No breakthrough at SED? | China Accounting Blog | Paul Gillis

No breakthrough at SED?

The annual Strategic and Economic Dialogue has come to a close a few hours ago. If past practices are followed, fact sheets on what was agreed will come out in a few more hours.  

In the meantime, Jack Lew addressed the audit working papers issue in his remarks and again in the press conference in response to a question from Reuters.  Here is what he said in his remarks:

China’s securities regulator announced that it will begin providing certain requested audit work papers to our market regulators, an important step towards resolving a long-standing impasse on enforcement cooperation related to companies that are listed in the United States.

Those remarks are consistent with reports in the Chinese press from earlier this week. No mention is made of the issues with respect to PCAOB inspections.  Maybe that will be in the fact sheets, but I think it would have been significant enough for him to mention, especially in response to the Reuters question. 

My reading is that the Chinese have decided to diffuse the SEC case by providing the requested audit working papers, but are unprepared to concede the principle that they control access to these working papers and that PCAOB inspectors cannot operate on Chinese soil.  

I expect all of the working papers that were requested by the SEC that led to the action against the Big Four and BDO (and the separate action against Deloitte on Longtop) will be released to the SEC in the coming weeks. While the SEC could still continue the disciplinary action against the accounting firms for not providing them when they were first requested, I expect that the release will lead to the SEC dropping the case against the firms. That removes the imminent risk that the firms could lose their right to audit SEC registrants and more importantly, the risk that their clients could be delisted from U.S. exchanges. 

What happens the next time the SEC wants working papers? It appears they will have to go through Chinese regulators again. China is most likely keeping control of the process to ensure that information adverse to her interest is not turned over. However, it appears that China has decided not to automatically block every request. If requests are blocked in the future, the SEC will undoubtedly haul the firms back to court, and start over. 

What seems to be missing completely is any agreement on PCAOB inspections. Hopefully there is something on that in the fact sheets, but no agreement means the PCAOB may have erred in signing the agreement to share documents in enforcement cases. The Chinese may have conceded enough to prevent the PCAOB from exercising the nuclear option, and Chinese accounting firms are likely to escape any meaningful regulation.  

Lew did say in his answer to the Reuter’s question that this issue was highly technical, and hopefully a more technical response will be available in the fact sheets. 

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