Deepening Regrets as SEC Ruling on China Sinks In

BEIJING (TheStreet) -- American holders of Chinese company stocks could be next to feel the kind of "deep regret" expressed Friday by China's securities regulator over a U.S. judge's slap against the world's Big Four auditors.

That's because the Securities and Exchange Commission could implement the judge's order in a way that freezes stock trades for U.S.-listed Chinese companies as early as April, according to a Peking University professor of accounting who's been tracking China-U.S. auditing debates for years.

The SEC administrative law judge in Washington, Cameron Elliot, ordered a six-month ban on audits for securities filings handled by the Chinese divisions of auditing giants KPMG, Ernst & Young, PricewaterhouseCoopers and Deloitte & Touche.

Elliot's ruling Wednesday faulted the firms for refusing to comply with a 2012 SEC request to turn over key financial documents sought in connection with fraud investigations. The regulator's probe targeted 10, Chinese companies listed on U.S. exchanges. The ensuing dispute has been a touchstone for wider debates over Chinese company accounting procedures.

The Big Four firms said they plan to appeal the ruling, thus delaying a final SEC decision. They could buy even more time, if necessary, by appealing to a federal court.

A spokesman for the SEC's counterpart in Beijing, Deng Ge of the China Securities Regulatory Commission, said Friday his agency "expresses deep regret" over the ruling.

Deng also told reporters at a CSRC briefing that "the judgment could have bad consequences for which the American regulatory commission should agree to take full responsibility." He did not elaborate.

But holders of U.S.-listed stock in Chinese companies such as oil major PetroChina (PTR), search engine Baidu (BIDU), telecom China Mobile (CHL), travel service Ctrip (CTRP) and Internet video provider Youku  (YOKU) -- each of which has hired a Chinese unit of a Big Four company to audit this year's books -- are also at risk.

Paul Gillis, professor of practice and co-director of the IMBA program at Peking University's Guanghua School of Management, wrote on his China Accounting Blog that if Elliot's decision stands "a ban could lead to the (Chinese) companies being kicked off of U.S. stock exchanges for failing to produce audited financial statements."

While the audit firms have been "wailing" over their discipline from the judge, Gillis said, "it is their clients and the investors in those clients who will be hurt if the firms are banned" from being allowed to audit financial filings required by the SEC.

"A ban from practice before the SEC would not allow the China member firms of the Big Four to do any audit work that is used in connection with a report filed with the SEC," Gillis explained.

He called the threat of a ban the SEC's "nuclear option" in its dispute with CSRC and other government agencies in Beijing, which have prevented U.S. regulators from accessing Chinese company financial records.

Chinese stocks listed on the New York Stock Exchange and Nasdaq could be frozen as soon as April, when listed companies are required to file audited 20-F financial reports with the SEC, Gillis said. A company that fails to file a report using an SEC-approved auditor can have its stock barred from trading.

The outcome would be "a bad result, not just for the firms, but also for the capital markets," Gillis said.

The Big Four firms were required to form divisions in China as Chinese partnerships specifically to meet Beijing government rules. The units are Ernst & Young Hua Ming, KPMG Huazhen, Deloitte Touche Tohmatsu CPA, and PricewaterhouseCoopers Zhong Tian.

- Written by Eric Johnson in Beijing

At the time of publication the author had no position in the companies mentioned.

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