Hong Kong audit reform falls short | China Accounting Blog | Paul Gillis

Hong Kong audit reform falls short

Five years ago Hong Kong’s capital markets were dealt a humiliating blow by the European Union (EU). Hong Kong was removed from a list of jurisdictions deemed to have regulatory equivalency with the EU. The move happened because Hong Kong did not have an effective independent audit regulator, since the auditing profession in Hong Kong was self-regulated by the Hong Kong Institute of CPAs.  I have written many times about how the HKICPAs is a feckless regulator, reluctant to take on the big firms and when it is finally forced to enforce the rules, doling out miniscule penalties.  

It has taken five years, but finally Legco (Hong Kong’s legislative body) is preparing to take action. The Financial Reporting Council (Amendment) Bill of 2018 is working its way through the legislative process in Hong Kong. Unfortunately, the proposal falls far short of what is needed. I fear that the legislators have fallen into the trap of finding themselves up to their ass in alligators while forgetting that their original objective was to drain the swamp. The proposal has the fingerprints of the profession all over it, and has been weakened to the point of being mostly useless.

There are two key problems from my perspective. The first is the composition of the supervisory board of the FRC. The second is adequate funding to make certain that the FRC can effectively function.  

The proposal allows practitioners to serve on the supervisory board of the FRC. This is not permitted if Hong Kong is to obtain regulatory equivalency with the EU, which was in my view the whole purpose of this exercise. The HKICPAs argues that while the new FRC will not gain regulatory equivalency, it would be allowed into the club of independent audit regulators known as the International Forum of Independent Audit Regulators (IFIAR). That is a poor consolation  prize in my view. The HKICPAs also argues that audit regulations and technologies change so rapidly that even retired partners would not be able to stay current. To that I call B.S. Auditing changes glacially, and board members do not need to be expert in audit technologies to do their jobs anyway. What the board needs is experienced people with good judgment who are independent of the firms being regulated. There should be plenty of them in Hong Kong. 

The second problem is funding. The proposal puts forth a budget of HK$90 million. That is far too low for adequate regulation of the accounting profession.  

I compared the proposed Hong Kong budget for audit regulation to other leading capital markets and determined an equivalent budget for Hong Kong taking into account the differing market capitalizations.  By my calculations, the proposed budget for Hong Kong is less than half of what it should be.

                  Market Cap US$           Budget            Implied HK budget 

USA                 27.7T                   US$269M                  HK$255M

Canada              2.1T                      C$16M                   HK$157M

UK                     3.6T                        £35M                   HK$337M

HK                     3.4T                     HK$90M                    HK$90M

Investors should have their voices heard.  Hong Kong capital markets deserve better than this proposal.        

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