The Big Four in China have been required to restructure into Special General Partnerships (SGP) on the expiration of their joint ventures in China. Three of the Big Four joint ventures expire in 2012 with PwC not expiring until 2017. I understand that PwC will be transferring its practice into an SGP in the near future.
The SGPs must be at least 60% owned by locally qualified CPAs, allowing foreign (including Hong Kong and Taiwan) CPAs to own 40%. The 40% goes down to 20% over five years. In addition, the Senior Partner of the SGP must be a Chinese national, although existing senior partners can continue in their present roles for three years. The Chinese national requirement is probably a violation of China’s WTO commitments which generally prohibit nationality-based restrictions, although I think the firms are unlikely to challenge it.
I have heard that each of the firms have selected a Hong Kong partner as senior partner of the SGP, although the process at PwC remains unsettled. Although the SGP is controlled by local partners, I understand the senior partners are being installed during the set-up process before the local partners get the right to vote.
I have written previously about KPMG’s mockery of the process by setting up an SGP with only 25 partners. Since then E&Y has completed their setup and filed with the PCAOB on September 17. Deloitte and PwC have not reported the setup of their SGPs to the PCAOB as is required, indicating that their setup must still be in progress.
At the PCAOB Standing Advisory Group meeting in Washington last week, Professor Joseph Carcello had an exchange with PCAOB Chairman James Doty about the reorganization of these firms:
Chinese nationals now have to hold majority ownership stakes in accounting firms in China, at least that is what I understand, including PCAOB registered firms. When does a change in ownership require a new registration and might this change provide an opportunity for the Board related to inspections in China?
First, Our rules provide for a Form 4 filing if it is substantially the same entity.
I don’t want to get farther into that. We have one of the real acknowledged experts in this area with us in Paul Gillis and I am sure we will hear more of that in the breakout sessions and during the session.
But I do think that the utilization of Form 4 gives us some time to consider what the general policy should be towards Chinese firms.
But I think Paul Gillis and others have written clearly about why it is important to get to a result that conforms with law because at the end of the day we do have a much larger question with 50 Chinese firms registered here in this country.
It is a situation that, unless brought into line with the requirements of international auditing oversight, which are not only ours but other countries as well, and brought into a general understanding that is the community of nations now that have these regimes, it is going to create increasing and broader problems than these change of ownership situations present.
We are at a halfway stage with those Form 4 filings.
I have previously written that I do not believe the firms are eligible to continue their old PCAOB registrations because the ownership of the new firms is not substantially the same as the old firms. The way the Form 4 filings work, however, is to grant the firm an automatic continuation of their registration when they file the forms.
The point that Professor Carcello is making is that the PCAOB did not have to accept the Form 4 filings if the firms did not qualify to use them. Chairman Doty’s comment that “we are at a halfway stage with these Form 4 filings” suggests that the PCAOB has not made a final decision on whether to accept them. Under the rules, the registrations remain in effect unless the PCAOB chooses to act.
Chairman Doty’s other comments suggest that the PCAOB is reluctant to use its power to reject the Form 4 filings. If it were to do so the firms would be required to submit new registrations, and under current PCAOB rules those new registrations would not be approved due to the inability of the PCAOB to do inspections of these firms.
I think it is appropriate that the PCAOB has not acted quickly on the Big Four Form 4 registrations. The PCAOB does not need to win this issue on a technicality. Instead, as Doty indicates, we need to find a solution that works for all of the Chinese and Hong Kong CPA firms that are registered with the PCAOB. Doty still has this arrow in his quiver, and don’t be surprised to see it soon if there is no rapid progress in negotiations between the United States and China on audit oversight.