A U.S. regulatory move to sanction auditors for blocking investigations of China-based companies may lead to a “lose-lose” situation for the U.S.-listed companies and investors, New Oriental Education & Technology Group Inc. (EDU:US) said.
On Dec. 3, the U.S. Securities and Exchange Commission took enforcement action against China-based affiliates of the Big Four accounting firms, escalating a three-year impasse between the two nations over whether auditors can share work documents. Failure to reach an agreement may prompt regulators to seek to delist Chinese companies.
“It would be disastrous for capital markets, would be disastrous for Chinese-based companies and disastrous for U.S. investors,” Louis Hsieh, president of New Oriental Education & Technology, said on Bloomberg TV today. New Oriental fell 9.2 percent, declining for the second day, to $16.41 in the U.S. trading yesterday.
Auditors that don’t comply with SEC demands face temporary or permanent deregistration in the U.S., according to the rule under which the proceedings are being brought. Chinese law bans the removal offshore of audit papers, while foreign regulators aren’t allowed to work inside the country’s borders.
Failure to reach an agreement on cross-border access to records may prompt U.S. regulators to seek to deregister the firms, said Paul Gillis, professor at Peking University’s Guanghua School of Management.
The barring of auditors’ businesses in China and widespread delisting of Chinese U.S.-listed companies is unlikely, Citigroup Inc. analysts led by Ravi Sarathy and Deutsche Bank AG analysts including Jun Ma wrote in separate reports dated yesterday.
New Oriental, which is audited by Deloitte Touche Tohmatsu, isn’t one of the companies being investigated by the SEC that led to the sanctions against the auditing firms, Hsieh said.
Of about 400 Chinese companies that trade in the U.S., at least 115 have been audited by the domestic subsidiaries of the Big Four accounting firms, according to data on stocks with market values of at least $5 million compiled by Bloomberg. More than half are audited by units of Deloitte, Ernst & Young, KPMG or PricewaterhouseCoopers.
Hsieh today also denied allegations by short-seller Muddy Waters LLC about the company’s franchising operations.
Carson Block, founder and research director of Muddy Waters, said in July that New Oriental inflated its cash balances to gain approval from its auditor, spurring the stock’s slide to a five-year low.
“His main contention is that New Oriental’s revenues and profits are inflated, because he claims we franchise our brand name, which we don’t,” Hsieh said. “We franchise a sub-brand called POP Kids.”
Block had no basis for the allegations and in November Block said he had lost interest in shorting Chinese companies, Hsieh said.
“We fully cooperated with the SEC -- we gave them all the documents they requested and they are not asking us for anything,” he said. Any deregistration or delisting would take months, he said. “We are fully compliant right now with the SEC.”
If forced to delist because of an inability to be audited, Hsieh said the company would probably re-list in Asia, preferably in Hong Kong, Shanghai or Singapore. Hsieh favors Hong Kong (388) because it’s the biggest of those exchanges, with the most liquidity, he said.
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