US regulators will get access to Chinese companies'' audit documents under a deal announced on Friday, opening the way to probes of bungled audits after a two-year stand-off between China and the United States. The nonbinding deal is only a partial victory for the United States, which has been blocked from investigating accounting scandals at dozens of Chinese companies listed on US stock exchanges.
It applies only to enforcement cases against auditors, not against China-based companies suspected of accounting fraud. And it does not allow US regulators to do on-the-ground inspections of auditors in China - a key part of efforts to combat fraud. "This deal would allow investors to find out after the fact how they were defrauded but would do nothing to prevent the fraud in the first place," said US Senator Charles E. Schumer. If a more complete agreement cannot be quickly reached, the US Securities and Exchange Commission should consider de-registering Chinese firms, he said.
The pact was the result of more than two years of negotiations between the Public Company Accounting Oversight Board, the US regulator for audit firms, and its counterparts in China - the China Securities Regulatory Commission and the Ministry of Finance.
Effective on May 10, it calls for the PCAOB to cooperate with the CSRC and the Ministry of Finance on the exchange of documents. Any non-public documents exchanged will be kept confidential, according to a memorandum of understanding between the agencies. "We will be proceeding on a good faith basis that this is going to open up some access to work papers for us," said PCAOB Chairman James Doty. "It does not replace the duty of inspecting audit engagements regularly." The signing of the memorandum "is a significant step in China-US audit oversight" and paves the way for cross-border enforcement assistance between the two countries, the CSRC said in a statement.
Investors have lost billions of dollars on Chinese companies selling shares on US exchanges in accounting scandals since 2010. Many of those companies have been booted from US exchanges, but hundreds still have shares trading in the United States. The deal will have no impact on a lawsuit filed by the US SEC against five top audit firms in China over their refusal to turn over documents, said SEC Commissioner Luis Aguilar.
Under Friday''s agreement, the PCAOB can share documents with the SEC, but only if they were obtained for a PCAOB enforcement action. In December, the SEC charged the Chinese affiliates of accounting firms Deloitte, KPMG, PricewaterhouseCoopers, BDO and Ernst & Young with securities violations for refusing to produce documents.
The firms said that turning over the papers would put them in violation of China''s state secrets law. Even if the SEC is able to get documents through the PCAOB, it still faces hurdles in fraud investigations, attorneys said. "For an enforcement case, the SEC would need to serve a complaint on the accused, which may be extremely difficult if a potential defendant is in China," said Jacob Frenkel, a former SEC lawyer and now a partner at Shulman Rogers.
The PCAOB has been negotiating with China for more than two years to get access to documents and permission to do joint inspections with the Chinese. China resisted out of concern about exposing state secrets, triggering a high-stakes standoff and raising the risk that China-based auditors would be deregistered by the PCAOB. That in turn could have triggered massive stock exchange delistings of China-based companies, which have to file audited financial statements to meet exchange requirements.
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