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Auditing

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MIT765801
AUDITING

Individual Assignment

HIH Insurance Report

Student Name: Jinyun Wang
Student ID: MIT122634
Lecturer Name: Susan Currie
Tutor Name: Susan Currie
Due Date: 29 / 1 / 2014
Submitted date: 7/ 2/ 2014 by email

Executive Summary
The auditing profession plays a significant role in industrialized economies for many years. In the insurance industry, the manner of auditing profession is regulated. The collapse of Health International Holdings (HIH) was recorded as the biggest corporate collapse in the history of Australia. Also an investigation of Royal Commission was warranted by the HIH collapse. Two questions considered in the failures of HIH Insurance: Did the auditors implement their responsibilities and roles? Did the auditors fulfil their auditing work ethically? This report provides an analysis of auditing issues arising from the collapse of HIH Insurance. Among factors that have gave rise to the corporate failure of HIH Insurance, that of the ethics of auditing profession, roles of auditors and effectiveness of audit committee have regarded as particular significance.

Contents

Executive Summary 2
1. Introduction 4
2. Discussion 5 2.1 Audit Independence 5 2.2 Audit Committee 7 2.3 Ethical Considerations 8
3. Conclusion 10
Reference List 11

1. Introduction
HIH Insurance was established when MW Payne Liability Agencies Pty Ltd was incorporated by Michael Payne and Ray Williams joining together to do business of insurance underwriter in Australia in 1968. Their operations were throughout the world, accompanied with businesses working in numerous countries such as the United Kingdom, New Zealand, Hong Kong, and the United States (Peursem, Zhou, Flood & Buttimore, 2007). There are many varieties of insurances in the markets of UK, the USA and Australia, involving compulsory insurance (for example, workers’ compensation and third party motor vehicle insurance) and non-compulsory insurance (for instance, home contents and travel insurance) (Kehl, 2001).
More than 250 subsidiary companies comprised of HIH Insurance group in a highly complicated structure at the time of liquidation. With net assets of $939 million at 31st June 2000, HIH Insurance used to be the second biggest underwriting insurance in Australia. With debts of about between $3.6 billion and $5.3 billion, HIH Insurance was placed into provisional liquidation on 15th March, 2001 (Peursem et al., 2007). The collapse of the HIH Insurance was considered the largest corporate failure in the history of Australian business. Subsequently, the collapse contributed to the establishment of a Royal Commission to make an investigation on ‘the degree of which behaviours of employees, directors, auditors, advisors and actuaries give rise to HIH failure or concerned undesirable company practices’ appointed by the Australian federal government (Mirshekary, Yaftian & Cross, 2004). Because HIH Insurance was a major insurer in Australia, its collapse had a widespread impact on society (Leung & Cooper, 2003).
The purpose of this report is to analyse the audit issues arising from the HIH Insurance collapse. A brief of HIH profile is provided prior to the auditing analysis of HIH Insurance collapse. The next part of this paper is devoted to examine issues related to HIH audit practices with respect to audit independence, audit committee and ethical considerations.

2. Discussion
2.1 Audit Independence
The issue of audit independence is fundamental significant in the collapse of HIH Insurance. Audit independence refers to giving an unbiased and objective perspective in the assessment of the results, the performance of audit tests, and the release of the audit report. This is one of the auditor’s characteristics of most crucial importance. In addition, independence is basic principles of objectivity and integrity (Arens, Best, Shailer, Fiedler, Elder & Beasley, 2010).
According to HIH Royal Commission (as cited in Mak, Deo & Cooper, 2005), the Royal Commissioner discovered that Andersen was not independent and had not accomplished the hopes and expectations about the role and responsibilities of acting as an auditor. From when HIH Insurance joined the Health group in 1971, Arthur Anderson performed the audit of HIH Insurance until the provisional liquidation of HIH Insurance in 2001(The HIH Royal Commission, 2003).
In the light of HIH Royal Commission (as cited in Johnson, 2004), Justice Owen found out that the following facts were involved in evaluating the independence of Arthur Andersen. The HIH Board of directors included three former partners of Andersen: “an Andersen partner was a chair of the HIH board and continued receiving fees under a consultancy agreement; an Andersen partner was removed from the audit team after meeting with non-executive directors in the absence of management and the chief financial officer (CFO) was an ex-Andersen partner” (Mak, Cooper, Deo & Funnell, 2007). “Since HIH management were reluctant to increase the amount of audit fees paid to Arthur Andersen, Arthur Andersen sought to reduce the amount of work performed on the HIH audit…” were stated in comments of Mr Martin, counsel to the Royal Commission (Peursem et al., 2007). Arthur Andersen paid the consultancy fees to Geoffrey Cohen, who was the former Arthur Andersen partner and Chairman of HIH board. With including the services of a secretary and the utilization of Andersen office, these payments totalled at $190,877.60 over a period of nine years (Peursem et al., 2007).
Recognised in Part B of the Code of Ethics, classifications of threats to independence include the threats of intimidation, familiarity, advocacy, self-review and self-interest. Under the Corporations Act, situations generating from any relationship that is possible exist, has existed, or exist should are necessary considered in the possibility of a conflict of interest (Arens et al., 2010). The above facts indicated that a close personal relationship developed and it could be a familiarity threat to the independence of the auditor. In respect of these matters, Arthur Andersen might have lacked independence.
Moreover, the declaration by Mr Martin might cause people to question whether the duties with professional scepticism and objectivity were fulfilled by auditors and whether the directors have effect on or put pressure to the auditors (Mirshekary et al., 2004). This also enabled the independence of Andersen be doubted. In addition, the auditing practice statements (AUP) 32 declared “no officer of the company to be audited shall receive any remuneration from the firm for acting in an advisory capacity to it on accounting or auditing matters”. Nevertheless, the payments of consultancy fees were not disclosed in the general meeting of the board. This may result in a lack of independence in question (Mirshekary et al., 2004).

2.2 Audit Committee
Ineffectiveness of the audit committee was a flawed side in the corporate governance practices of HIH Insurance, which was disclosed in the Royal Commission’s report (Johnson, 2014). Arens et al (2010) showed that audit committee is a subcommittee of board of directors in a company, with specific responsibilities relating to supervise the independent audit function. In many modern companies, audit committee is a complete element of the corporate governance. Audit committees can support the Board of Directors to satisfy about the independence of company, stating by CPA Australia and the Institute of Chartered Accountants in Australia (2004). Having most of non-executive directors has been common for the audit committee in recent times, enabling the committee to handle matters with a fair mode and non-conflicts of interest (Mirshekary et al., 2004).
According to HIH Royal Commission (2003), Geoffrey Cohen who is the chairman of the audit committee and also the chairman of HIH did not fully read the presentations of auditors. He attended the great majority of the audit committee meetings, accompanied with other senior management. ‘That no occasion on which the auditors met with the members of the audit committee in the absence of management were not disclosed in the evidence’ claimed by Mr White who is counsel to the Royal Commission. This implies that the management of HIH Insurance not acted opposite than usual practice. At the same time, the impartiality of the audit committee is in question (Mirshekary et al., 2004).

2.3 Ethical Considerations
There are some ethical issues involved in the audit profession that generated from the collapse of HIH Insurance. Ethics refer to a series of moral values or principles. Professional auditors can get stuck in many complex circumstances that produced by ethical dilemmas. Ethical dilemmas exist when people is in the face of circumstances which have requirement of decisions about the most suitable behaviour whereas when the available choices require a trade-off ideals or interest (Arens et al, 2010). Auditors must comply with ethical standards whereas acting in the best interests of shareholders. Five ethical principles applying to auditors were identified by the Framework for Assurance Engagements, that is objectivity, integrity, confidentiality, professional behaviour, and professional competence as well as due cares (Arens et al, 2010).
Arthur Andersen was paid $5.1 million in audit fees and $2.8 million in non-audit fees from HIH Insurance during the period of 1997 to 2000 (Johnson, 2004). Also Andersen earned $5.097 million in terms of auditing the financial statements of HIH Insurance and $2.824 million from offering HIH Insurance with non-audit services during the last three financial years of HIH Insurance. Whether the supply of such non-audit services was ethical towards Andersen with having best interests of shareholders should be considered. As already mentioned above, “Since HIH management were reluctant to increase the amount of audit fees paid to Arthur Andersen, Arthur Andersen sought to reduce the amount of work performed on the HIH audit…” were stated in comments of Mr Martin (Peursem et al., 2007). This may means a cosy relationship was utilised by Arthur Andersen to know that increasing supply of non-audit services can recoup the loss of assurance fees. The supply of non-audit services by Andersen must also be taken the ethical dilemma of having a duty of care to third parties in consideration.
A former accountant at HIH Insurance, Jeffrey Simpson stated that the close connection between HIH Insurance and Arthur Andersen enabled HIH Insurance utilization of aggressive accounting policies. He also expressed that Arthur Andersen consent to the application of these policies in further statements (Mirshekary et al., 2004). In regard to consider Andersen’s duty of care to give an opinion to shareholders that that the statements present a true and fair view, the agreement of Andersen is unethical in question and the auditor’s integrity in pressure situations.

3. Conclusion
In conclusion, this report discusses the auditing issues of collapse of HIH Insurance in the area of audit independence, audit committee and ethical considerations. In relation to Arthur Andersen’s dealing with HIH Insurance, attention that the audit partners and the relationship between senior HIH management have been centred on the independence of Arthur Andersen. The second issue is taken the role of audit committee of HIH Insurance played in the collapse in consideration. Regarding to the ethical considerations that arose from the collapse of HIH Insurance, in particular, the provision of Arthur Andersen’s non-audit services to HIH Insurance, is the final audit issue.

Reference List
Arens, A. A., Best, P., Shailer, G., Fiedler, B., Elder, R. J. & Beasley, M. (2010). Auditing, Assurance Services and Ethics in Australia (8th ed.). Frenchs Forest, N.S.W. : Pearson Australia.
CPA Australia and the Institute of Chartered Accountants in Australia. (2004). ‘Auditing Handbooks’, Prentice Hall, Sydney.
Johnson, R. (2004). READINGS IN AUDITING. Milton, Qld: Wiley.
Kehl, D. (2001). HIH Insurance Group collapse. Retrieved 12 January, 2014 from http://www.aph.gov.au/About_Parliament/Parliamentary_Departments/Parliamentary_Library/Publications_Archive/archive/hihinsurance
Leung, P. & Cooper, B. J. (2003). The Mad Hatter’s corporate tea party. Managerial Auditing Journal, 18(6-7), 505-516. doi: 10.1108/02686900310482641
Mak, T., Cooper, K., Deo, H. & Funnell, W. (2007). Audit, accountability and an auditor’s ethical dilemma: A case study of HIH Insurance. Asian Review of Accounting, 13(2), 18-35. doi: 10.1108/eb060785
Mak, T., Deo, H. & Cooper, K. (2005). Australia’s Major Corporate Collapse: Health International Holdings (HIH) Insurance “May The Force Be With You”. The Journal of American Academy of Business, 6(2), 104-112. Retrieved from http://eds.a.ebscohost.com.ezproxy-m.deakin.edu.au/ehost/detail?sid=7e243edc-d09e-4c37-9206-a24fa7ae207a%40sessionmgr4002&vid=1&hid=4205&bdata=JnNpdGU9ZWhvc3QtbGl2ZSZzY29wZT1zaXRl#db=bth&AN=15674522
Mirshekary, S., Yaftian, A. M. & Cross, D. (2004). Australian corporate collapse: The case of HIH Insurance. Journal of Financial Services Marketing, 9(3), 249-258. doi: 10.1057/palgrave.fsm.477015

Peursem, K. V., Zhou, M., Flood, T. & Buttimore, J. (2007). Three Cases of Corporate Fraud: An Audit Perspective. Retrieved from http://researchcommons.waikato.ac.nz/bitstream/handle/10289/1671/Accounting_wp_94.pdf?sequence=1
The HIH Royal Commission. (2003). The failure of HIH INSURANCE: Reasons, circumstances and responsibilities, Vol. III. Retrieved January 15, 2014 from http://pandora.nla.gov.au/pan/23212/20030418-0000/www.hihroyalcom.gov.au/finalreport/Title%20and%20Contents3.html

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