Hong Kong government has published the results of its consultation to improve the regulatory regime for listed company auditors. Hong Kong has long needed reform because the current system of self regulation clearly is not working. The Hong Kong Institute of CPAs is perhaps the most feckless of audit regulators worldwide. The European Union withdrew regulatory equivalency from Hong Kong with respect to audit regulation, which appears to have been the event that prodded Hong Kong into reform.
The proposal, which should now advance to enabling legislation (estimated 2016/2017), is to beef up the regulatory powers of the Financial Reporting Council (FRC), making it similar to other regulators like the U.S. Public Company Accounting Oversight Board or the Canadian Public Accountability Board. The new rules will apply only to auditors of public companies, although they could be expanded to cover other public interest entities.
The HKICPAs will retain certain responsibilities, like registration of CPAs, setting of standards, etc. I have no objection to this, especially with respect to the setting of standards since Hong Kong adopts international standards and local standard setting is ceremonial.
The most important part of the proposed law is that public company auditors will be inspected by FRC to ensure compliance with auditing standards. The profes-sion wanted the FRC to delegate this work back to the profession, and the gov-ernment rightly rejected that notion. Failure to meet standards is punishable by a fine of up to HK$10 million, or three times the profit from the defective audit. The profession unsuccessfully argued for lower limits. The penalties imposed by the HKICPAs were comically small. While many countries have no statutory lim-its on penalties, the amounts are probably sufficient to serve as a deterrent, especially if revocation of a partner’s practice rights is included.
The costs of the FRC are to be split between the CPA firms, listed companies, and investors through a transaction levy. I think this is unnecessarily complex. Shareholders ultimately pay the costs for each part, and a simpler system would be to charge the listed companies as the US PCAOB does.
The most important issue is not addressed, and that is the funding levels of the FRC. The FRC needs sufficient funding to do its job effectively. I’d suggest that it should be comparable to the budget (HK$107m) of the Canadian Public Account-ability Board. The current FRC budget is HK$20m.
All in all, I see this as a positive step forward for corporate governance in Hong Kong. The proposed reforms will bring Hong Kong in line with international stan-dards and provide greater protection for shareholders.