HIH Insurance

Accounting Issues

Re-Insurance

• Incorrect accounting treatment for reinsurance contracts – showed a $92.4 million profit in the financial statements for 1999.

Disclosure of Intangible Assets

• By 2000 – Goodwill account showing a balance of $438 million.
• Account was being used to record losses instead of putting it through the P&L.

Accounting policies

• Aggressive accounting policies.

Issues of Corporate Governance in HIH Insurance

Corporate governance is defined as: The set of rules and practices where transparency, fairness and accountability is ensured by the board of directors in relation to its stakeholders. The governance is set in a framework that consists in the explanation of 3 main points.

• The first one is the role of the company’s stakeholders in terms of rights, rewards and distribution of responsibilities.
• The second one is to clarify any issue related to conflict of interests of stakeholders, remarking its roles, duties and privileges within the company.
• The third point is to establish procedures of information flow, control on systems, supervision of duties and checks-and-balances.

Ethical Dilemmas

Accounting Issues

Creative Accounting

• Fraudulent or dubious bookkeeping; falsification of financial records in imaginative ways.

Under-pricing and Under-reserving

• liabilities understated.
• Overestimated assets.
• Premiums charged too low.
• Under-provisioned for claims.

HIH insurance company

Auditor Independence

• Arthur Andersen charged HIH $1.7 million in auditing fees and $1.6 million in non-auditing fees – conflict of interest?
• HIH reluctant to pay Andersen increase in auditing fees so Andersen increases non-auditing fees to compensate.
• Failure in their duty of care to all stakeholders.

Ineffective Due Diligence

• Acquisition of FAI no due diligence on financial status of FAI.
• Entire investment of $295 million had to be written off.

HIH insurance was founded in 1968 by Ray Williams and came to Australia in 1995. Between 1997 and 1998 HIH acquired FAI insurance, a large insurance company, and Rodney Adler became director of HIH Insurance Ltd.

In 2001 HIH was taken controlled by a provisional liquidator McGrath and he calculated a lose more than $800m from July to December 2000. The liquidators of HIH projected a loss around to $5.3 billion.

As consequence of adjusting the true value of under reserving liabilities, the assets of HIH were unable to cover its debts and liabilities therefore HIH became insolvent.

The royal commission found that HIH collapsed because: the company entered a rapid expansion, under-pricing and under-reserving, corporate governance failures, mismanagement, acquisition of FAI and inadequate auditing

ASIC

How did HIH break the law?

Corporate Law Economic Reforms Programs - CLERP

Honest action?

• Alteration of public documents on behalf of private interests.
• A lack in monitoring the financial performance of the company.
• A fail in acting with good faith.
• To act for the interests of third parties instead of the company.

CLERP are guidelines that modified the Corporation Act 2001 with the purpose of:

• Market freedom.
• Investor protection and access to information.
• Information transparency and confidence of markets.
• Neutrality and flexibility.
• Business ethics and compliance.

The collapse of HIH insurance is an example of an ineffective corporate governance practice, inferior risk management and questionable audit of Andersen Accounting Firm.

HIH incurred in dishonest action by spending incredibly high amounts of money on the acquisition and integration of different companies like:

• FAI Insurance.
• Emu Brewery.
• Joint Venture Developments.
• A portion of land in Arizona (USA).
• St. Moritz Hotel.
• Commercial locals in Melbourne and Sydney.

Which raised the risk on the management framework and were altered at the moment of reporting its costs and values.

HIH had lost over $800 million over the six months to 31 December 2000.

Regulations in Australia

The legislation establishes regulations for corporate governance under the Corporations act (2001) and is enforced by the Australian Securities and Investment Commission (ASIC).

Possible remedies that may have avoided ethical dilemmas

• act in good faith.
• act in the best interests of the company.
• avoid conflicts between the interests of the company and your own interests.
• act honestly.
• exercise care and diligence.
• prevent the company trading while it is unable to pay its debts.

• Corporate governance implemented.
• Internal control inspections and problems addressed.
• Auditor changed every 2 years and no conflict of interest.
• Board completely separate to employees by majority , approve donations and investment decision.
• Less decision making by CEO and more by board and stakeholders, financial always tabled at meetings.

Australian Corporate Collapse:

The case of HIH Insurance

Corporate Law Economic Reforms Programs - CLERP

As consequence of HIH collapse CLERP developed the following changes for auditors:

• ASX-listed companies require an independent audit committee.
• Non-audit services are limited and must be disclose.
• Auditors must rotate after 5 or 7 years.
• Auditors cannot be employed for former employers for two years.
• Audit firms issue a statement of independence.
• Auditors are obligated to answer questions from shareholders.
• The financial Reporting Council provide oversight of the processes for setting auditing standards.

 Best practice that may have avoided ethical dilemma at HIH

Thank you!

• Internal/external auditor follow ethical procedures
• Accountant/auditor bringing financial issue to board meetings.
• CEO and board having best interest of shareholder not themselves.
• Make sustainable business a priority NOT greed.
• Limits and responsibilities to each employee role from CEO, board down to cleaner.
• Business plan, goals , forecast.

Elizabeth Bridge

Benita Steenkamp

Cesar Galvez

Pedro Cicery