PwC is facing a crisis in China over the audit of failed real estate giant Evergrande

PwC is facing a crisis in China as partners brace for fines over the audit of bankrupt property developer Evergrande and some clients reconsider their relationships with the accounting firm.

China’s securities regulator ruled in March that Evergrande had inflated its mainland revenues by nearly $80 billion in the two years before the developer defaulted on its debts in 2021, despite PwC giving the accounts a clean bill of health.

Partners fear they could face one of the largest fines ever imposed on a Big Four accounting firm in China, as well as other sanctions, which insiders and retired partners still close to the firm say will trigger to power struggles among high-ranking figures.

PwC enjoyed success thanks to China’s real estate boom, but in the wake of Evergrande’s collapse and the slowdown of the real estate sector, the company’s future operations in the country have been clouded in uncertainty ahead of a leadership change.

The situation is “high stakes” for PwC’s Chinese partners, said Francine McKenna, an accounting lecturer at the University of Miami’s Herbert Business School. “The Big Four Chinese companies are also part of global networks, and many multinational companies operating in China rely on them for audit, tax and advisory services.”

Partners believe potential regulatory action could overshadow the punishment imposed on rival Deloitte last year for a “flawed audit” of China Huarong Asset Management. Deloitte paid a $31 million fine and suspended operations in Beijing for three months.

“The current partners are ready for impact,” says a former PwC partner.

Evergrande was one of China’s largest developers, and its collapse has sent shockwaves through the economy. Founder Hui Ka Yan faces a lifetime ban from public markets following regulators’ findings in March. PwC had already audited the company in 2009 before resigning in 2023.

Beijing’s Finance Ministry officials have discussed possible punishments for the company’s failure to detect the accounting irregularities, including a large fine, the suspension or closure of some PwC regional offices and restrictions on auditing state-owned enterprises, according to reports. a person who is informed about the subject matter.

According to Ministry of Finance data, PwC China had eight central government-controlled state-owned enterprises in 2022, accounting for about 6 percent of revenue. Regulators reiterated last year that state-owned companies are generally not allowed to hire accountants who have received significant fines or other penalties within three years.

An executive at a mainland-listed state-owned company said its board had discussed in recent weeks about dropping PwC as its auditor if Beijing imposed stiff penalties. Last Friday, state insurance group PICC said it had fired PwC as accountant after just three years and hired EY instead.

The uncertainty has extended to PwC clients outside state-owned companies. Shanghai-listed Eastroc Beverage canceled a shareholder vote scheduled last Friday that would have reappointed the company as auditor, as it needed to “further verify related matters surrounding the accounting firm.”

“PwC China is cooperating with its regulators on any proceedings involving Evergrande,” the company said, without commenting further. China’s Ministry of Finance did not respond to a request for comment.

Xue Yunkui, an accounting professor at the Cheung Kong Graduate School of Business in Beijing who sits on the boards of several listed companies, said officials are likely to weigh a stiff punishment for PwC against the potential for action to disrupt capital markets actions that destabilize the economy. firm. “Everyone is waiting for advice from the regulator,” he said.

PwC has the largest market share in China among the Big Four accounting firms, with revenues of Rmb7.9 billion ($1.1 billion) in 2022, according to the Ministry of Finance. PwC has nearly 800 partners and more than 20,000 employees in mainland China.

Line chart of global revenue by region ($ billion), showing that PwC's revenue growth in the Asia Pacific region lagged

The company is one of the most important in PwC’s global network, which had revenues of $53 billion in the last fiscal year. Raymund Chao, Chairman of PwC China, is part of the five-person global network leadership team, where he holds the title of Asia-Pacific Chairman.

Chao is also in charge of PwC’s operations in Hong Kong, where regulators are investigating the audit of Evergrande’s Hong Kong-listed parent company. People close to Evergrande’s administrators have said they are considering legal action against PwC.

The Big Four accounting firms operate as legally separate, locally managed partnerships under a global umbrella that coordinates marketing and oversees quality.

The fallout from the Evergrande audit risks exacerbating a broader slowdown in the Chinese market, which has affected all Big Four accounting firms but has been particularly difficult for PwC. At the start of this decade it counted many of the largest developers among its audit clients, including Country Garden, Shimao and Sunac, and the firm has since resigned from many of the assignments.

The slowdown was already visible in PwC’s last fiscal year to June 2023, when the Asia-Pacific region recorded the weakest revenue growth in the global network, just 7 percent compared to more than 10 percent in Europe and the Americas. The Asia-Pacific figure was flattered by 24 percent growth in India, suggesting China was a significant laggard.

The crisis comes amid a leadership transition at PwC China, bringing an acrimonious end to Chao’s nine years in the top job. He will retire on June 30, following the election of Shanghai audit partner Daniel Li, who will be the first mainland Chinese person to lead the firm.

“Evergrande will remain the biggest challenge for Daniel when he takes over,” said a China-based partner at a rival Big Four firm who expected an opportunity to take over business from state-owned companies. “Whether PwC can recover from this will be in the hands of the authorities.”

In April, PwC reported to Chinese authorities an open letter circulating on social media, allegedly written by a group of Chinese PwC partners, attacking Chao’s leadership and his dealings with Evergrande.

The letter tapped into long-simmering tensions between internal factions dating back to the 2002 mergers between PwC’s Chinese and Hong Kong businesses and Arthur Andersen’s Chinese arm, which brought Chao and other senior figures to the firm.

The prospect of financial sanctions against Evergrande has intensified criticism of Chao’s record, and the origins of the open letter have become a ‘whodunnit’ mystery within PwC and beyond.

The letter alleged that Chao, then head of the firm’s audit department, rebuffed an attempt to dump Evergrande as a client in 2014, when allegations of aggressive accounting first circulated, prompting then-Chairman Silas Yang and other partners to question evoked.

PwC China has previously said the letter contains “incorrect statements and false accusations”. Chao declined to comment.

Yang, who comes from the old PwC Hong Kong side of the business and retired in 2015 to become steward of the prestigious Hong Kong Jockey Club, also declined to comment when contacted by the Financial Times. However, his LinkedIn profile includes some of his post-retirement thoughts in a comment on a video about EY in China.

“The profession indeed faces many challenges. I’m just glad I’m out of it now,” he wrote, going on to use an abbreviation for “difficult practice matters,” the euphemism used internally at PwC for matters that land the company in regulatory trouble.

“Luckily there were no TPMs in my years! 🙏🏻🙏🏻,” he wrote.

Additional reporting by Kaye Wiggins in Hong Kong and Simon Foy in London

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