E&Y and state secrets | China Accounting Blog | Paul Gillis

E&Y and state secrets

Enoch Yiu has an interesting piece in the South China Morning Post today about Ernst & Young's battle with Hong Kong's Securities and Futures Commission (SFC). SFC is dragging E&Y into court over its refusal to turn over its working papers on Standard Water, a Chinese company that had a failed listing in Hong Kong.  

E&Y's defense is that it cannot produce the working papers because of China's state secrecy laws. That is the same argument that Deloitte has made in its fights with the Securities and Exchange Commission in the United States. In this case, however, the article suggests that SFC may have already received the consent of mainland regulators to see the working papers.  

While E&Y Hong Kong was the reporting accountant on Standard Water, it appears that E&Y Hua Ming, its Mainland joint venture actually did the work.  Under Chinese rules E&Y Hua Ming is not supposed to share its working papers with its Hong Kong affiliate. But that happens all the time. KPMG has its Hong Kong affiliate sign all of the reports on its clients with U.S. listings, even though the audit work is often done by the Chinese firm. A Hong Kong firm can use a Mainland firm to help with an audit, but if it is going to sign off on the accounts its working papers must fully support the audit. 

While the firms like to hold themselves out as a one firm, that is not how they are structured. E&Y cannot have it both ways. They cannot claim to be a Chinese firm to Chinese regulators, yet use their Hong Kong firm to sign off reports. That practice is deceptive to both investors and regulators. 

And it violates auditing standards. A firm cannot blindly sign off on work done by another accountant. The Public Company Accounting Oversight Board in the U.S. has banned firms for this practice. E&Y Hong Kong and E&Y Hua Ming are separate firms.

E&Y Hong Kong should produce its working papers on Standard Water to SFC. If those working papers are incomplete because they delegated all the work to their Mainland affiliate, then they should be held to account for violating auditing standards. 

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