Government agencies in the U.S. and China are working on a deal that would prevent hundreds of Chinese companies from being kicked off of U.S. stock exchanges. Unnamed sources told the Wall Street Journal that an agreement could be reached as early as September, allowing the U.S. Public Company Accounting Oversight Board to scrutinize the financial audits of Chinese companies.
Audits would occur on-site in Hong Kong. The China Securities Regulatory Commission has already started preparing some domestic accounting firms for the possible deal, sources told the Wall Street Journal.
The U.S. authorities will reportedly only allow the deal to go through if the PCAOB has full access to audit materials. SEC commissioner Gary Gensler indicated as much in a July speech, where he maintained that inspectors would not be “sent to China and Hong Kong unless there is an agreement on a framework allowing the PCAOB to inspect and investigate audit firms completely.” He also said that, while important, an audit framework would be “merely a step in the process.”
China faced pressure to come to an auditing agreement beginning in late 2020, when then-President Donald Trump signed into law the Holding Foreign Companies Accountable Act. That legislation required any foreign security issuer to submit to an audit by the PCAOB, disclosing whether government entities held a controlling financial interest. The law came in response to concerns that Chinese companies failed to fully disclose ties to the CCP. It effectively set a 2024 deadline for the U.S. and China to strike an agreement to avoid delistings.
For Chinese companies, losing access to U.S. exchanges would come at an enormous cost. Since Chinese firms took to U.S. exchanges in 1999, over 400 companies have been able to raise more than $100 billion from investors. The STAR Market, which was launched in 2019 as a China-based alternative to U.S. equity markets, failed to gain much traction.
The beneficiaries of U.S. equities markets include many of China’s biggest technology players, including Alibaba, Baidu and JD.com. Shares of those companies rose more than 8% on Thursday, when news of the potential agreement broke.
China had previously moved to make it more difficult for domestic companies to share information abroad. A Data Security Law passed in June 2021 made it illegal for companies to share data with overseas regulators without explicit permission from Beijing.
Chinese officials contended that they never prohibited or prevented accounting firms from providing audit papers to overseas regulators. In 2021, the China Securities Regulatory Commission called the Holding Foreign Companies Accountable Act “obviously discriminatory.”
If an agreement isn't reached, U.S. stock exchanges and Wall Street banks stand to lose out considerably too. Around 300 China- or Hong Kong-based businesses are listed on U.S. exchanges, representing over $2.4 trillion in market value. The looming delisting threat cooled the appetite for Chinese companies to pursue U.S. IPOs, and several of China’s largest state-owned enterprises already initiated the delisting process.
Though the potential audit agreement is a big deal, it’s also only a first step. Tensions between the U.S. and China are as high as ever, as evidenced by the high-stakes cat-and-mouse game being played around Taiwan. U.S. investors will likely remain leery as well of China’s more aggressive regulatory stance towards its domestic tech giants. These tensions were on full display when Beijing intervened in DiDi’s New York Stock Exchange debut, in part over concerns that the U.S. could obtain sensitive data through the process.
Climate TRACE's data show emissions at the facility-level.Image: Climate TRACE