HIH insurance was formed as a small insurance company in 1968. Its main business was to underwrite workers compensation insurance in Australia. The company expanded its operations into property, commercial and professional liability from the mid 1980s. During this period, it also moved into the UK and the US insurance markets. In the US, the focus was on workers compensation insurance. Public liability and professional indemnity insurance were its main specialisations in the UK. Corporate governance
The HIH Royal Commission Report attributed the failure of the company to two key factors. First, claims arising from insured events in previous years were much greater than the company had provided for in its accounts, thus leading to an overstatement of reported profits. This is known as ‘under-reserving’ or ‘under-provisioning’. The second factor concerns the further mismanagement of HIH through poorly conceived and badly executed acquisitions. The insurance risks were not properly identified and managed. There was an environment where unpleasant information was hidden from the Board or filtered or sanitised to reduce discomfort or undue questioning from the Board. And there was a lack of sceptical questioning and analysis by senior management, by the board and, arguably, by the auditors Accounting issues:
Provisions for expected future claims
Evidence presented before the HIH Royal Commission indicates that the prudential margin approach is common industry practice due to the inherent uncertainties in predicting claims. Yet HIH almost always employed the central estimate and did not apply a prudential margin. The consequence was not only to take an overly optimistic view of claims provisions but to continually overstate reported earnings. Accordingly, if one assumes a lower amount of claims is likely to be made on outstanding policies this will generally make profits...