SEC Suspends “Big Four” Chinese Units from Auditing U.S. Public Companies

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Jan. 24 – The Chinese affiliates of the well-known “Big Four” accounting firms are suspended from providing audit services for U.S. listed companies for six months, an Administrative Law Judge with the Securities and Exchange Commission (SEC) ruled on Wednesday . The ruling could affect a lot of Chinese companies listed in the U.S. stock exchange market and U.S.-based multinational companies with significant operations in China. The “Big Four” stated on Thursday that they will appeal without delay .

It is an aggravation of the long-running dispute between the SEC and the Chinese government over the access to audit work papers. In December 2012, as part of SEC’s investigations into potential wrongdoing by nine China-based companies whose securities are publicly traded in the U.S., the SEC charged the Chinese arms of the “Big Four” accounting firms with violations of U.S. securities laws and the Sarbanes-Oxley Act for failing to provide audit working papers for U.S. listed companies. The accounting firms claimed that the documents are considered state secrets by Chinese law and therefore cannot be submitted to overseas regulators directly.

Last year, the Public Company Accounting Oversight Board (PCAOB) entered into a Memorandum of Understanding (MoU) on Enforcement Cooperation with the China Securities Regulatory Commission and the Ministry of Finance in May, which allowed limited documents to be handed over to the U.S. after being censored by Chinese regulators.

However, Judge Cameron Elliot was not constrained by the MoU and ruled that the audit firms, including Deloitte, Ernst & Young, KPMG, and PricewaterhouseCoopers, “willfully violated a provision of the federal securities laws, they may be censured or denied the privilege of appearing or practicing before the Commission, if it is in the public interest to do so,” and their actions “involved the flouting of the Commission’s regulatory authority, which may not be as egregious as, say, accounting fraud, but is still egregious enough that it weighs against leniency.”

He elaborated that he understands the accounting firms “found themselves between a rock and a hard place”, but “it is because they wanted to be there. A good faith effort to obey the law means a good faith effort to obey all law, not just the law that one wishes to follow.” Although he expressed that he has little sympathy for the Big Four on this issue because “they invested money and effort in building up their accounting businesses,” he believed that “such behavior does not demonstrate good faith, indeed, quite the opposite – it demonstrates gall.”

In terms of the possible consequences as alleged by the accounting firms that banning them from performing audit service would jeopardize the listings of hundreds of Chinese companies trading in the U.S, Judge Elliot found that larger auditing firms like the Big Four do have reputations for performing higher quality audits than smaller auditing firms. “However, it does not follow that smaller firms would not be ‘adequate’ as auditors”. Hence, he added that the Big Four’s “dire predictions of investor losses, delisting, and loss of market capitalization, which are generally predicated on a lack of adequate substitute auditors, are unrealistic and unpersuasive, and the expert evidence on the subject is generally irrelevant.”

Presently, the ruling of Judge Elliot is only an Initial Decision and will not enter into effect until it is approved by the full commission. Considering the audit season for most of the Chinese companies just started, if the ruling stands, it may be difficult to find another auditor in China.

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1 thought on “SEC Suspends “Big Four” Chinese Units from Auditing U.S. Public Companies

    The topic everyone has missed out on in the widening commentary about this subject is the reason why the Chinese do not want to release audited accounts of Chinese SOEs with subsidiaries in the US to the US prosecutors. Or allow the Big Four to present the audit data they have in their possession to the US Government. There are a number of issues here, and one big one:
    1) Embarrassment over fraud committed by what are Chinese State Owned companies. OK, but this can be overcome by jailing a number of corrupt officials.
    2) The ‘political’ pull over who “owns” the right to cross-border data. (answer: all parties)
    3) The desire by China to injure the Big 4 and break up what is effectively a Western audit cartel and start to influence audit to permit less stringent examinations as Chinese companies are not in fact capable of meeting them on the global arena (Hooray. Breaking up the Big 4 would be a good global move)
    4) China doesn’t want the US to know how much it has been subsidizing its SOE’s in direct contravention of WTO obligations. Now that’s the real issue here.
    – Chris

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