Question

Unit 2 Case: Butler

Manufacturing Corporation

Butler Manufacturing Corporation planned

to raise capital for a plant expansion by

borrowing from banks and making several

stock offerings. Butler engaged Meng CPA,

to audit its financial statements. Butler told

Meng that the financial statements would

be given to certain named banks and

included in the prospectuses for the stock

offerings.

Meng did not confirm accounts receivable

during the audit, and as a result, failed to discover a material overstatement of accounts receivable.

Additionally, Meng was aware of a pending class action product liability lawsuit that was not disclosed in

Butler’s financial statements. Despite being advised by Butler’s legal counsel that Butler’s potential

liability under the lawsuit would result in material losses, Meng issued an unqualified opinion on Butler’s

financial statements.

Union Bank, one of the named banks, relied on the financial statements and Meng’s opinion in giving

Butler a $500,000 loan.

A couple of months after obtaining the Bank loan, Butler also raised $16,450,000 through stock

offerings.

Shortly after obtaining the loan from Union, Butler began experiencing financial problems, but was able

to stay in business because of the money raised by the offerings. Then, Butler was found liable in the

product liability suit. This resulted in a judgment Butler could not pay. Butler also defaulted on the loan

from Union and was involuntarily petitioned into bankruptcy. This caused Union to sustain a loss and

Butler’s stockholders to lose their investments. As a result,

• Union sued Meng for negligence and common-law fraud.

• The stockholders who purchased Butler’s stock through the offerings, as well as stockholders who

purchased shares subsequently traded on a national securities exchange, sued Meng, alleging fraud

under Section 10(b) and Rule 10b-5 of the Securities Exchange Act of 1

Questions

Discuss Union’s charge of negligence against Meng. Do they have a case; i.e. is the charge applicable? Why or why not?

Discuss Union’s charge of common law fraud against Meng. Do they have a case; i.e. is the charge applicable? Why or why not?

In your opinion, would the stockholders be successful in a suit against Meng under the antifraud provisions of Section 10(b) and Rule 10b-5 of the Securities Exchange Act of 1934? Why or why not?

Answer 1