Casualty Actuaries of the Southeast

1. Casualty Actuaries of theSoutheast Ethics and Professionalism in Actuary and Auditor Relationships April 1, 2003 David K. Morgan, CPA

2. CasualtyActuaries of the Southeast Why are Actuaries and Auditors alike? • Both are highly skilled technical professionals • Most people have a vague understanding of what • we do , but know that they can’t do it themselves • Most people really don’t understand the reports • we issue

3. CasualtyActuaries of the Southeast The Auditors Ethical Framework American Institute of Certified Public Accountants (AICPA) Code of Professional Conduct • Applies to members of American Institute • of Certified Public Accountants. • Establishes principles and rules. State Board of Accountancy • Regulatory framework established by state law. • Generally adopts the AICPA Code of Professional Conduct. Securities and Exchange Commission • Applies to auditors of public companies • PCAOB and Sarbanes-Oxley

4. CasualtyActuaries of the Southeast AICPA Code of Professional Conduct Membership in the American Institute of Certified Public Accountants is voluntary. By accepting membership, a certified public accountant assumes an obligation of self-discipline above and beyond the requirements of laws and regulations. These Principles of the Code of Professional Conduct of the American Institute of Certified Public Accounts express the profession’s recognition of its responsibilities to the public, to clients, and to colleagues. They guide members in the performance of their professional responsibilities and express the basic tenets of ethical and professional conduct. The Principles call for an unswerving commitment to honorable behavior, even at the sacrifice of personal advantage.

5. CasualtyActuaries of the Southeast Principles Responsibilities - In carrying out their responsibilities as professionals, members should exercise sensitive professional and moral judgments in all their activities. The Public Interest - Members should accept the obligation to act in a way that will serve the public interest, honor the public trust, and demonstrate commitment to professionalism. Integrity - To maintain and broaden public confidence, members should perform all professional responsibilities with the highest sense of integrity. Objectivity and Independence - A member should maintain objectivity and be free of conflicts of interest in discharging professional responsibilities. A member in public practice should be independent in fact and appearance when providing auditing and other attestation services.

6. CasualtyActuaries of the Southeast Principles (cont’d) Due Care - A member should observe the profession’s technical and ethical standards, strive continually to improve competence and the quality of services, and discharge professional responsibility to the best of the member’s ability. Scope and Nature of Services - A member in public practice should observe the Principles of the Code of Professional Conduct in determining the scope and nature of services to be provided.

7. CasualtyActuaries of the Southeast Auditing Standards Ten in all. Three general standards, three standards of field work and four standards of reporting. The three general standards are as follows: • The first general standard is the audit is to be performed by a person or persons • having adequate technical training and proficiency as an auditor. • The second general standard is in all matters relating to the assignment, an • independence in mental attitude is to be maintained by the auditor or auditors. • The third general standard is due professional care is to be exercised in the • planning and performance of the audit and the preparation of the report.

8. CasualtyActuaries of the Southeast The third standard of field work requires sufficient competent evidential matter to be obtained… to afford a reasonable basis for an opinion regarding the financial statements under audit. • How does an auditor obtain this competent evidence when he does not have • the training or skills to understand the subject? • Section 336 of the auditing standards provides guidance to the auditor who uses the • work of a specialist in performing an audit in accordance with generally accepted • auditing standards. • For purposes of this section, a specialist is a person (or firm) possessing special • skill or knowledge in a particular field other than accounting or auditing. • Specialists to which this section applies include, but are not limited to, actuaries, • appraisers, engineers, environmental consultants, and geologists.

9. CasualtyActuaries of the Southeast Using the Work of a Specialist • The guidance in this section is applicable when management engages or employs • a specialist and the auditor uses that specialist’s work as evidential matter in • performing substantive tests to evaluate material financial statement assertions. • This guidance also applies to the auditor who engages a specialist and uses • that specialist’s work as evidential matter in performing substantive tests to • evaluate material financial statement assertions.

10. CasualtyActuaries of the Southeast Decision to Use the Work of A Specialist • The auditor’s education and experience enable him or her to be knowledgeable • about business matters in general, but the auditor is not expected to have the expertise • of a person trained for or qualified to engage in the practice of another profession or • occupation. • During the audit, however, an auditor may encounter complex or subjective matters • potentially material to the financial statements. Such matters may require special • skill or knowledge and in the auditor’s judgement, require using the work of a specialist • to obtain competent evidential matter. • One example of using the work of a specialist could be the determination of • amounts derived by using specialized techniques or methods such as actuarial • determinations for insurance loss reserves.

11. CasualtyActuaries of the Southeast How does the Auditor Decide which Specialist to Use? • The auditor should consider the following to evaluate the professional • qualifications of the specialist in determining that the specialist possesses the • necessary skill or knowledge in the particular field: • The professional certification, license, or other recognition of the competence • of the specialist in his or her field, as appropriate. • The reputation and standing of the specialist in the views of peers and others • familiar with the specialist’s capability or performance. • The specialist’s experience in the type of work under consideration.

12. CasualtyActuaries of the Southeast Understanding the Work of the Specialist The auditor should obtain an understanding of the nature of the work performed or to be performed by the specialist. This understanding should cover the following: • The objects and scope of the specialist’s work. • The specialist’s relationship to the client. • The methods or assumptions used. • A comparison of the methods or assumptions used with those used in the • preceding period. • The appropriateness of using the specialist’s work for the intended purpose. • The form and content of the specialist’s findings.

13. CasualtyActuaries of the Southeast Understanding the Work of the Specialist • The auditor should evaluate the relationship of the specialist to the client, including • circumstances that might impair the specialist’s objectivity. • Such circumstances include situations in which the client has the ability - through • employment, ownership, contractual right, family relationship, or otherwise - to directly • or indirectly control or significantly influence the specialist. • When a specialist does not have a relationship with the client, the specialist’s work • usually will provide the auditor with greater assurance of reliability. • However, the work of a specialist who has a relationship with the client may be • acceptable under certain circumstances. • If the specialist has a relationship with the client, the auditor should assess the risk • that the specialist’s objectivity might be impaired. • If the auditor believes the relationship might impair the specialist’s objectivity, • the auditor should perform additional procedures with respect to some or all of the • specialist’s assumptions, methods, or findings to determine that the findings are not • unreasonable or should engage another specialist for that purpose.

14. CasualtyActuaries of the Southeast Using the Findings of the Specialist • The appropriateness and reasonableness of methods and assumptions used and • their application are the responsibility of the specialist. • The auditor should (a) obtain an understanding of the methods and assumptions • used by the specialist, (b) make appropriate tests of data provided to the specialist, • taking into account the auditor’s assessment of control risk, and (c) evaluate whether • the specialist’s findings support the related assertions in the financial statements. • Ordinarily, the auditor would use the work of the specialist unless the auditor’s • procedures lead him or her to believe the findings are unreasonable in the • circumstances. • If the auditor believes the findings are unreasonable, he or she should apply • additional procedures, which may include obtaining the opinion of another • specialist.

15. CasualtyActuaries of the Southeast Effect of the Specialist’s Work on the Auditor’s Report • If the auditor determines that the specialist’s findings support the related assertions • in the financial statements, he reasonably may conclude that sufficient competent • evidential matter has been obtained. • If there is a material difference between the specialist’s findings and the assertions • in the financial statements, he should apply additional procedures. • If after applying any additional procedures that might be appropriate, the auditor • is unable to resolve the matter, the auditor should obtain the opinion of another • specialist, unless it appears to the auditor that the matter cannot be resolved.

16. CasualtyActuaries of the Southeast Effect of the Specialist’s Work on the Auditor’s Report • A matter that has not been resolved ordinarily will cause the auditor to conclude • that he or she should qualify the opinion or disclaim an opinion because the • inability to obtain sufficient competent evidential matter as to an assertion of • material significance in the financial statements constitutes a scope limitation. • The auditor may conclude after performing additional procedures, including • possibly obtaining the opinion of another specialist, that the assertions in the • financial statements are not in conformity with GAAP. In that event, the • auditor should express a qualified or adverse opinion.

17. CasualtyActuaries of the Southeast Reference to the Specialist in the Auditor’s Report • Generally, the auditor should not refer to the work or findings of the specialist • in his report. Such a reference might be misunderstood to be a qualification of • the auditor’s opinion or a division of responsibility, neither of which is intended. • The auditor may, as a result of the report or findings of the specialist, decide to • add explanatory language to his or her standard report or depart from an unqualified • opinion. Reference to and identification of the specialist may be made in the • auditor’s report if the auditor believes such reference will facilitate an understanding • of the reason for the explanatory paragraph or the departure from the unqualified • opinion.

18. CasualtyActuaries of the Southeast Story of Three Wise Men • Engineer • Actuary • Auditor

19. CasualtyActuaries of the Southeast Where is the Ethical Line? • Whose job is it to make sure that the assumptions used are appropriate? • What if you know the data being used is not complete or not correct? • How do you know when to walk away from an engagement? • If you have terminated a client relationship due to questions about the • integrity of management, what are your obligations to inform the auditors? • In the new world of Sarbanes-Oxley, might you have civil or criminal liability • if you do not blow the whistle on improprieties?

20. CasualtyActuaries of the Southeast Questions ?

21. CasualtyActuaries of the Southeast