China Faces Growing Pressure to Iron Out Audit Deal With the U.S.

After more than a decade of thwarting US regulatory inspections of the auditors of Chinese companies, Chinese authorities have in recent months been unusually vocal about their desire to resolve the issue. which has become a major drag on overseas-listed Chinese stocks such as Alibaba Group. Hold Ltd.

and Baidu Inc.

The change of tone comes as the three-year countdown for China to comply with the Foreign Companies Accountability Act 2020 seems increasingly likely to be shortened. Reaching and implementing any deal will require a long process, and the new timetable could see US stock-trading bans on some Chinese companies starting in July. the beginning of next March.

The China Securities Regulatory Commission, which coordinates the Chinese government’s response to the talks, has released multiple statements this year signaling that negotiations with its US counterparts have make progress.

In a statement to The Wall Street Journal on Tuesday, the CSRC said: “China and the United States maintain close communication and are committed to reaching cooperation agreements that comply with the laws and regulations of both countries. . Overall, the negotiation process is going smoothly.”

On the other hand, the Securities and Exchange Commission and the US accounting regulator, the Public Company Accounting Oversight Board, have been more cautious about the prospect of reaching and subsequently implementing any deal.

“We continue to meet and engage with the authorities of the People’s Republic of China, and speculation about a final agreement is still too early,” PCAOB said in a statement to the Journal, referring to to the People’s Republic of China. “It is important to note that reaching an agreement, while an important and necessary first step, will not only meet the requirements of the HFCAA,” the statement said.

The core issue is whether China will allow the PCAOB to periodically examine the auditors of Chinese companies listed in the United States, a 20-year-old requirement under US law for all US-listed Chinese companies. company whose shares trade on US exchanges. China has long argued that unchecked access to audit papers could threaten its national security, as some state-owned firms do business with state-owned companies. country or hold a large amount of data on Chinese citizens.

Beijing’s broad stance on what constitutes a national security risk is one reason for the stalemate. For example, uncorrected information from large Chinese companies can provide insights into the country’s economy that are not clearly reflected in China’s tightly controlled official data. .

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Separately, YJ Fischer, director of the SEC’s office of international affairs, said in a statement Tuesday: “Any claim that audit papers cannot be produced because they contain documents whether national security is questionable.” She added that efforts to resolve the issue have been unsuccessful.

Given the challenges, Fischer said one possible solution could be for China to voluntarily remove a small group of companies it considers sensitive while bringing the rest of the companies into compliance with China’s standards. PCAOB. The journal has previously reported such an option is under consideration.

“The SEC has offered to work with the Chinese authorities on any decisions they make, including ensuring a smooth transition for China-based issuers if they have to leave the US market,” Fischer said.

The HFCAA goes into effect in 2021 and prohibits the United States from trading in the securities of companies for which the PCAOB cannot audit auditors for three consecutive years. That leaves Beijing in compliance until spring 2024.

However, bills to shorten the one-year period were passed by both the House and Senate. That means the law will likely be included in a broader “China bill” that is still being negotiated and is aimed at enhancing US competitiveness against China. SEC Chairman Gary Gensler favors the shortened timetable.

If the bill is passed by the end of this year and auditors in China are still unable to examine it, Chinese companies could be delisted starting from March 2023, after the annual report of the year ended. Their 2022 is announced. The CSRC said speeding up the proposal is “not conducive to protecting investors’ interests, as well as addressing audit oversight issues.”

The SEC identified 148 non-compliant companies after the release of their latest annual report, including Chinese e-commerce giant JD.com Inc.

and Pinduoduo Inc.

and restaurant operator Yum China Holdings Inc.

Clete Willems, a Washington-based partner at Akin Gump Strauss Hauer & Feld and served as a trade negotiator in the Trump administration.

What that means in practice is that Beijing may be weeks away from reaching an agreement with Washington that would allow PCAOB representatives to travel to China and initiate inspections, as these inspections could take several days. months to complete, said industry experts and people familiar with the matter.

“The purpose of the bill is not to push companies off the exchange. The purpose is to apply PCAOB oversight,” said Representative Brad Sherman (D., Calif.), who introduced the House version of the fast-track bill. Shorter deadlines “will lead to faster negotiations,” he said in an interview.

During recent closed-door meetings with Chinese companies and international investors, the CSRC said it was working toward its goal of reaching an agreement by the end of June, according to people familiar with the matter. .

Shaswat Das, PCAOB’s chief negotiator on audit oversight with Chinese authorities from 2011 to 2015. “Currently, the US has the greatest leverage to force China to negotiate an agreement than ever before. over”. Given the recent discussions between the PCAOB and the Chinese authorities it is likely that an agreement will be reached this summer,” said Mr. Das, now an attorney at King & Spalding LLP in Washington.

However, China’s policy of eradicating Covid-19, closing international borders and throwing megacities into lockdown, could also delay the deadlines for field inspections by officials. US office.

Even if an agreement were reached to allow US regulators to inspect auditors in China, the PCAOB would need to have sufficient access to the companies’ audit papers before determining that China is the HFCAA-compliant country.

“An agreement that is not successfully enforced is not subject to U.S. law,” the PCAOB said in the statement, adding that it “must be able to select” its auditors and other auditors. their client’s audit papers to check.

The scope and depth of such inspections has been a point of contention in previous rounds of negotiations. During tests conducted in 2016, China submitted heavily redacted audit papers and barred PCAOB from accessing the records of the most valuable Chinese companies listed in the US. , including Alibaba. Chinese officials were also present in interviews PCAOB conducted during the inspection, potentially interfering with the process. In the end, the negotiations broke down.

There are now more than 250 Chinese companies listed on US exchanges. PCAOB does not have to examine all of their audit papers at an early stage, but it does need to be able to examine a meaningful sample to determine that China as a country of jurisdiction is HFCAA compliant. .

All in all, it can be a difficult process, even if China makes concessions in areas it did not want before.

“The clock is ticking and unless China shows more flexibility than it has shown now, the delisting of some or all of its companies is inevitable,” Mr. Willems said. .

Write letter for Jing Yang at Jing.Yang@wsj.com and Paul Kiernan at paul.kiernan@wsj.com

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Edmund DeMarche

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