Chapter 3.3: Accounting and Auditing Requirements and Practices in the People s Republic of China

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In this chapter the general framework governing the accounting and auditing requirements in the People's Republic of China (PRC) is introduced. Following an examination of the characteristics and features of different types of enterprises set up since China opened its door to the outside world, the accounting and auditing requirements as set out in the prevailing accounting 'regulations' and 'systems' are described.

Background and development

With the founding of PRC in 1949 all resources of production in the country came under State ownership and basically the only form of economic entity was the state-owned enterprise. The accounting rules and regulations, known as fund accounting, and characterized by their rigidity and uniformity , were used on the one hand primarily for establishing an information and reporting system for the implementation of State economic policies, and on the other hand for the maintenance of administrative control over assets of the State. To a greater extent accounting rules also served as a tool to strengthen the financial discipline of an enterprise and to safeguard State property.

Since the promulgation of the Joint Venture Law in 1979 a separate set of accounting rules was formulated to govern the preparation of financial statements by enterprises. This was undoubtedly the first step away from the fund accounting concept, which applies to state-owned enterprises and is used mainly for the purpose of resource allocation in a planned economy.

Alongside economic reform and the open -door policy adopted since the beginning of the 1980s, foreign investors were allowed to set up enterprises and conduct business in China. A separate set of accounting regulations that is applicable to foreign investment enterprises only was developed and implemented. Although these regulations or principles are now much in line with the International Accounting Standards (IAS), the requirements are subservient more to the purpose of ascertaining the amount of tax an enterprise should pay rather than to the purpose of ascertaining the 'truthfulness and fairness' of the financial statements.

Concurrently China has undertaken a programme to restructure the form and structure of state-owned enterprises by transforming them into enterprises which issue shares and have limited liability “ joint stock limited companies. Most of these enterprises will eventually go public. A third set of accounting regulations, intended specifically for joint stock limited companies, was formulated in the early 1990s and revised in 1998.

The rapid growth of the economy, the demand for foreign investment, the gradual maturity of China's securities market and the accession into the WTO have highlighted the need for a sound, reliable and transparent accounting system acceptable to foreign investors. The accounting regulations and systems designed to cater for tax regulations and state ownership under the communist system can no longer meet modern business management and funding requirements. To meet the demands of foreign investors and an increasing number of individual and institutional investors in the securities market, a series of regulations were issued. These include the Accounting Law which was issued in 1999, the Regulations on Financial Reporting of Enterprises issued in 2000 and finally the Accounting Systems for Business Enterprises (ASBE) issued in early 2001. The ASBE sets out the fundamental accounting framework and is more in line with IAS.

In 2001 joint stock limited companies offering shares to the public were the first to be made mandatory to adopt the ASBE. The Accounting Regulations for Selected Joint Stock Limited Companies were then abolished.

In 2002 foreign investment enterprises were the second to adopt the ASBE. The Accounting Regulations for Foreign Investment Enterprises of the PRC were replaced . Although not yet mandatory, State-owned enterprises and other domestic enterprises are encouraged to adopt these new rules. In essence the ASBE will become the primary set of basic accounting regulations applicable to different types of enterprises.

Throughout 1996 33 new exposure drafts were prepared on specific accounting issues. At the time of writing, 16 specific accounting standards have been issued, although not all of them are mandatory to foreign investment enterprises. Nevertheless the focus is clearly to steer the current systems and standards towards IAS.