Dive Brief:

• The Securities and Exchange Commission took a step Friday that will lead to foreign companies getting de-listed from U.S. exchanges if federal authorities can’t be sure accounting firms in uncooperative jurisdictions are following U.S. auditing standards.
• The SEC gave the okay for the Public Company Accounting Oversight Board (PCAOB) to move forward with a framework it approved in September on how it will assess the cooperation it’s getting from foreign jurisdictions.
• PCAOB doesn’t have the authority to remove foreign companies from U.S. exchanges but a law the federal government enacted in 2020, the “Holding Foreign Companies Accountable Act,” (HFCAA), gives the SEC authority to do that if PCAOB isn’t getting cooperation.

Dive Insight:

“This is an important step to protect U.S. investors,” SEC Chair Gary Gensler said in a statement. “I believe it is critical that the Commission and the PCAOB work together to ensure that the auditors of foreign companies accessing U.S. capital markets play by the same rules.”

Under HFCAA, companies are not allowed to trade on a U.S. exchange if they use an audit firm for three consecutive years that a foreign jurisdiction prevents PCAOB from inspecting. 

PCAOB is a federal board established as part of Sarbanes-Oxley in 2002 to help ensure companies can’t hide bad accounting practices behind ineffective audits. The board has agreements with auditing authorities in some 50 countries that allow it to inspect accounting firms based in foreign jurisdictions to make sure they’re complying with U.S. standards for U.S.-listed companies. The major-economy roadblock is China. 

“With rare exceptions, foreign audit regulators have cooperated with the Board and allowed it to exercise its oversight authority as it relates to registered firms located within their respective jurisdictions,” PCAOB said. 

“We remain concerned about our lack of access in China and will continue to pursue available options to protect investors and the public interest through the preparation of informative, accurate, and independent audit reports,” the board says on its website. 

Uncooperative jurisdictions

Under the framework it created in September, PCAOB outlines the steps it will take to determine if foreign jurisdictions are cooperating.

Among other things, the board will look at its ability to get timely access to documents or other information and whether it can conduct inspections.

It can cite a lack of cooperation if it starts but is unable to complete an investigation and also if it doesn’t start an investigation on the ground it knows cooperation won’t be forthcoming.  

“The Board may make a determination under the HFCAA under a range of circumstances, including when it is not able to commence an inspection or investigation or when, based on the Board’s knowledge and experience, it has concluded that commencing an inspection or investigation would be futile as a result of the position taken by a foreign authority,” PCAOB says in the rule. 

Luckin Coffee, a China-based company, is an example of a foreign company removed from trading on a U.S. exchange. 

The company settled with the SEC in 2020 over charges it was inflating both its revenues by $300 million and its expenses by $190 million, in part to help conceal its misleading revenues. The SEC removed it from trading in July of that year.

With PCAOB’s framework, the SEC has the basis for removing a foreign company even before wrongdoing is alleged, if PCAOB shows it’s been unable to get cooperation from the foreign-based accounting firm, or the jurisdiction in which it operates. 

“While potential company delistings could cause some investors to take losses, in the long run the rule is necessary,” Amy Borrus, executive director of the Council of Institutional Investors, told The Wall Street Journal. “Investors and the capital markets would suffer more by letting one country ignore U.S. securities laws.” 

Some 270 Chinese companies could ultimately be de-listed because of China’s lack of cooperation, Gensler said in an opinion piece published in the Journal.