China-based auditors post risk for U.S. companies: report

Around 200 Chinese companies could be delisted from U.S. stock exchanges because they use China-based auditors who can’t be inspected by U.S. regulators and, according to a new study, pose higher risks for companies that use them.

The research, by three accounting professors, found that auditing firms that check financial records for accuracy tended to create more accounting problems for the companies that hired them if they were based in a country with a weak rule of law — where laws are unevenly enforced.

The study classified China as a country with weak-rule-of-law.  

Auditors in these countries “may be more likely to misunderstand or misapply the lead auditor’s instructions and it may be difficult to trust their work,” said Jenna Burke, an accounting professor at the University of Colorado Denver, who wrote the study with Rani Hoitash of Bentley University and Udi Hoitash of Northeastern University.

At least one in three U.S. public companies use overseas accounting firms to do at least 5% of their audit work. The most popular were firms based in the U.K., with China second.

However, China is the only country with weak-rule-of-law among the top 15 countries for overseas auditors that blocks U.S. regulators from a transparent inspection of their books.

A 2020 law, known as the Holding Foreign Companies Accountable Act, threatens to delist foreign companies if their principal audit firm’s work cannot be inspected by U.S. regulators. It was passed amid escalating political tensions between the U.S. and China and accounting scandals at Chinese companies listed on U.S. exchanges.

The delisting can begin at the start of 2024 and threatens companies whose stocks are valued at roughly $2 trillion globally. The study found more than 130 U.S. companies use the same Chinese auditors, which are not affected by the Holding Foreign Companies Accountable Act.