Enhanced checks on data security of accounting service providers needed

China strengthened regulations on the process of hiring accounting firms by State-owned enterprises and domestically listed companies in an effort to improve the quality of auditing, promote fairer competition among accounting service providers and effectively pursue high-quality development.

The Ministry of Finance announced a new rule on its website on Thursday. The regulation stipulates a service time limit of eight years for the same accounting firm hired by SOEs, which could be extended to a maximum of 10 years under certain conditions with regulatory approval.

The rule, jointly issued by the Ministry of Finance, the State-owned Assets Supervision and Administration Commission of the State Council and the China Securities Regulatory Commission, also requires enhanced checks on data security of accounting firms.

Under the new regulation, SOEs and listed companies are required to replace external auditors after a certain period. Partners of audit projects and signing certified public accountants who have undertaken the audit service of one SOE or listed firm for five years are not eligible to participate in audit services in the same company for the following five years straight.

In addition, SOEs and listed firms, or the recruiting party, shall individually evaluate and score each valid application document from audit service providers and evaluate consolidated scores. The score weight of quality management shall run at least 40 percent, while the weight of price offers from the auditing service provider shall be at most 15 percent.

In a statement accompanying the release on the new rule, the ministry made it clear that the primary purpose of the new measures is to promote fair competition among auditors, and the new rule shall apply to all accounting firms.

The new measures also call on SOEs and listed firms to strengthen reviews of data security management for accounting firms during the selection and hiring processes.

Li Baixing, a professor of accounting at the Capital University of Economics and Business in Beijing, said on Friday that the key highlight of the new rules is they make it clear that audit quality is the overriding criterion for hiring audit service providers.

"This will help promote audit quality and push for a healthy development of certified public accountants, which I believe is the main goal of the new rule," Li said.

Specifically, the limit on the number of years that a professional services firm can offer auditing services to the same business or organization, and the heavy score weight for service quality, can work to avoid collusion between the SOE or listed company and the auditor. This has been an issue that many believe raised concerns of decline in audit quality.

Tian Lihui, a chair professor of finance at Nankai University in Tianjin, said the new rule comes against the backdrop of China's pursuit of high-quality development, where top-quality corporate governance of SOEs and listed firms is critical.

"The new rule is expected to lift the level of independence, objectivity and professionalism of auditing for enterprises. Such improvements in audit services will make SOEs' financial statements reliable and credible, thus underlining flaws in companies' internal controls, which will in turn improve the quality of corporate governance in China," Tian said.