Accounting rules rarely make front page news. An exception was in December 2010, when Hong Kong Securities and Clearing (HKEx) said that it would allow H-shares – firms incorporated in China but listed in Hong Kong – the option of submitting financial statements prepared by mainland auditors under mainland accounting standards.
The decision eliminated a rule that H-shares require two sets of financial statements: One set calculated according to mainland accounting standards and signed off by a mainland auditor; and another that adhered to Hong Kong standards, signed off by a Hong Kong auditor.
The change was made possible because mainland accounting standards have largely converged with Hong Kong standards in recent years. According to Zhang Wei-Guo, a member of the International Accounting Standards Board, the difference between the two standards is just 0.66%.
Winnie Cheung, chief executive of the Hong Kong Institute of Certified Public Accountants (HKICPA), the body that sets Hong Kong’s financial reporting standards, says that those who set Hong Kong and mainland accounting standards cooperate closely on convergence. In 2007 the HKICPA conducted a year-long comparison and review exercise of accounting standards with the Ministry of Finance.
The two organizations have ongoing mechanisms in place to converge their standards – liaising on a daily basis – as well as mutual recognition of qualifications training programs.
“With China’s standards converging with international standards, the question about whether there is a need for managers to prepare a separate set of statements by Hong Kong auditors went away,” said Cheung. H-share companies can now use one of 12 audit firms approved by the Ministry of Finance, all with affiliated branches in Hong Kong.
In fact, the auditing practices have grown so close it’s not clear how much will actually change. “In reality, even in the past a lot of the processes would have been done in China by the same auditing firm, and it was about dividing up the job” said Cheung.
“Now it’s basically switching from the Hong Kong practice to the China practice of the same network.”
Rules and regulations
But many are skeptical. Opponents argue that however close standards appear to be, the new rules mean that Hong Kong has effectively ceded regulatory authority over the accounting industry to Beijing. They see the change as further proof that HKEx is willing to lower the bar to attract more Chinese companies.
“There used to be a belief that coming to Hong Kong and being exposed to higher international standards would help change Chinese companies,” said Frasier Howie, a managing director at CLSA and co-author of two books on China’s capital markets. “If anything, Hong Kong is now lowering itself to Chinese standards. It’s a big step backwards.”
Meanwhile, Jamie Allen, head of the Asia Corporate Governance Association, argues that the focus on standards is a red herring because auditing is often more an art than science.
“From an investor perspective it’s really an issue of auditor practice and audit quality,” he said. “Auditors could be working according to international standards, but if they don’t have the experience or expertise and aren’t asking the right questions, the quality can really suffer. To think even the larger audit firms in the mainland could have the same level of quality [as in Hong Kong] is a big leap.”
Proponents of the change retort that these issues are hypothetical at best and protectionist at worst. “Negative comments may be from people who have yet to see what’s really happened,” said Cheung. “I think it’s in China’s interest to show the international community that they take these responsibilities seriously. It’s necessary if they want to go global.”
The current debate may be overblown. Of the 164 mainland companies that are listed through H-shares, Cheung says that just 14 have exercised the option to use a mainland auditor, and all have switched to mainland branches of the same audit network.
However, others say the real impact has yet to be felt. Newly listed companies have little incentive to bother with Hong Kong auditors at all – which could spell trouble for the territory’s auditing industry and, perhaps, for proper corporate oversight in general.