US and China reach deal in dispute over Chinese corporate audits

WASHINGTON — The US and China have reached a tentative agreement to allow US regulators to inspect the audits of Chinese companies whose shares are traded on US exchanges. In a long-running dispute, US regulators have threatened to ban some Chinese companies from the New York Stock Exchange and Nasdaq if China does not allow inspections.

The deal announced Friday by market regulators in the US and China is tentative. Securities and Exchange Commission Chairman Gary Gensler said, “The proof will be in the pudding.”

“While important, this framework is only one step in the process,” Gensler said in a prepared statement. “This agreement only makes sense if (US regulators) can actually inspect and investigate audit firms in China. If (they) can’t, about 200 China-based issuers will face a ban on trading their securities in the US if they continue to use those audit firms.

An agreement would mean that US investors would retain access to shares of key Chinese companies while being protected by the integrity of corporate audits.

“This is undeniably positive news and an important step toward preventing mass shutdowns of Chinese companies in the US,” Evercore ISI analyst Tobin Marcus said in a note to customers. ultimately what needs to happen is for (US) inspectors to show up and complete inspections.” He said the inspections could take months.

US regulators plan to have inspection teams in China by mid-September. The Public Company Accounting Oversight Board will determine by the end of the year whether the Chinese government will continue to block access to the audit books. A negative finding could lead to US actions, such as a ban on stock trading.

While tentative, the deal is a rare case of agreement at a time when US-China relations are fraught with sparring over trade, the war in Ukraine and human rights. Tension was heightened by the recent trip by US House Speaker Nancy Pelosi to Taiwan, the self-governing island that China claims as its territory. The Chinese responded to Pelosi’s visit, second in line after the US presidency, with military exercises around the island.

US regulators had warned that without an agreement, some 200 companies, including the Alibaba Group, the world’s largest e-commerce competitor, would be banned from US exchanges or face trade restrictions. The Americans said other governments have agreed to allow such controls, as required by US law, and that China and Hong Kong are the only deferral options.

Three of China’s largest state-owned companies announced this month that they would delist their shares from the New York Stock Exchange, but gave no indication that the move was related to the audit dispute. PetroChina Ltd., China Life Insurance Ltd. and China Petroleum & Chemical Co. mentioned the small trading volume of their shares in the New York market and the high cost of complying with regulations in a foreign market. The companies said their shares would still be traded in Hong Kong, which is Chinese territory but open to non-Chinese investors.

The dispute over audits of Chinese companies dates back more than a decade. Numerous Chinese companies were suspended or kicked off US exchanges, most for failing to submit financial reports in a timely manner. At least two dozen were affected by SEC fraud or accounting charges, but investigations stalled because the companies’ auditing documents were located in China — beyond the SEC’s reach.

Under the terms of the new agreement, US accounting inspectors in the PCAOB would have independent discretion to select a Chinese company audit for inspection or investigation, and would have direct access to interview all the staff of the audit firms whose work is being inspected. The inspectors could see full audit working papers without editing.

In Beijing, the China Securities Regulatory Commission called the agreement an important step in “solving the issue of common interest of audit and regulatory cooperation”. Investors and companies on both sides will benefit from allowing Chinese stocks to trade on US exchanges, the committee said.

The terms outlined by the commission would give Chinese officials a role in any investigations. According to Chinese regulators, China has been given the right to conduct similar reviews of US accounting firms, allowing Beijing to portray the agreement as mutually beneficial rather than giving in to US pressure. China has not yet expressed a need to conduct such assessments itself.

Chinese regulators would also be allowed to participate in interviews with audit personnel.

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That reports McDonald from Beijing.

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