New auditing and accounting standards based on the International Financial Reporting Standard (IFRS) came into effect at the beginning of 2007, bringing China into alignment with global accounting practices, in theory at least. Terence Ho, a partner at Ernst & Young’s Shanghai, talks to Amy Cheung of The China Perspective about China’s accounting revolution.
The China Perspective: How do the new accounting standards change the reporting requirements of listed companies in China?
Terence Ho: The new Chinese Accounting Standards, to a large extent, represent a convergence with the International Financial Reporting Standard (IFRS). However, there are some acknowledged exceptions in certain areas given the unique circumstances in China. The changes made to the former accounting standards are significant. These significant changes include even the basic elements of accounting of recognition, measurement and disclosure. The adoption of the new Chinese Accounting Standards implies a shift from a “historical cost” basis to a more “fair value” basis for accounting. In this respect, fair value is defined as the amount for which an asset could be exchanged, or a liability settled, between knowledgeable independent parties willing to enter into a transaction.
By adopting the new accounting standards, management of a company is obliged to disclose more information, and in a different way. This will require senior management at Chinese companies to take new financial ratios into account to measure the profitability and operational efficiency of a company. This represents a new challenge to management, as they will now be viewed and evaluated differently by investors, other stakeholders, and competitors. A change from historical accounting to fair value accounting means the performance of a company will be reflected more timely in its financial statements,. On the other hand, this will also cause the performance of a company to fluctuate more significantly.
TCP: What is Ernst & Young’s reaction to the change? Are there any obstacles?
TH: Our clients can be divided into three groups: Chinese companies with a listing in Hong Kong or on other overseas stock exchanges, multinational companies with subsidiary operations in China, and domestic Chinese companies with no listings abroad. The first two groups of clients are used to preparing two sets of financial statements, one based on Chinese Accounting Standards and another based on IFRS. These companies are more than happy to adopt the new Chinese Accounting Standards, as they can now prepare mainly one set of financial statements because the new Chinese Accounting Standards are similar to IFRS. Only the third group would expect to expend more effort adopting the new Chinese Accounting Standards.
TCP: Ernst & Young has posted many job ads on Hong Kong recruitment portals in search of accounting managers or experts for China offices. What are the reasons? Is there a great need for quality accounting expertise in China?
TH: The growth in China in recent years has led to a significant increase in demand for accounting professionals in China. Our Shanghai office had only about 20 people when we had our first batch of local recruits in 1993. Two years ago, we had approximately 900 people. Our headcount is approaching 1,900 now. Highly educated professionals with international exposure and global market knowledge who have mastered Chinese and a foreign language are in great demand as more multinational corporations now have a presence in China. Over these years we have trained and developed many of our local employees, but the speed is just not fast enough to cope with the growth in demand. Therefore, we have to explore other human resource markets to recruit the experienced professionals needed. Hong Kong, Singapore and Malaysia are the places we are looking as these places have talent with the right experience, and we can find suitable candidates there who can speak Chinese and English.
TCP: How does Ernst & Young train local accountants? How do you recruit them?
TH: We mainly recruit our people from local universities, and we invite the candidates to join our firm upon their graduation. The fresh graduates come from different disciplines, and we have programs for fresh graduates with or without an accounting background. But the most valuable part of our employee development program is our “on-the-job training”. Our people are sent to work on different engagements, with different companies in different industries. While working, they are supervised by the seniors. Over time, our people are not only trained in terms of the necessary professional knowledge, but also gain exposure to and knowledge of different industries and people. We also have a global exchange program, under which we offer our people opportunities to work in an overseas country for a certain period of time. This is valuable to our people as this helps them to widen their international exposure, and to train them to have a global mindset. Moreover, upon returning to China, they bring with them the experience they gained from abroad.
TCP: Chinese companies listed or attempting to be listed in the US are required to fulfill new auditing and operational requirements. Does Ernst & Young perform such services for clients? Are there any difficulties for EY or its clients?
TH: After a number of debacles in the US, the US SEC [Securities Exchange Commission] now imposes stringent requirements on companies listed in the US. To meet these SEC requirements, companies must have very good internal controls and financial reporting systems. Ernst & Young has assisted many well-known and major companies in China, including China Life, to meet these challenges. While meeting the stringent SEC requirements represents a short term cost, it will benefit the Chinese companies in the longer term due to better corporate governance and internal control structures.