(Reuters) – Several current and former KPMG partners are facing contempt proceedings in a Hong Kong court, as liquidators for a failed U.S.-listed Chinese company step up their action against the auditor over its refusal to produce Chinese working papers. The contempt summons, seen by Reuters, names 91 individuals and was issued on Nov. 22. It is the latest move in a battle surrounding the 2012 collapse of China Medical Technologies, whose founders are being prosecuted in the United States for allegedly defrauding investors out of more than $400 million.
The writ highlights a long-running tussle between China, which is reluctant to hand over mainland documents, and overseas regulators that demand such papers – leaving auditors trapped between upsetting Beijing or facing offshore penalties when dealing with foreign-listed Chinese firms.
KPMG was ordered by Hong Kong’s High Court in 2016 to give audit papers, correspondence and records on China Medical to Borrelli Walsh, liquidators for the one-time NASDAQ-listed firm. But KPMG has refused to do so without written direction of the relevant Chinese authority, arguing that its mainland-based affiliate KPMG Huazhen, which carried out the China Medical audit field work, would be in violation of national security laws if the materials held state secrets or sensitive information, court documents and the writ show.
Those named in the writ were partners in KPMG China – the partnership covering China, Hong Kong and Macau – in 2015, which is when the court dispute over the audit papers began. Petitions to wind up China Medical were filed in the Cayman Islands, New York and finally in Hong Kong in 2012, and the company was placed into liquidation. The liquidators are asking each of the 91 defendants be held in contempt of court, which could result in criminal penalties, or impose weekly fines for failure to comply with the High Court order. China Medical is the most high-profile international contest over Chinese audit papers since 2014, when EY, KPMG’s fellow Big Four accounting firm, handed over certain documents to Hong Kong’s Securities and Futures Commission after a court battle.
EY had argued that Chinese officials would not let it produce documents related to its work on an unfinished audit of Standard Water Ltd – a Chinese municipal water services provider that scrapped plans for an initial public offering in Hong Kong. Hong Kong and U.S. regulators have been at loggerheads with Chinese firms and their auditors over the production of audit work papers since the start of the decade – a battle that at one point threatened to leave U.S.-listed Chinese groups unaudited and in danger of delisting. While U.S. and Chinese regulators came to a non-binding agreement in 2013 over exchanging documents, mainland officials have objected to inspections and are still in practice often reluctant to let papers leave China.
“The problem for accounting firms is that they’re still between a rock and a hard place,” said Paul Gillis, professor of practice at Peking University’s Guanghua School of Management. They need to comply with the laws in all of the locations where they are doing business.” In July, the U.S. audit regulator revoked the registration of the Hong Kong affiliate of Crowe Horwarth International because it failed to comply with demands to produce documents, including Chinese audit work papers. Earlier in the year, the U.S. Department of Justice charged China Medical Chairman Wu Xiaodong and CFO Samson Tsang Tak Yung with securities fraud and wire fraud conspiracy, alleging they stole much of the $426 million they raised in two convertible bond offerings in 2008 and 2010. KPMG issued written audit reports for China Medical from 2003 to 2008, and was replaced by PwC Zhong Tian in August 2009. Contempt proceedings will be held at Hong Kong High Court.
