Posted: July 26th, 2015

CORPORATE GOVERNANCE AND SOCIAL RESPONSIBILITY

CORPORATE GOVERNANCE AND SOCIAL RESPONSIBILITY

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Case Study 13.3 in chapter 13 of Tricker (p. 354) presents a cameo of Australia’s largest and most infamous corporate collapse, HIH Insurance.
Following the failure of the HIH group, the Australian Government established the HIH Royal Commission to inquire into the causes of the failure. The following is taken from the introduction to the Royal Commission’s website. Visit the HIH Royal Commission website, which provides all the factual information you require to undertake the assessment:
http://www.hih.com.au/Group-HIHRoyalCommision.html “The HIH Royal Commission completed its enquiries and its report was made public in April 2003. In addition to the final report, the HIH Royal Commission made extensive information available to the public via its website which can be accessed at www.hihroyalcom.gov.au. The following documents are taken from the Explanatory Statement and the HIH Royal Commission website: “The HIH Royal Commission – The failure of HIH Insurance. Commonwealth of Australia 2003. Copyright Commonwealth of Australia reproduced by permission.” Corporate chart – this is an abbreviated chart identifying the ownership structure of some of the significant companies in the HIH Group, with the eight insurance companies licensed or formerly licensed in Australia identified on the chart. Chronology of key events – this is the HIH Royal Commission’s summary of key events in the history of the HIH Group between its commencement in 1968 and its failure in 2001. Historical introductions – these brief summaries are the historical introductions published by the HIH Royal Commission for the eight licenced insurers in the HIH Group now subject to Schemes of Arrangement. The Royal Commission website contains a great deal more information in relation to each of the companies, including details of any name changes in prior years, details of directors and office holders, and the last published financial information for each company prior to the failure.”
The Royal Commission reported that:
? The inquiry did not find fraud or embezzlement to be behind the collapse. The failure was more the result of attempts to paper over the cracks caused by over-priced acquisitions and too much corporate extravagance based on a misconception that the ‘money’ was there in the business. The primary reason for the failure was that adequate provision had not been made for insurance claims. Past claims on policies had not been properly priced. HIH was mismanaged in the area of its core business activity. The ultimate shortfall is likely to be in the billions of dollars.
? The acquisition of FAI Insurance Ltd in Australia, combined with re-entry into the US market and the expansion of the UK operations, were poor commercial decisions. All were afflicted with under-reserving. The Royal Commission noted that a culture appeared to have developed within HIH not to question leadership decisions.
? HIH had a corporate governance model but the Royal Commission found that HIH had failed to review the model to assess its suitability for changing circumstances in the insurance industry. Under the HIH model, the internal audit committee focused almost exclusively on
the accounts rather than taking on an additional function of overall risk identification and
assessment. Also, the Royal Commission noted that the audit committee within HIH should
have met more often with directors with management absent.
? HIH had three authorised insurance arms, including FAI. The Royal Commission found that
prior to its provisional liquidation in March 2001 all three companies had operated below the
minimum solvency requirements stipulated by the regulator and the Insurance Act 1973. The
prudential regulator is the Australian Prudential Regulatory Authority (APRA).
? Overall, the Royal Commission referred 56 possible breaches of the Corporations Law and
the NSW Crimes Act 1900 to the Australian Securities and Investments Commission (ASIC)
and to the NSW Director of Public Prosecutions for consideration.
? Although the Royal Commission found that APRA did not cause or contribute to HIH’s
collapse, APRA did not recognise the seriousness of the situation or question the reliability
of the information it was receiving from HIH until too late.
? A significant recommendation of the Royal Commission was an overhaul of APRA, including
the replacement of its non-executive board with an executive group.
1. What was the HIH board doing while this saga was going on? What should they have done?
2. Whose fault was it that FAI had been acquired, without a due diligence study and with ‘gaping
holes in its finances’? Provide reasons for your answer.