Why the U.S. Is Threatening to Delist China Stars Like Alibaba
(Bloomberg) -- Some big-name Chinese stocks could eventually be kicked off the New York Stock Exchange and Nasdaq if they refuse to let U.S. regulators see their financial audits. An effort by the U.S. Securities and Exchange Commission to gain access to audits of overseas companies, which began under former President Donald Trump, is continuing under President Joe Biden. Alibaba Group Holding Ltd. and Baidu Inc. are among Chinese companies listed in the U.S. whose audit firms aren’t complying with the demand.
1. What’s the issue?
Critics say Chinese companies enjoy the trading privileges of a market economy -- including access to U.S. stock exchanges -- while receiving government support and operating in an opaque system. In addition to disclosure of audits, the U.S. initiative would require foreign companies to disclose if they’re controlled by a government.
2. Why does the U.S. want access to audits?
The 2002 Sarbanes-Oxley Act, enacted in the wake of the Enron Corp. accounting scandal, required that all public companies submit to inspections of their audits by the U.S. Public Company Accounting Oversight Board. China’s refusal to let the board examine audits of firms whose shares trade in the U.S. -- including companies registered in Hong Kong -- has long been a point of contention. It came to a head when Chinese chain Luckin Coffee Inc., which was listed on Nasdaq, was found to have intentionally fabricated more than $300 million in sales from April 2019 through January 2020. The company filed for bankruptcy protection after being fined $180 million by the SEC.
3. Why don’t Chinese firms share their audits with the PCAOB?
They say Chinese national security law prohibits them from turning over audit papers to U.S. regulators.
4. How soon could Chinese companies be delisted?
It would take a while, which explains why markets have taken the possibility in stride. Under a law signed by Trump in December 2020, a company would be delisted only after three consecutive years of non-compliance with audit inspections, and it could return by certifying that it had retained a registered public accounting firm approved by the SEC. The three-year clock wouldn’t start ticking until the SEC drafts rules for how the law will be carried out. The SEC kick-started that practice with a March 24 announcement seeking public comment on the type of disclosures and documentation that firms will have to share.
5. Who would be affected?
Alibaba -- by far the largest U.S.-listed Chinese corporation -- for one. On a post-earnings call in May 2020, it stressed that its books are audited under U.S. standards by a major accounting house. In all, the PCAOB says it’s blocked from reviewing the audits of about 200 companies based in China or Hong Kong, including Alibaba, PetroChina, Baidu and JD.com. Chinese companies traded in the U.S. have a cumulative market capitalization in excess of $1.8 trillion.
6. Are some of them really controlled by China’s government?
Major private firms like Alibaba could probably argue that they are not, although others with substantial state ownership may have a harder time. As of October 2020, the U.S.-China Economic and Security Review Commission, which reports to Congress, counted 13 “national-level Chinese state-owned enterprises” listed on major U.S. exchanges.
7. Why do Chinese companies list in the U.S.?
Companies from around the globe are attracted by the liquidity and deep investor base of U.S. capital markets. They offer access to a much bigger and less volatile pool of capital, in a potentially speedier time frame. China’s own markets, while giant-sized, remain relatively underdeveloped. Fund-raising for even quality companies can take months in a financial system that is constrained by state-owned lenders. Dozens of firms pulled planned IPOs this year after regulators tightened listing requirements to protect the retail investors who dominate stock trading, as opposed to the institutional investors and mutual-fund base active in the U.S. And until recently, the Hong Kong exchange had a ban on dual-class shares, which are often used by tech entrepreneurs to keep control of their startups after going public in the U.S. It was relaxed in 2018, prompting big listings from Alibaba, Meituan and Xiaomi.
8. How has China responded?
Chinese Foreign Ministry spokeswoman Hua Chunying has said Beijing “firmly opposes politicizing securities regulation.” The China Securities Regulatory Commission said the bill undermines global investor confidence in U.S. capital markets. China has issued rules to protect its firms from “unjustified” foreign laws and threatened to create its own list of “unreliable entities,” but it remains unclear what concrete actions Beijing will take in retaliation.
The Reference Shelf
- The PCAOB’s list of public companies whose audits it can’t examine.
- Alibaba said it expects to be able to comply.
- QuickTakes on Alibaba’s growth story and its dual listings in New York and Hong Kong, China’s crackdown on tech giants and worries about the new STAR tech exchange.
- The 2020 annual report from the U.S.-China Economic and Security Review Commission.
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