The PCAOB goes to China, well, just Hong Kong and inspects some audits
We know which firms' engagements were inspected and we know the PCAOB already found deficiencies and issues to investigate further. But do investors truly want to know what's wrong with China audits?
On December 15, 2022 the PCAOB announced that more than 30 PCAOB staff members had conducted a total of eight on-site inspections and additional investigations in Hong Kong of two Big 4 global network member firms: KPMG Huazhen LLP of mainland China and PricewaterhouseCoopers of Hong Kong.
The PCAOB said in an FAQ issued the same day that it had initially selected three issuers at one firm and two issuers at the other. I am assuming the engagements inspected were related to the 2021 fiscal year. It is too soon to inspect 2022 engagements.
According to its PCAOB Form 2 annual report as of June 2022, PwC Hong Kong issued only two opinions for issuers considered foreign by U.S. regulators in 2021 — iClick Interactive Asia Group Limited and Alibaba Group Holding Limited. According to data from research firm Audit Analytics, PwC Hong Kong issued six opinions in total in 2021 for U.S. foreign issuers — iClick and Alibaba, as well as Asian Infrastructure Investment Bank, China Life Insurance Co LTD, Guangshen Railway Co Ltd, and Petrochina Co Ltd..
KPMG Huazhen signed opinions for 25 U.S. foreign China or Hong Kong issuers in 2021, according to its PCAOB Form 2 annual report as of June 2022. Audit Analytics reports several more opinions for 2021, and there are some on KPMG Huazhen's annual report that are not in Audit Analytics data and vice versa.
The PCAOB said its staff selected the firms to be inspected using the same methodology they use in all PCAOB inspections, including consideration of risk factors posed by particular firms or issuer engagements. It said it selected the engagements for each firm from several categories of audit engagements that PRC authorities had denied access to in the past – including large state-owned enterprises and issuers in sensitive industries.
Late last year there were several reports of China state-owned companies voluntarily delisting from U.S. exchanges rather than be subject to inspections of their audits by the PCAOB.
Bloomberg reported that five of China’s largest state-owned companies announced planned to delist from US exchanges as the U.S and China negotiated an agreement to allow the PCAOB to inspect audits of Chinese businesses.
China Life Insurance Co., PetroChina Co. and China Petroleum & Chemical Corp. all disclosed their intentions to delist in statements published in quick succession on Friday, along with Aluminum Corp. of China and Sinopec Shanghai Petrochemical Co.
The WSJ reported just the other day that the last of the state-owned companies were dropping out. Keep in mind, however, that the purpose of the inspections is to evaluate the audit, not necessarily the financial accounting and auditing of the companies themselves. Even if these companies drop their U.S. listing, it is still very useful to understand how well the audit firms have been performing these audits, for the benefit of present and future investors in Chinese companies.
After all, it took an egregious breach of auditing performance, on China-based companies and on China's participation in audits of U.S. based multinationals, for Deloitte U.S. to narc out its own China member firm for doing no audits at all. Recall this is the same firm that was accused of complicity with fraudsters on Longtop and China Media Express, Chinese reverse merge frauds of ten years ago.