RECOGIDA DE VARIABLES

The establishment of the AC in Hong Kong can be traced back to year 1993 (Dempsey, 2014) when the Hong Kong Society of Accountants, known as Hong Kong Institute of Certified Public Accountants, adopted the recommendations of Cadbury Committee Report (1992) in order to enhance the efficacy of corporate governance of Hong Kong listed companies (Chan et al., 2011). One of the recommendations was to establish the AC so as to oversee financial reporting and au- dit processes in Hong Kong (Lin, Hutchinson and Percy, 2015; Chan et al., 2011). However, not many listed firms in Hong Kong paid attention to the recommendations for establishing the ACs due to the fact that this establishment was on a voluntary basis (Jaggie and Leung, 2007).

In December 1997, The Hong Kong Society of Accountants prepared a report titled A Guide for the Formation of an Audit Committee (HKSA, 1997) in order to encourage listed companies in Hong Kong to establish ACs. This guide also recommended the duties of an AC, such as review and supervision of the financial reporting along with internal control processes (Jones, 2015). It also recommended that an AC should have written terms of reference specifying their authority and duties (Lin et al., 2015; HKEx Appendix 14). An AC should consist of at least three mem- bers and that the majority of them should be independent (Lin, Hutchinson and Percy, 2015). Hong Kong Stock Exchange adopted these recommendations as the best practice guide of the Listing Rules. Subsequently, companies were required to disclose whether they have an AC (Lin, Hutchinson and Percy, 2015). Since the absence of an AC may influence the reputation of listed companies in Hong Kong, this, in turn, encouraged many firms to establish them voluntarily (Jones, 2015).

The Asian Financial Crisis from July 1997 to August 1998 showed that corporate governance mechanisms in Hong Kong were ridden with significant weaknesses (China Centre for Economic Research, 2000). The ineffectiveness of an AC was considered to be one of the reasons of the financial crisis. Therefore, in 2002, Hong Kong Stock Exchange (HKEx Appendix 14) recom- mended that Hong Kong listed companies enhance AC independence (Chan et al., 2011; Jaggie and Leung, 2007). In the same year, the Hong Kong Society of Accountants issued a report titled A Guide for Effective Audit Committees (HKSA 2002) to improve the guidelines pertaining to the formation of an AC (Jones, 2015).

In 2004, the details of the guideline issued by The Hong Kong Society of Accountants were con- tained in the guidelines of corporate governance practices issued by the Hong Kong Stock Ex- change and Securities and Future Commission (HKEx 2004); this guideline highlighted its (AC) importance in augmenting the reliability of financial reports (Jaggie and Leung, 2007; Chau and Leung, 2006).

In 2005, HKEx (Chapter 3, p7) stated:

“Every listed issuer must establish an audit committee comprising non-executive direc- tors only. The AC must comprise a minimum of three members, at least one of whom is an inde- pendent non-executive director with appropriate professional qualifications or accounting or re- lated financial management expertise as required under Listing Rule 3.10(2). The majority of the ACMs must be independent non-executive directors of the listed issuer. The AC must be chaired by an independent non-executive director.”

Until 2005, the responsibilities and structures of the AC had been strengthened to enhance its oversight effects on financial reporting and audit processes (Jones, 2015; Chau and Leung, 2006; HKEx Appendix 15). To illustrate, the AC should review financial information and disclosures and focus mainly on its completeness, accuracy and fairness, including the appropriateness of statements made by directors of the company (HKEx Appendix 15). In particular, it must be sat- isfied with and endorse the financial statements and disclosures before presenting them to the full board of directors for approval (HKEx Appendix 15). This review of financial information and

disclosure should encompass major areas such as the application of significant accounting poli- cies, the reasonableness of judgmental issues and estimates, disclosure, unusual items, significant audit adjustments, EAs’ concerns and significant unadjusted audit differences, as well as con- sistency of financial information (Yu and Rudge, 2014; Chau and Leung 2006; Hong Kong Soci- ety of Accounts, 2002; HKEx Appendix 15).

The AC should also monitor internal and external audit coverage in order to ensure that all key risk areas are considered (Jones, 2015; HKEx Appendix 15). This may entail reviewing and dis- cussing the audit plan whilst resolving issues relating to previous years (Jones, 2015). In addition, the AC should assess the effectiveness of the internal audit function, including the adequacy of its resources as well as its standing within the company (Chau and Leung, 2006). The AC should report and make recommendations to the entire board on matters relating to its work and findings in areas like financial and other reporting, internal control and risk management, audits and other duties and responsibilities (Yu and Rudge, 2014; Chau and Leung, 2006). Therefore, an effective AC is expected to enhance audit quality. (Lin, Hutchinson and Percy, 2015; Chan et al., 2011; Jaggi and Leung, 2007)

Extant studies in Hong Kong support the viewpoint that the establishment and structure of AC are important for improving financial statement and audit quality. For example, using data from 1999 to 2000, Jaggi and Leung (2007) observed that the presence of the AC is important to con-

strain earnings management; however, the effectiveness of the AC is significantly reduced when family members are present on corporate boards. Using data from 2005 to 2006 in Hong Kong Stock Exchange, Leung, Richardson and Jaggi (2014) observed a positive relationship between the independence of AC and firm performance for non-family firms. Using data in 2006, Chan et al. (2011) noted that AC meetings and disclosure of sufficiency of resources provided to the AC were positively related with the firm performance measured by Tobin’s Q. Using data relating to Chinese firms cross-listed in Hong Kong from 2004 to 2008, Lin, Hutchinson and Percy (2015) found that AC independence and experience were negatively associated with earnings manage- ment, but pointed that there was a significant and positive relationship between AC independ- ence and experience and earnings management amidst the presence of government officials in the AC.