Accounting and Auditing

KPMG partners face court contempt proceedings in Hong Kong over China audit

The accounting firm has refused to hand over audit papers relating to China Medical Technologies despite a 2016 court order

PUBLISHED : Wednesday, 20 December, 2017, 6:39pm
UPDATED : Wednesday, 20 December, 2017, 10:38pm

Several current and former KPMG partners are facing contempt proceedings in Hong Kong High Court, as liquidators for a failed US-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 November 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 US$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 the Hong Kong 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.

KPMG and Borrelli Walsh both declined to comment.

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 – a Chinese municipal water services provider that scrapped plans for an initial public offering in Hong Kong.

Hong Kong and US 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 US-listed Chinese groups unaudited and in danger of delisting.

While US 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.”