Deloitte’s battles with the SEC over access to Deloitte’s working papers related to Longtop were in the news again last week. Deloitte filed a 56-page statement with the DC District Court in opposition to the SEC’s attempts to subpoena the working papers.
Deloitte was the auditor of Longtop Financial, which collapsed in May last year after Deloitte resigned. Longtop was soon delisted, yet the SEC has been investigating the company and none of the culprits have been brought to justice. A Wells Notice, indicating pending criminal charges, was issue to Longtop last August. On May 27, 2011 Deloitte’s legal counsel accepted a subpoena from the SEC. The lawyers told the SEC they had the authority to accept the subpoena. Deloitte fired the lawyers, possibly because of this action, and replaced them with Sidley Austin. The SEC argues that service of the subpoena on Deloitte’s counsel obliterates any territorial limits on enforcement. Deloitte’s current filing devotes five pages to attempt to undermine this argument.
Deloitte argues that its China firm could be dissolved and its partners jailed for life if it were to produce the Longtop documents to the SEC. Deloitte refers to an October meeting where the Big Four were called to the CSRC and admonished not to provide working papers to overseas regulators. China asserts that disclosure of audit working papers violates China’s state secrets laws. It seems highly unlikely that any state secrets are at play in the Longtop case, other than the possible complicity of bank officials in fraudulent bank confirmations. I expect China is more interested in protecting its national sovereignty and preventing a precedent that might later be applied to a big SOE listed in the U.S.
Deloitte argues that the SEC must go through the Hague Convention to obtain the information. The SEC obviously does not want to do that because it would delay the process, possibly by years. Alternatively, they suggest that the SEC work something out with the CSRC.
The situation highlights the significant risk that investors are taking when investing in U.S. listed Chinese companies. The SEC, and the PCAOB, are unable to effectively protect the interests of investors. If China is going to continue to use the U.S. capital markets as an important source of capital for its entrepreneurial companies, Chinese and U.S. regulators need to find some common ground.