Big Four Accounting Firms Out of Favor in China: Deloitte’s Beijing Office Penalized

Fined by US, then by China, Deloitte Touch Tohmatsu can't win

The Deloitte logo. Tim Boyle/Getty Images

News Analysis

Deloitte, the accounting firm that was fined $20 million by the U.S. Securities and Exchange Commission (SEC) for shielding Chinese companies from U.S. oversight, has been hit with a fine of more than $30 million by the Chinese Communist Party (CCP). How did Deloitte find itself in this awkward position between the two big powers? An expert spoke with The Epoch Times to analyze why the Big Four accounting firms are being discarded by CCP authorities after they were punished by the United States.

Deloitte Touche Tohmatsu, the Beijing office of Deloitte, one of the world’s Big Four accounting firms, was fined RMB 211.9 million (about $30.8 million) and suspended for three months for failing to adequately audit China Huarong Asset Management, China’s Ministry of Finance announced on March 17.

Meanwhile, China’s Ministry of Finance accused Huarong and its investment arms of failing internal and risk controls and seriously distorting accounting information from 2014 to 2019.

Huarong is central to China’s financial system, one of four institutions created by the CCP in the late 1990s to solve the problem of bad loans at state-owned banks. It then built an empire by lending to high-risk companies using access to cheap loans from state-owned banks, according to a New York Times report.

China’s Ministry of Finance is the company’s second-largest shareholder after state-owned Citic Group. Huarong’s 2020 annual report reported a massive net loss of 102.9 billion yuan ($16 billion).  Not long after the disclosure, Lai Xiaomin, Huarong’s former CCP secretary and chairman was sentenced to death on charges including embezzlement and bribery.

Deloitte is one of the world’s “Big Four” accounting firms, along with PricewaterhouseCoopers (PwC), KPMG, and Ernst & Young (EY). The Big Four are all headquartered in Western countries. Among them, Deloitte, PwC, and Ernst & Young are based in London; and KPMG is headquartered in Amstelveen, a suburb of Amsterdam, the Netherlands.

The Big Four audit the finances of many internationally renowned public and private companies. Ninety-nine percent of Financial Times Stock Exchange (FTSE) 100 companies and 87 percent of FTSE 250 companies are audited by the Big Four, according to a November Financial Times report. In the United States, companies on the S&P 500 are almost exclusively audited by Big Four firms.

A flag outside the U.S. Securities and Exchange Commission headquarters in Washington, D.C., on Wednesday, Feb. 23, 2022. Al Drago/Bloomberg via Getty Images

In China, the Big Four audited nearly a quarter of China’s central 98 state-owned enterprises in 2021, according to a March report by the China Project. The Big Four recorded RMB 20.6 billion ($3 billion) in revenue from their China operations in 2021, according to the Ministry of Finance.

‘Deep Cross-Line Cooperation’: Analyst

For years, however, the Big Four’s Chinese subsidiaries refused to provide the U.S. Securities and Exchange Commission (SEC) with audit work papers of U.S.-listed Chinese firms, citing data confidentiality as a pretext for accounting fraud for the CCP’s central enterprises.

In December 2012, the SEC filed administrative proceedings against the Chinese affiliates of the Big Four and another large U.S. accounting firm for refusing to produce audit transcripts of nine Chinese companies suspected of accounting fraud. In February 2015, the SEC imposed sanctions on the Chinese divisions of the Big Four accounting firms for refusing to produce documents. Each accounting firm paid $500,000 to settle.

From the CCP’s blame of Deloitte for Huarong’s losses and from the SEC’s accusation that the Big Four had refused to hand over their audit briefs, “it is not difficult to see that the ‘Big Four’ have a long history of ‘deep cross-line cooperation’ with Chinese companies and that the span is relatively large, deep, and wide,” David Huang, a U.S.-based economist, told The Epoch Times on March 19.

Worse still, Huang said, the auditing firms, which are supposed to be the “gatekeepers,” are still colluding with the audited companies.

Deloitte Helps Chinese Offshore Companies

In February 2021, a Deloitte employee reported audit irregularities online. In a PowerPoint presentation circulated on social media, the whistleblower alleged incidents involving 10 clients. According to the report, when Deloitte was auditing Chinese educational company RYB Education in 2017, a member of the audit project told the whistleblower “not to be so careful, just fill in the numbers” when he found audit amounts that didn’t match the amounts on actual receipts.

The whistleblower also alleged that most of the administrative expenses listed by a subsidiary of RYB Educations were actually overseas purchases and expenses for executives and their children, such as golf tuition for the founder’s child in New York.

The RYB Education kindergarten in Beijing on Nov. 24, 2017. The school was at the center of an abuse scandal. Nicolas Asfouri/AFP/Getty Images

To prevent false accounting from coming to light, a Deloitte partner decided to define overhead as an accounting item that did not require detailed review during the pre-listing audit of RYB Education in New York, according to the whistleblower.

The whistleblower said the Deloitte partner in charge of RYB’s audit project received tens of thousands of yuan worth of beauty salon gift cards from RYB Education, significantly increasing the audit fee. According to the company’s annual report, in 2017, the year RYB Education went public, audit fees soared to $1.52 million from $240,000 in 2016.

RYB was listed on the New York Stock Exchange in September 2017. Soon after, the company came under fire. In November 2017, allegations of abuse at a kindergarten owned by the company came to light. Pomerantz LLP, a veteran Wall Street law firm, filed a lawsuit in New York alleging that RYB made materially false and misleading statements about the company’s business, operations, and compliance policies—specifically about its failure to establish safety policies to prevent or remedy abuse—resulting in artificially inflated stock value, and subsequent significant losses for investors.

In September 2022, the SEC accused Deloitte’s China affiliate of failing to comply with basic U.S. auditing requirements in its audits of foreign companies listed on the U.S. exchange. Deloitte repeatedly asked clients to select their own samples for testing and prepare their own audit documents, making it appear that the necessary tests had been performed on clients’ financial statements when in fact they had not. The SEC fined Deloitte-China $20 million.

Just six months later, Deloitte received a fine of RMB 211.9 million from CCP authorities.

The Epoch Times reached out to Deloitte for comment.

Big Four Cast Aside After Being Used

The first inkling of the CCP’s plan to crack down on the Big Four emerged in February.

The CCP regime had ordered state-owned firms to phase out their contracts with Big Four accounting firms, Bloomberg reported at the time. The CCP’s state-owned enterprises, especially those involved in advanced technology, were told by authorities to use auditors from China in order to support the local auditing industry and “protect state-owned enterprise data.”

The Deloitte offices at 2 New Square in London, on Oct. 2, 2018. Jack Taylor/Getty Images

Why are the Big Four, which once helped to secure U.S. listings for Chinese companies, now in the CCP’s crosshairs?

According to Huang, there are several reasons why CCP authorities are going after the accounting firms, which they once deemed helpful.

First of all, the Big Four’s assistance to Chinese enterprises is a double-edged sword: while it helps Chinese companies to circumvent SEC review and get listed in the United States, overlooking fraud also leads to the loss of state-owned assets in China.

Second, the SEC’s 20 million yuan censure of Deloitte’s Beijing office tells China that the United States is well aware of the firm’s problems.

“Deloitte’s ‘historic value’ has come to an end. It is no longer practical to ask Deloitte to ‘unilaterally help’ in the future,” he said.

Moreover, in the CCP’s eyes, the Big Four accounting firms are all controlled by the West. In particular, the United States held high the sword of the Holding Foreign Companies Accountable Act, signed into law in 2020. The law restricts access to U.S. capital markets by foreign public companies if the United States is unable to fully inspect their audits due to interference from foreign governments.

In August 2022, the CCP signed an agreement promising to hand over the audit documents of U.S.-listed companies and allowed the Public Company Accounting Oversight Board (PCAOB) to conduct inspections and investigations in line with U.S. standards.

The agreement made it difficult for the Big Four accounting firms to cooperate with the CCP’s directives.

Since the PCAOB began its review of Chinese companies in September, about 60 Hong Kong-listed Chinese state-owned and private companies have changed auditors. The flight from the Big Four indicates the CCP wants to continue to receive international investment in non-core areas and yet “have their say and control” over core economic data, said Huang.

“The CCP wants to get rid of the United States and Europe, because if it can find the ‘delicate balance on the issue,’ it can control the arrangements for specific companies to ‘go overseas’ for maximum economic benefit,” he said.