A RECOMMENDATION by the Hong Kong Society of Accountants (HKSA) to adopt commonly accepted guidelines for accounting treatment of Hong Kong companies' investments in China is expected to create a more realistic picture of the companies' activities. A discussion paper currently being worked on will look at the main forms of foreign investment and operations in China. It will examine the underlying substance of the ventures and provides guidance on the most appropriate treatment in accounting for such investments. Opinions are being sought from the territory's six largest accounting firms and a set of guidelines are likely to be published following the consultation. Johnnie Cheng, manager of the audit division at Coopers & Lybrand, said the guidelines would help accountants determine whether a joint-venture project in China should be regarded as an associated company or a subsidiary. Mr Cheng said: ''It is a big step forward in trying to present a true and fair picture of Hong Kong companies' investments in China. ''The HKSA initiative should be a welcome move by the corporate community, by the accountants and auditors, because such guidelines provide a common standard in evaluating mainland investments. ''We cannot afford to wait any longer. In a few years, many Hong Kong companies will have a significant proportion of their operations in China.'' Currently, Chinese laws allow the establishment of three types of enterprise with foreign investment: co-operative/contractual joint ventures, equity joint ventures and sole foreign investment enterprises. Sole foreign investments have a more clear-cut status and are normally treated as subsidiaries, but problems arise from the definition of equity joint ventures and co-operative/contractual joint ventures. In Hong Kong, a subsidiary is simply an entity more than 50 per cent owned and controlled by a parent company. An associated company is more than 20 per cent but less than 50 per cent owned by another company, wherein the parent company has influence but no control of the operation. But the substance of many so-called joint ventures with China makes classification difficult. Under normal company structure in Hong Kong, the majority shareholder has effective control over the company. In China, it is common for joint-venture agreements to give the Chinese partner the ability to impose restrictions on the foreign party's control over the venture. The HKSA says in these circumstances, it may be inappropriate for the reporting entity to consolidate the joint venture, even though it meets the legal definition of being a subsidiary under the Hong Kong Companies Ordinance. For example, if a majority owner cannot order the sale of assets in the ordinary course of business without the consent of its joint-venture partner, the majority owner does not have control over the business. In the case of co-operative joint ventures, they are non-corporate joint ventures where the foreign and Chinese parties contract to conduct business together without forming an entity. The HKSA suggests that although there is no independent entity, the interest in the co-operative joint venture is required to be equity accounted for if the investing company in Hong Kong is in a position to exercise a significant influence over the joint venture. A co-operative joint venture is a de facto subsidiary if the Hong Kong partner is responsible for the set-up costs of the joint venture, contributes all the assets and controls them.