Chinese Law Prof Blog

Editor: Donald C. Clarke
George Washington University Law School

Tuesday, November 3, 2015

More problems for the PCAOB in its effort to audit the auditors

According to Bloomberg's Securities Law Daily, last month "a final agreement that would have allowed a U.S. regulator to examine the audits of Chinese companies listed on American stock exchanges fell through" (full story here). The story calls this a "setback" for the Public Company Accounting Oversight Board and a "blow" to its chairman, James Doty. And it is. But the story does not portray the breakdown in negotiations as in any way problematic for those on the other side of the negotiating table, the Chinese government. And perhaps the story is right on that, too - is anything undesirable going to happen to China or Chinese companies now that negotiations have failed? Are Chinese accounting firms no longer going to be qualified to audit financial statements of companies listed in the United States? If a failure of negotiations results in no adverse consequences for one party to the negotiations, why would it ever negotiate? Failure has to have consequences for both sides before these negotiations can go anywhere.

The problem, of course, is that China treats information about just about anything as having potential national security implications. And it claims that allowing the PCAOB to inspect domestic auditors would be an infringement on its sovereignty--perhaps its "auditing sovereignty"? Two answers. First, big deal. That's what international negotiations are about. You give up some of your sovereign freedom of action in order to get something you want. Second, the purpose of an audit of a financial statement is to protect investors--in this case, US investors. Chinese auditors are exporting audit services to the US. China exports chicken to the US and accepts that the US Department of Agriculture has a legitimate interest in inspecting its chicken processing plants; it doesn't cry that that infringes on its poultry sovereignty. If it's acceptable for the US to go to China to inspect the way imported chickens are made, how is that different from going to China to inspect the way imported audits are made?

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