The SEC Bans Big 4 Member Firms in China For Failing to Show Their Work

By | 3 years ago

There's a storm a-brewin' in China and isn't a "fake" sun going viral.

In a massive 112-page opinion, SEC judge Cameron Elliot has brought the hammer down on Chinese units of Big 4 firms, ruling that these units should be barred from auditing U.S.-traded companies for six months. The ruling comes after these member firms failed to show the SEC their work.

Tweeted Professor Paul Gillis of Peking University's Guanghua School of Management who eats this stuff up, "Reading SEC opinion banning China Big Four. Judge objects to firm's gall in some of their arguments. He seems most upset with KPMG."

According to Gillis' comments, this news might be good for non Big 4 firms:

The suspension will have significant effect. The Big Four cannot audit U.S. listed companies during the suspension. The worst possible time for the suspension to begin would be in the next month or two. Most of the calendar year companies file an annual report on Form 20F that requires an audit opinion. That report is due on April 30. If the firms are suspended, they cannot issue audit reports, so the clients cannot file Form 20-F. Under exchange rules, this should lead to the companies being suspended from trading since investors do not have the data they need to be able to trade. Any company planning to do an IPO using a Big Four firm as auditor is out of luck if the auditors are suspended.  

Companies could switch to non-Big Four firms and avoid any consequences. There are almost 50 Chinese CPA firms registered with the PCAOB, but few, if any, have the scale and skills to audit the Big Four’s clients. I do expect that some of the second-tier firms like Grant Thornton, BDO, and Crowe Horwath/RSM are going to pick up a number of IPOs given the uncertainty surrounding the Big Four.

Gillis doesn't expect U.S. member firms to head to China to clean all this up since in order to do so, the firms would have to obtain practice certificates in China, which require them to follow Chinese law, which — here we go again — forbid them from handing over documents to the SEC which is what got them in this mess in the first place.

He suggests the best solution — at least for the firms, for now — would be to try to delay the ruling to start on May 1, which would give them a little time to finish 2013 audits except for FY companies. Hey, better than nothing.

We knew this was coming.

The firms will, naturally, appeal. "It is regrettable that the SEC’s administrative law judge has recommended sanctions against the big four firms in China for failing to produce work papers to the SEC in circumstances where such production would have violated Chinese law and regulations,” the firms wrote. “However, the firms note that the decision is neither final nor legally effective unless and until reviewed and approved by the full US SEC Commission. The firms intend to appeal and thereby initiate that review without delay.”

We will be sure to keep you posted of any new developments and let you know if we come across anything fun in that 112 opinion once the interns finish reading it.

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