An operational audit serves as a crucial health check for international businesses operating in China. As the business landscape evolves rapidly, this comprehensive process helps companies stay informed, compliant, and competitive in the unique Chinese market. This article explores the importance of operational audits and their benefits for businesses navigating China’s complex business environment.
The Evolving Landscape of Business in China
Many aspects changed in the way international companies doing business in China have been operating their businesses and sales operations in the last few years. For example, since Covid-19 and three years of closed borders, many were forced to manage their China operation remotely. However, this is not the sole reason; with growing geopolitical tensions and the local trend for self-reliance, an increasing number of companies are relying on their local management, implementing an in-China-for-China strategy.
Still, no company can afford to disconnect from their China operation completely. How, then, can HQ management stay informed and up-to-date with their local business in China? How can they ensure that not only finance practices are in place but also operational standards align with the latest laws, and the company’s standards alike? How would you ensure your Chinese teams are not disconnected from their global counterparts and feel isolated or, lack proper guidance and support?
Common practices turned out to be grave mistakes
In terms of supervision, the majority of international companies doing business in China rely on the annual report that local accountants submit to the tax office. However, even if conducted by a big and reputable firm, the annual report is not enough to paint a true picture of the real business situation of the company in China. Financial reports usually sum up the information provided by the local employees (tax invoices, payment confirmations, etc.), and the accountant then generates an immaculate report following the tax office’s requirements. However, such reports fail to indicate information that reflects the actual situation of the business.
Beyond Financial Reports: The Need for Comprehensive Audits
What kind of indicators? financial reports in China might not include or reflect actual inventory counts or project status, for example. Financial reports also don’t review the Employee Handbook or Data security measures your local operations implemented. These aspects are as important for B2B companies doing business in China, as they are for B2C companies handling large amounts of data or employees.
For these reasons, and others (Cmpany’s Chops, Legal Representative in China, and more) it’s vital to carry out an operational audit of the business. The Operational Audit in China, which adds value to the annual financial audit, is designed to inspect the entire business operation and is necessary, much like a routine health check at the doctor.
An operational audit in China can be conducted monthly, quarterly, or annually, depending on the company’s activities. This audit helps management assess performance, identify risks and compliance issues, and analyze management and departmental alignment. In China’s 2024-5 business landscape, this tool is essential. Keep reading to learn more.
Key Components of an Operational Audit
As the operational audit in China inspects every business department, the financial department is not omitted from this equation. It’s necessary to understand that the financial inspection conducted as part of the operational audit is different from a regular financial audit in the sense that it complements the latter. While the annual financial report records the financial activity as declared by the company to the tax office in a given year, the operational audit we execute is not confined solely to financial reporting.
An operational audit in China examines both the bookkeeping and accounting processes, as well as contracts signed on behalf of the company, and commitments taken with or without the HQ’s knowledge. The audit also examines unexplained excessive expenses and a physical inventory count in the company’s warehouse to locate “borrowed goods.”
The audit teams also review income vs. expenses, the degree of compliance with the tax office’s legal requirements, the company’s tax level, and its impact on the company’s allowed business scope in China. The team ensures to check the tax benefits and any refunds the company is entitled to receive, whilst examining taxes the company must pay and any time-sensitive fines they would want to avoid through timely payment.
In addition, and of no less importance – the operational audit in China attaches great impetus to key working procedures that have financial implications. Therefore, the audit team will check who holds the company’s chops, what is the procedure for using them, who supervises their usage, and so on. Another issue added to the table is the change in China’s Company Law (effective July 2024) that requires companies doing business in China to examine their plans for Capital Injection. If your finance team hasn’t started to address this issue, now is certainly the time to do so.
HR and Labor Management
An operational audit in China includes an in-depth analysis of the company’s HR management protocols. It is conducted by local HR experts, who review all your recruitment processes in China, examine employment and HR management systems, inspect relationships between staff members, ensure compliance with local employment laws, and suggest tools to enhance and optimize internal procedures.
For example, do you provide your local employees with an up-to-date Employee Handbook? When was the last time you reviewed your Labor Contracts in China and made sure they comply with any regulations, for instance, the Personal Information Protection Law (effective 2021) that affects recruitment and hiring of employees in China?
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Digital Risk and Data Compliance
China has set a goal of becoming a fully digitalized society by 2030. Acknowledging the risks this move could impose on individuals’ welfare and national security, the central government introduced the Cybersecurity Law (2017) and later the Data Security Law and Personal Information Protection Law (2021). As these laws restrain company usage and handling of data, they pose new challenges for companies that are “information processors. As regulations in this matter continue to change and evolve, it is important for any company doing business in China (with or without a registered entity – WFOE), to become more knowledgeable about this issue.
If it all goes back to your digital systems, why not start by reviewing them? Not only from the data processing standpoint but also to ensure you avoid potential risks and comply with the latest regulations. You can be sure that an operational audit in China covers you in that aspect, too.
Additional Areas of Focus – customize the audit to your needs
These are some of the key topics an operational audit can focus on. Others might include pricing optimization and a review of your supply chain protocols.
With 20+ years of experience in China operation management, PTL Group’s operational audit service brings our team’s combined administrative know-how to your company’s core. Our experts in finance, HR, business management, supply chain, and logistics in China, will join forces to evaluate your business’s day-to-day operation, and provide you with a detailed report of your company’s situation.
For more information, please contact us.
