Paul Gillis, a professor at Peking University who writes the China Accounting Blog, made an excellent point over the weekend about Alibaba Group that is worth repeating.
The company says it is audited by the Hong Kong affiliate of PricewaterhouseCoopers. Gillis is sceptical about that claim, based on some of the information in Alibaba's disclosures.
His suspicions are well-placed. In a statement with the Securities and Exchange Commission for its planned initial public offering, Alibaba said that substantially all of its employees were based on the mainland. About 94 per cent of its floor space worldwide is at the headquarters for its principal operating businesses in Hangzhou.
"While there may be a Hong Kong partner assigned to the account, I will bet dollars to doughnuts that a large portion of the hours on the audit were done by mainland staff," Gillis wrote. "This raises the question of whether the audit should have been signed by PwC's mainland member firm instead of the Hong Kong member firm." Gillis compared the issue to a Chinese firm sewing "Made in Italy" labels on shirts made in Wenzhou.
Why does this matter to investors? As Gillis wrote: "I have read bloggers who are arguing that investors should trust the Alibaba accounts because the Hong Kong member firm of PwC, and not the mainland member firm, audited them."
To his point, it was only a few years ago that mainland auditing firms suffered severe reputational hits after a wave of Chinese companies with North American listings turned out to be frauds.
What's more, Pricewaterhouse of Hong Kong isn't the same as the mainland Pricewaterhouse. The big accounting firms don't have parent-subsidiary structures like most corporations do. They operate more like giant membership clubs.
Each firm in each country covered by Pricewaterhouse's global network, for instance, is legally independent of each other, even though they share the same brand and are members of the same broad umbrella organisation of firms that rely on each other's work and professional-support systems.
The US Public Company Accounting Oversight Board has proposed making auditors disclose how much of a given audit's work is performed by affiliates in other jurisdictions. But that's a long way from happening.
Investors have no way of knowing how much of the audit was done by the Hong Kong firm or how heavily it relied on the mainland affiliate, PricewaterhouseCoopers Zhong Tian. Investors can't check the integrity of the work done by either.
There is nothing transparent about the accounting profession's boilerplate audit reports, except maybe the proper spelling of the firms' names. They have been known to get that wrong, too.
And as I noted in a column last week, Alibaba warned that its stock could be delisted if the SEC affirms a judge's decision to suspend the mainland affiliates of Pricewaterhouse and the other Big Four accounting firms for six months for refusing to comply with SEC subpoenas.
Since that ruling in January, some news reports have suggested that a workaround for the big firms auditing mainland companies may be to simply have their Hong Kong affiliates sign off as principal auditor. That might be fine, if they truly are the ones doing the audit.
Pricewaterhouse and Alibaba should do more to explain who is doing the bulk of the work.