Corporate Auditing and Assurance Services

Discuss about the Corporate Auditing and Assurance Services.

Introduction

In wake of the high profile liquidation that have been witnessed in the recent times, the aim of this research is to analyse certain real cases of liquidation in order to better understand the circumstances that actually led to the liquidation of the firm. In this regard, particular relevance would be given to seek answer with regards to the role of liabilities in bringing about the underlying company liquidation based on the information available in public domain.  The various liquidation cases that have been discussed as part of the given research endeavour are ABC Learning, HIH Insurance and One Tel Company.

Analysis of Cases

A basic introduction on the various companies and the circumstances related to their downfall are summarised below.

ABC Learning

The company with a humble establishment in 1988 but in the 2000’s witnessed rapid growth and the number of centres grew explosively with presence in three main geographies namely Australia, United Kingdom and USA. This ambitious expansion plan of the company fuelled through acquisitions is widely seen as the major contributor to the failure of company. Besides, there were issues with regards with recording of assets. Further, the fact that auditors had opinion difference complicated the matters. In 2007, the liquidity crunch in firm came completely in the public domain and shortly after the company had to be wound up (CPA, 2012).

HIH Insurance

With a humble beginning in 1968, the company emerged as a reliable insurer and had assets to the tune of $ 8.1 billion in FY2000 before the company would up in 2001. Based on preliminary investigation, it seems that the prime reason that led to liquidation was the presence of looming insurance liabilities. However, detailed analysis in the working of the company indicated glaring issues related to mismanagement of business risks, ill-timed acquisitions and reckless internal functioning of the firm. Besides, there was also evidence of quid pro quo relationship existing between the management and the external auditor, which ensured that the business was run in a shoddy manner and the accounts were not accurately stated (Mak, Deo & Cooper, 2005).

The company at the time of the collapse was one of the largest companies in the sector but had to be liquidated due to the combination of incorrect policies regarding pricing, mistakes in corporate strategy along with uncontrolled growth. There were also glaring gaps in the corporate governance practices that were in place at the company with serious issues in the internal control mechanism coupled with issues related to audit and reporting. The policies with regards to accounting fell short of expectations which impaired transparency in books of account (Monem, 2009).

Real causes of failure of ABC

ABC witnessed a rapid growth post its listing as a result of which the share price surged by almost 300% within a period of five years from its debut on the ASX. However, the business environment gradually underwent change and became challenging instead of being supportive.  However, this cannot wash away the glaring compromise with regard to quality caused as a result of staff shortage resulting in high complaints volume. The focus of the management was not on revising the processes and ensuring that internal irregularities were resolved but on acquisitions so as achieve scale and higher penetration in the market (Arens et. al., 2013).  However, without quality services, all expansion proved to be futile especially in the wake of the onset of global economic crisis which adversely impacted the businesses and the outstanding liabilities of the company become looming in the public domain (Kaplan, 2011). Further, there were various malpractices that came to light and further eroded the brand. The basic principles of corporate governance were flouted with inflated maintenance tenders being extended to Mr.Grooves on account of his brother in law being a director with the company. Further, other favours were also doled out to Mr.Grooves in terms of sponsorship and thus weak corporate governance norms proved to be a setback for the company and adversely impacted investor confidence (CPA, 2012).

Real causes of failure of HIH Insurance

The company initially was slow to grow but in the last decade of the 20^th century witnessed rapid expansion through the acquisition route resulting in the company having subsidiaries in excess of 200 and product span covering the entire range of possible insurance products that could have offered at that time. However, this exceptionally aggressive business strategy was not well managed internally and ended up putting the company into financial difficulties (Mak, Deo & Cooper, 2005). Considering the nature of insurance business and the underlying dynamics, it is imperative for a new entrant to be prudent in its approach (Gay & Simnett, 2012). In order to gain access to the lucrative insurance markets in the US, the products were intentionally priced at low premiums but these compounded the losses to the company which was also reeling in other geographies. The entry into the UK market was without complete understanding of the underlying business risks due to which the company had to face legal issues. The financial foes of the company were severely compounded due to acquisition of FAI for a payment in excess of $ 100 million (Mirshekary, Yaftian & Cross, 2005). Further, the various provisioning norms that the insurer should observe in order to manage the underwriting risk especially derived from contingent events, were not followed by the company which made it extremely vulnerable. As per Lapsley (2012), the company has been warned by the actuary advisors with regards to non-adherence to provisions norms and the adverse impact it could have on the fortunes of the company. However, HIH continued with its business model based on reinsurance and eventually collapsed. The glaring gaps in the management of the company were present since long but were prevented from entering public domain through quip pro quo relation with the external auditor (Mak, Deo & Cooper, 2005).

Real causes of failure of OneTel

In case of OneTel, the primary issue leading to the liquidation of the company was with regards to the shabby financial reporting practices being adopted. Key information that was represented in the financial reports was not verified appropriately by the executives who given the responsibility with regards to the same. Even the director of finance did not pay notice to the internal financial reporting tools and basic accounts and ledgers that were used to record the various entries and transactions.  Hence, there is no doubt in concluding that the internal control and reporting policies and procedures were clearly inadequate as the senior management did not pay requisite attention on ensuring accuracy of the same (Gilbert, Joseph & Terry, 2005).

Further, the company frequently indulged in accounting jugglers which was facilitated through the frequent changes in accounting policies which were not justified but aimed to serve the ulterior motives of the company. Before the year 2000, the company adopted a non-conservative accounting policy which resulted in healthy profits being reported and then the company shifted policy to being very conservative in accrual accounting policy and also accounted for write off in the value of certain units and the company ended up making a loss.  Despite these glaring deficiencies, the auditors continued issuing unqualified opinion which indicates that there were issues in audit also which suffered either from quality or had compromised auditor independence. As is apparent from the financial statements of FY1999, the company had a host of undisclosed expenditures and losses and therefore the financial statements were not a true reflection of the company’s position. The company embarked on aggressive pricing with the intention of acquiring customers but due to high competition, this did not result in acquisition of customers while the company kept on reeling under such losses (Monem, 2009).

Common Observation of Mismanagement

For all the cases that have been discussed, there is one aspect that is common which is mismanagement on the part of the senior management which failed to take rectifying measures in the nick of time which eventually led to the liquidation of these companies.

In case of ABC, it is apparent that the focus of the management was expansion of operations across various geographies without taking into consideration the quality issues and the staff shortages that the existing centres were facing. In wake of the growing complaints, it would have been more advisable if the company would have instead focused on providing quality services to the clients and thereby consolidated the growth which would have enhanced the resilience of the business to survive the financial crisis (Bhagat & Bolton, 2008).

In case of HIH also, there was a period of rapid expansion post the 1990’s where it seemed that the company was focused on expansion both in terms of geography and also with regards to product portfolio through the route of business acquisitions which were not thought through. However, the internal management policies and the risk management framework being adhered at the company remained faulty which eventually led to the company’s downfall (Mirshekary,  Yaftian & Cross, 2005).

In case of OneTel, as already discussed the accounting policies were exceptionally fluid which resulted in faulty reporting. The management intentionally with the aim of creating a positive image in the mind of the investors selectively focused the attention on selective parameters while concealing the true adverse condition of the company. The continued leeway for the management to misrepresent the financial statements was facilitated through the involvement of auditor and thus led to the continuation of faulty practices and imprudent business decisions which eventually led to the liquidation of the company (Brown & Caylor, 2009).

Recommendation

Based on the above discussion, it is imperative that there is more scope for regulations particularly with regards to corporate governance and role of non-executive directors in ensuring that the interest of the shareholders is safeguarded (Gay & Simnett, 2012).  Besides, the role of the auditors in the liquidation of the companies cannot be denied and hence it is imperative that auditor liabilities be enhanced in case of liquidation as typically these cases do involve unfair play of auditors which prolongs the malpractices by the management resulting in liquidation. Ramsay Report and CLERP 9 reforms are clearly welcomed in this regard (Clout Chappelle & Gandhi, 2009). Additionally, the duties and responsibilities of the directors as spelled out in the Corporations Act 2001 is a step in the right direction so as to ensure that the agency costs are minimised and incidence of liquidation is minimised (Arens et. al., 2013).

Conclusion

Based on the above discussion, it may be concluded that liabilities is not the major cause of liquidation. All the cases that have been discussed during the above research indicate at glaring gaps in management along with the existence of malpractices resulting in financial irregularities. Also, the short sightedness of the management was also responsible as growth was favoured without focusing on internal management and the actual issues faced by the business.  The collusion of the auditor and the senior management proved to be the prime reason which resulted in continued mismanagement of the business which eventually had to lead to liquidation.  In all the various cases, if the management was ethical and proactive, the companies could have avoided liquidation by ensuring that their issues were fixed in time.

References

Arens, A., Best, P., Shailer, G. & Fiedler,I. 2013. Auditing, Assurance Services and Ethics in Australia, 2^nd eds., Pearson Australia, Sydney

Clout, V, Chappelle, E & Gandhi, N 2013, ‘The impact of auditor independence regulations on established and emerging firms’, Accounting Research Journal Vol. 26, No. 2, pp. 88-108

Gay, G. & Simnett, R. 2012, Auditing and Assurance Services in Australia, 5^th eds., McGraw-Hill Education, Sydney

Bhagat, S & Bolton, B 2008, ‘Corporate Governance and Firm Performance’, Journal of Corporate Finance, Vol.14, No.3, pp. 257-273.

Brown, L & Caylor, M 2009, ‘Corporate Governance and Firm Operating Performance’, Review of Quantitative Finance and Accounting, Vol. 32, No. 2, pp. 129-144.

CPA 2012.  ABC learning collapse case study., CPA Website, Available online from https://www.cpaaustralia.com.au/professional-resources/education/abc-learning-collapse-case-study  (Accessed on September 12, 2016).

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

Kaplan, RS, 2011. ‘Accounting scholarship that advances professional knowledge and practice’. The Accounting Review, Vol. 86, No.2,  pp. 367–383.

Lapsley, I, 2012. ‘Commentary: Financial Accountability & Management’. Qualitative Research in Accounting & Management, Vol. 9, No.3, pp. 291-292..

Mirshekary, S, Yaftian, A & Cross, D 2005, ‘Australian Corporate Collapse: The Case of HIH Insurance’, Journal of Financial Services Marketing, Vol. 9, No.3, pp. 249-58.

Mak, T, Deo, H & Cooper, K 2005, ‘Australia’s Major Corporate Collapse: Health International Holdings (HIH) Insurance ‘May the Force Be with You’, Journal of American Academy of Business, Vol. 6, No.2, pp. 104-112.

Monem, R 2009, The Life and Death of OneTel, Griffith University, Available online from http://www98.griffith.edu.au/dspace/bitstream/handle/10072/42673/74746_1.pdf (Accessed on September 12, 2016).

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