It arrived two weeks ago with little fanfare, apart from a handful of legal eagles in the know.
Indictments from Unites States Securities and Exchange Commission, the country’s companies regulator, against Chinese accounting firms affiliated to the world biggest accounting groups. The accountants had refused to hand over information on nine Chinese companies listed in the US who are suspected of fraud.
A last ditch meeting between the SEC and the China Securities Regulatory Commission failed to reach a compromise. It has been reported that the Chinese offered to provide the papers only if the SEC did not use them to prosecute anyone with out first asking the permission of the CSRC. Well that was never going to happen.
This brouhaha now threatens the listed existence – at least in the US – of about 200 private Chinese companies who are audited by those firms. More than that, it may prove problematic for US firms who have substantial operations in China – at least 20 per cent of their assets or revenues in or from the country. It is the latest in an ongoing series of spats between China and the US and China and other multilateral global rules agencies as the country tries continued to hew a path between its own independence and its acceptance of global standards.
The indictments had their genesis in a series of fraud scandals during the past 18 months involving Chinese firms that had listed in the US and Canada. As the cases piled up, it was clearly becoming a worrying trend. One group of shareholders in Longtop Financial decided to try and seek some redress for their losses by suing Deloitte, the auditor. While the suit ultimately failed, the SEC was certainly taking notice.
It’s only a decade or so since Chinese companies began to list en masse on the New York Stock Exchange and its lively younger sibling the technology heavy NASDAQ. In the early and mid 2000s these were really the only option for many Chinese companies, they were attractive not just because of the depth of US capital markets but also because – unlike the Chinese and Hong Kong stock markets- they did not require companies to show a profit before they listed.
The SEC may bide its time but when it starts something, its deadly serious and not afraid to take on the big boys. It split the Ma Bell telecoms monopoly, took on information technology giants IBM and Microsoft in their respective heydays. IBM recovered by overhauling its business and re-inventing itself. Microsoft got so distracted by the years long battle it took its eye off the ball, missed then internet and mobile booms and has never quite got its mojo back.
Its apposite given this history that China Inc, the biggest effective corporate monopoly now straddling the globe, would be the next big target to come loping over the Pacific and into the SEC’s sights. If no compromise can be reached – and the ball is well and truly in China’s court – many companies will be taken private and others sold. Many will re-emerge on the Hong Kong and Shanghai markets.
China’s very broad use of state secrets to cover such things as the audit papers on private companies highlights the internal push and pull that the countries leaders are now having over more reforms. China’s outgoing leader Hu Jintao and its incoming top two leaders Xi Jinping and Li Keqiang have all emphasized that the country need to continue its reforms. Beijing University Professor Paul Gillis, whose chinaaccountingblog.com has been the best source of informed information on this issue believes that there is internal conflict with the Chinese system between the reformist CSRC and the more conservative Ministry of Finance which share supervision of the accounting sector.
One of the most important steps the ruling Communist Party must take if China is to continue on it’s path of prosperity is the creation of independent institutions. This is as much a part of democracy as the right to vote in free and fair elections. In many ways this needs to come first. At present everything on China including the courts falls under the vast and controlling umbrella of the Party. Much of the debate inside the Party is whether – and if so how – to relinquish some control, without losing its grip.
There is no way the SEC can compromise on this, so it’s up to the Chinese and the perceived loss of face – and conservative elements in the Party – will not make that easy.