Deloitte China allowed clients to do own audit work, finds SEC

The US securities regulator has charged Deloitte’s China arm with falling “woefully short” by having clients complete their own audit tasks, as negotiations between Washington and Beijing over setting cross-border accounting standards come to a head.

Deloitte China has agreed to pay a $20mn penalty for asking clients to select samples of accounting entries to be tested, the US Securities and Exchange Commission said on Thursday.

The Big Four firm’s China division also asked clients to prepare documents showing it had assessed accounting entries when there was no evidence it had done so.

The settlement with Deloitte China includes the highest penalty levied by the SEC against an affiliate of the Big Four accounting firms, relative to audit revenue.

Deloitte China was not charged with violating the Holding Foreign Companies Accountable Act, the 2020 law requiring foreign groups trading on US markets to make their audits available for review every three years or be barred from trading.

But the SEC’s move comes as Washington and Beijing navigate fraught negotiations over allowing US accounting regulators to inspect China-based audits, which could result in about 200 Chinese companies being thrown off American exchanges.

Gary Gensler, SEC chair, said in a statement that while Deloitte China did not break the 2020 law, the enforcement action “does underscore the need for the Public Company Accounting Oversight Board [the US accounting watchdog] to be able to inspect Chinese audit firms”.

PCAOB inspectors are currently in Hong Kong to examine a series of audits conducted by the Chinese affiliates of the Big Four accounting firms on US-listed Chinese companies.

China’s regulators have for years resisted such oversight by the US body charged with maintaining audit standards, but signed a deal last month allowing access in a rare concession. The PCAOB has said that it will determine by the end of the year if China is fully complying. If not, dozens of Chinese companies could be forced to delist from US exchanges.

Deloitte China’s wrongdoing — which involved junior and senior employees — was linked to audits of US-based companies with Chinese operations and businesses in China with securities listed on US exchanges, according to the SEC.

“This action involves audit failures at the most basic level,” said Gurbir Grewal, director of the SEC’s enforcement division. “Auditors are vital to the success of our financial markets and the standards they must abide by are neither optional, nor are they aspirational best practices . . . Here, Deloitte China audit professionals fell woefully short.”

The flawed work was not limited to Deloitte China’s own audit clients, but also included nine companies audited by Deliotte’s US business. For clients with significant operations in China, the US arm subcontracts Deloitte China to do some audit checks.

The company co-operated with the SEC after self-reporting the violations in 2019 and has taken steps to improve training and supervision, the agency said.

As part of the settlement, an independent consultant must review Deloitte China’s policies and procedures and the business must complete further annual reviews.

A Deloitte China spokesperson said the settlement brings “closure to a self-reported matter relating to certain deficient procedures identified in 12 PCAOB audits” and pointed out that the SEC “acknowledged the firm’s co-operation and remedial efforts”.