's summary judgment motion under Illinois law.  Because the Business Court determined that Illinois law did not apply, the denial of summary judgment was appropriate.