China made me (not) do it

SEC gets tough on auditors and soft on China

Accounting firms can no longer hide behind China's skirts when US regulators demand paperwork on suspected fraudsters. Yet China can still protect beancounters and their clients if it chooses. This unsatisfactory compromise leaves investors only a little better off.

Under a settlement reached on February 6, Chinese affiliates of Deloitte, KPMG, Ernst & Young and PricewaterhouseCoopers will pay a meagre $500,000 each for refusing to give the US Securities and Exchanges Commission (SEC) documents the watchdog demanded before 2012. A six-month ban on auditing US companies, which would have played havoc with New York-listed Chinese companies like Alibaba and Baidu, has been deferred for four years - provided the auditors are more helpful in future.

The new process is a triumph of red tape. The US watchdog will now take suspicions of misbehaviour straight to its Chinese counterpart, the China Securities Regulatory Commission (CSRC). After a mind-numbing cascade of notifications and letters between the regulators and auditors, documents will hopefully be handed over, albeit with politically sensitive bits struck out. Auditors must also supply a "withholding log" of what they keep back, along with details on how they decided what to put on it.

All this means that auditors can still refuse to hand over information on Chinese clients, but they can no longer do so as a matter of routine. Since 2012, the CSRC has handed over stacks of paperwork to its US cousin, suggesting the auditors' original reluctance wasn't entirely warranted.

Where the agreement fails investors is in leaving China too much scope to nix investigations. American overseers can't directly inspect audits in China. Were the SEC to target the affairs of a large state-owned enterprise, conversations between the regulators could be rather strained. The current process would still allow a fraud that involved a politically sensitive person to be hidden from prying eyes.

The question for investors is whether Chinese-listed companies are safer to invest in now than they were before. The answer, when it comes to the petty fraud that has beset stocks like Deloitte client Longtop Financial Technologies, is a qualified yes. Beyond that, the big risks are as glaring as ever. The US watchdog has merely enshrined China's right to say no to real transparency.