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Political Economy
Posted at 02:06 PM ET, 03/15/2011

Audit cop PCAOB finds flaws in audits of Chinese companies

U.S. inspectors have found problems with audits of Chinese companies traded on U.S. stock markets, James R. Doty, chairman of the Public Company Accounting Oversight Board, said in a statement Tuesday.

“In some cases PCAOB inspection teams have identified significant audit deficiencies and, as necessary, made appropriate referrals for enforcement to protect investors’ interests in reliable audit reports,” Doty said.

The problems were found at Chinese companies audited by U.S. accounting firms. China does not allow the oversight board, a nonprofit corporation created by Congress, to inspect audit firms based in China.

“If Chinese companies want to attract U.S. capital for the long term, and if Chinese auditors want to garner the respect of U.S. investors, they need the credibility that comes from being part of a joint inspection process that includes the US and other similarly constituted regulatory regimes,” Doty said in response to questions from The Washington Post.

In a report released Tuesday, the oversight board said Chinese companies are gaining the ability to trade on U.S. stock markets through so-called “reverse mergers” with companies already listed in the United States. For example, the foreign company might acquire what is essentially a shell company.

That approach can avoid some of the scrutiny and expense that comes with an initial public offering of shares.

From 2007 through early 2010, companies from China, Hong Kong and Taiwan accounted for more than a quarter of reverse mergers, a PCAOB study released Tuesday found.

The study found that the number of reverse mergers involving companies from those areas was more than triple the number of U.S. IPOs from companies in China.

Audits are supposed to make sure that investors can trust the numbers companies report. The accounting scandals at Enron and WorldCom years ago prompted Congress to create the PCAOB to essentially audit the auditors.

However, the board has been hobbled by limited ability to inspect overseas accounting firms responsible for auditing or assisting in the audits of multinational or foreign companies.

Auditing businesses in China poses special challenges for U.S. auditors-- not least, the language difference.

By  |  02:06 PM ET, 03/15/2011

 
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