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SOE accounting for subsidies

This is a guest posting by Martin Miszerak (martin@miszerakassociates.pl). He will be teaching at Remnin University next semester.

The reform of state-owned enterprises (“SOE’s”) is a never-ending saga in China. While the government professes continued commitment to SOE reform through such policy initiatives as corporatization, mergers, mixed ownership and improved governance, average financial performance of the SOE sector is not improving. On the contrary, as documented by the most recent book by Nicholas Lardy, a noted China scholar at the Peterson Institute for International Economics in Washington, average ROA of the SOE sector declined from about 5% in 2007 to only about 1,6% in 2016. The ROA returns are computed by Ministry of Finance using pre-tax profits divided by average assets and are in general a highly imperfect measure of profitability of non-financial enterprises; EBITDA margin would be much more meaningful, but no such data is available.

However, the most problematic aspect of the SOE’s ROA data is the fact that the returns are computed on the basis of revenues inclusive of subsidies. Under CAS No. 16 (Accounting Standard for Business Enterprises No. 16 – Government Grants), issued by Ministry of Finance in 2017, Chinese companies are required to credit subsidies received to the income statement, regardless of whether they are related to current operations or fixed asset investment. CAS no. 16 is essentially aligned with IFRS (IAS 20 – Accounting for government grants and disclosure of government assistance, issued with the most recent amendment in 2008). Under IAS 20, subsidies related to current operations are to be credited to the income statement, but subsidies related to fixed asset investment can be credited either to deferred income or the acquired asset, thus reducing that asset’s net value. A credit to an acquired asset is not allowed under CAS.

SOE accounting for subsidies

The reform of state-owned enterprises (“SOE’s”) is a never-ending saga in China. While the government professes continued commitment to SOE reform through such policy initiatives as corporatization, mergers, mixed ownership and improved governance, average financial performance of the SOE sector is not improving. On the contrary, as documented by the most recent book by Nicholas Lardy, a noted China scholar at the Peterson Institute for International Economics in Washington, average ROA of the SOE sector declined from about 5% in 2007 to only about 1,6% in 2016. The ROA returns are computed by Ministry of Finance using pre-tax profits divided by average assets and are in general a highly imperfect measure of profitability of non-financial enterprises; EBITDA margin would be much more meaningful, but no such data is available.


However, the most problematic aspect of the SOE’s ROA data is the fact that the returns are computed on the basis of revenues inclusive of subsidies. Under CAS No. 16 (Accounting Standard for Business Enterprises No. 16 – Government Grants), issued by Ministry of Finance in 2017, Chinese companies are required to credit subsidies received to the income statement, regardless of whether they are related to current operations or fixed asset investment. CAS no. 16 is essentially aligned with IFRS (IAS 20 – Accounting for government grants and disclosure of government assistance, issued with the most recent amendment in 2008). Under IAS 20, subsidies related to current operations are to be credited to the income statement, but subsidies related to fixed asset investment can be credited either to deferred income or the acquired asset, thus reducing that asset’s net value. A credit to an acquired asset is not allowed under CAS.

Copyright 2018 Paul L. Gillis all rights reserved