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Auditing and Assurance Services for Risk Avoidation

Question:

Describe about the Auditing and Assurance Services for Risk Avoidation.

Answer:

1: The main purpose of an insurance company is to deal with the risk factors as people do insurance to avoid future risks. A general insurance company has to face several risks in the market due to its operation in different risky areas. So it is very essential to assess the potential risks early and take necessary actions. This risk assessment process helps a company to avoid risks. There are some processes for the assessment of risk.

HIH Insurance Limited was a general insurance company. The company was in the field of marine insurance, aviation insurance, natural disaster insurance, film insurance and worker's compensation insurance. These all areas are the high-risk areas of insurance.

To assess the risk one should take four stapes. They are: formulate a risk management team, identify the risk areas, classification of risks and analysis of risk & take necessary actions (Sadgrove, 2016).

The first step is to create a risk management team for HIH Insurance Limited. There should be a team in the organization only for the purpose of risk management. They will be responsible for all the jobs involved with the purpose of risk management.

The second step is to identify risk areas. It is a very step as it includes the identification of various risk areas. HIH is involved with all types of insurance areas. For that reason, the risk management team needs to consider all those areas while identifying the risks. They need to collect all the data and information from various sources to regarding the risks of HIH and then make a list of those risks.

The third step is to classify the risks. There are several methods of classification of the risks. The risk management team will classify the risks in three categories. They are Underwriting Risk, Market Risk, and Operational Risk. Underwriting risks refer to the claim of insurance risk, pricing risk, condition economic risk, etc. Market Risks are interest rate risk, investment risk, currency risk, etc. Operational Risk refers to strategic risk, human resource risk, systematic risk, etc.

The last step involves the analysis of the risks. The management team needs to analyze the risks of HIH by their merit. The parameter should be high risks, moderate risks, and small risks. Based on the parameter the management team will evaluate the financial impact of the risks. And then they will make proper strategy to avoid those risks (Joos, Piotroski & Srinivasan, 2016).

HIH Insurance Limited dealt with high-risk insurance areas. Naturally, there are some inherent risk factors which were affecting the company at the financial reporting level. They are discussed below.

One of the factors is the risk arises due to the insurance claim. It has been seen that HIH had to pay a lot of money due to the high-risk claims like damage for film losses, damages for several natural calamities, damages for workers compensation, etc. Another factor is maintaining the prudent margin. HIH invested the insurance premiums for an extended period of time to maintain the prudent margin. Prudent margin refers to a fund which used by HIH for settling natural disaster claims.  Mismanagement is another factor which was affecting the financial reports of HIH. The management team of HIH manipulated several financial items to improve the financial statement of the company for their benefit. The manipulated financial report helps to attract the investors (McNeil, Frey & Embrechts, 2015).

The above-discussed risk factors would surely affect the inherent risk assessment of HIH Insurance Limited. As HIH was in the area of high-risk insurance, these risk factors would increase the amount of risk in the risk assessment. These risk factor affected HIH in several ways. The share piece of HIH fall dramatically; HIH had to pay millions of dollars as compensation, etc.; these were the several causes which would affect the risk assessment. As a result, the existing risk assessment team had to make a lot of financial planning avoid a number of increased risks. Due to the increase in risks, the inherent risk assessment of HIH would become more difficult (Aminbakhsh, Gunduz & Sonmez, 2013).

2: The most important role of an auditor is to provide clarity in the financial reports of a company. But when an auditor manipulates his role, then the clients and the creditors have to suffer the most. The same thing happens with the auditor of HIH, Andersens. The facts and findings of two same cases are discussed below.

The first case is the case of Adelphia Fraud case. Adelphia was founded in the year 1952 by John Rigas. In a very short period, Adelphia became one of the big players in the cable industry. But in March 2002, Adelphia were accused of fraud. The company took a loan of $2.3billion. But this record was omitted from the financial records of the company. The fraud created a fake picture of its financial position to the clients and creditors. The company showed some unachievable targets to the clients and creditors. Due to this fraud, the clients and creditors of the company faced massive loss. The auditor was also involved in the fraud (Von Glahn & Taulbee, 2015).

The second case is the fraud case of Alan Bond. Alan Bond was 1950. But soon he became Australia’s one of the top businessmen ever. He had the fifth largest brewery in the world. But soon he became one of the largest losses in the business sector. Bond took massive loans to finance his companies. It resulted in the increase in debt of the company. Initially this process provided the good financial assist, but in the long run, it was harming the company. Later, to repay the loan amount he took more loans. Back to back loans affected the financial reports of the company. But with the help of the auditor, Bond manipulated the financial reports so that the reports create a good image of the company to the clients and the creditors. But this fraud came to the notice of the clients and the creditors, and they took legal action against the group. Bond was found guilty with nine matters (Llewellyn, 2016).

There are certain conditions needed to support the actions for negligence. They are:

Clients are the most important factor in business. Business is the purpose of satisfying the need of the customers and to earn revenue. Negligence occurs when the needs of the customers are not satisfied. An action against negligence can be taken when the clients of a business are deprived. They can file the plea to the court and take legal actions against the company (Hylton & Lin, 2013).

Another important factor in the business is the creditors. The creditors are the one who helps the business run at the time of crisis. So they are the greatest liabilities of business. It is the responsibility of a business to repay the amount of the creditors. But sometimes a company manipulated the financial statement and refused to pay the money to the creditors. This is a matter of negligence. The company is neglecting the responsibility towards the creditors.

Negligence can also occur with the investors of a company. Investors are the source of finance for a company. A company should have a balanced financial report to attract the investors. Investors consider the proportion of debt and assets in the financial reports before investing in a company. It is the prime responsibility of a company to give the investors sufficient return. But sometimes companies deprive the investors by manipulating the financial reports. That means the investors do not get sufficient return. This act is considered as negligence. In that case, the investors have the right to take legal actions against the companies (Backof, 2015).

The employees of a business help to run the business. In return, the business gives them a salary, remuneration, incentives, etc. But there are instances where the employees do not get the proper amount of salary. This leads to negligence. 

3. HIH Winterthur has incorporated three former partners of Arthur Andersen. The company used to hire the auditing firm Arthur Andersen for its annual auditing as external auditors. The partners who joined the board of directors were, Randolf Wein who replaced Ray Williams when he was imprisoned for 4 and a half years acted as the Chairman of the Board. Justin Gardner, who became a director and Dominic Fedora who became the Financial Director (Naser & Hassan, 2016).

The reason for this appointment was that the company was facing massive losses over the few years, which triggered the need for directors who were accustomed to the financial environment of the enterprise. With the arrest of Ray Williams, the company faced economic challenges, and efficient accounting was paramount importance. The Board Members were former partners of one of the biggest auditing firm in the world. Hence their expertise on financial and legal matters are unparallel (Abbott, Parker & Peters, 2012).

There have been many instances where the external auditing firm has acted in an advisory position. There are many advantages for any company employing auditing firm for consultancy services.

The partners of the company have dexterous knowledge of the company’s financial working, as they worked as external auditors of the enterprise.

The auditing firms act on behalf of a varied number of businesses in different markets. This gives them understanding about the internal and external market environments, and efficient advising can assist the company to maneuver the economic adversities (Arruñada, 2013).

The company can gain cost benefits as the partners of the auditing firm can formulate internal audit report. This helps to save both time and money required for internal audit (Furnham & Gunter, 2015).

The company can exercise further cost reduction as the auditing firm can contribute to gain tax benefits and file Corporate Tax report.

The Auditing Standards of Australia was established by Auditing and Assurance Standards Board under section 227A if the Australian Securities and Investment Commission Act, 2001. In this, circumstances section 290 sub-sections 1 of International Ethics Standards Board of Accountants' (IESBA) Code of Ethics. The code clearly states that external auditors should have an independent and exclusive requirement for auditing and review engagement. These include preparation of financial statement, assurance and auditing engagement. In section 290 subsections 4, it states that for the concern of public interest, the members of the audit teams and firms should be completely autonomous from the audit clients (Herlihy & Corey, 2014).

In this case, the former partners of auditing firms act as the directors. This empowers to embezzle the accounts and alter the financial position of the company to portray an optimistic image about the company in the eyes of the stakeholders (Tweedie et al., 2013).

The primary motive of Ramsay Report and CLERP 9 was to review the current requirements for external auditing and to make appropriate recommendations. The Ramsay report was released in September 2002. The reports state that for judging the independence of an auditor, all necessary circumstances should be considered including the professional or personal relation between an auditor and the clients. It also stated that an auditor is not independent if the client fails to provide all necessary financial data. It clearly states that an auditor must pass a statement to the board of directors saying that the audit report was made independently abiding by the Corporations Act and that all rules were followed concerning professional accounting body (Carey, Monroe & Shailer, 2014).

There have been severe impacts concerning the process of auditing. Ramsay report and CLEREP ensured that no foul play could be done as far as internal or external auditing is concerned. These rules have paved a path for much authentic verification methods keeping in mind, the risk of shareholders (Houghton, Kend & Jubb, 2013).

References:

Abbott, L. J., Parker, S., & Peters, G. F. (2012). Internal audit assistance and external audit timeliness. Auditing: A Journal of Practice & Theory,31(4), 3-20.

Aminbakhsh, S., Gunduz, M., & Sonmez, R. (2013). Safety risk assessment using analytic hierarchy process (AHP) during planning and budgeting of construction projects. Journal of safety research, 46, 99-105.

Arruñada, B. (2013). The economics of audit quality: Private incentives and the regulation of audit and non-audit services. Springer Science & Business Media.

Backof, A. G. (2015). The impact of audit evidence documentation on jurors' negligence verdicts and damage awards. The Accounting Review, 90(6), 2177-2204.

Carey, P. J., Monroe, G. S., & Shailer, G. (2014). Review of Post‐CLERP 9 Australian Auditor Independence Research. Australian Accounting Review,24(4), 370-380.

Furnham, A., & Gunter, B. (2015). Corporate Assessment (Routledge Revivals): Auditing a Company's Personality. Routledge.

Herlihy, B., & Corey, G. (2014). ACA ethical standards casebook. John Wiley & Sons.

Houghton, K. A., Kend, M., & Jubb, C. (2013). The CLERP 9 audit reforms: Benefits and costs through the eyes of regulators, standard setters and audit service suppliers. Abacus, 49(2), 139-160.

Hylton, K. N., & Lin, H. (2013). Negligence, causation, and incentives for care. International Review of Law and Economics, 35, 80-89.

Joos, P., Piotroski, J. D., & Srinivasan, S. (2016). Can analysts assess fundamental risk and valuation uncertainty? An empirical analysis of scenario-based value estimates. Journal of Financial Economics.

Llewellyn, K. N. (2016). The common law tradition: Deciding appeals (Vol. 16). Quid Pro Books.

McNeil, A. J., Frey, R., & Embrechts, P. (2015). Quantitative risk management: Concepts, techniques and tools. Princeton university press.

Naser, K., & Hassan, Y. M. (2016). Factors influencing external audit fees of companies listed on Dubai Financial Market. International Journal of Islamic and Middle Eastern Finance and Management, 9(3).

Sadgrove, K. (2016). The complete guide to business risk management. Routledge.

Tweedie, D., Dyball, M. C., Hazelton, J., & Wright, S. (2013). Teaching global ethical standards: a case and strategy for broadening the accounting ethics curriculum. Journal of business ethics, 115(1), 1-15.

Von Glahn, G., & Taulbee, J. L. (2015). Law among nations: an introduction to public international law. Routledge.

 

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