Ernst & Young Says China Firm has Papers Regulator Seeks

Ernst & Young Hong Kong, which resigned as the auditor in 2010 for a Chinese water treatment company planning an initial public offering, doesn’t hold the audit papers the city’s regulator wants, a court was told.

“The performance of the engagement was carried out by Hua Ming and all the working papers were created by staff of Hua Ming,” the audit firm’s lawyer Benjamin Yu said yesterday, referring to its Beijing-based affiliate Ernst & Young Hua Ming.

Hong Kong’s Securities and Futures Commission, which is seeking the documents in relation to Standard Water Ltd.’s failed attempt to go public, believes Ernst & Young Hong Kong either possesses or has access to the documents, its lawyer Jat Sew Tong told the city’s Court of First Instance yesterday.

Ernst & Young Hong Kong resigned as Standard Water’s auditor in March 2010 citing the discovery of inconsistencies in the company’s documents. Standard Water subsequently withdrew its listing application.

It would be risky for Ernst & Young Hong Kong to resign if it had not obtained detailed information about the inconsistencies, Jat told the court today. Standard Water might sue the auditor if the basis for the resignation was questionable, Jat said.

Secrecy Laws

“How would EY obtain documents to defend itself if it was unable to get them from EY Hua Ming?” Jat asked Alden Kwok Ki Leung, a partner of Ernst & Young Hong Kong testifying in court today.

The work papers held by Ernst & Young Hua Ming can’t be provided to the SFC directly because of secrecy laws in China, Ernst & Young Hong Kong has said. Jat yesterday said the audit firm has failed to demonstrate what secrecy laws apply.

If Ernst & Young Hong Kong needed the documents to defend itself, it could ask Ernst & Young Hua Ming to seek approval from relevant authorities in China, Leung told the court today.

The SFC is making banks criminally liable for false statements in IPO documents and strengthening regulation after a series of accounting scandals involving Chinese companies. It says auditors must be able to discuss their working papers as part of Hong Kong’s regulatory framework, and that its lawsuit followed consultation with Chinese authorities.

The structure presumes that “the watchdog auditor will be able to put the bloodhound regulator on the scent,” SFC Chairman Carlson Tong said in a speech earlier this month.

Chinese legal restrictions are also at issue in a U.S. Securities and Exchange Commission case against affiliates of international accounting firms.

U.S. Traded

Deloitte Touche Tohmatsu CPA Ltd., Ernst & Young Hua Ming, KPMG Huazhen and PricewaterhouseCoopers Zhong Tian CPAs Ltd. have refused to cooperate with accounting investigations into nine companies whose securities are publicly traded in the U.S., the SEC said in an administrative order on Dec. 3. BDO China Dahua Co. was also named by the SEC in the action.

The SEC, U.S. Public Company Accounting Oversight Board, China’s Ministry of Finance and the China Securities Regulatory Commission have been unable to resolve differences over the inspection of audit documents.

The case is Securities and Futures Commission and Ernst & Young, HCMP1818/2012 in the Hong Kong Court of First Instance.

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