PwC faces crisis in China over audit of bankrupt property giant Evergrande

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

China’s securities regulator ruled in March that Evergrande had inflated its revenue on the mainland by almost $80 billion in the two years before the developer defaulted on its debts in 2021, even though PwC gave its accounts a clean chit.

The 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, sparking infighting among senior figures, according to insiders and retired partners still close to the company.

PwC enjoyed success on the back of China’s property boom, but in the wake of Evergrande’s collapse and a slowdown in the property sector, the firm’s future business in the country has been clouded by uncertainty ahead of a management change.

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

The partners believe possible regulatory action could overshadow the penalty imposed on rival Deloitte last year for an “inadequate audit” of China Huarong Asset Management. Deloitte paid a $31 million fine and had its Beijing operations suspended for three months.

“Current partners are primed for impact,” said one former PwC partner.

Evergrande was one of China’s biggest developers and its collapse sent shock waves through the economy. Founder Hui Ka Yan faces a lifetime ban from public markets as a result of the March regulatory findings. PwC had been auditing the company since 2009 before resigning in 2023.

Officials at Beijing’s finance ministry have discussed possible penalties for the firm’s failure to uncover the accounting irregularities, including a large fine, the suspension or closure of some of PwC’s regional offices and restrictions on auditing state-owned enterprises, according to a person briefed on the matter.

PwC China has eight central government-controlled SOE audit clients as of 2022, according to finance ministry data, accounting for about 6 percent of revenue. Regulators reiterated last year that state-owned companies generally should not hire auditors who have received significant fines or other penalties within three years.

A director of a mainland-listed state-owned enterprise said its board had in recent weeks discussed removing PwC as its auditor if Beijing imposed heavy sanctions. Last Friday, state-owned insurance group PICC said it had fired PwC as auditor after just three years, hiring EY instead.

The uncertainty also extended to PwC’s clients outside of state-owned enterprises. Shanghai-listed Eastroc Beverage canceled a shareholder vote scheduled for last Friday that would have reappointed the firm as its auditor, saying it needed to “further examine related matters surrounding the accounting firm.”

“PwC China is cooperating with its regulators regarding any proceedings involving Evergrande,” the firm said, declining to comment further. China’s finance ministry 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 PwC’s harsh punishment against the possibility of disrupting capital markets by taking actions that destabilize a solid. “Everyone is waiting for guidance from the regulator,” he said.

PwC has the largest market share in China among the Big Four accounting firms, according to the finance ministry, with revenue of 7.9 billion Rmb ($1.1 billion) in 2022. It has almost 800 partners and more than 20,000 employees in mainland China.

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

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

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

The fallout from the Evergrande audit threatens to lead to a wider slowdown in the Chinese market, which has affected all the Big Four accountancy firms but has been particularly difficult for PwC. At the start of this decade, its audit clients included many of the biggest developers, including Country Garden, Shimao and Sunac, and it has since dropped many of the engagements.

The slowdown was already visible in PwC’s latest fiscal year to June 2023, when the Asia-Pacific region posted the weakest revenue growth of the global network, just 7 percent, compared with more than 10 percent in Europe and the Americas. The Asia-Pacific figure was flattered by India’s 24 percent growth, showing China lagging well behind.

The crisis comes amid a leadership shakeup at PwC China, marking a bitter end to Chao’s nine years at the top. He is due to retire on June 30, following the unopposed election of Shanghai audit partner Daniel Li, who will be the first mainland Chinese to run the firm.

“Evergrande will continue to be Daniel’s biggest challenge when he takes over,” said a China-based partner at a rival Big Four firm, which has been eyeing an opportunity to take over business from state-owned enterprises. “Whether or not 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 PwC partners in China, that attacked Chao’s leadership and his management of Evergrande.

The letter played up long-simmering tensions between internal factions that date back to the 2002 merger between PwC’s China and Hong Kong businesses and Arthur Andersen’s China unit, which brought Chao and other senior figures to the firm.

The prospect of financial sanctions against Evergrande has sharpened criticism of Chao’s dossier, and the origins of the open letter have become a “whodunnit” mystery within PwC and beyond.

The letter alleges that Chao, then head of the firm’s audit business, fought off attempts to drop Evergrande as a client in 2014 when allegations of aggressive accounting first surfaced and then-chairman Silas Yang and others partners raised questions.

PwC China previously said the letter contained “inaccurate statements and false statements”. Chao declined to comment.

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

“The profession is indeed facing many challenges. I’m just glad I’m out of it now,” he wrote, going on to use shorthand for “unpleasant practice matters,” the euphemism used internally at PwC for business that gets the firm into regulatory trouble.

“Fortunately there was no TPM during my years! 🙏🏻🙏🏻,” he wrote.

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

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