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Auditing : Insurance Operations

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Question:

Discuss about the Auditing for Insurance Operations.

 

Answer:

HIH Insurance Ltd was formed in 1968 but it started its insurance operations in the year 1998. It was observed that the business done by the company was very different from how an insurance business must be done. This led to the failure of HIH Insurance Ltd. The company got exposed to several risks which made the business operations questionable to all. Due to these risks, Winterthur Insurance Company withdrew their shares from the former HHI Winterthur Company. A merger took place between Winterthur and the CE Health International but because of the former’s activities, the merger was ended and shares were withdrawn. Risk orientation is the key nature of an insurance company and the insurer must ensure that his business risk is attenuated (Vause, 2009). He is endowed with public money and it is expected of him to use that money efficiently. Any activity in contrast to this brings several dangers to the business.

The main problem regarding HIH Insurance Ltd was its incautious business where it acquired companies and indulged in every insurance business like aviation, marine etc without an appropriate due diligence. Prior research on the political conditions and due diligence is highly recommended before any merger but the company had avoided such things. Apart from these external issues, the financial planning and working structure of the company was also poor which led to a narrow and defective investment strategy (Wood, 2011). Inappropriate provisions were established for natural disasters and due to lack in maintenance of forethought margins, a discrepancy in the whole system could be seen (Heeler, 2009).

In relation to faulty planning and ineffective management of business, HIH Insurance Ltd emerged to be the best illustration. Prior to the takeover of FAI Insurance, the company was already facing with various discrepancies which disturbed its overall activity but it took over FAI Insurance without exercising and precautions for due diligence, thereby increasing its exposure towards risks. Not only this, HIH Insurance also purchased the shares of FAI Insurance at a premium cost which facilitated in adding further loss to the company. Hence, the takeover of FAI Insurance and purchase of its shares at a premium without proper due diligence proved to be a very incorrect decision by the company which created a significant complication for it.

The risks created by HIH Insurance were not just limited to the takeover. It also discontinued the industrial practice for sustaining prudential standards. It must be noted that these standards diminishes the impact of uncertain contingencies and natural disasters but the decision of discontinuing the same created further risks for the company. Instead of applying such standards in the insurance business, it adopted the reinsurance policy that proved to be a significant benefactor in increasing the risk profile of the company, thereby leading towards a downfall. A company is expected to align with the varying scenario’s but HIH Insurance Ltd failed to do so and therefore when the risk increased, the company was no longer in a position to encounter them. Management of risks with appropriate precision contributes towards a significant and effective growth for the company.

Furthermore, HIH Insurance Ltd paid a massive sum of its capital for consultancy and other services. It also invested a lot in the provision of auditing services but the major part of contribution was for consulting and other services. This investment raised several doubts and questions on people’s minds because inspite of such massive investments in consulting and auditing services, there were discrepancies in the accounts and other activities of the company. Therefore, this also led to an enhancement in the risk profile of the company.

It is relevant for every company to have a systematic and proper administration that is responsible to look after the day to day affairs of the company. Therefore, if the independence of auditors and other non-executive directors is biased, that is hampered then the company’s prudence will also get diminished. In the case of HIH Insurance, it can be seen that there was a lack of proper and appropriate supervision and guidance, inability of paying the debts etc. These factors also contributed in developing the business risks of the company.

Furthermore, the links that the purchasing companies had with the competitor also contributed in increasing the business risks of HIH Insurance Ltd because as a matter of fact, a competitor will want to gain further prominence in the market and it can do things that can either increase its own goodwill or destroys the same of its competitor (Parker et. al, 2011).  

Therefore, it can be observed that HIH Insurance Ltd faced with several risks which had actually risen due to its own irregularities, thereby leading to its major downfall.

The directors of the insurance company illegitimately utilized money from the public by holding assured annuity rate policies in order to capitalize public with the present annuity rate policies. In the case of Equitable Life Assurance Society v Hyman, it can be observed that the Society was closed after the judgement passed by the House of Lords. The policyholders were technically not insolvent but still the government of UK established a compensation policy for them under the Equitable Life (Payments) Act 2010. With this case law, the dishonesty of the insurance company can be clearly observed. For the determination of partnership being liable or not, Anderson can refer this case law.
 
In the case law of Raskov v Stapke & Harris, it can be observed that partnership can take a stand as it can encounter the declaratory wisdom. Hence, this case law can be considered when it comes to partnership being accountable for the creditors. As a matter of fact, Anderson can consider this case for an appropriate reference.
 
 

Negligence is an act of failure to take appropriate care over something. It can either be intentional or unintentional or both. But ignorance cannot be justified so as to get rid of legal and penal actions. Providing unfaithful claims, misleading and inappropriate details are some of the matters that are considered as negligence. This negligence’s can attract legal matters against the defaulter. Hence, if an act of negligence can provide harm to others, then it is undoubtedly punishable by law, especially in the case of companies who are attributed with public money. These companies are bound to undertake due diligence prior to any matter so that problems can be avoided. There are two requirements which satisfy the prevalence of negligence in an activity (Sawyer, 2003). Firstly, there must be a duty to be accomplished and secondly the person bound to accomplish that duty must breach it.

When the defendant contravenes any duty owed to a plaintiff, he is liable for an act of negligence. This contravention can arise when the defendant fails to employ due care for accomplishing the target. It is the jury who is bound to decide whether elements like duty to be fulfilled and contravention of the duty is prevalent in the case or not. It is upon the plaintiff to prove to the jury whether any kind of harm or loss has been caused to him because of the negligence of the defendant. Next is the element of an immediate cause (proximate). If the harm caused by defendant is greater than the harm envisaged by him, then the plaintiff will fail to prove that the actions undertaken by the defendant were the proximate cause of damages to plaintiff. Then is the damage element where the plaintiff is bound to prove the legitimacy of harm caused to him. Then is the element of a talented and professional lawyer who can win the case by reversing the unfortunate circumstances in the client’s favor (Mock et. al, 2013).

As Andersons had earned high revenues from HIH Insurance, the former members from the team of external auditors could have been employed. As discussed earlier, HIH Insurance had paid massive money in consulting and auditing services but still Anderson could not identify or rectify the inaccuracies prevalent in the company. This proves that Anderson was also indulged in false activities with the company. The company was irregularly besmirching the public money but the auditors were unable to locate any such happenings. This leads to an assumption that Arthur Anderson being an auditor of HIH Insurance Ltd was involved with the company in order to manipulate its accounts. According to Kalpan & William (2013) it is the auditor’s duty to provide what is beneficial for the company but they themselves were involved in such fraud, thereby putting their goodwill and licenses at stake.

Auditing is done so that accounts can be examined and an expert judgement can be ascertained on the company’s financial performance. Both auditing and consultancy are connected but still different (Christensen, 2011). Auditors are legally bound to be the watch-dog of company’s activities while consultants are bound to evaluate company requirements and provide necessary reliefs for the better interest of the company. Hence these are connected and can be employed from a same firm or individual. Both consulting and auditing is a one-by-one procedure. Firstly, consultants evaluate the circumstances and provide an appropriate solution. Secondly, an auditor being a watch-dog to prevent discrepancies in the company is the end process (Hoffelder, 2012).

As per Gilbert et. al (2005) legal appointment of one and same individual as an auditor and consultant is permitted by law. If it is against legal requirements, then any deed done by them becomes unethical. In the case of HIH Insurance Ltd, prior auditors were duly appointed as the external auditors of the company but they were appointed to assist the company in frauds which are totally unethical. In this case, they are appointed both as auditors and consultants for the better management of the company. If this is permitted in auditor’s law, then it’s ethical (Cappelleto, 2010).

In the insurance industry, HIH Insurance Ltd came out to be a significant one. As it failed to encounter international pressures within the industry and also disappointed in providing for contingencies, it suffered a downfall. The required standards were also not followed by the company. According to the CLERP and Ramsay Report, several rules and regulations were provided which was compulsory to be followed by insurance companies. Many new significant standards and economic and corporate corrections were made in the existing rules that must be followed.

Hence, audit is very essential in companies as it provides an assurance whether the financial statements present a true and fair view of the company’s performance or not. Unintentional negligence can be accepted or forgiven but deliberate negligence is punishable by law. The introduction of new standards may pave out ways for better performance of insurance companies (Baldwin, 2010). Proper due diligence, efficient audits etc are some of the benefits that are introduced in these standards. This can facilitate in better functioning of audits and auditors within companies by adopting effective audit methods but with unbiased independence.

 

References

Baldwin, S 2010, Doing a content audit or inventory, Pearson Press.

Cappelleto, G. 2010, Challenges Facing Accounting Education in Australia, AFAANZ, Melbourne

Christensen, J. 2011, ‘Good analytical research,’ European Accounting Review, vol. 20, no. 1, pp. 41-51

Gilbert, W. Joseph J and Terry J. E 2005, ‘The Use of Control Self-Assessment by Independent Auditors’, The CPA Journal, vol.3, pp. 66-92

Heeler, D 2009, Audit Principles, Risk Assessment & Effective Reporting, Pearson Press

Hoffelder, K 2012, New Audit Standard Encourages More Talking, Harvard Press.

Kaplan, S. & Williams, D 2013, ‘Do going concern audit reports protect auditors from litigation?’ A simultaneous equations approach, The Accounting Review, 88(1), 199-232.

Mock, T. J., Bédard, J., Coram, P., Davis, S.,  ‘Espahbodi, R. & Warne, R 2013, ‘The audit reporting model: Current research synthesis and implications’, Auditing: A Journal of Practice and Theory. 32, 323-351.

Parker, L, Guthrie, J & Linacre, S 2011, ‘The relationship between academic accounting research and professional practice’, Accounting, Auditing & Accountability Journal, vol. 24, no. 1, pp. 5-14.

Sawyer, L 2003, Sawyer's Internal Auditing,  Institute of Internal Auditors.

Vause, B 2009, Guide to Analysing Companies, Bloomberg Press

Wood, D A 2011, ‘The Effect of Using the Internal Audit Function as a Management Training Ground on the External Auditor's Reliance Decision,’ The Accounting Review, vol. 86. No. 6

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