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Dilemma for Big Four Auditors in China in the Midst of Conflicting Laws

On January 22, 2014, U.S. Securities and Exchange Commission (SEC) Administrative Law Judge Cameron Elliot censured Chinese affiliates of the “Big Four” accounting firms (Ernst & Young LLP, KPMG LLP, PricewaterhouseCoopers LLP, and Deloitte LLP) along with BDO China Dahua CPA Co., Ltd. for willful violation of Section 106(e) of the Sarbanes-Oxley Act of 2002 by failing to comply with SEC’s investigative requests to produce certain audit documents.1 The Chinese units of the Big Four accounting firms were suspended from practicing before the SEC for six months.2

The consequences will be grave if the suspension is enforced. The Chinese affiliates of the Big Four will be prevented from issuing SEC-required audit reports for their China-based clients that trade in the U.S., Now these Chinese companies will have to find new auditors in order to comply with the SEC’s audit requirements. According to Bloomberg, more than 200 Chinese companies will be affected.3

Why did the Big Four auditors in China fail to comply with SEC’s investigative requests in the first place? The accounting firms reasoned that they would be violating the secrecy laws of the People’s Republic of China if they provided the requested documents to SEC.4 They were concerned that production of documents to U.S. regulators would result in serious civil and criminal penalties under Chinese laws.5 Therefore, they argued that their declination to produce does not amount to a “willful refusal to comply” within the meaning of Section 106 of the Sarbanes-Oxley Act, given the various restrictions under Chinese laws.6

However, Administrative Law Judge Elliot had little sympathy for the accounting firms.7 He did not find the accounting firms’ assurances against future violations sincere, or that they acted in good faith.8 Nevertheless, he did not find that they acted with scienter to defraud investors in the U.S. securities market, in light of their concerns over potentially harsh Chinese laws.9 Additionally, he rejected the SEC’s request for a permanent practice bar.10

The good news for these accounting firms and their China-based clients is that the suspension sanction will not go into effect until confirmed by the SEC in an order of finality. According to the SEC’s Rules of Practice, a party to the initial decision has 21 days to appeal the initial decision issued by the administrative law judge, and no order of finality will be issued before the end of such appeal period.11 If the party files an appeal, the SEC will perform a de novo review and can “affirm, reverse, modify, set aside, or remand for further proceedings”; no sanctions will be enforced until the appeal is concluded with sanctions upheld.12

Ordinarily, the SEC will make a decision within seven months from the date of the appeal, unless the SEC determines “that the matter presents unusual complicating circumstances,” which will extend the review period up to 11 months.13 The Chinese affiliates of the Big Four have already appealed on February 12, 2014.14 Given the conflict of laws in this case and related diplomatic issues between the U.S. and China, this appeal likely falls into the latter category. In the meantime, the Chinese affiliates can continue providing services to their clients in China without interruption. Finally, even if the final decision by SEC is not in their favor, they can make a further appeal to a U.S. court of appeals.15


  1. Initial Decision, Release No. 553, 108 SEC Docket 2 (Jan. 22, 2014), available at http://www.sec.gov/alj/aljdec/2014/id553ce.pdf

  2. Id. at 110-11. BDO China Dahua CPA Co., Ltd. was only censured without receiving a suspension because of its withdrawal from the U.S. market. 

  3. Alan Katz, SEC Faces China Auditor Appeal as Ban Imperils Diplomacy, Bloomberg (Feb. 10, 2014), http://www.bloomberg.com/news/2014-02-11/sec-faces-china-auditor-appeal-as-ban-imperils-diplomacy.html

  4. See Initial Decision, Release No. 553, 108 SEC Docket 2 (Jan. 22, 2014), available at http://www.sec.gov/alj/aljdec/2014/id553ce.pdf

  5. Id. 

  6. 15 U.S.C. § 7216(e). 

  7. See Initial Decision, Release No. 553, 108 SEC Docket 2, 105 (Jan. 22, 2014), available at http://www.sec.gov/alj/aljdec/2014/id553ce.pdf. 

  8. Id. 

  9. Id. at 106. 

  10. Id. at 109. 

  11. 17 C.F.R. § 201.410(b). 

  12. Office of Administrative Law Judges, http://www.sec.gov/alj.shtml (last visited March 1, 2014); 17 C.F.R. § 201.411(a). 

  13. 17 C.F.R. § 201.900(a)(iii). 

  14. Michael Rapoport, China Units of Big-Four Firms Appeal Audit Ban (Feb. 12, 2014), http://online.wsj.com/news/articles/SB10001424052702303704304579379410335942436

  15. 28 U.S.C. § 2112.