This article has been corrected.
Investment bankers and Chinese executives were hopeful that 2014 might be the year that Chinese IPOs return to the US. But a judge’s decision to ban the China units of the “Big Four” accounting firms from working on US IPOs could quash those dreams—along with billions of dollars of funds that Chinese corporations hoped to raise from US investors.
U.S. Administrative Law Judge Cameron Elliot ruled on Jan. 22 (pdf) that the Chinese offices of Deloitte & Touche, KPMG, PricewaterhouseCoopers and Ernst & Young were guilty of “willful refusal to comply” with the US Securities and Exchange Commission. The accounting firms, which audit the lion’s share of Chinese listings in the US, as well as most multinationals doing business in China, are banned from auditing US listed companies for six months.
The decision is the latest in an ongoing battle between the SEC, which is seeking audit information of Chinese companies it is investigating, and these firms and Chinese regulators, which argue that Chinese laws prohibit companies from sharing “state secrets” with foreigners. The accounting firms said in a joint statement that they they will contest the decision before an SEC committee. If the SEC upholds it, the firms are expected to head to federal court, a process that could take years, and decimate any potential IPO of Chinese firms in the US for the foreseeable future.
The judgment is “really going to upset the plans of a whole bunch of companies,” said Paul Gillis, co-director of the international MBA program at Peking University. Chinese companies that are planning IPOs in the US and have been already working on their financial statements and registration with these firms will be forced to put those on hold, he said.
It could also make life very difficult for the hundreds of Chinese companies already listed in the US, including big names like search engine Baidu and oil giant CNOOC, who need to submit audited annual financial statements to the SEC and rely heavily on these firms.
In addition, foreign companies with significant operations in China, like General Motors, may have to bring in new auditing firms to certify their financial performance, Jason Flemmons, senior managing director at FTI Consulting, told Bloomberg.
Entire pages have been blacked out of the 112-page court decision, but the judge’s frustration with the accounting firms comes through clearly. The firms defense including claiming “they invested money and effort” in building up their business in China, he writes, even though they knew China’s regulations and the US’s were incompatible. “Such behavior does not demonstrate good faith, it demonstrates gall,” he wrote.
The judgment comes as China’s domestic IPO market opened back up, with some firms seeing over 40% gains in their first day of trading.
Besides China’s domestic stock markets, the Hong Kong Stock Exchange, which has been competing with New York for Chinese listings, could benefit. “There is certainly much less uncertainty in Hong Kong than in the US,” Gillis said.
An earlier version of this article did not specify the time period for the accounting firms’ ban. It is six months.