Governance and Fraud, HIH Insurance in Australia - Assignment Example

Student Name: Tutor: Title: Governance and Fraud Course: PART 1 Three frauds from three different countries Enron in USA Enron was an energy company dealing in gas and electricity. It capitalized on opportunities from the privatization of the resources across the world and USA. It took advantage of opportunities presented through deregulation. Enron used the gullibility of the investing public whom it defrauded systematically. The challenge at Enron was that shareholders expected and had been promised a lot of money from the trading of electricity and gas. When it failed, a scheme was hatched to hide the truth from the investors and public (Loren, 2003). At Enron incentives and bonus in terms of stock options or cash came in plenty, only if someone was good enough and if he was regarded as one of the money makers. Enron became a very competitive place. Every person was quick to close a deal since after he had done this, he would get bonuses despite the outcome of the deal. This was a challenge since there were many deals that were not followed up. No one seemed responsible for any deal, the target was the bonus. Special purpose entities were created to fabricate earnings and hide losses. Blatant fraud was used to create the illusion of real money. The culprits were shielded the legitimacy in the market place. The participants encouraged themselves that things will improve and profits would eventually come (Loren, 2003). The value of the company was held in its share price and they used this to make the share price to remain high at all costs. Market-to-marketing accounting backfired. The share price dropped dismally and eventually Enron collapsed. HIH Insurance in Australia The collapse of HIH is regarded as the largest corporate demise in the history of Australia. The losses were about $5.3 billion (Westfield, 2003). HIH had entered into an arrangement with Hannover Re purporting to be two traditional reinsurance contracts. Contrary to the representation in the annual report, Hannover Re arrangements were financial arrangement contracts. The arrangement was wrongly accounted for resulting in overstatement by $92.4 million of the operating system (Cleary, 2001). Weak internal controls posed the opportunity for fraud in the case of HIH insurance. HIH was to declare the first-half outcome for six months to 31 December 2000. The announcement had been previously been delayed once and rumour had it that HIH’s first-half outcome was a loss of $100 million (Westfield, 2003). The figure exploded to $200 million and then later to $300 million. The result was never declared. McGrath estimated the loss at $800 million when he was appointed provisional liquidator. HIH insurance failures was attributed to rapid expansions, reserve problems, unsupervised delegation of authority, false reports, incompetence, fraud, reckless management, underpricing, greed and selfish dealing. Over-priced corporate acquisitions and corporate extravagance were business factors leading to the company’s failure (Cleary, 2001). The company did not observe minimum solvency requirements put in place by prudential regulator. Formal liquidation of HIH insurance happened on 27th August 2001. Olympus in Japan The executive management at Olympus Corporation concealed losses amounting to about $1.5 billion over a period of twenty years three 3 company presidents. They used complex schemes to circumnavigate accounting standards’ changes (Gapper, 2011). The managers reported inaccurate securities for 5 years and they did not provide fundamental information to the board of directors. The Olympus scandal commenced with typical challenges encountered by Japanese manufacturers in the mid-1980s. Olympus like the other manufacturers sought to counter a strengthening yen and maintain profits using aggressive financial management of assets (Pretorius, 2014). This financial practices proved to be unsuccessful and losses following the collapse of economic bubble in Japan in the early 1990s. Many companies delayed recognition of losses in that bad assets were shuffled in entities without disclosing losses. Olympus devised and implemented a complex scheme using the assistance of outside financial advisers to eliminate bad assets from the balance sheet. New entities were set up and the bad assets sold to the entities at inflated prices to conceal losses incurred. Money was provided to the entities to buy the bad assets. Olympus devised different schemes with changes in accounting standards to continue with the concealment of losses scandal. The employment of Michael Woodford, a 30-year old as president in 2011 was mistake to the company scheme. Embarrassing articles appearing in the media concerning Olympus huge losses led to Woodford the services of Price Waterhouse Coopers auditing firm to examine Gyrus acquisition in England (Gapper, 2011). Woodford wad fired but the story got to the mainstream media in Japan about the scheme of hiding losses at the company. The executive management admitted to the scheme and subsequently resigned in November 2011. The stock value of Olympus Corporation dropped by 80% and huge losses were exposed (Pretorius, 2014). Causes of the frauds using fraud triangle One of the basic and old concepts in fraud detection and deterrence is the fraud triangle. The concept was coined by Donald Cressey, a criminologist, to explain the reason why people commit crime in the course of his doctoral thesis. The three aspects in the fraud triangle comprise of opportunity, motivation/pressure/incentive and rationalization/attitude (Vona, 2012). Motivation is the pressure or need that encourages or urges on the person who engages in fraud. It can be a financial need like debts or medical bills or a perceived need like the desire for material gain but absence of means of getting it. Motivation can also be not financial. There can be mounting pressure for good results or a desire to cover up for poor performance. Drugs and gambling can also encourage someone to engage in crime. Opportunity to commit fraud is presented if employees can access assets and crucial information that permits them to engage in fraud and conceal. Control of functional areas also gives workers the opportunity to commit fraud. Poor management oversight and weak controls also create opportunity for fraud. Rationalization entails an individual reconciling his or her behavior after engaging in crime with widely accepted concepts of decency and trust (Vona, 2012). People will look for excuses for their behavior. Enron opportunity for fraud was presented by the investing gullible public and the loophole in the accounting and market system. The market-to-market accounting was applied to conceal the real performance of the company. Complex financial statements used by Enron were confusing to analysts and shareholders and hence difficult to detect fraud. Pressure or motivation for fraud was to conceal underperformance of the company. Debts were concealed and profits manipulated to lie to investors and other stakeholders. The management rationalization was that the company performance would eventually improve and covered by the share prices. HIH insurance opportunity for fraud was presented by weak accounting controls in Australia accounting system. Aggressive accounting practices contributed to the collapse of the company. The pressure or motivation to commit fraud was the greed or urge by managers to expand rapidly though over-prices acquisitions and takeovers. The managers wanted to engage rapidly and that was made to engage in shady deals. The rationalization by the managers was that the ill growth strategy was for the good of the company expansion. Weakness in the accounting standards presented the opportunity of Olympus’ management to hatch the schemes of concealing losses and go unnoticed. There was pressure to maintain positive growth through profits despite the strengthening of the yen was the motivation for Olympus scandal. Olympus top management rationalization was that they would not be found out since they used complex accounting schemes. Comparing and contrasting social and cultural factors in each international jurisdiction In Japan board directors are actively involved in the running corporation. In America the board of directors specializes in supervision and monitoring of management. The quick social culture of Americans to close deals may have prompted the massive investment into Enron Corporation with the hope of reaping huge profits. The competitive nature of business in America put pressure on Enron management to conceal underperformance. The quest for success in life for many Australians might have prompted the aggressive expansions that led to the fall of HIH insurance. Failure is not an option and management engaged in expensive acquisitions and takeovers that would later cost the company. The company took advantage of Australians seeking insurance cover. Japanese are meticulous and failure is not an option to them and that is why concealment of losses by Olympus occurred. PART 2 Ethical Issues in the Case The objective of the professional accountant is to work with the highest standards of professionalism to meet the public interest requirement and attain highest levels of performance. The principles of professional conduct include the public interest, integrity, independence, objectivity, technical and professional standards, confidentiality, ethical behavior, and competence and due care. There are serious ethical issues in this case that need to be discussed. Integrity is at stake since CMI is involved in questionable business practices. There are many accusations that have been carried out in the media concerning the ethical behavior of the company. The company cannot operate independently since it has to pay paramilitary for protection. This is bribing and it is against professional and technical conduct of principles of professional conduct. Close to $1.7 million has been given out in what is termed as security services by the company. There is no invoice given that can support these payments. The competence and due care are compromised through these illegal payments. The payments being made are illegal and the paramilitary has been blacklisted as a terrorist organization. There is no objectivity in dealing with such a group. Alex is uncomfortable about joining the board of an organization with such shady dealings. What Alex should do The AAA decision model has seven steps that one has to follow when making a decision. These seven steps can be used by Alex when considering what to do (Wilson, 2014). 1. Facts of the case The fact of the case are that Alex has been appointed to the Board of Consolidated Mines International (CMI) but there are two issues that are of concern to him and wants to raise with the CEO of CMI. The business is engaged in shady business practices and political stability in the country of operation. CMI pays protection fee to paramilitary that are in control of the countryside. The paramilitary are paid off in order for CMI continue its operations. The company has spent $1.7million paying off the paramilitary from 1997 to 2014. Alex turns this extortion and the company is engaged in blatant bribery. The payment do not have involves to support them and referred to as security services. The legal counsel has advices against continuing with the payments since the United People Liberation Front has been libeled as a terrorist organization by the US Government. 2. Ethical issues in the case The ethical issue is whether or not Alex should accept his appointment to CMI board after learning everything that the company is involved in. if he accepts to join the board he will be expected to support the illegal payment being made to entity that has been labeled a terrorist organization by the United States. 3. Norms, principles and values related to the case The board of directors has to have an oversight role on the management and approve what is legally right and conforms to the principles of professional conduct. High integrity has to be observed in the approval of deals or issues by the board of directors. The company has to be involved in business practices that are legitimate for the public interest to be upheld. 4. Alternative courses of action Option one is to accept the position in the board of directors and be part approving organ of the illegal bribery syndicate. Option 2 is to refuse to accept the position and report the illegal practices to relevant authorities. 5. Best course of action that is consistent with the norms, values and principles The course of action which is consistent with values, norms and principles in step 3 is to reject the position and report the illegal practices. The company will be investigated and brought before justice. 6. The consequence of each course of action If Alex chooses Option one, he accept the position in CMI board and be part of the members of the board approving this bribery syndicate that goes on for a long time. If the scandal is later uncovered then Alex will be part of the members of the board facing imminent prosecution. The company will continue operation in these countries. Under Option 2, Alex would reject the appointment to CMI board and report the illegal practices. He will miss the opportunity of being on the board of such a big company and the company risks closing its operations in these countries where illegal payment is demanded. Despite workers losing jobs after the company closure, the integrity of board members will be upheld. 7. The decision The ethical decision is Option 2. Alex has to refuse the appointment and report the illegal practices to the relevant authorities (Wilson, 2014). References Cleary, P 2001, APRA’s Shortcomings Spelt Out, Australian Financial Review, (9–10), p. 6. Gapper, J., 9 November 2011, Olympus's deceit was dishonourable, Financial Times. Loren, F 2003, Enron: The Rise and Fall, Hoboken, Wiley, New Jersey. Pretorius, D 2014, Beyond Play: A down-to-earth approach to governance, risk and compliance, Xlibris Corporation, London. Vona, LW 2012, Fraud Risk Assessment: Building a Fraud Audit Program, John Wiley & Sons, London. Westfield, M 2003, HIH: The Inside Story of Australia's Biggest Corporate Collapse, John Wiley & Sons Australia, Melbourne. Wilson, R.M.S., 2014, The Routledge Companion to Accounting Education, Routledge, New York. Read More