International Journal of Accounting & Information Management

International insurance audits and governance

Gin Chong,
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Gin Chong, (2015) "International insurance audits and governance", International Journal of
Accounting & Information Management, Vol. 23 Issue: 2, pp.152-168, https://doi.org/10.1108/
IJAIM-04-2014-0027
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IJAIM
23,2
152
Received 19 April 2014
Revised 15 May 2014
Accepted 15 May 2014
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International Journal of
Accounting & Information
Management
Vol. 23 No. 2, 2015
pp. 152-168
© Emerald Group Publishing Limited
1834-7649
DOI 10.1108/IJAIM-04-2014-0027
The current issue and full text archive of this journal is available on Emerald Insight at:
www.emeraldinsight.com/1834-7649.htm
International insurance audits
and governance
Gin Chong
College of Business, Prairie View A&M University, Prairie View,
Texas, USA
Abstract
Purpose – This paper aims to assess 12 audit procedures that deemed challenging to insurance audits.
Design/methodology/approach – This paper uses grounded theory as a framework for conducting
series of semi-structured interviews with six technical audit partners, two from Big Four and four from
non-Big Four. The interview agendas are drawn from the 12 audit approaches suggested by Practice
Notes 20 (The Audit of Insurance in the United Kingdom) issued by the Auditing Practices Board (UK).
Findings – Without an audit standard, practitioners will exercise excessive professional judgments
and deviate from audit approaches.
Research limitations/implications – Though the findings are solely drawn from the insurance
sector rather than a wide spectrum of sectors, they have huge ramifications to accounting and audit
professions, stakeholders and regulators.
Practical implications – This paper reveals differences in audit approaches between the theoretical
context and practical perspective.
Social implications – The paper showed that impact of audit failure leads to litigation, financial
losses and loss of faith in audit quality and approaches.
Originality/value – This paper suggests a hybrid approach on the grounded theory, provides an
extensive overview of the sector’s audit approaches and issues and unravels an urgent need for a
concerted international auditing standard.
Keywords Grounded theory, Audit practice notes, Audit standards, Insurance, Audit
Paper type Research paper
1. Introduction
The insurance sector plays an important role in a country’s economy, social supports
and gross domestic product (GDP). However, the International Federation of
Accounting Confederation (IFAC) has yet to issue a standard to guide auditors in the
sector. Lack of a concerted audit standard is due to complexity of the sector’s accounting
and recording processes[1]. This paper fills the gap with feedbacks from six separate
semi-structured interviews with technical partners of two of the Big Four firms and four
non-Big Four audit firms in the People’s Republic of China. I select China due to its
economic advancements, eagerness to adopt the international auditing practices and
accessibility of data. I use semi-structured interviews to allow interviewees freely
express their views and suggestions, while not confine to a particular client, situation or
event, issue or work environment or questions that were raised in an survey instrument.
Freedom in expressions helps reveal issues that may otherwise not be apparent in the
literature and expectations. All the interviews were conducted in a conducive
environment and the results are reported on a collective, rather than on an individual
and identifiable, basis. I initiate the process by calling each interviewee by telephone and
 by making arrangements to meet them at a venue and on a date of mutual convenience. International
Grounded theory allows one-on-one dialogues and observes interviewees’ body insurance
language. The whole process is to ensure that both the interviewer and interviewees are
comfortable with the meeting atmosphere. I give a written assurance that I will not
audits and
reveal any confidential details in this paper. governance
Though informal, I forward a list of 12 auditing issues drawn from Practice Note 20
(PN) two weeks prior to the interviews and remind them of the date and venue two days 153
prior to the meeting. These 12 issues are approaches on engagements, documentations,
fraud, legal requirements, planning of the audits, risk and materiality, external
confirmations, analytical review procedures, accounting estimates, related parties
transactions and subsequent events. In the letter, I emphasize that the list is meant to be
a guide and by no means a comprehensive list of issues. Practice Note 20 (PN) (2007)[2],
The Audit of Insurers in the United Kingdom (Auditing Practices Board) is the only
guide for auditors in the insurance sector.
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Upon completion of each interview, I summarize key discussion points and confirm
with the interviewee to ensure no major omissions, misunderstandings and errors. I
transcribe the interviewing notes and send them to the interviewees for reviews and
changes. Findings from these interviews have greatly helped in understanding the audit
approaches and internal controls systems of the sector, and have revealed ramifications
to stakeholders, in particular stockholders, regulators and audit profession.

2. The international markets

Market Research (2008) reports that China is the fastest-growing nation for the past
quarter of a century with an average annual GDP growth rate above 10 per cent. Though
the Chinese economy is the fourth largest in the world after the USA, Japan and
Germany, with a nominal GDP of US$3.42 trillion (23.26 trillion Yuan) in 2007, China
remains the world’s largest untapped insurance market. Driven by a variety of
demographic, economic and regulatory factors, and political stability, this growth will
continue at a solid pace for a foreseeable near future. By late 2004, China has fully
complied with World Trade Organization insurance-related accession provisions by
giving foreign firms greater market access. Though domestic providers are still
dominating the market, foreign insurers are gradually niching into the market share.
Challenges remain. These include a lack of local management talents, existence of
unsophisticated consumers, a poor distribution channel and a flexible and
non-transparent regulatory approval process. The insurance sector remains vibrant in
China due to its aging population, high savings rate, poor social security systems and
increasing number of wealthy consumers with high purchasing power. Comparing this
with its regional peers, the Chinese market remains substantially smaller than Japan
and marginally smaller than South Korea. The 2008 Market Research Report reveals
that China remains the fastest-growing market in both absolute and relative terms, with
an annual increment in premium revenues by US$61.17 billion or equivalent to
approximately 169.63 per cent between 2002 and 2007.
In 1996, total insurance premium, that is life insurance and non-life insurance
combined, was US$12.84 billion (87.31 billion Yuan) and in 2007, it has increased to
US$97.23 billion (661.16 billion Yuan). Between 1996 and 2007, the Chinese insurance
sector experienced a compound annual growth rate of approximately 20.21 per cent.
Between 1996 and 2000, life segment has an increase of US$13.11 billion (89.15 billion
 IJAIM Yuan) from US$7.14 billion (48.55 billion Yuan) to US$18.56 billion (126.21 billion Yuan)
23,2 and between 2002 and 2007, an increase of US$37.47 billion (254.80 billion Yuan) from
US$24.26 billion (164.97 billion Yuan) in 2002 to US$61.73 billion (419.76 billion Yuan).
Market Research (2008) forecasts that life insurance premiums in 2011 will be US$108.12
billion (735.22 billion Yuan). In non-life segment, between 1996 and 2007, a growth of
US$29.80 billion (202.64 billion Yuan) was seen from US$5.70 billion (38.76 billion Yuan)
154 in 1996 and US$35.50 billion (241.40 billion Yuan) in 2007. It is expected that non-life
premiums in 2011 will be US$64.37 billion (437.72 billion Yuan). With this level of
potentials, audit profession needs to ensure that it is ready to face the enormous
demands and expectations of the stakeholders. In the next section, I use the grounded
theory to assess interactions and gaps between theories and practices.

3. The grounded theory

Theoretical frameworks help develop hypotheses and support directions of discussions
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(Chong, 2008). Grounded Theory is a research method that seeks to generate theory from
data that are systematically obtained and analyzed (Glaser and Strauss, 1967). There are
two distinct approaches on translating a theory in practice (Heath and Cowley, 2003).
Though both approaches intend to capture the data, the sequence of and purpose of
capturing the data differ. In the first approach, also called Strauss’ approach,
researchers are aware of and use prior procedures, theories and literature, use a densely
codified set of procedures or theories, to capture data (Goulding, 1998). In other words,
researchers use a densely codified set of procedures or theories as the starting point to
capture data.
In the second approach, also known as Glaser’s approach, researchers do not refer to
the existing theories, prior procedures or literature as the bases for capturing the data.
Instead, they use the captured data to assess validity of the existing theories or, if
needed, to establish a new theory or framework (Stern, 1994). Put together, in the first
approach, researchers recognize the roles of prior theory, and capture data based on past
results, experiences, experiments or theories, whereas in the second approach,
researchers enter the field with a blank slate on the ground that prior results,
experiments or theories may or may not exist. Though different in approaches, Gurd
(2008) concludes that most researchers favored the Strauss’ approach, that is based on
the past theories and literature to capture data. Grounded theory starts with a
systematic process for data collection and analysis, that is starting with data and
progressively transforming them into refined theoretical concepts through three main
processes of coding: open, axial and selective (Strauss and Corbin, 1998).
Rather than based solely on theories to capture data (Strauss’ approach), or use data
to frame or reframe theories (or Glazier’s approach), researchers should consider a third
approach or a hybrid approach. In this approach, researchers will first review prior
theories and procedures for background knowledge, and then proceed with data
collections. While collecting the data, researchers need to update and modify the data
mining process, review and even update the theoretical framework. This approach
expands flexibilities on assessing both the theoretical framework and data collection
process simultaneously.
In practice, data collection and analysis are interlinked. Data are first collected
and analyzed, and the findings may lead to further data collections and analysis
until the research is completed and a theoretical understanding is reached.
 Glaser and Strauss (1967, p. 71) explain the continuing loop of procedures aiming at International
discovering or firming up the theoretical frameworks. To do so, this requires an insurance
on-going process of data collection, coding and analysis. These three tedious
procedures will continue until researchers are comfortable with the findings that
audits and
could hold support or reject an existing theory or, in some cases, enrich the existing governance
theories or develop a new theory (Chong and Opara, 2009). For social interactions,
theory is grounded in data obtained from interviews and observations, rather than 155
by testing the existing theory or simply describing the empirical phenomena.
Grounded theory will yield two key advantages. First, it allows interviewees to be in
their normal everyday world, it recognizes that they subjectively construct their own
organizational realities with an objective of developing rich descriptions and insights
and the daily practices have been observed in their naturally occurring context (Parker,
2001; Chong, 2008). In short, an interview allows the interviewing process to take place
in a relaxed and familiar environment, and to provide space and opportunities for
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interactions, clarifications and discourses. In many cases, interviewees prefer the

process to take place outside their office environment and office hours. For some, they
prefer to have them in their own office or designated venue to keep track with the work
pace, access to documents or evidence to support the discussions, and not to be seen by
anyone speaking to an outsider during their breaks. Interestingly for this study, all
interviewees prefer to be interviewed in their offices in view of they feel comfortable
with and are “seen meeting a visitor and working” (Interviewee C).
Second, by grounding theory in the data, researchers bridge the gap between the
theoretically uninformed empirical research and the empirically uninformed theory
(Goulding, 2002). This interactive process generates a greater creativity and a stronger
commitment toward theoretical development based on everyday practices. Many
research works use grounded theory to legitimize their findings (Gurd, 2008). In fact, the
aim of interpreting findings is to explore individual and collective experiences and to
develop them into a holistic understanding of people’s actions, thoughts, behavior and
interactions in the field (Chong, 2008). Reconstructions of everyday experiences and
actions help enrich the theoretical developments and the socially patterned temporal
practices (Meyer, 2006) through understanding, explanations and describing a social
reality that is emergent, subjectively created and objectified through human
interactions (Chua, 1986). In many cases, human behavior and actions may not
necessarily translate into theories due to changes in circumstances, or internal and
external forces; however, globalization may impact on firms to seek for, build and
extend the existing knowledge beyond the traditional settings, and to provide insights
and even hind sights into different contexts, cultures, norms and backgrounds. In a
constantly evolving environment, it is essential for maintaining a continuous dialogue
between theorists and practitioners to frame and even to reframe the theories into
workable models.
A theory frames the conceptual context of a particular issue or topic (Akisik and Gal,
2011). Gathering concepts and putting them in a framework could cause conflicts with
practices in the real world. A framework enhances our understandings, helps formulate
and guides our approaches on research and practices and thus needs to revolve over
time and space due to issues that may affect the decision processes, and through results
of data capturing, on-going issues and voices in the literature, guidelines and practices
(Chong, 2008). Grounded theory is an inductive approach that contains elements of
 IJAIM helping practitioners and learners including students and new faculty members to
23,2 understand and appreciate the daily routine practices. Goulding (1998) feels strongly
that a theory may not deem appropriate for an interpretive research, as it uses coding
and verification procedures that are based on a functionalist perspective and may seem
risky and overly functionalist. Rather than making attempts to approach a finding
based solely on a theoretical perspective or from a data collection context, the hybrid
156 approach of continuing the interactions between theories and data capturing processes.
In the next section, I use the interviewing process to illustrate the hybrid approach. For
this study, the interviewing process is based on a collection of data from six separate
interviews; two engagement partners from the Big Four and four from the non-Big
Four[3]. Though they are from different firms and background, I find no differences in
the findings between these two groups of interviewees. To disguise their identities, I
assign the alphabets A to F for reporting purposes.
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4. Audit issues and findings

The following sections discuss each of Practices Note’s (PN’s) 12 audit issues, and
evaluate their recommendations. The intention is to assess how each interviewee
responds to these 12 issues and how these issues could be resolved without
compromising audit quality and professionalism. Ensuring the interviewees operate
within their comfort zones, all the interviewees prefer to conduct the interviews in their
workplace. None of the interviewees allows for tape or video recordings, but permits
short hand-written notes. Immediately after each interview, I share the notes with the
interviewees for ensuring accuracy and completeness. Average length of the typed notes
is 1.25 pages, using font 12 with a single-lined spacing. Though I have sent the
suggested list for discussions prior to each interview, the average interviewing time was
1.25 hours[4].

4.1 Audit engagement

Though the PN requires an engagement partner to mail engagement letters that spell
out the scope and duties of management and auditors (para 43 and 44), it does not specify
the formats nor shows a sample content of the letter. Interviewees A, B and F suggest
that to avoid misunderstanding and disputes, PN should set an unambiguous format
and a clear guidance on the scopes and range of duties for the sector’s management and
auditors. In the USA, the Federal Insurance Contributions Act (26 USC)[5] does not
specifically mention the rights and duties of the auditors. However, auditors are
required to conduct an audit assessment based on provisions of the Public Companies
Accounting Oversight Board (PCAOB)[6], the International Standards on Auditing or
the existing guidelines available in the respective national territory.
Hackenbrack and Knechel (1997) report firms need to allocate adequate resources for
all audit engagements. They find cross-sectional variations in the labor charged to
different audit activities. This is due to engagement characteristics on audit fees, total
labor inputs and mixture of labor inputs. Clients’ size, industry, complexity, risk and
services provided are associated with changes in allocating labor among the audit
activities. The study finds no substitution for reviewing internal control systems or
testing for substantive testing on reliance audits. Task assignments vary by rank.
Measures of client size, complexity, risk and services provided are associated with
activity-specific changes in the labor mix. Yuen et al. (2013) conclude that a high audit
 staff turnover in Macau correlates with a lack of clear guidance on the scope and range International
of responsibilities, task complexity, time budget constraints and pressure from clients to insurance
complete the audits within a tight deadline. Lack of resources and tight deadlines lead to
potential negligence and litigations. All the six interviewees agree with the notion the
audits and
adequate resources help discharge duties of care and integrity in audit assignments. governance
This is in particular for those sectors that need highly qualified audit and related
personnel. In insurance, complexity in business activities and accounting and reporting 157
procedures add challenges to hiring and retaining qualified and experienced audit staff.
To meet the demand, colleges need to include relevant courses in their programs and
college instructors may want to conduct workshops and training for new recruits and
for those interested in continuing professional education.

4.2 Quality control

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PN specified that at least a member of an audit team must has an appropriate level of
capabilities, qualifications, competence and time to perform the audit engagement, and
upholds professional standards, and regulatory and legal requirements (para 47). Apart
from knowing the client’s business activities, the engagement partner needs to ensure
members of the team have sufficient knowledge of the regulatory framework within
which insurers operate, and one of the members with actuarial expertise (para 48). These
ensure engagements are completed by competent and qualified professionals.
Behn et al. (2008) report audit quality relates directly with quality of financial
statement reporting, in particular specialized audits. Insurance falls within a specialized
sector, and it is essential that auditors perform high level of audit procedures and
reporting quality. Auditors are responsible for stockholders, but in many cases, also to
analysts and stockholders, in particular on earnings, liquidity and performance. In fact,
auditors should excel in all their assignments irrespective of whether the engagements
are meant for a specialized or an ordinary business. Interviewees C and E feel a shortage
of skilled and experienced professionals leads to unfulfilled high quality of audits and
potential audit negligence. Increasing high level of expectations from stakeholders has
increased the level of audit risk. This has directly dissuaded many audit firms from
accepting assignments in the sector. Higher level of compensations may help fill the gap
but in a long run, colleges and universities need to meet the demand for qualified
professionals by including insurance courses in their curriculum.

4.3 Documentations
Paragraph 49 of PN requires auditors to comply with ISA 230 (IFAC, 2012b, Audit
documentation) when collecting audit evidence for supporting audit opinions. These
evidence need to be sufficient, reliable, accurate and relevant. PN further requires
auditors to ensure that they have included actuaries’ reports and notes of meetings or
discussions between auditors and actuaries in the working papers. PN does not specify
the types of reports, in particular extent of notes that need to be disclosed. Varying
degree of disclosures further the confusions among auditees. For the actuaries, nothing
has been mentioned about the qualifications, skills, experiences, competence and
independence from the management team. These individual issues or a combination of
these issues will greatly impact on integrity of the actuarial teams and reliability of their
reports.
 IJAIM Payne and Ramsay (2008) report that auditors who prepare detailed working papers
23,2 and spend more time to examine auditees’ records of transactions tend to succeed in
identifying errors and patterns of errors, and weaknesses in the internal control
systems. Summarized memo is an efficient and effective tool in jogging memory and
better in error detections. Documenting detailed working papers helps enhance patterns
of reviews and follow-ups, support audit opinions and offer references for current and
158 future assignments. All interviewees agree on the notion that a well-referenced
documentation helps support the decision-making process.
This go-forward and back between theoretical concept based on PN and data
collections through interviews supports the hybrid approach on grounded theory,
whereby interactions between literature were based on audit standards and guidelines,
and data collection processes were based on interviews. It is essential for audit team
members to meet, brainstorm and update each other before and during a field work.
Brainstorming helps identify ideas and approaches that would otherwise not be
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apparent in theory or literature. Interviewing clients’ management team and their

actuaries could bring to surface issues that would otherwise be ignored in the course
of an audit. Though essential, it is difficult to ascertain the number of actuaries that the
auditors need to interview before finalizing an audit report (Interviewees A and E).
Further, interviewees seem to have varying opinions over the extent of disclosing
actuaries’ reports. Interviewees B, C and F agree that an audit standard should specify
the format and extent of disclosures in the financial statements.

4.4 Fraud
PN 20 considers the following situations as significant fraud risks:
• policy holder fraud;
• fraud by directors and employees; and
• fraud by agents, intermediaries and other related parties (para 50 and 58).

Management and those charged with governance are responsible for instituting a
proper and reliable system of internal control, detecting fraud and errors and exercising
due care, diligence, skills and integrity to discharge their duties (para 51). Auditors need
to make necessary enquiries with auditees’ management team, internal auditors and
others within the firm to determine whether they have knowledge of any actual,
suspected or alleged fraud affecting the firm. This should not exclude external
stakeholders including vendors, insurance claimants and lenders.
Carpenter (2007) finds that brainstorming among audit team members will help
identify fraud and errors. Brainstorming sessions stimulate interactions and generate
fresh ideas, in particular weaknesses in the control systems that would otherwise be
ignored in the course of an audit. Chong (2013) argues that though not the responsibility
of an auditor for detecting fraud and errors, external auditors should pay attention and
report to audit committees for any consistent errors and weaknesses in the internal
control systems. Auditors should justify the allegations with supportive evidence, and
communicate the findings with authorized parties. Depending on where an audit is
being audited, authorized parties in the USA include government agencies like the
Internal Revenue Services, the Federal Bureau of Investigation and the European Court,
and lenders.
 Interviewees A, B and D reiterate that “it is not the responsibility of the auditors to International
detect fraud but to test reliability of the client’s control systems”. Auditors need to flag insurance
fraud cases to the management or those responsible for governance, unless it was the
management themselves who were in default. If so, auditors need to seek legal advice
audits and
before reporting to audit committees, and consider qualifying their reports. governance

4.5 Legal requirements 159

ISA 250 (IFAC, 2012e, Laws and Regulations in An Audit) suggests that when designing
and performing audit procedures, and evaluating and reporting results, auditors should
recognize any noncompliance with laws and regulations might materially affect the
auditees’ financial statements (para 2). Auditors should obtain a general understanding
of the legal and regulatory framework applicable to the firm and the sector (para 15). In
line with this, PN 20 specifically requires auditors to meet and comply with the sector’s
legal and regulatory requirements. From those data collected in Shanghai, Maitra et al.
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(2007) conclude that auditees that operate within a structured and obligatory regulated
environment tend to comply with the legal framework during the first year of an audit.
However, probability of these firms violating the legal framework tends to increase in
the second and subsequent years of an audit, though these firms remain within the same
regulatory environment. The study concludes that though there is an expected increase
in violations, the amount of underpayment for insurance has significantly reduced in the
second year and beyond. This could be due to firms wanting to rebuild their brands,
integrity, accountability and confidence with their stockholders, and to avoid threat
from their auditors for issuing a revised audit opinion.
Auditors should formulate their approaches due to changes in the legal environment.
Compliance serves as a defense mechanism for firms against any future litigation.
Interviewees B, D and E feel that auditors need to update their testing procedures in line
with on-going changes of Insurance Act and related statutes, and professional
pronouncements. Firms should allocate adequate resources, both time and manpower,
to cope with changes in legislations, and educate audit team members. Audit profession
should hold regular dialogues with its stakeholders including educators and investors to
ensure the stipulated audit guidance is applicable in the real world and meets the
continuing challenges.

4.6 Planning of the audits

ISA 300 (IFAC, 2012g, Planning an Audit of Financial Statements) requires auditors to
establish an overall audit strategy (para 8) to reduce the level of audit risk (para 13). In
line with this, PN 20 expects auditors to strategize their approaches based on detailed
understanding of their auditees’ business and activities, and processes of underwriting
insurance policies, managing investments (para 124) and hiring of experts (para 126).
Blaskovich and Mintchik (2007) observe that post Sarbanes–Oxley regime has
witnessed auditors incorporate detailed audit strategies in their audit programs. Proper
and adequate planning ensures that audits are being conducted in a proper and
systematic manner, reduces costs and avoids possible litigations. Kizirian et al. (2005)
support the notion of having a proper and adequate audit planning. They review audit
working papers of 60 auditees of a USA Big Four audit firm, and conclude that
management integrity impacts upon persuasiveness of evidence, in particular on risk
assessments of prior-year errors. This suggests management integrity assessment aids
 IJAIM auditors to ultimately discovering errors and client’s misstatements. Interviewees C and
23,2 F agree that a “careful coordination and planning will lead to a successful and smooth
audit”, while interviewee D interjects that “though getting actuaries in the planning
stage of an audit is important, they may lack the financial and accounting skills, and
knowledge on the implications of an audit”. Firms face scarce supplies of skilled labor
and difficulties in securing qualified personnel. Engagement partners need to balance
160 the compositions of an audit team to deliver an audit opinion:
All teams must include members with appropriate technical knowledge and soft or personal
skills. These skills include individuals’ behavior, ethical integrity and attitudes, and capable of
working under pressure to meet tight budgets and deadlines, and external expectations
(Interviewees B and E).

4.7 Risks and materiality

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Nature of a sector’s activities compels auditors to adequately evaluate the level of audit
risk and extent of materiality (Chong, 1992). Audit risk includes inherent risk, control
risk and detection risk. Inherent risk arises due to nature and complexity of auditees’
business activities, while control risk refers to auditees’ systems of internal control, and
detection risk occurs due to auditors’ failure to detect fraud or errors in the course of
sampling the population. In most situations, it is difficult to ascertain the extent of each
component that may impact upon the overall audit risk, as an audit may involve
professional judgments. Professional judgment depends on risk appetite of the auditors
and extent of possible litigations. Litigations and class actions by stakeholders, in
particular stockholders, may plague the auditors’ reputations and branding, and any
spillovers will contaminate the audit profession and sector.
Materiality is reversely related to audit risks, and arises due to omissions and
misstatements of significant items in the financial statements (Chong and Vinten, 1996).
Impact of materiality depends on its absolute amount or relative percentage to an item
or a combination of items. Failure to ascertain both audit risk and materiality affects
truth and fairness on presenting financial information and decision-making processes of
the users. Bell et al. (2008) evaluate the importance and contributions of business risk
audit (BRA) approaches adopted by audit firms. Under BRA, auditors respond to the
increasing level of complexity of auditees’ financial reports by having a deep and
comprehensive understanding of the auditees’ sector, strategies and business models
and processes. Using proprietary data for 165 audits, the study conclude that BRA
audits use a greater proportion of higher-ranked labor. Firms tend to allocate more
higher-ranked labor than pre-BRA benchmarks, and both total fees and fees per hour
increase with assessed BRA for the first-year auditees but not for the continuing
auditees. The finding supports the notion of BRA’s impact on audit effectiveness and
efficiency.
For insurance audits, interviewee D feels that “there is a constant challenge to assess
audit risk due to auditees’ exposure to external and economic uncertainties”. Auditors
should be aware of auditees’ risk exposure and hurdle rates when calculating their net
present values. Auditors could not reduce inherent risk, but could lower detection and
control risks through larger audit sample sizes and ascertain the auditees’ staff with
appropriate skills, experiences and integrity. Auditors need to review adequacy of their
own insurance coverage on liability claims. Interviewees B and F assert that “audit
 decisions involve professional judgments though audit risk and materiality play an International
important role”. insurance
For materiality threshold, PN 20 suggests audit firm use the current year’s profit as
a benchmark. For a loss-making year, auditors need to average the past profits or assets
audits and
(para 158). All interviewees are not confident with using profit as the solely governance
measurement, and instead should consider other financial indicators like turnover, net
assets and even non-financial factors including market size, customers’ bases, 161
complexity of the clients’ activities and reliability of internal controls. Existing and
predicted market and economic situations should be part of the thresholds’
computations (Interviewees A and E).

4.8 External confirmations

Paragraph 184 of PN 20 emphasizes the importance of external confirmation procedures
to support claims by the re-insurers and premium from the intermediaries. These claims
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and receivables comprise insurers’ recoverable claims from the re-insurers. Relevant
re-insurers are unlikely to be in a position to confirm the amounts until validity of these
claims has been assessed, the amounts payables determined and agreed upon by the
re-insurers. A relevant re-insurer may not provide sufficient evidence when responding
to a confirmation request (PN 20, para 185). This is:
[…] due to timing difference and cut off procedures, management may find difficulties to
ascertain the exact amount of claims at the balance sheet dates. However, auditors need to
check the accuracy and reliability of these estimations and to reconcile these to subsequent
receipts and payments in the bank statements (all interviewees).
For premiums receivables from the intermediaries, auditors need to evaluate the extent
of risk associated with misstatements, characteristics of the auditees’ business
environment and practice of potential respondents when dealing with requests for direct
confirmations (PN 20, para 186). If the annual premiums come solely from its parent firm
or related parties, interviewees B, E and D suggest that “direct confirmations help the
parent auditors to ensure accuracy of these amounts. Also check to subsequent bank
statements for any discrepancies between receipt books and reconciliations”. In cases
where the level of responses from external parties is very low, auditors need to follow-up
with reminders, emails and even phone calls. Though these additional procedures may
consume time and efforts, they deem important to support the audit opinions. Warren
(1974) sends 650 questionnaires to account holders appearing on the books of Michigan
State University Employee Credit Union on the importance of receiving confirmation
letters from auditors. The study finds that auditors should use positive confirmation
letters for large outstanding amount, and a negative approach for smaller items.
“External confirmations will substantiate audit evidence, and assess reliability,
accuracy and completeness of evidence presented by the management” (Interviewees A
and D).

4.9 Analytical procedures

ISA 520 (IFAC, 2012a, Analytical Procedures) requires auditors to conduct proper
analytical procedures to assess risk and understand the auditees’s operating
environment (para 2). PN 20 suggests that while focusing on financial results, auditors
should evaluate the auditees’ emphasis on non-financial variables like policy numbers,
sums assured, retention levels and claim levels and interrelations between these details
 IJAIM with the financial data (para 189). Analytical review procedures help measure the extent
23,2 of regulatory compliance, including complaints handling and breaches of conducts of
business rules, and operation risks, for example volumes of un-reconciled items (para
189).
O’Donnell and Schultz (2003) find that large public accounting firms revise their
audit support software to assess audit evidence of an auditee’s business process rather
162 than its transaction cycle. These business-process-focused systems present clients’
information grouped by value chain activities. This differs from firms that use
traditional transaction-cycle-focused audit support software, whereby they group
clients’ information primarily by account classifications. The study concludes that audit
support software organized around business processes can influence decision
performance. This suggests that analytical review procedures are important prior to the
completion of an audit to ensure information in a financial statement is reasonable,
complete and comparable to the budgets, sector and previous years.
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Interviewees C, E and F agree that analytical review procedures help identify

significant variances and noncompliance with regulatory requirements. Interviewee A
confirms that “this procedure instigates auditors to think outside the box”. This bird-eye
view helps unravel issues that may lead to the auditees’ going concerns, internal
controls and other compliance (Interviewees B and F).

4.10 Accounting estimates

Paragraphs 2 and 10 of ISA 540 (IFAC, 2012d, Audit of Accounting Estimates) require
auditors to obtain sufficient and appropriate audit evidence on management’s estimates
using their own judgment and external evaluations. This could be done through
reviewing the subsequent events and using independent external estimations. For the
insurance sector, estimations of technical provisions involve a high level of uncertainty
due to significant assumptions about future conditions, transactions or events that are
uncertain at the time of estimations (para 191). ISA 540 suggests auditors should engage
actuarial specialists for supporting their audit processes and opinions (para 192).
However, auditors need to ensure the management’s policies on technical provisions are
adequate and reasonable (para 194).
Interviewees C, E and F agree that auditors need “to apply detailed procedures on
performing these estimates listed by PN 20”. Interviewee C says that “it is not an excuse
for being iterate of these procedures”. Auditors are required to understand their clients’
nature of business and activities, and check reasonableness and adequacy of estimates
and provisions in the financial statements.

4.11 Related parties

ISA 550 (IFAC, 2012i, Related Parties) requires auditors to assess the volume, nature and
risks of material undisclosed-related transactions (para 106). For the sector, PN 20
stipulates that auditors should evaluate the auditees’ systems of internal control when
detecting and disclosing details of related parties in the financial and other related
statements (para 219). Though PN 20 recognizes that auditors may find difficulties to
ensure accuracy and completions of an auditee’s listings of related parties (para 220), it
does not offer alternate suggestions or audit procedures. Gordon et al. (2007) examine
research relevant to auditing of related party transactions, challenges associated with
identifications, examinations and disclosures of these transactions. They conclude that
 there is a consistency between results from academic research on related party International
transactions and fraud cases among US firms. Auditors need to be diligent when insurance
performing their audits on related party transactions. In fact, “I discovered these related
party transactions by accidents, and is a constant challenge for me to understand the
audits and
real integrity of the management” (interviewee F). governance
All the interviewees suggest that the auditees’ audit committee and management
team should reveal their related parties, and volume and nature of transactions with 163
related parties during the year under review. Reviewing board’s minutes and checking
dubious, regular or continuous transactions between the auditees and one or a small
group of individuals and entities may help identify related parties’ relationships.
Continuous enquiries help surface such transactions. Interviewee B feels that “there is
no hard and fast rule on how one could detect the related party transactions, and in many
cases, I spotted these through a pure luck”. To unravel these transactions could be a
challenge, but it depends on reliability of the auditees’ control systems, integrity of the
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management and auditors’ diligence in performing their audit procedures.

4.12 Subsequent events

Auditors are required to design and perform audit procedures on subsequent events
(IFAC, 2012j, ISA 560 on Subsequent Events, para 4). These procedures include an
evaluation on the impact of any material subsequent events on the auditees’ capital
resources, new information pertaining to claims provisions, doubtful reinsurance
recoveries, new changes in the regulatory requirements and reviews on the management
correspondences and board’s minutes (PN, para 221). Janvrin and Jeffrey (2007) find that
auditors tend to focus on large frequencies and unusual items rather than items with low
frequency. Interviewees A and F feel that auditors should consider “both frequency and
materiality of the clients’ transactions, and clients’ control systems”. Failure to conduct
proper procedures on these events may have implications to the audit opinions,
litigations and auditees’ going concerns. Auditors need to allocate adequate resources
on understanding and assessing how clients capture and disclosure their subsequent
events in the financial statements (Interviewees A, B and E).

4.13 Governance issues

Though not specially mentioned in PN 20, I incorporate these issues in the interviews
and in this paper. Extending the dialogues with interviewees supports the hybrid
approach of the grounded theory, whereby researchers need to constantly interact
theories and data capturing processes. Governance issues have added a need dimension
to audits and auditors in reporting, implementations and approaches (Chong, 2013).
Ahadiat (2011) reports that British and Australian auditors’ involvement with both
audit and non-audit services for the same clients may impair their independence, but
Baker and Al-Thuneibat (2011) show a positive relationship between an audit firm’s
tenure and perceived audit quality based on Turkish manufacturing and services firms’
client-specific equity risk premium. This means a long-term relationship between an
audit firm and its client yields a lower perceived audit quality but a higher equity risk
premium. To avoid further compromises in audit quality and to enhance auditors’
independence, Baker and Al-Thuneibat (2011) suggest that rotating audit firms could
help build confidence among the stakeholders. In all cases, auditors and the profession
 IJAIM should exercise an utmost level of integrity to continue its image, credibility and
23,2 reputations.
Governance issues include clients’ compliance on transparency, and management’s
attitude toward accountability and integrity in capturing, recording and reporting the
financial data (Parsa et al., 2007). Apart from behavior and attitudes, auditors need to
observe the auditees’ organization structure, and their willingness to comply with
164 external requirements and expectations, including local reporting (Chong, 2000). All the
interviewees recommend for a framework on governance that helps support the
management, audit committees, audit profession and stakeholders, in particular
stockholders. Colleges’ syllabuses should reflect and emphasize on these governance
issues and students, upon their graduation, should apply them in the real-world settings.

5. Conclusions and ways forward

Though insurance is one of the oldest forms of services, it contributes a high proportion
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of revenues to an economy. The international auditing board has yet to develop a

standard for the sector. Practice Note 20 (Audit the Insurers) issued by the Auditing
Practice Board (UK) is the only guide for auditor in the sector, though it offers detailed
guidance. As a guide, auditors are not obliged to follow strictly on the notes, but to
exercise a variant range of professional judgments. These twelve issues are approaches
on engagements, documentations, fraud, legal requirements, planning of the audits, risk
and materiality, external confirmations, analytical review procedures, accounting
estimates, related parties transactions and subsequent events. Apart from these issues,
governance seems important to all the interviewees and I have included it in the study.
I use semi-structured interviews that will allow interviewees to freely express their
views and thoughts, and to push forward the grounded theory of assessing the
situations on the ground based on theoretical context and practical perspective.
Interactions between these two perspectives help researches, practitioners and
regulators to understand key challenges of applying PN in the real world while adding
values to existing knowledge. The findings reveal the importance of allocating adequate
resources to each audit assignment to ensure adherence and compliance, including
hiring of external experts, checking for subsequent events and related parties and
complying with governance requirements. Planning, transparency in reporting, sense of
accountability and due diligence can help eliminate audit failure and litigations.
Future research could focus on many avenues. These include expanding the existing
12 issues to others, including going concerns, roles of audit committees,
computer-assisted audits and reliance on external experts, in particular those issues
relating to information privacy and management. The extension on research could
incorporate larger samples of interviewees and questionnaire surveys. Target
respondents could include a mixture of auditors, preparers and users of the financial
statements. The increasing usage of and reliance on information technologies, any
feedback from information technologists and computer programmers could help shape
the theoretical framework and formulate audit approaches.
Further, data capturing should not confine to developed economies but across the
globe, in particular from emerging economies (Chong, 2000). Mega analysis is another
avenue to extend and understand the challenges of framing a comprehensive framework
that fits to a diversified facet of communities, political backgrounds and cultures. A
hybrid approach of the grounded theory helps formulate an audit framework that covers
 the needs for and expectations of both the auditors and auditees. International auditing International
bodies should be proactive in providing guidance on audit approaches and reporting. insurance
This urgent call is not only confined to insurance but also other service sectors including
financials, leasing, pension and mutual funds. The quest for a guidance and framework
audits and
continues. governance

Notes 165
1. Financial Reporting Council (UK) is the only accounting body that issues specific audit
guidance on auditing the insurers’ financial statements.
2. The UK Auditing Practices Board issues Practice Notes (PN) to assist auditors in applying
auditing standards of general application to particular circumstances and industries. PN 20
is specifically for guiding the audit of financial statements in the insurance sector. In the UK,
the Financial Reporting Council (FRC) oversees all the auditing guidance (issued by the APB)
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and accounting standards (issued by ASB). All the PNs, auditing guidance and accounting
standards are accessible at www.frc.co.uk
3. All the interviewees are audit partners with an average audit experience (of being a partner)
for 15.6 years, and 9.2 years of auditing financial reports of insurance firms, and two of the
interviewees are female.
4. This excludes interruptions due to urgent phone calls or unwarranted visits during the
interviews. On average, the interruption time was 22 minutes.
5. Prior to 1874, US statutes were not codified. That is, they were not set forth in one
comprehensive subject matter title, but were instead contained in the various acts passed by
Congress. Codifications of statutes (including tax statutes) undertaken in 1873 resulted in the
Revised Statutes of the United States, approved June 22, 1874, effective for the laws in force as
of December 1, 1873 (title 35 of which was the internal revenue title). Another codification was
undertaken in 1878. In 1919, a committee of the US House of Representatives began a project
to re-codify US statutes which eventually resulted in a new code in 1926 (including tax
statutes).
6. In the US, the Public Company Accounting Oversight Board (PCAOB) is a private, nonprofit
corporation created by the Sarbanes–Oxley Act of 2002 to oversee the auditors of public
companies. The PCAOB was created to protect investors and the public interest by promoting
informative, fair and independent audit reports.

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Further reading
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23,2
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About the author

168 Gin Chong is reputable for his teaching and research on oil and gas accounting, accounting and
auditing systems of the emerging markets and firms’ performance measurements and governance
issues. With more than 10 years of private sector accounting exposures and 30 years of teaching
experience, his research has appeared in many top refereed journals. Dr Chong is a visiting
professor of many universities in China, Czech Republic, Finland, Germany and Romania, and has
delivered keynote speeches in Asia and Europe. A recipient of several excellence in teaching,
research and services awards. Appointed by the World Bank to review the Accounting and
Finance Programs and conduct teaching methodologies for a reputable university in Bangladesh.
Successful in bidding for external funding, and conducts workshops for the professionals, and
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supervises and examines PhD thesis. Gin Chong can be contacted at: hgchong@pvamu.edu

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