Cambodia Standard of Audit

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REPORT ON THE OBSERVANCE OF STANDARDS AND

CODES (ROSC)

Cambodia

ACCOUNTING AND AUDITING

May 15, 2007

ContentsExecutive SummaryPrefaceAbbreviations and AcronymsI. IntroductionII. Institutional FrameworkIII. Accounting Standards as Designed and as PracticedIV. Auditing Standards as Designed and as PracticedV. Perception of the Quality of Financial ReportingVI. Policy RecommendationsEXECUTIVE SUMMARY

This report provides an assessment of accounting and auditingpractices within the corporate sector inCambodia with reference to the International Financial ReportingStandards (IFRS) issued by theInternational Accounting Standards Board (IASB), and theInternational Standards on Auditing (ISA)issued by the International Federation of Accountants (IFAC). Thisassessment is positioned within thebroader context of the Cambodias institutional framework and

capacity needed to ensure the quality ofcorporate financial reportingCambodia is putting in place an institutional framework with regard toaccounting, auditing, and financial

reporting practices. However, institutional weaknesses in regulation,compliance, and enforcement ofstandards and rules still exist. The accounting and auditing statutoryframework suffers frominconsistencies among different laws. Although the nationalaccounting standards and auditing standardsare based on IFRS, and ISA, respectively, they appear outmoded andhave gaps in comparison with the

international equivalents. There are varying compliance gaps in bothaccounting and auditing practices.


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These gaps could primarily stem from lack of clearer understandingby professional accountants,inadequate technical capacities of the regulators, absence ofimplementation guidance, lack of independentoversight of the auditing profession, and shortcomings in professionaleducation and training. There islittle awareness of the importance of quality financial information inCambodia. Financial reporting isdriven primarily by complying with requirements of shareholders,obtaining bank loans, and satisfying thetaxation regime. Auditing in Cambodia is perceived as an exercise oflittle value. The law does not outlinewhich standards should be followed in conducting audits. Cambodias

accounting profession is largelydominated by the members of the Association of Chartered CertifiedAccountants of the United Kingdom.The Kampuchea Institute of Certified Public Accountants andAuditors is in its early stage of developmentand should be geared to contribute in creating an enablingenvironment for high-quality corporatefinancial reporting and auditing practices in the country.The policy recommendations are aimed for consideration byCambodian authorities. These principle-basedpolicy recommendations include improving statutory framework,strengthening monitoring andenforcement mechanism, upgrading academic and professionaleducation and training, instituting anarrangement for independent oversight of auditing profession,capacity building of regulators and the

professional body, adoption of full IFRS and ISA, upgrading thelicensing procedures for accountants andauditors in practice, introducing a Cambodian professionalqualification examination with focus onadequate level of practical training, issuing and disseminatingimplementation guidance on applicablestandards, enhancing the delivery of continuing professionaleducation, and ensuring adherence to code of

ethics. Considering the limited capacity of Cambodian institutions, therecommendations are premised to


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integrate with regional initiatives, where possible and to building onthe existing systems and promote agradual and continuing process of improvement.PREFACE

There is a broad agreement among members of the internationalfinancial community that theobservance of international standards and codes is pivotal instrengthening national and internationalfinancial architecture. In a world of integrated capital markets,financial crises in individual countriescan imperil international financial stability. At the international level,international standards enhancetransparency. They help to better identify weaknesses that couldcontribute to economic and financialvulnerability, foster market efficiency and discipline, and ultimatelycontribute to a global economythat is more robust and less prone to crisis. At the national level,international standards provide abenchmark that can help identify vulnerabilities as well as guidepolicy reform. To best serve theseobjectives, however, the scope and application of such standardsneeds to be assessed in the context ofa countrys overall development strategy and tailored to individual

country circumstances.Following the Asian financial crisis in 1997, the internationalcommunity recognized the real need toassess the degree to which a country observes the internationallyrecognized standards and codes. TheWorld Bank and the International Monetary Fund (IMF) instituted

Reports on the Observance ofStandards and Codes (ROSC) that assess key areas in a countryseconomic well-being: accountingand auditing, anti-money laundering and combating the financing ofterrorism, banking supervision,corporate governance, data dissemination, fiscal transparency,insolvency and creditor rights,insurance supervision, monetary and fiscal policy transparency,

payments system, and securitiesregulation.


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The ROSC Accounting & Auditing review focuses on the institutionalframework regulating theaccounting and auditing practices, comparability of nationalaccounting and auditing practices withinternational standards and good practices using InternationalFinancial Reporting Standards (IFRS)and International Standards on Auditing (ISA) as benchmarks, andevaluates the effectiveness ofenforcement mechanisms for ensuring compliance with applicablestandards and codes.This ROSC Accounting and Auditing review was carried out in activecollaboration with theGovernment of Cambodia through the National Accounting Council(NAC) and with assistance ofstakeholders including the Kampuchea Institute of Certified PracticingAccountants and Auditors,Department of Finance and Industry of the Ministry of Economy andFinance, National Bank ofCambodia, National Audit Authority of Cambodia, and Phnom PenhChamber of Commerce. Itincluded discussions with representatives of the profession, banks,insurance companies, corporateentities, state-owned enterprises, audit firms, microfinanceinstitutions, corporate accountants andacademics. The NAC guided and facilitated the study process withleadership from H.E. Ngy Tayi,Under-Secretary of State and Chairman of the NAC, with supportfrom H.E. Keat Reasmey, SecretaryGeneral, and Messrs Alexander Sun, Sar Kinal and Seng Tola of the

NAC.The review benefited from inputs and suggestions from peerreviewers: Georges Barthes de Ruyter,former Chairman of the International Accounting StandardsCommittee; Richard L. Symonds, SeniorCounsel, Legal Private Sector Development; Donald Mphande, SeniorFinancial ManagementSpecialist, East Asia Pacific; and Thomas Rose, Adviser, Financial

Sector, East Asia Pacific. This


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report owes very much to the outstanding administrative support ofSophear Khiev, World Bankoffice in Phnom Penh, Cambodia. The report was prepared by a teamcomprising Jennifer Thomson,Senior Financial Management Specialist, East Asia Pacific FinancialManagement (Task TeamLeader); M. Zubaidur Rahman, Program Manager, FinancialManagement Unit, OPCS (StudyAdviser and Team Member); and Dr. Humayun Murshed,International Consultant.ABBREVIATIONS AND ACRONYMS

ACCA Association of Chartered Certified Accountants (UK)ASEAN Association of South East Asian NationsCPD Continuing Professional DevelopmentCPA Certified Practicing AccountantEAPCO East Asia Pacific IAS International Accounting StandardIASB International Accounting Standards BoardIASC International Accounting Standards CommitteeIASCF International Accounting Standards Committee FoundationIFAC International Federation of AccountantsIFRIC International Financial Reporting Interpretation CommitteeIFRS International Financial Reporting StandardIMF International Monetary FundISA International Standard on AuditingKICPAA Kampuchea Institute of Certified Public Accountants andAuditorsMEF Ministry of Economy and Finance of CambodiaNAC National Accounting Council of CambodiaNBC National Bank of Cambodia

NGO Nongovernmental organizationsROSC Reports on the Observance of Standards and CodesSME Small and Medium Size EnterprisesSOE State-owned enterpriseCambodiaAccounting and Auditing ROSC1I. INTRODUCTION

1. This assessment of accounting and auditing practices in Cambodiais part of a joint

initiative of the World Bank and the International Monetary Fund(IMF) to prepare


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Reports on the Observance of Standards and Codes (ROSC). Theassessment focuses onthe strengths and weaknesses of the accounting and auditingenvironment that influencethe quality of corporate financial reporting and involves a review ofboth mandatoryrequirements and actual practice. It uses International FinancialReporting Standards(IFRS)1 and International Standards on Auditing (ISA)2 asbenchmarks, and draws oninternational experience and good practices in the field of accountingand auditregulation. The assessment uses a diagnostic template developed bythe World Bank tofacilitate collection of data. The data is complemented by the findingsof a due diligenceexercise based on a series of meetings with key stakeholdersconducted by World Bankstaff. The intended audience of the ROSC includes national andinternational marketparticipants with an interest in the corporate financial reporting regimeof Cambodia. Anoverview of the ROSC Accounting and Auditing and the detailedpresentation ofmethodologies are available in the World Bank Group website.32. Post-Conflict Development. Cambodia is a small, predominantlyrural country of13.4 million people with gross national income per capita ofUS$320.4 The country is at

a development crossroad as it moves away from a post-conflictsituation toward a morenormal development paradigm.5 Over two decades of conflict thatended in 1991confounded many of the countrys important institutions ofgovernance and management.As a post-conflict and low-income country, Cambodia clearly facesprofound

development challenges. Yet at the same time, the country has madeimportant progress


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in ensuring peace and security, rebuilding institutions, andestablishing a stablemacroeconomic environment, and a liberal investment regime.63. Economic Growth. Since the early 1990s, Cambodia has enjoyedover a decade ofhigh average economic growth7.1 percentdriven largely byconstruction; tourism;and, since the late 1990s, a rapidly emerging garment sector. There isan increase inprivate investment in response to an improved investment climate, asgovernmentreforms begin to show results. Budgetary performance continued toimprove in 2005 withthe overall fiscal deficit estimated at 3.1% percent of gross domesticproduct, narrowerthan the average of the previous 5 years.7 A gradual improvement inrevenuemobilization, due to additional tax measures and strengthened revenueadministration,was accompanied by lower overall spending.1 IFRS correspond to the pronouncements issued by the InternationalAccounting Standards Board (IASB)and International Accounting Standards (IAS) issued by itspredecessor, the International AccountingStandards Committee (IASC), as well as related officialinterpretations.2 ISA are issued by the International Auditing and AssuranceStandards Board (IAASB) within theInternational Federation of Accountants (IFAC).

3 Access ROSC Accounting and Auditing atwww.worldbank.org/ifa/rosc_aa.html.4 Data from www.doingbusiness.org.5 Country Assistance Strategy for the Kingdom of Cambodia, WorldBank, 2005.6 Cambodia: Ex Post Assessment of Longer-Term ProgramEngagement, IMF, 2004.7Development Outlook 2006, Asian Development Bank.

CambodiaAccounting and Auditing ROSC2


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4. Governance. Notwithstanding these achievements, thedevelopment agendaremains large. Poverty rates remain high with 35-40 percent of thepopulation remainingbelow the poverty line, and 15-20 percent in extreme poverty;inequality appears to beincreasing. Achieving many of the Millennium Development Goals ofCambodia will bedifficult unless there are improvements in accountability andgovernance. Weakinstitutions and limited mechanisms of accountability, which arelegacies of Cambodiasrecent history, contribute to high levels of corruption evidencesuggests seriouslyconstrains economic growth, private sector development, and povertyreduction. Poorgovernance is a primary constraint on development in general, and onthe World BankGroups program in particular.8 High quality accounting and auditing

together withtransparent sound corporate reporting are critical to enhancinggovernance and theenvironment for economic growth and financial stability.5. Banking. Cambodias financial sector is at a rudimentary stage,with limitedfinancial intermediation and low public confidence.9 The country hada mono-bankingsystem when the National Bank of Cambodia (NBC) operated throughits provincial

branches. Structural reforms were initiated in 1989 through aGovernment decree toestablish a two-tier banking system by separating the function ofcommercial banks fromthe National Bank of Cambodia. This decree allowed the formation ofprivatecommercial banks as limited liability companies. In 2000 theGovernment embarked on a

comprehensive bank restructuring program with the IMF assistance inorder to enhance


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public confidence in banking. As of December 31, 2006, Cambodiahas 15 commercialbanks, 5 specialized banks, 17 licensed microfinance institutions, 24registeredmicrofinance nongovernmental organizations (NGOs), and 4insurance companies. In therural areas, banking services are even scarcer; the microfinanceoperations of NGOs arethe de facto providers of credit there. About 90 NGOs, supported byinternational fundingagencies, provide microfinance to nearly 471,000 poor households;most borrowers arewomen.6. Capital Markets. There are no capital markets in Cambodia.Proper developmentof capital market requires appropriate legal and accountinginfrastructure, necessaryregulatory and institutional structures, and human resource capacity.Having madeprogress in governance reform (with assistance from internationaldevelopment partners,including the World Bank and Asian Development Bank), theGovernment is movingtoward capital market development. It has established a capital marketunit in theMinistry of Economy and Finance (MEF). The Government is alsoconsidering creatingan independent securities supervisory body responsible for overseeingthe functions of

capital market.8 The Cambodia Country Assistance Strategy focuses on improvinggovernance and combating corruptionas the countrys central development challenge.9 Cambodia: Financial Sector Blueprint for 2001-2010, AsianDevelopment Bank, 2001.CambodiaAccounting and Auditing ROSC37. Private Sector. The structure of Cambodias private sector is

characterized by a


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high degree of informality and little long-term investment inproductive sectors.10Generally speaking, the typical firm is family owned; therefore, thereis often noseparation between management and ownership. The SMEs, whichdominate the privatesector in Cambodia, operate in an uncertain environment and limitedassets to usecollaterals and shorter credit histories make it more difficult for theseentities to obtainfinancing from institutional sources. Diversifying the private sector isan importantagenda of the National Poverty Reduction Strategy. Most observersagree that Cambodiahas the potential to grow through post-harvest agro-industry.11 Thegrowth of the privatesector over the past decade has been remarkable in light of thedestruction wrought byyears of conflict and has proven that private investment can createjobs at wage levelsthat can reduce poverty.12 A number of international firms havealready made substantialinvestments in Cambodian infrastructure.8. Strategy. Several of the following key components of theCambodianGovernments strategy to reduce poverty and support the countrys

economicdevelopment depend on strong financial reporting, accounting, andauditing practices by

the private sector: Creating a better investment environment in order to improve

competitiveness

and achieve sustained economic growth. Enhanced financialtransparency iscritical to attracting foreign direct investment. This can only beachieved bymaintaining sound financial reporting practices within the private

sector. As


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Cambodia moves towards further reforms in order to foster aninvestmentfriendlyclimate these efforts should be supported through enhanced financialtransparency and improved accounting and auditing practices.Accounting andauditing should contribute to the reform process by adequately servingthe needsof providers and users of financial information and helping the marketeconomygrow. Tax reform in order to enhance mobilization of internal resources.The reliabilityof financial information produced by corporate taxpayers is essentialto enablethe government to enhance tax revenue generation. Privatization program. Success will largely depend on the activeinvolvement ofinternational investors and industrial groups, which in turn will callforstrengthening corporate financial reporting practices in Cambodia.From theGovernments standpoint, accessing reliable financial information will

be a keyto maximizing revenues derived from these transactions and tomonitor theseactivities once privatized. Financial transparency and adequatefinancial10 Cambodia: Seizing the Global Opportunity: Investment ClimateAssessment and Reform Strategy for

Cambodia, World Bank, 2004.11 Cambodia: Seizing the Global Opportunity: Investment ClimateAssessment and Reform Strategy for

Cambodia, The World Bank, 2004.12 Cambodia: Seizing the Global Opportunity: Investment ClimateAssessment and Reform Strategy for

Cambodia, The World Bank, 2004.CambodiaAccounting and Auditing ROSC4

disclosures should be required in state-owned enterprises in order tofacilitate


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good governance, fiscal discipline, and optimum allocation of scarceresources. Strengthening bank supervision, as part of structural reforms.Strong accountingand auditing practices are essential elements, as emphasized by therecommendations of the Basel Committee on Banking Supervision.Improving access to financing for the small and medium enterprise

sectorbyproviding banks and venture capitalists with standardized, useful, andreliableinformation.II. INSTITUTIONAL FRAMEWORK

A. Statutory Framework

9. This section outlines the legal principles applicable with regard toaccounting,auditing, and financial reporting and an introduction to issuesconcerning the institutionalframework.10. Law on Commercial Enterprise and Law on CorporateAccounts, their Auditand the Accounting Profession. Basic requirements for accounting,financial reporting,and auditing in Cambodia are set out in the Law on CommercialEnterprises (theCompany Law) and the Law on Corporate Accounts, their Audit andthe AccountingProfession (the Accounting Law).11. Inconsistencies. The Company Law and the Accounting Lawrequire companies

incorporated in Cambodia to prepare annual financial statements alongwith providingrequirements for preparation, presentation, and publication offinancial statements,disclosures, and auditing for the companies. Some of the legalinconsistencies betweenthe two laws in terms of accounting, auditing, and financial reportingrequirements are

cited below:


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The Company Law requires business entities to prepare comparativefinancialstatements for the current financial year and prior financial year.13There is no13 The aim is to indicate the nature of inconsistencies between theapplicable laws. Article 224 ofthe Company Law states, At every general meeting of shareholders,the directors shall present anannual financial statement to the shareholders. The statement shallincludecomparativefinancial statements for the current financial year and the priorfinancial year. However, there isno such indication in the Accounting Law. Article 8 under the Chapter3 of the Accounting Lawstates, The financial statements shall include the balance sheet, theincome statement, the cashflow statement, and explanatory notes. and the Article 11 under the

same chapter states, theduration of the accounting period shall be twelve months. Theaccounting period shall begin on thefirst day of January and end on 31st day of December of the sameyear.CambodiaAccounting and Auditing ROSC5such requirement set by the Accounting Law implying that theenterprises willonly prepare the current years financial statements. The Accounting Law states all enterprises attaining certainthresholds are subjectto statutory audit, conducted by the members of Kampuchea Institute

of CertifiedPublic Accountants and Auditors (KICPAA).14 The Company Lawexempts auditrequirement for a company that has not issued securities to thepublic, or thatdoes not have any outstanding securities held by more than oneperson.15 Thismay lead to a situation where large business entities having significant

publicinterests will be outside of the statutory audit requirements.


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Neither the Company Law nor the Accounting Law mentions whetherthese differingprovisions will be superseded by the enactment of any one of theselaws. Article 9 of theAccounting Law requires that financial statements are to be preparedin the local Khmerlanguage and in Riels.12. The Company Law regulates business activities in Cambodia.The Lawrecognizes four types of business entities: General partnership is set up under an agreement between two ormore legalentities and/or natural persons, who are jointly and severally liable forthe firmscommitments, and undertaken to conduct a certain business under acommonname.Limited partnership is formed under an agreement between two ormore partiesfor the purpose of conducting business under a joint name, in which atleast onethe general partneris jointly and severally liable for partnershipscommitment,and at least one personthe limited partneris limited to acontractedinvestment. Private limited companies have shares that are not publicly tradable.Thesecompanies have a limited number of shareholders (not exceeding 30).

Privatelimited companies generally have a unitary board (board of directors). Public limited companies have shares that may be publicly tradable.Thesecompanies generally have a large number of owners. Public limitedcompanies,including banks and similar financial institutions and insurancecompanies, have a

two-tier management structure (board of directors and supervisoryboard).


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13. Cambodias laws and regulations do not provide a robuststatutoryframework in the area of accounting and auditing. Apart frominconsistencies amonglaws, in many cases the laws appear to be indistinct and do not coverpertinent crucialissues, thus leaving room for misinterpretation. In order to establish astrong corporatefinancial reporting regime, Cambodia should address significant issuesin design andstrengthening of suitable institutions to implement and enforceaccounting, auditing, andfinancial reporting requirements in line with international goodpractices.14 These thresholds are yet to be defined by the MEF15 Article 230, Law on Commercial EnterprisesCambodiaAccounting and Auditing ROSC614. The Company Law and Accounting Law have requirementsthat shareholders

approve the financial statements of a company and establish that

members of the

board of directors are responsible for the probity of legal entity

and financial

statements. Members of boards of directors are responsible forpreparation of the entitysfinancial statements and required to submit these statements (auditedwhere applicable)for approval to the general shareholders meeting within six months ofthe financial yearend.

Failure to present financial statements for shareholders approval maylead to a fineor imprisonment or both.16 The right of shareholders to approve thelegal entity financialstatements is important in that it allows the owners of the companyto check on theperformance of management and its stewardship of the entitys

resources. Except for

banks and similar financial institutions there is no legal requirementfor the Cambodian


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entities to file their annual financial statements to any authority ofCambodia.15. While the Accounting Law mandates the use of CambodianAccounting

Standards for preparation of legal entity financial statements,

small and medium

enterprises are subject to simplified accounting requirements.

Article 4 of theAccounting Law requires that enterprises must comply withCambodian AccountingStandards, the principles of which are proclaimed by the Ministry ofEconomy andFinance and in line with International Accounting Standards. Parallel

to this, since June2006 the Ministry of Economy and Finance allows the small andmedium enterprise,fulfilling any two of the following thresholds, to follow simplifiedfinancial reportingrequirements and prepare their financial statements using the MEF-issued FinancialReporting Template for Small- and Medium-Sized Enterprises: Total maximum number of employees is from 11 to 100. Annual turnover is from 100 million Riels to less than 250 millionRiels. Total assets are from 100 million Riels to 250 million Riels.This is an appropriate step since IFRS-based standards seem not onlyunnecessarilyonerous for small and medium enterprises but also inapplicable. TheIFRS should be used

unchanged as the standards for public interest entities,17 and separatestandards shouldapply for other entities. Experience shows that this can ensure greatersuccess and animproved compliance culture.16. The Accounting Law mandates the National AccountingCouncil (NAC) to act

as policy overseer in the field of accounting. The National

Accounting Council was


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established as an MEF division under the Accounting Law in 2003 asthe officialstandard-setting body along with the authority of reviewing all draftlaws andregulations which consist of provisions pertaining to the preparationof accounting work16 Article 296, Law on Commercial Enterprises and Article 18 of theAccounting Law17 Within this report, public interest entities are those in which thegeneral public has an interest by virtue ofthe nature of their business size, their number of employees, or theirrange of stakeholders. Examplesinclude banks and similar financial institutions, insurance companies,investment funds, pension funds,publicly traded companies, and large enterprises, including large state-owned enterprises.CambodiaAccounting and Auditing ROSC7for all enterprises or economic activities.18 However, it does nothave an explicitmandate for monitoring and enforcing applicable accounting standardsin Cambodia. TheNational Accounting Council is composed of representatives ofvarious ministries,KICPAA, National Bank of Cambodia, academia, and the businesscommunity. In orderto discharge its mandated responsibilities, the National AccountingCouncil requiressignificant capacity building.17. The Accounting Law gives legal mandate to the KICPAA for

regulating theaccountancy profession under MEF supervision. The KICPAA wasestablished by theAccounting Law in 2003. The fundamental objective of this instituteis to act as a bodyfor determining and maintaining adequate professional standards forits members andawarding the license for its members engaged in the public

accountancy practice.


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KICPAA functions through its Governing Council which comprisesnine electedmembers. The major statutory functions of the KICPAA Councilinclude designing andimplementing policies regarding admission of membership,administering programs formembers professional development, ensuring adherence to

professional ethics andstandards, and taking disciplinary actions against erring members.KICPAA is a memberof ASEAN Federation of Accountants but not a member of theInternational Federationof Accountants (IFAC).18. The National Accounting Council has issued CambodianStandards onAuditing. There is no legislation establishing which audit standards toapply forstatutory audits. Auditors in Cambodia purport to comply with theCambodian Standardson Auditing. However, there is no legal authority for this approach.19. Except for banks and similar financial institutions, there is norequirement for

companies to file their annual financial statements. This hasseriously constrained theavailability of financial information about important business entitiesoperating inCambodia. Due to the absence of such legal requirement, manybusiness enterprisesappear to be reluctant even in preparation of their financial statements.

Due to nonavailabilityof financial statements, it is difficult for public users and potentialinvestorsto compare the quality of financial statements and assess the financialstanding of a givenenterprise thereby limiting informed decision-making. Furthermore, itis an impedimentto transparency in the corporate sector and can have detrimental

effects on the countrys


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investment climate. Except in the case of banks, the ROSC team hadconsiderabledifficulties in accessing legal entities financial statements. From thediscussions heldduring the ROSC due diligence mission, it was inferred that manycorporate entities viewthe preparation of financial statements as merely ritual, and mainlynecessary either fortaxation purposes or obtaining bank financing.20. There is no legal requirement for group of companies toprepare consolidated

financial statements. For the companies with subsidiaries inCambodia, there is nolegislative requirement for consolidation. This represents a seriousshortcoming in theregulatory framework as non-consolidated financial statementsprovide an incomplete18 Article 7, Law on Corporate Accounts, their Audit and theAccounting Profession.CambodiaAccounting and Auditing ROSC8view of companys financial performance and position. Wheneverapplicable, thepresentation of consolidated financial statements should be mandatedby the law.21. The Law on Banking and Financial Institutions (the BankingLaw) set the

requirements for financial reporting by banks and microfinance

institutions and

related regulations issued by the National Bank of Cambodia.

Under the BankingLaw and related regulations, banks and microfinance institutions mustissue auditedfinancial statements by March 31 of each calendar year. The financialstatements mustcomply with the requirements of Cambodian Accounting Standards;however, in theevent the accounting requirements imposed by the National Bank of

Cambodia are


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different from those of the Cambodian Accounting Standards, theNBC requirements willprevail and take precedence over the Cambodian AccountingStandards.19 Banks andmicrofinance institutions are also subject to monthly financialreporting, includingstatement of assets and liabilities, detailed information on loans anddeposits, and variousfinancial ratios. The National Bank of Cambodia prescribes the chartof accounts andformats for banks and microfinance institutions in order to preparetheir financialstatements.22. Banks comply with the NBC-mandated filing requirements.Banks mustpublish and submit their audited annual financial statements togetherwith the auditorsreport to the National Bank of Cambodia by June 30 of each calendaryear. Legal entityfinancial statements of some banks are available on their websites.23. The National Bank of Cambodia approves the appointment ofstatutory

auditors to perform the audit of financial statements of banks and

microfinance

institutions. Given the low capacity of audit firms this pre-approvalprocess is a good exante monitoring of the audit quality. Before December 31 of eachcalendar year, banksand microfinance institutions must notify the National Bank of

Cambodia with the nameof the selected statutory auditors for its approval. There is no clearlydefined approvalprocess adopted by the National Bank of Cambodia. It maintains a listof selectedqualified auditors, which includes both local and members ofinternational audit firmnetworks. In practice, banks and large microfinance institutions select

and ask NBC


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approval for local member firms of international audit firm networksthat are operating inthe Cambodian audit market. The National Bank of Cambodia has theright to reject thestatutory auditors selected by the banks without assigning any reason.Banks andmicrofinance institutions are required to change their statutoryauditors every three years.24. The Insurance Law sets out the various compositions oftechnical provisions

relating to insurance contract but not the measurement principles

and disclosure

requirements with respect to financial reporting. Insurancecompanies are notrequired to comply with specific accounting, auditing, and financialreportingrequirements. The Financial Industry Department of the Ministry ofEconomy andFinance has not yet prepared insurance accounting regulationsconcerning financialstatements. In Cambodia, no insurance companies publish their annualfinancial19 This is outlined in the Prakas (official pronouncement) by theNational Bank of Cambodia issued onDecember 25, 2002.CambodiaAccounting and Auditing ROSC9statements. This practice seriously limits provision of any informationof significantpublic interests.

25. Cambodian tax law requires companies to submit annualfinancial statementswith their annual tax returns. The companies derive corporateincome for tax purposesafter adjusting relevant figures from their general purpose financialstatements, as perapplicable provisions and allowances under the tax law.26. The Law on Audit established the National Audit Authority

and empowers the


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Auditor General to conduct audits of state-owned enterprises. Theaudit conducted bythe Auditor Generals Office primarily focuses on the compliancewith rules governingSOE financial management. The National Audit Authority hasdeveloped a set of auditguidelines geared toward acquiescence of pertinent rules andregulations. Thegovernment staff responsible for providing guidance on conductingSOE audits needsbetter exposure to relevant public sector accounting and auditingpronouncements by theInternational Federation of Accountants. It should be noted thatlimited information ispublicly available on the financial position and performance of state-owned enterprises.B. The Profession27. The public accountancy profession in Cambodia is at an earlystage of

development. The Kampuchea Institute of Certified PublicAccountants and Auditors isunable to move the profession forward or project its image as aneffective regulator of thepublic accountancy profession in Cambodia. This is primarily due toits lack of technicalcapabilities and scarce governance structure. The KICPAAgovernance primarily rests onvolunteers from its members. It does not have technical resources toprovide guidance to

its members on important issues for implementing applicableaccounting and auditingstandards in Cambodia and for instituting adequate quality assurancearrangements withrespect to performance of its members. Assessed in comparison withIFACs Statementsof Membership Obligation, the KICPAA falls short of publicexpectations for a

professional body.


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28. All KICPAA members hold foreign accountancyqualifications. The KICPAAmembership recognizes foreign professional accountancyqualifications for membershipwithout requiring further examination.20 At present, all KICPAAmembers hold foreignaccountancy qualifications. A large majority are qualified under theAssociation ofChartered Certified Accountants (ACCA) of the United Kingdom. TheACCA has adiscernible presence in Cambodia. With the unavailability of localqualifications, ACCAqualifications are becoming increasingly popular in Cambodiaprimarily due to itsinternational marketability. There is an increasing tendency among theaspiringaccountants in Cambodia to obtain ACCA professional qualifications,however, manyCambodian find it expensive to pursue this qualification.20 Currently KICPAA does not have any list of recognizedprofessional accounting qualifications.However, the current membership draws from the accountancyprofessional bodies of Australia, Englandand Wales, New Zealand, as well as the Association of CharteredCertified Accountants, United Kingdom.CambodiaAccounting and Auditing ROSC1029. Beginning in 2010, only professional accountants who areCambodian citizenscan undertake audit attestation services. The KICPAA members

with 3 years ofpractical training in the field of accounting and auditing are eligible toundertake auditservices. Currently, most of the 29 KICPAA members are foreigners.All currentmembers can undertake audit services regardless of their nationalities.However, by alegislative order beginning January 1, 2010, the Ministry of Economy

and Finance


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mandates that only qualified members of KICPAA, who areCambodian citizens, canprovide audit services.30. The actual market for audit services in Cambodia is relativelysmall due to arelatively low demand. There are 9 audit firms operating inCambodia, includingmembers of the large international accounting firm networks. Mostbanks, as well aslarge corporate entities, are audited by local members of internationalfirm networks. Thelocal audit firms are small, mainly with one partner, and mostlyconcentrate on tax casesalong with performing bookkeeping services and conducting audits forsmall companies.31. Except for large entities, the corporate sector in general doesnot have accessto professionally qualified accountants. The accountants for manycorporate entities,including some banks, lack the required skills to prepare financialstatements inaccordance with applicable accounting and reporting requirements.Consequently,compliance by preparers of financial statements with applicablerequirements in manycases is limited. Furthermore, the limitations in legal and regulatoryenvironment providelittle incentive for company directors to ensure that financialstatements are prepared as

per established standards.32. There is no system in place to ensure that auditors complywith the IFAC

Code of Ethics for Professional Accountants. Among auditors withwhom the ROSCteam met there is a varying degree of awareness of the actual contentof the ethicalstandards. Without any means of ensuring auditors are working in

compliance with


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ethical standards, the public cannot be assured of the Cambodianauditors genuinecommitment and adherence to internationally agreed standards ofintegrity andobjectivity, professional competence and due care, confidentiality,professional behavior,and technical standards. In essence, so far the KICPAA has notundertaken any effort toensure compliance with the code of ethics.33. The independence of auditors from the audited entities is noteffectively

practiced. The current practice in Cambodia of independence inauditing is not in linewith the requirements of the IFAC Code of Ethics for ProfessionalAccountants. Whilethere are factors outside the profession which directly affect auditors

ability to actindependently (e.g., the limited capacity in many companies toprepare proper financialstatements), the possible breaches of independence requirementsadversely affect theperceived value of audit. Additionally, many stakeholders perceivethat auditorsinvolvement in both audit and tax advocacy may threaten auditors

independence.34. Cambodias relevant laws do not provide for significantpenalties againstnegligent auditors. Certain factors appear to adversely affectauditors accountability.

CambodiaAccounting and Auditing ROSC11There is no legal requirement to take professional liability insurance.This tends to limitauditors accountability and in many cases has created an environmentof unconcerntoward risks of malpractice suits by auditors. Moreover, Cambodiahas not yetexperienced any litigation against auditors.

35. The statutory audit firms lack capacity while some promotesleeping


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partners. Many audit firms, including the members of largeinternational firmnetworks, do not have an adequate number of qualified staff toconduct work.Consequently, most actual audits are being carried out by traineeaccountants.Furthermore, there are cases where audit firms are using the name ofpersons, who arenot present in Cambodia. This arrangement promotes the sleeping

partner, joining afirm in name only without actual work to boost the size of a firm togain business.36. Management tends not to take full responsibility for preparingfinancialstatements. Some stakeholders have cited instances when companymanagement haseither partly or fully relied on auditors to also prepare financialstatements. This may bedue to the lack of qualified professionals available for preparingfinancial statements andcorporate managements misperception about the role of auditors. Thelatter point arisesfrom company directors lack of knowledge on auditing procedures

thus impairingsignificantly their fiduciary responsibility. In order to be compliantwith theindependence rules, auditors should not audit the financial statementsthat they prepare.37. The mandate of KICPAA does not specifically include serving

the publicinterests. The duties of KICPAA as outlined in the Accounting Lawfundamentallyimply representing the KICPAA members and promoting theirprofessional interests.The mandate of a professional auditors association should be as much

to defend thepublics interests as their own. Hence the Accounting Law should

make it an explicit


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duty of KICPAA to serve the audit professions public who rely on the

objectivity andintegrity of auditors, including clients, credit grantors, governments,employers,employees, investors, and the business and financial communities.Also, governmentregulation of the profession through the Ministry of Economy andFinance cannot beconsidered as a substitute for public oversight. Any effective systemof public oversightmust include representatives from these stakeholder groups since nosingle stakeholderhas a sufficiently broad scope to reflect adequately these diverseinterests.C. Professional Education and Training38. Accounting education and training lacks the focus on skillsnecessary fordischarging professional obligations. In opinions expressed to theROSC team, manystakeholders felt that the overall quality of accounting education andtraining in thecountry was not sufficient to produce skilled professional accountantsand auditors. Poorcommunication skills, insufficient practical exposure, and lack ofarrangements forenhancing trainee accountants broad-based knowledge and criticalthinking ability havebeen identified as major contributing factors for poor quality. Inessence, the accounting

education in Cambodia does not adequately provide broader exposureto the necessaryconditions for functioning as professional accountants; being capableof handlingCambodiaAccounting and Auditing ROSC12challenges; and, particularly in line with emerging internationaldevelopments,considering the implications of such challenges in the context of

Cambodia.


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39. The accounting curricula in Cambodia do not adequatelyprepare students in

international good practices and IFACs education standards.Most Cambodianuniversities offer an accounting curriculum; the same universitiesdefine the subjectcontent with no minimum requirements. No effort has been made toharmonize theaccounting curricula and establish minimum requirements for type andcontent of courseson accounting and auditing. The accounting curricula do not focus onIFRS and ISA butare restricted to accounting technicalities and basic procedural aspectsof auditing.Moreover, most accounting textbooks lack adequate focus on theinternational accountingand auditing, in particular the practical application of IFRS and ISA.Some universitiescurricula started integrating Cambodia Accounting Standards andCambodia Standardson Auditing. However, the capabilities of teaching practicalimplications of thesestandards remain a concern. From interviews with university staff, theROSC team foundlittle academic-side involvement with the international professionalaccountingorganizations. Universities do not subscribe to publications of theInternationalAccounting Standards Board (IASB) and have not made attempts to

implement IFACsrecommendations for accounting and auditing education.40. There are significant challenges to overcome in the education,training and

certification of professional accountants and auditors in

Cambodia. Cambodia doesnot have in place its own curriculum and professional examination.KICPAA has a joint

examination scheme with ACCA and also has entered into anagreement with the CPA,


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Australia. As of September 2006, there were 510 students registeredfor professionalexamination, most of them studying for ACCA qualification. Many ofthese students areeither sponsored by private sector enterprises, including multinationalcompanies, or bythe Ministry of Economy and Finance. The passing rate for the ACCAexamination isless than 4 percent. Training is provided by private tuition providers,but there are noavailable means to monitor the quality of these tuition providers.41. Practical training requirements for registering a professionalaccountant as an

independent auditor need strengthening. Prior to obtaining apracticing license, acandidate is required to have 3 years of practical training under thesupervision of aqualified person in an approved training provider. KICPAA does nothave anymechanism to screen practical training providers on their suitability toprovideappropriate experience and does not monitor the quality of practicaltraining.2142. Continuing professional development programs do notsufficiently cover

applicable standards and ethics. KICPAA members have beenrequired recently toparticipate in a continuing professional development (CPD) program.The program does

not stipulate specific hours of attendance and does not conform to therelevant IFACpronouncement. KICPAA does not have any mechanism to enforcecontinuing21 IFAC has outlined practical experience requirement in IES 5,Practical Experience Requirements. Thestandard requires that the professional body should ensure allcandidates receive adequate practical

experience.CambodiaAccounting and Auditing ROSC13


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development as a requirement of professional membership. Theseminars focus more ongeneral issues rather than industry-specific practical implementationof applicableaccounting and auditing standards. The programs as they exist areinadequate formembers to develop or maintain sufficient theoretical knowledge andprofessional skills.There is a clear need for improvement in the content, structure, anddelivery of the CPDprogram. Regular checks and random audit of compliance withcontinuing professionaldevelopment would ensure that members are indeed fulfilling thisrequirement.43. Professionals working in small accountancy firms largely lackcapacity to

undertake audits in line with international good practices. Manypractitioners insmall- and medium-size firms in Cambodia are handicapped by theirlack of access tocurrent literature on the applicable accounting and auditing standardsand codes. Thesepractitioners are constantly struggling to keep their client base andearn enough to stayafloat. Such a situation could limit the quality of auditing in thecountry.44. The university education in accounting lacks adequatecoverage onprofessional values and ethics. Formal education can significantly

sharpen aspiringaccountants awareness of ethical problems and can influence theirreasoning andjudgment with respect to ethical dilemmas. For this reason, the IFACrecommendsteaching professional ethics separately in the pre-qualifying educationof professionalaccountants.22 However, the academic accounting curriculum does

not provide adequatecoverage on professional ethical dimensions.


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D. Setting Accounting and Auditing Standards

45. Accounting and auditing standards are issued by the NationalAccountingCouncil. Article 7 of the Accounting Law empowers the NationalAccounting Council toissue accounting standards in Cambodia. Accounting standards areprepared on the basisof the text of IFRS/IAS translated into local Khmer language, withsome adaptations ormodifications. However, in cases of auditing standards, nomodifications are made to theInternational Standards on Auditing. The National AccountingCouncil has adopted 15accounting standards and 10 auditing standards. Draft standards arenot open forcomment. Instead advice is sought informally from experiencedindividuals in accountingand auditing. Without consultative due process, the standard-settingprocess in Cambodialacks involvement and input of public interest.46. There is no explicit legal backing for the setting of auditingstandards in

Cambodia. In order to give the adequate legal and regulatory backing,legislativeprovision should be enacted empowering the National AccountingCouncil to issueauditing standards.47. Although the National Accounting Council is mandated to setthe accounting

standards, it lacks resources. With limited budget from the state andtoo few staff,22 IFAC IES 4, Professional Values, Ethics, and Attitudes; and IFACEducational Guideline No. 10,Professional Ethics for Accountants: The Educational Challenge and

Practical Application.

CambodiaAccounting and Auditing ROSC14NAC operations are constrained. This hinders the timeliness of

important NAC activities,


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which include timely adoption of standards, updating Cambodianstandards based onchanges in the international standards, and issuing guidance withrespect to practicalapplication of these standards. For example, the Council does notreview accountingissues that are likely to receive divergent or unacceptable treatment inthe absence ofauthoritative guidance, with a view to reaching consensus on theappropriate accountingtreatment. Therefore, preparers of financial statements generally go tothe auditors todevelop interpretations. Developing interpretation capacity within theNationalAccounting Council is expected to facilitate consistent interpretationand application ofapplicable accounting and auditing standards.48. Accounting standards of banks and similar financialinstitutions are

supplemented by NBC-issued regulations but with confusion as to

the authoritative

source of their standard-setting. The National Bank of Cambodiaissues prudentialregulations that have an impact on preparation of general purposefinancial statements.Furthermore, regulations assert that the prudential requirements of theNational Bank ofCambodia will prevail over Cambodian Accounting Standards in casesof contradiction in

preparation of financial statements. The differences between these twoaccountingframeworks, could, in some cases, present a contradictory reportingframework for thebanking sector. Such confusion could lead to inconsistencies inapplication of accountingregulations across banks limiting transparency and comparability. Or,it could result in

forcing preparation of two sets of financial statements. Furthermore, itremains unclear as


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to which accounting profit, based on Cambodian AccountingStandards or National Bankof Cambodia requirements, will be the basis for tax calculation orprofit distribution.E. Enforcing Accounting and Auditing Standards49. The Accounting Law does not provide a clear and effectivemechanism for

enforcing the corporate accounting, financial reporting, and

auditing requirements.Article 18 of the Accounting Law outlines the provision of fine orimprisonment or bothfor noncompliance with Cambodian Accounting Standards.23 Up tothe present, there areno known noncompliance cases. This situation is compounded by lackof an effectiveaudit pillar to report noncompliance. The Accounting Law does notdefine which entitiesare to ensure enterprises compliance with applicable accounting,financial reporting, andauditing requirements; and what type of control the authorities shouldexercise in thatmatter. This has resulted in complete absence of monitoring andenforcement activitieswith regard to applicable standards. The consequence is that investorsand bankers aredeprived of a broad range of information that allows peer groupfinancial analyses withina specific economic sector. This is seen by many agents in thefinancial system as an

impediment to their investing or lending activities and ultimatelyhampers enterprisesaccess to capital.23 For noncompliance with Cambodian Accounting Standards, themaximum fine is 10 million Riels or 2years imprisonment, or both.CambodiaAccounting and Auditing ROSC1550. Priorities in enforcement for the National Bank of Cambodia

is with


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prudential reporting rather than general purpose financial

reporting. The BankingLaw establishes the authority to enforce accounting regulations andconduct supervision.Supervisors conduct on-site examination on each bank once per year.While thisestablishes a regular review of compliance with applicable accountingregulations, theNational Bank of Cambodia focuses more on prudential reporting thanon generalpurpose financial reporting. Consequently, misstatements and errors ingeneral purposefinancial statements may remain undetected or not known to thepublic unless prudentialconsiderations warrant it.51. The NBC staff involved in enforcement activities needadequate technicalaccounting expertise. There is a clear need for enhancing NBCstaffs technicalcapabilities, particularly in terms of practical application ofaccounting standards withregard to monitoring and enforcement of financial reportingrequirements. Bankingsupervisors have expertise in the legal and compliance issues outlinedin different officialpronouncements of the National Bank of Cambodia and can challengebanks wheredifferences arise. However, they need to have sufficient technicalaccounting knowledge

in order to effectively monitor and enforce compliance with regard toapplicableaccounting and auditing standards.52. It is unclear what sanctions could be imposed in the event abank did not

comply with accounting and financial reporting requirements. TheBanking Lawestablishes sanctions for not complying with provisions of the law,

regulations and


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guidance. Such sanctions would include among others, administrativefines andpenalties, and revocation of licenses. A range of sanctions may beimposed for departurefrom the approved chart of accounts. In order to ensure bettercompliance with thegeneral purpose financial reporting requirements, more clarity of thesanctions regime isnecessary under the banking legislative framework. Clarity ofrequirements andsanctions is an important underpinning of any enforcement frameworkas it makes clearto participants the obligations and penalties for noncompliance.53. The insurance regulator does not monitor compliance byinsurance companies

with accounting standards mainly due to its lack of technical

capacity. There is noqualified actuary or professionally qualified accountant on the staff ofthe MEF FinancialIndustry Department. This lack of expertise seriously limits capacityto verify whetherthe provisions relating to insurance contracts are correctly calculated,which is one of themost sensitive aspects of accounting by insurance companies. Thenumber of staff of theconcerned regulatorFinancial Industry Department of Ministry ofEconomy andFinance is too small to allow effective on-site inspections.54. The KICPAA does not have any arrangement for quality

control review ofaudit firms. The KICPAA does not have the capacity to carry outnecessary qualitycontrol review of monitoring and enforcement activities. Auditors arenot subject topractice review, and there is no effective mechanism for disciplinaryaction in cases ofviolation of applicable standards. An independent review mechanism

can ensure thatCambodiaAccounting and Auditing ROSC16


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audit firms have adequate quality control arrangements that complywith internationalgood practices.55. Lack of implementation guidance is constraining fullcompliance of accountingand auditing standards. In Cambodia, neither the KICPAA nor otherorganizationsissues guidance on implementation of Cambodian AccountingStandards and CambodianStandards on Auditing. This has contributed in some cases to theknowledge gap amongpreparers and auditors of financial statements. Consequently, it raisesa possibility ofapplying the standards inconsistently and resulting in compliance gapsbetween standardsrequirements and actual practices. Lacking access to modern auditpractice manuals,many audit practitioners are unable to deal with important conceptslike audit risk, auditplanning, internal control, materiality, documentation, going concern,and quality control.With KICPAA-implemented guidance, the auditors can audit withapplicable rules andstandards. This guidance should incorporate cases and illustrationsrelevant to Cambodiaand focus on industry-specific experience.III. ACCOUNTING STANDARDS AS DESIGNED AND AS

PRACTICED56. Cambodian Accounting Standards were developed on the

basis ofInternational Accounting Standards, but they have not been

expanded or updated

for several years. The 2002 version of IAS was used to develop theCambodianAccounting Standards. Since that time, the International AccountingStandardsCommittee (IASC) and its successor the International Accounting

Standards Board


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(IASB) have issued several new standards, and updated or repealed anumber of the preexistingones. None of the changes made to previously adopted IAS arereflected in thenational standards, and later international standards have noequivalent in Cambodia. Asa consequence, many of the newly issued standards are not applied inCambodia, andsome national IAS-equivalent standards are out of date. In addition,the interpretationsissued by the Standing Interpretations Committee and its successorInternationalFinancial Reporting Interpretation Committee (IFRIC), which areintegral components ofIFRS, have not been adopted in Cambodia. This leaves preparers offinancial statementswithout the needed guidance for applying Cambodian AccountingStandards in specificcircumstances.57. The absence of accounting standards in sensitive areas poses aserious threat

to the quality of the financial information in the corporate sector.

This is a majorshortcoming of the Cambodian standards since proper reporting ofsensitive and frequenttransactions cannot be made. For instance, although construction isone of the boomingindustries in the country, due to the absence of any related accountingstandards, there is

likely to be a situation where incorrect reporting will take place.58. Some banks and companies in Cambodia prepare separate setsof financial

statements under IFRS and Cambodian Accounting Standards to

satisfy the needs

of shareholders or lenders. This is the case for enterprises that haveforeignshareholders or have borrowed from international creditors, including

multilateral or


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bilateral donors. While this contributes to the quality of the financialinformation, it hasCambodiaAccounting and Auditing ROSC17the drawback of obliging those companies to keep two different setsof financialstatementsone for statutory purposes, the other for investors andlendersand differentaccounting records. It creates a disincentive for regulators andstakeholders to strengthenthe statutory financial reporting regime and represents an additionaladministrativeburden for those companies.59. Companies and their auditors face practical difficulties inimplementingCambodian Accounting Standards. Discussions by the ROSC teamwithrepresentatives of companies and auditors revealed someimplementation problems withCambodian Accounting Standards. Most of these problems arise fromlack of adequateexpertise among corporate accountants who find it difficult to preparefinancialstatements in accordance with the national requirements. Moreover,Cambodiaaccountants in some cases lack industry-specific knowledge withregard to application ofrelevant Cambodian Accounting Standards. The ROSC team observedthis problem ismore pervasive in the insurance industry in Cambodia.

60. Based on the review of the accounting and reportingrequirements set by the

National Bank of Cambodia, there are significant differences

between the actual

reporting requirements and IFRS pertaining to the banks. TheIFRS require anentity, which purports to comply with IFRS, to make an explicit andunreserved

statement of compliance in the notes to its financial statements. Inorder to affirm IFRS


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compliance, an entity must comply 100 percent with all therecognition, measurement,and disclosure provisions of the standards and interpretations. If anentity complies with99 percent of IFRS requirements, it cannot affirm compliance withIFRS. It is for thisreason that under IAS 1, Presentation of Financial Statements, there isa fundamentalrequirement that all standards within IFRS be fully complied with; themain reason beingthat applying only part of the standards may produce incomplete andmisleadinginformation. Although all banks and similar financial statements areclaiming that theycomply with IFRS, in reality there exist differences between disclosedaccountingpolicies and actual practices. The major differences noted by theROSC team follow:Determination of the allowance for loan losses. Banks andmicrofinanceinstitutions are required to calculate impairment in the unsecuredportion ofloans and receivables on the basis of provisioning matrix and guidanceonassessing borrowers repayment capacity, approved by the National

Bank ofCambodia. This leads to a range of fixed provisioning rates for thenumber ofdays a loan has been classified as nonperforming. While this might be

relevant for prudential purposes, the regulators formulaic approachmay notcomply with IAS 39, Financial Instruments: Recognition andMeasurement,which requires impairment or loan losses to be calculated as thedifferencebetween the assets carrying amount and the present value of theestimated

future cash flows (excluding future credit losses that have not beenincurred),


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and discounted at the financial assets original effective interest rate.

TheROSC team is concerned that the disclosed accounting policy seemsto bebased on compliance with IAS 39 when the banks are in effectapplying adifferent policy. Furthermore, an overly formulaic approach to loanCambodiaAccounting and Auditing ROSC18classification and provisioning may result in an under-/overstatementof actualeconomic losses, with consequential impact on capital adequacy,taxation, andinterest rate pricing.Income from loan origination fees. Banks in Cambodia generallyaccount forloan origination fees on a cash basis and do not follow the guidance ofIAS18,Revenue, with regard to the appropriation of loan origination fees.Financial service fees should be distinguished between fees that are anintegral part of a financial instruments effective interest rate, fees thatareearned as services provided, and fees that are earned on the executionof asignificant act. Loan origination fees charged by banks are an integralpart ofestablishing loan; therefore, these fees should be deferred andrecognized asan adjustment to the effective yield.61. The review of sample audited financial statements issued by

corporate entitiesin Cambodia evidenced some compliance gaps. The World BankROSC team reviewed28 sets of financial statements (13 commercial banks, 5 specializedbanks, 4 microfinanceinstitutions, and 6 limited liability companies). Complemented byinterviews withcorporate accountants, practicing auditors, academics, bankers, and

regulators, the ROSC


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review revealed instances of compliance gaps.24 The review focusedon issues ofpresentation and disclosure but did not cover compliance withrecognition andmeasurement requirements of accounting standards, which are notdetectable throughsuch review of financial statements. Although few financialstatements had a high degreeof compliance, there were several instances of accounting policies anddisclosures thatdid not comply with IFRS/IAS. A selection of compliance gaps foundin the reviewfollow:Presentation of financial statements. Noncompliance with IAS 1,Presentation of Financial Statements, could seriously impair the useoffinancial statements. Some companies did not provide prior periodinformation (either in financial statements or in the accompanyingnotes). Thisimpedes understanding performance of the reporting entities andevolution oftheir financial position. Additionally, certain elements of the financialstatements, including financial instruments, accounts receivables orpayables,and intangible assets were not shown on the face of the balance sheet.Also,some companies did not present their required statement of changes inshareholders equity.Insufficient disclosure of accounting policies. The notes to the

financialstatements did not always include required disclosures, especiallyregarding(a) revenue recognition; (b) useful lives of property, plant, andequipment; (c)leases; (d) employee benefits; and (e) determination of the fair valueof24 Compliance gaps refer to the deviation of actual practices from the

applicable accounting standards.


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Since Cambodian Accounting Standards are based on IFRS/IAS, andsome important areas have noequivalent national standards, the compliance assessment isundertaken on the basis of IFRS/IAS in ordertherefore to make the review more comprehensive.CambodiaAccounting and Auditing ROSC19financial instruments. Lack of clarity and precision in disclosure ofaccountingpolicies leads to noncompliance with IAS 1.Related party. Many entities, including some financial institutions,omittedimportant disclosures such as relationship and transactions, pricingpolicies,volumes of related party transactions, and corresponding amounts.Adequatedisclosure of material related party relationships and transactions isessentialto users understanding of a companys financial position and results,and forminority investors confidence that they will receive fair treatment.Inadequatedisclosure in this regard leads to noncompliance with IAS 24,RelatedParty

Disclosures.

Employee benefits. Inadequate disclosure as to whether actuarial orany otherforms of valuation had been used to quantify outstanding liabilities forpostemploymentbenefits does not adhere to requirements of IAS 19,EmployeeBenefits.Inventory. Failing to follow all requirements related to measuringanddisclosing inventories at the lower of either cost or market value doesnotcomply with IAS 2,Inventories. Contingent liabilities. Some companies did not adequately disclosecontingent liabilities, making their financial statements noncompliant

withIAS 37, Provisions, Contingent Liabilities, and Contingent Assets.


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Impairment losses. Potential failures to recognize impairment lossesonproperty, plant, and equipment could result in overstated assets. Mostof thefinancial statements did not indicate whether the long-term assetswereimpaired and therefore not complying with IAS 36,Impairment ofAssets.

Failure to comply with this standard could create a misconception thatthecarrying amounts of property, plant, and equipment in auditedfinancialstatements are overstated.Disclosures in financial statements. Contrary to the requirement ofIAS 30,Disclosures in the Financial Statements of Banks and Similar

Financial

Institutions, some financial institutions did not make adequatedisclosure withregard to (a) gains/losses from dealings in securities and foreigncurrencies;(b) methods of calculating fair values of each class of financial assetsandliabilities; (c) information relating to loans and advances on whichinterest isnot being accrued; (d) information on the amounts set aside forgeneralbanking risks; (e) significant concentration in the distribution ofassets,

liabilities, and off-balance sheet items; (f) amount of significant netforeign currency exposure; and (g) irrevocable commitments to extendcredit.2525 IAS 30 has been replaced by IFRS 7, effective January 2007.CambodiaAccounting and Auditing ROSC20 Operating expenses usually capitalized. In a few cases, it wasapparent fromthe notes to the financial statements that operating expenses (start-up,

reorganization, or advertising) had been capitalized, though under IAS38,


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Intangible Assets, these should have been expensed as incurred. Whiletheamounts involved were not necessarily material, such an accountingpracticein direct contradiction with applicable principles is detrimental to thereadersconfidence in the reliability of the financial statements. Other. The review also noted the following: (a) in a number ofinstances, noexplanation or details were provided for significant balances orincomestatement elements. (b) In some cases, the required information onoperatingleases was not disclosed. (c) In evaluating the deferred tax liability,thecompanies failed to consider certain elements necessary for accuratecomputation of such liability, resulting in their understatement by amaterialamount. (d) Although there are indications that some samplecompanies hadlong-term borrowings from banks, disclosure on restricted assetspledged assecurities was lacking. (e) Some financial institutions did not provideananalysis of assets and liabilities into relevant maturity groupings.62. Evidence suggests the lack of adequate capacities to prepareIFRS-based

financial statements. In a number of sample financial statements, itwas unclear who

had prepared the IFRS-based financial statements. The ROSC teamsdiscussions withcompany management during its due diligence mission led it tobelieve that thecompanies may not have adequate resources or ability to prepareIFRS-based financialstatements. It is possible therefore that the auditors either prepared orprovided assistance

with the preparation of such financial statements. This raises asignificant independence


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issue that was subsequently confirmed on a few occasions as towhether the actualaccounting policies followed by the companies comply with theboilerplate disclosuresin IFRS-based financial statements.63. The ROSC review revealed that general purpose financialstatements are often

influenced by taxation considerations. In order to satisfy therequirements of taxationauthorities with regard to the recognition of taxable revenues anddeductible expenses,the preparers of general purpose financial statements often tend todeviate fromapplicable financial reporting standards, preferring to follow thetaxation regulations. Asa result, treatment of certain items (e.g., depreciation, revenuerecognition, provisions) inthe general purpose financial statements may be different from thatwhich should applyunder the IFRS/IAS. Transparency and accountability suffer from thisemphasis on taxand deviation from applicable financial reporting standards.CambodiaAccounting and Auditing ROSC21IV . AUDITING STANDARDS AS DESIGNED AND AS

PRACTICED

64. Cambodia Auditing Standards, which are based onInternational Standardson Auditing, are not up to date. Cambodia Standards on Auditingcorrespond to the

version of ISA released by IFAC in 2002. Since 2002, theInternational Auditing andAssurance Standards Board has promulgated several ISA statementswhile no equivalentupdates have been made in Cambodia. Many critical matters are leftuncovered by thenational standards. Without the updates to reflect internationallyagreed standards, audit

practice in Cambodia faces reduced quality. Moreover sinceCambodia does not have an


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equivalent standard that conforms to International Standards onQuality Control,Cambodia Standards on Auditing cannot be regarded as conforming tothe ISA.2665. The environment in which the auditing process is developed inCambodia does

not appear to be conducive to compliance with auditing standards.

The ROSC teamheard from interviewees of several factors that seem to explain thedifficulties ordisincentives in complying with established auditing standards:Lack of understanding of the audit process by corporate entities.Representatives of audit firms recognized a difficulty with companiesthat arenot familiar with or equipped to accommodate external audit.Lack of practical experience and technical expertise for applying

auditingstandards and enforcing accounting standards. Because accountingcurriculaare not oriented toward practical application of the auditing standardsandcontinuing education and training is not effectively provided, auditorsmayexperience difficulty in applying applicable standards.Limited role of governance structures among companies. Exceptfor thebanks, audit committees are infrequent in Cambodia since corporateentitiesare not required to establish them. Yet audit committees are believed

to playan important role in ensuring that external auditors fulfill theirresponsibilitiesto deliver an audit that meets the needs of the stakeholders.Absence of monitoring and effective sanctions. There is nomonitoring of thecompliance with auditing standards and to ensure that practicingauditors in

Cambodia observe quality assurance procedures. Also the law doesnot


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explicitly set sanctions against auditors. Not publishing the financialstatements of most companies reduces the possibility thatinfringement byauditors of their responsibilities are uncovered, thereby weakeningauditorsincentives for quality.66. Differences in the technical proficiency, level of experience,and level of

resources across audit firms result in significant differences inaudit quality. Ingeneral, application of auditing standards differs among audit firms ofdifferent sizes. Toassess actual auditing practices, the ROSC team interviewedpracticing auditors and26A Guide for National Standard Setters That Adopt IAASBsInternational Standard But Find It Necessary

to Make Limited Modifications, Policy Position, IFAC, July 2006.CambodiaAccounting and Auditing ROSC22senior leaders of the auditing profession. Facilitated discussions wereconducted with thepartners representing large- and medium-size audit firms. It appearedthat auditorsassociated with international accounting firm networks generally tendto follow auditingstandards. Nevertheless, there were instances where some of thesefirms apparently couldnot ensure a proper quality audit. Smaller audit firms find it difficultto bear the cost ofimplementing auditing standards in an adequate fashion. Various

stakeholders suggestedthat improved audit supervision by the audit partners, instead ofrelying significantly onthe trainee accountants, would improve the application of auditingstandards.67. The development and dissemination of implementationguidance will facilitate

better application of auditing standards. Most of the audit firms,

except those


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Second partner peer reviews are generally not done. Auditors sometimes find it difficult to obtain audit evidence andso rely on management representations, particularly for related partytransactions, and contingent liabilities. Professional clearance (usually as communication with retiringauditor) is not always done as most retiring auditors do not respond tosuch requests.CambodiaAccounting and Auditing ROSC23 Shortage of expertise in information technology (especially inmediumand small firms) erodes audit quality. It is not always possible to obtain audit evidence that the openingbalance does not contain material misstatements that affect the currentperiods financial statements.70. Lack of understanding by directors and members ofmanagement about the

purpose of audits sometimes makes it difficult for auditors to

obtain appropriate

audit evidence. Many auditors claimed that some directors andmembers of topmanagement often fail to appreciate adequately the purpose and valueof auditing. Suchsituations limit access to evidence in forming professional judgments.Despite thearduous efforts by some auditors to carry out audits in accordancewith international goodpractices, they view this task as a major constraint in discharging theirprofessionalresponsibilities.V. PERCEPTION OF THE QUALITY OF FINANCIAL

REPORTING

71. There is a general perception that, with the exception of banks,the financialstatements in Cambodia are of low quality. The higher quality ofthe banks financialstatement has been attributed primarily to relatively closer monitoringand enforcement

by the NBC. On the other hand, the perceived poor quality of thefinancial statements of


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other entities, in general, stems from limited demand for financialinformation from thirdparties, dominance of tax reporting in the absence of other demand,limited or noenforcement by the appropriate authorities, and limited capacity ofauditors andaccountants.72. Banks do not rely on the financial statements presented bypotentialborrowers in determining whether to extend credit. Although,entities are required tosubmit their financial statements as part of the loan applicationprocess, banks generallybase their lending decisions on other factors, including amount ofcollateral, businessforecasts, and site visits. The majority of corporate lending isgenerally based on theborrowers capacity to post collateral rather than its ability to servicethe debt. (Financialanalyses supporting lending decisions are limited; as such, auditedcorporate financialstatements figures often matter little in the lending process.)73. The users believe that financial statements audited by largefirms meet

higher standards of financial reporting. Interviews and discussionswith variousstakeholders, including bankers, revealed that a higher degree ofreliance is placed on thefinancial statements that are audited by the members of international

accounting firmnetworks. Contrary to that position, some stakeholders considered anaudit in most casesdoes not add value, but is only a requirement for the company to win acontract or toobtain a bank loan.74. Representatives of the audit profession expressed the view thatauditing was

not highly valued. They perceived there was no pressure from themarket to improve the


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CambodiaAccounting and Auditing ROSC24quality of audit and improvement would not occur until the marketvalued the auditfunction more highly. Most of the enterprises in Cambodia tend toraise capital byborrowing secured by assets rather than on the strength of financialstatements. This pointof view was consistent with the views expressed by bankers.75. The financial statements of corporate entities are not readilyavailable due to

the perception that they are confidential. With the exception ofbanks and similarfinancial institutions, corporate entities were reluctant to share copiesof financialstatements with the ROSC team. There is a general perception amongthe owners and topmanagement of corporate entities that the information in financialstatements isconfidential and should not be shared with anyone outside thecompany. Perhapscompanies do not give out financial statements because they do notwant people to knowwhat they are doing and why. This reflects a secretive corporatestructure. Also, itindicates attaching relatively low importance to the use of financialinformation in thebusiness decision-making process.VI. POLICY RECOMMENDATIONS76. The recommendations of this ROSC are interrelated and mutually

supportive andare designed to collectively improve the financial reportingenvironment in Cambodia.The policy recommendations emerge from the ROSC review ofaccounting and auditingpractices in Cambodia, as well as the valuable inputs received fromthe variousstakeholders. These primarily principle-based recommendations take a

holistic approach


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and are expected to provide input in preparing a Country Action Plangeared toward thesustainable high-quality corporate financial regime in Cambodia. Inimplementing therecommendations, the Country Action Plan should identify specificactivities to beundertaken under the supervision of a national stakeholder group andpossibly with theassistance from the World Bank and other development partners. Thenationalstakeholder group should be comprised of representatives from theregulators, KICPAA,academia, banks, insurance companies, and the chamber of commerce.Based on thesuccessful experience of other countries, this stakeholder group shouldown the countryaction plan and develop strategies for implementation. The group willwork under theMinistry of Economy and Finance.77. The recommendations are aimed at Cambodias implementationauthorities. Thefollowing points have been taken into account in designing the policyrecommendations: Modernizing the statutory framework in order to improve corporateaccounting, auditing, and financial reporting practices; Building capacities for professional accountants and auditors andregulators; Emphasizing the case for strengthening the capacity of nationalinstitutions

involved with corporate accounting and auditing practices inCambodia; Achieving greater financial transparency in the corporate sector andlimitingtax evasion through ensuring proper calculation of corporate profits;CambodiaAccounting and Auditing ROSC25 Promoting a gradual process of improvement in the monitoring andenforcement activities in the context of accounting and auditing of the

publicinterest entities.


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78. The policy recommendations should be integrated, whereverpossible throughregional initiatives. This has led to development of recommendationscovering variousareas which may appear costly to the relative size of the Cambodianeconomy. It isenvisioned that with regional integration the cost of implementingmany of the policyrecommendations would be substantially reduced and would reapincreased benefits. Itshould be noted that establishing a framework for regional integrationmay not be easy;however, considering relatively limited institutional capacities, it willbe Cambodiasinterest to promote the case for regional collaboration to strengthencorporate accountingand auditing practices through benefiting from the regional expertise.79. Revise the Accounting Law. The Accounting Law should bethoroughly revisedto (a) place greater emphasis on financial reporting, (b) provide legalbacking for the useof IFRS and ISA, and (c) outline an appropriate framework formonitoring andcompliance. This should be focused on enhancing the statutoryframework governingaccounting, auditing, and financial reporting using a holistic approachtaking into accountother laws and regulations, including Company Law, Banking Law,Tax Law, and others.

This legal rationalization should underscore the overall principles andpurposes offinancial reporting, consistent with IASB framework for thepresentation and preparationof financial statements. Detailed forms and requirements should bedealt with at the levelof secondary regulations.80. With regard to revising the Accounting Law, the authorities

may want to


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create a multi-disciplinary group involving different stakeholders inorder to undertakethe following major functions: Comprehensive review of all legislation related to accounting,auditing, andfinancial reporting in order to identify vague or conflictingrequirements. Specify mandatory IFRS and ISA application in totality only forpublicinterest entities in Cambodia. These entities should be defined throughananalysis of the business structure in Cambodia. Where the regulatorsneedadditional information for prudential supervision purposes, this shouldbe anaddition to the IFRS. Specify simplified financial reporting requirements for small andmediumsizedenterprises (SMEs). The SME-thresholds should be provided by law. Clearly mandate obligatory preparation of consolidated financialstatementsfor group companies fulfilling the criteria of public interest entities. Provide an appropriate governance structure and level ofindependence toKICPAA in line with international good practices. Expand the mandate of National Accounting Council to set auditingstandardsin Cambodia in collaboration with KICPAA in addition to its currentmandate

for setting accounting standards.CambodiaAccounting and Auditing ROSC26 Provide legal backing for establishment of an arrangement for auditpracticereview. In this regard, rationalization of different legislativeprovisions isnecessary for giving the review arrangement adequate power. Promote public interest responsibilities of professional accountants

and


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auditors in Cambodia. Appropriate attention should be given toredefine therole of professional accountants and auditors, taking intoconsiderationaccountants professional obligations to protect public interests, adaptgovernance of KICPAA in line with international developments,enforceprofessional ethics requirements, and enhance discipline amongmembers. Provide regulators with adequate authority to sanction appropriatelyforviolations of applicable accounting and auditing standards and rulesforensuring effective monitoring and enforcing actions. Incorporate appropriate provisions outlining auditors independence.Legislation should prohibit in particular the auditors involvement inpreparing financial statements of audit clients. Additionally, as a

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Cambodia Standard of Audit

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