After more than a decade of obstruction to U.S. regulatory legal inspections of Chinese company auditors, Chinese authorities in recent months have made an unusually loud announcement of their desire to address what has become a major obstacle to overseas-listed Chinese stocks such as Alibaba Group. Holding Ltd.
and Baidu Inc.
The change in tone has occurred due to the fact that the three-year countdown to China’s compliance with the Foreign Accountability Act of 2020 looks increasingly shrinking. Concluding and executing any deal will take a long process, and a new schedule could impose bans on U.S. trade for some Chinese companies as early as March next year.
China’s Securities Regulatory Commission, the agency that coordinates the Chinese government’s responses to the talks, made several statements this year signaling progress in negotiations with their U.S. counterparts.
In a statement to The Wall Street Journal on Tuesday, CSRC said: “China and the United States maintain close ties and are committed to reaching cooperation agreements that comply with the laws and regulations of both countries. In general, the negotiation process is going smoothly. “
The Securities and Exchange Commission and the U.S. accounting regulator, the Board of Supervisors of Public Company Accounting, on the other hand, have been more cautious about the prospect of achieving and implementing any transaction.
“We continue to meet and engage with the Chinese authorities, and speculation about the final agreement remains premature,” the PCAOB said in a statement to the magazine, citing the People’s Republic of China. “It is important to note that reaching an agreement, while an important and necessary first step, is not the only one to meet HFCAA requirements,” the statement said.
The main question is whether China will allow the PCAOB to regularly audit the auditors of Chinese companies listed in the U.S., which is a 20-year requirement of U.S. law for all companies whose shares are traded on U.S. stock exchanges. China has long argued that unimpeded access to audit documents could threaten its national security because some of the companies are state-owned, do business with state-owned companies, or store large amounts of data about Chinese citizens.
One reason for the stalemate is Beijing’s broad view of what poses a threat to national security. For example, genuine information from major Chinese companies can give an idea of a country’s economy that is not visible in China’s tightly controlled official data.
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The HFCAA went into effect in 2021 and bans U.S. securities trading by companies whose auditors cannot be audited by the PCAOB for three consecutive years. This gives Beijing until the spring of 2024 to fulfill.
However, bills reducing the term by one year were passed by both the House of Representatives and the Senate. This means that the legislation is likely to be included in a broader “Chinese bill” that is still under negotiation and that aims to increase America’s competitiveness against China. SEC Chairman Gary Hensler maintains a shortened schedule.
If the bill is passed later this year, and auditors based in China still cannot be audited, Chinese companies could be removed from the list starting in March 2023, following the publication of their 2022 annual reports. The CSRC said that the proposed acceleration of deadlines “does not help protect the interests of investors, nor solve problems with audit oversight.”
The SEC has identified 148 companies as non-compliant since the release of their latest annual reports, including Chinese e-commerce giants JD.com Inc.
and Pinduoduo Inc.
and restaurant operator Yum China Holdings Inc.
“There is a good chance that the accelerated deadline could be enacted as part of a comprehensive China bill or as a separate measure by the end of the year,” said Clete Williams, Washington partner at Akin Gump Strauss Hauer & Feld and a former trade negotiator in the Trump administration. .
This means that in reality Beijing may have only a few weeks to reach an agreement with Washington that will allow PCAOB representatives to travel to China and begin inspections, as their completion could take several months, industry experts and people familiar with the matter said.
“The purpose of the bill is not to expel companies from the stock exchange. The goal is to enforce PCAOB control, ”said Brad Sherman (D., California), who introduced a version of the expedited term bill to the House of Representatives. Reducing the deadlines “will lead to faster negotiations,” he said in an interview.
In recent closed-door meetings with Chinese companies and international investors, the CSRC said it was working to reach a deal by the end of June, according to people familiar with the matter.
“The United States now has the greatest leverage to force China to negotiate an agreement than ever before,” said Shaswat Das, who was the PCAOB’s chief negotiator on audit oversight with Chinese authorities from 2011 to 2015. “The HFCAA has laid the groundwork for recent discussions between the PCAOB and the Chinese authorities, which are likely to lead to a deal to be concluded this summer,” said Mr. Das, who is now a lawyer at King & Spalding LLP in Washington.
However, China’s policy to eliminate Covid-19, close its international borders and close cities may also delay the time of on-site inspections by US officials.
Even if a deal is reached that will allow U.S. regulators to verify auditors in China, the PCAOB will need sufficient access to companies ’audit documents before determining that China as a jurisdiction complies with the HFCAA.
“An agreement without successful implementation will not satisfy U.S. law,” the PCAOB said in a statement, adding that it “should have unhindered ability to choose” which auditors and audit documents their clients audit.
The scope and depth of such inspections have been controversial in previous rounds of negotiations. In pilot directions conducted during 2016, China submitted severely edited audit documents and banned the PCAOB from accessing records of the most valuable Chinese companies listed in the US, including Alibaba. Chinese officials were also present in interviews conducted by the PCAOB during the inspection, which potentially hampered the process. In the end, the talks failed.
There are currently more than 250 Chinese companies listed on U.S. stock exchanges. The PCAOB should not review all of its audit documents initially, but it should be able to examine a significant sample to determine that China as a jurisdiction complies with the HFCAA.
Overall, this can be a painstaking process, even if China makes concessions in areas it previously did not want.
“The clock is ticking, and if China does not show more flexibility than it has demonstrated today, the exclusion of some or all of its companies is inevitable,” Mr Willems said.
Write Jin Yang at Jing.Yang@wsj.com and Paul Kiernan at email@example.com
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