Following is a question by the Hon Kenneth Leung and a reply by the Secretary for Financial Services and the Treasury, Mr James Lau, in the Legislative Council today (January 17):
It was reported that a number of personnel from an accounting firm were issued summons for contempt of court in November last year as the firm failed to produce, pursuant to a High Court’s order, the working papers concerning the auditing of the accounts of a Mainland enterprise. The reason for the firm’s non-compliance was that the relevant papers involved state secrets and sensitive information, and the production of such papers without the Mainland authorities’ permission might violate Mainland laws and regulations. Some members of the accounting sector have pointed out that similar cases have occurred from time to time in recent years, and the differences between Hong Kong and the Mainland in the relevant laws and regulations have put them in a difficult situation. In this connection, will the Government inform this Council:
(1) whether it has assessed the impacts, on business development, work procedure to be followed as well as the legal liabilities and risks to be borne by Hong Kong accounting firms when conducting audits, brought about by the situation that since the Interim Provisions on Accounting Firms’ Provision of Auditing Services for the Overseas Listing of Enterprises in Mainland China promulgated by the Ministry of Finance of China took effect on July 1, 2015, Hong Kong accounting firms have to concurrently comply with the relevant provisions and regulatory requirements of Hong Kong, the Mainland and the international community when they conduct cross-border auditing businesses; if so, of the outcome;
(2) whether it will discuss with the Mainland authorities the establishment of a mechanism to assist Hong Kong accounting firms in obtaining the Mainland authorities’ approval for the production of papers concerning the auditing of accounts of Mainland enterprises pursuant to the orders of Hong Kong’s court or regulatory bodies, and the setting out in such a mechanism the procedure for handling audit papers involving state secrets and sensitive information; if so, of the details (including the work schedule); if not, the reasons for that; and
(3) whether it will request the Financial Reporting Council (FRC), upon its becoming an independent oversight body of auditors of listed entities, to discuss with the Mainland authorities the establishment of a mechanism to facilitate FRC to obtain papers concerning the auditing of accounts of Mainland enterprises which are needed in disciplinary hearings, and the setting out in such a mechanism the procedure for handling audit papers involving state secrets and sensitive information; if so, of the details (including the work schedule); if not, the reasons for that?
My reply to the three parts of the question raised by the Hon Kenneth Leung is as follows:
(1) All along, when Hong Kong auditors carry out auditing work outside Hong Kong, they are required to comply with the local legislation and the requirements of the relevant local regulators. The Interim Provisions on Accounting Firms’ Provision of Auditing Services for the Overseas Listing of Enterprises in Mainland China (Interim Provisions), as mentioned by the Hon Kenneth Leung, is one of the principal regulatory requirements promulgated by the Ministry of Finance (MoF) to govern Hong Kong auditors in carrying out auditing work in the Mainland.
After the issue of the exposure draft in April 2014 and the release of the official version in May 2015 by the MoF, the Interim Provisions have been in full implementation since July 1, 2015. The Interim Provisions set out the relevant rules and regulatory requirements on the business co-operation arrangement between a non-Mainland accounting firm (including Hong Kong accounting firm) and a Mainland accounting firm, when the former is commissioned by a Mainland enterprise to provide listing audit services.
Overall, since the implementation of the Interim Provisions, compliance by Hong Kong accounting firms with the requirements in respect of business co-operation arrangement has been generally smooth. The Hong Kong Institute of Certified Public Accountants (HKICPA) has also formulated relevant guidelines, such as a sample business co-operation agreement, for reference by accounting firms. It is worth noting that when the exposure draft was issued by the MoF in 2014, the Hong Kong audit profession conveyed to us a number of concerns regarding the proposed requirements. These concerns mainly related to the scope of Mainland enterprises covered by the Interim Provisions, the criteria of Mainland accounting firms that can be chosen as business co-operation partners and the rights of Hong Kong accounting firms in the business co-operation. Having discussed with the HKICPA, the Securities and Futures Commission, the Hong Kong Exchanges and Clearing Limited and the Financial Reporting Council (FRC), we relayed the concerns of the Hong Kong audit profession over the Interim Provisions and put forth the issues that required clarification and further deliberation to the MoF. Subsequently, several refinements and adjustments in the official version of the Interim Provisions promulgated by the MoF in 2015 have served to address the major concerns of the audit profession and financial regulators in Hong Kong. These refinements and adjustments include:
(a) Scope of Mainland enterprises covered by the Interim Provisions: for enterprises legally established in the Mainland in which over 50 per cent of the shares, equities, assets, voting rights or other similar interests are directly or indirectly held by investors from the Hong Kong Special Administrative Region, the Macao Special Administrative Region or Taiwan, the audit services relating to their overseas listing are not governed by the Interim Provisions. This has addressed the request of the Hong Kong audit profession.
(b) Mainland accounting firms that can be chosen as business co-operation partners: accounting firms that are legally established in the Mainland with over 25 Chinese certified public accountants and with quality practice and sound professional ethics are eligible to become business co-operation partners. This provision has offered more choices for Hong Kong accounting firms seeking business co-operation partners.
(c) Rights of Hong Kong accounting firms in the business co-operation: when a Hong Kong accounting firm enters into business co-operation with a Mainland accounting firm, it has the right to determine the assignment of work, distribution of profits and related matters in the business co-operation. This provision has also addressed the queries of the Hong Kong audit profession regarding the exposure draft.
Besides, the enterprises and accounting firms concerned are also required under the Interim Provisions to strictly comply with the relevant requirements on confidentiality and records management. The details are elaborated in the ensuing paragraphs.
(2) and (3) According to the Interim Provisions, audit working papers prepared in the Mainland during the auditing process shall be kept in the Mainland. If a Mainland enterprise is involved in legal proceedings or related matters where non-Mainland judicial authorities or regulators need to review its audit working papers, or non-Mainland regulators need to review the audit working papers in performing their regulatory functions, such reviews shall be conducted based on a regulatory agreement reached between the Mainland and the relevant non-Mainland regulators. We understand that the auditor oversight bodies in Hong Kong, i.e. the HKICPA and the FRC, have been separately discussing with the relevant Mainland authorities on the relevant co-operation agreement. In order to enable the auditor oversight bodies in Hong Kong to effectively carry out their statutory duties such as inspections and investigations within the appropriate ambit, the co-operation agreements would cover, amongst other things, the mechanism to obtain or review the relevant auditors’ audit working papers kept in the Mainland, and how cases where the audit working papers involve state secrets and sensitive information or are required to be used in judicial proceedings should be handled.
As mentioned in the question raised by the Hon Kenneth Leung, the Government is proceeding with the reform on the regulatory regime for listed entity auditors. We propose that the FRC will become the independent oversight body of listed entity auditors under the new regulatory regime. In addition to its existing investigatory function, the FRC will be further vested with day-to-day inspection and disciplinary functions. Therefore, the co-operation agreement to be entered into between the FRC and the relevant Mainland authorities pursuant to the Interim Provisions will cover the FRC’s future functions under the new regulatory regime, including the issue of allowing the FRC to use the relevant audit working papers in its disciplinary hearings.
Over the years, the HKICPA and the FRC have maintained good communication with the relevant Mainland authorities on cross-boundary regulatory co-operation. We believe that the discussion among the parties concerned will continue with a view to concluding the co-operation agreements as soon as possible. We also understand that prior to the signing of the co-operation agreements, the FRC will not request accounting firms to produce the relevant audit working papers kept in the Mainland; and the HKICPA will not initiate disciplinary actions against accounting firms because of their failure to produce the audit working papers kept in the Mainland. The Government will closely monitor the development and maintain liaison with all relevant stakeholders.