China is cheating on Obama-era stock market deal, Trump urged to intervene

Feds acknowledge China hasn't lived up to 2013 deal on Sarbanes-Oxley audits, putting investors at risk. Key China adviser urges Trump to act.

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Joe Biden toasts Chinese president Xi Jingping in 2015.
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Last Updated:
May 19, 2020 - 11:40am

The recent spectacular collapse of a Chinese coffee company and a stark warning by federal regulators are focusing an uncomfortable light on an Obama-Biden era stock market concession to Beijing, one that could become President Trump’s next target.

Since 2013, Chinese companies have been allowed to participate in U.S. stock and bond exchanges without having to fully comply with the same Sarbanes-Oxley Act accounting practices and risk disclosure required of American companies.

The concession was made in a little-noticed Memorandum of Understanding executed seven years ago by the Public Company Accounting Oversight Board (PCAOB), a nonprofit regulator empowered by the Sarbanes-Oxley law to ensure U.S. investors are protected from making bad investments because of faulty audits or financial information.

The agreement was reached in May 2013 after Chinese leaders pleaded for improved access to American capital markets in multiple meetings with then-Vice President Joe Biden, transcripts from the Obama administration’s archives show..

Now seven years later, the PCAOB and its parent Securities and Exchange Commission have allowed the agreement to continue despite their own warnings that China has not been complying with the MOU and has left global investors, including Americans, with potentially risky investments totaling as much as $1.9 trillion.

“We remain concerned about our lack of access in China,” the PCAOB said in a recent statement. “….Unfortunately, since signing the MOU in 2013, Chinese cooperation has not been sufficient for the PCAOB to obtain timely access to relevant documents and testimony necessary to carry out our mission consistent with the core principles identified above, nor have consultations undertaken through the MOU resulted in improvements.”

The warning, also echoed by the SEC, means that federal regulators can’t ensure American investors who wittingly or unwittingly invest in Chinese companies that the financial data offered by those companies is sound.

The danger of China’s noncompliance was dramatized recently by the spectacular collapse of Luckin Coffee, which used Wall Street to raise a half-billion dollars on the bold promise it could become the Starbucks of China. The company recently collapsed after investors were told its $12 billion valuation was based on inflated accounting. The firm reportedly has admitted it fabricated its 2019 revenue numbers.

Armed with the tale of Luckin Coffee and a clear case of China being allowed to play by different rules than U.S. firms, supporters of President Trump’s get-tough China policy are encouraging the president to take action, up to and including de-registering Chinese companies from the American stock and bond markets if compliance doesn’t snap into place.

“It is unconscionable that Chinese entities that have already raised over a trillion dollars from U.S. investors have their securities (stocks, bonds, etc.) registered with the Securities and Exchange Commission, but have been given a 'pass' from compliance with the statutes, regulations and accounting standards required of SEC-registered American corporations,” declared a letter sent to Trump on Sunday from dozens of conservative and liberal activists and national security experts.

Those urging the president to act cite his recent and unexpected action to order the Federal Retirement Thrift Investment Board overseeing the Thrift Savings Plan of federal and military retirement funds to stop plans to invest those funds in Chinese "bad actor" and other companies through a new global index.

The decision to allow billions of federal retirement dollars to be invested in Chinese companies, including military contractors and human rights abusers, was made in 2017 by Obama-holdover appointees and was weeks away from occurring when Trump suddenly intervened earlier this month. 

The board was instructed by Trump’s chief national security and economic advisors to stop the investment, and the president has named new appointees to implement his reversal of the Obama policy.

The argument Trump made in intervening in the federal retiree matter was that economic security and national security go hand and hand when it comes to China. And advocates of a second intervention, this time with the PCAOB, believe strongly that the same argument applies to the U.S. capital markets more broadly.

Michael Pillsbury, Trump’s chief outside policy adviser on China, told Just the News he believes Trump should intervene and force regulators to make China comply with its 2013 MOU or penalize Chinese companies by removing them from U.S. exchanges.

“I learned the president’s views on this well during the transition, when he told me at Trump Tower, that unlike the permanent bureaucracy that separates national security and economic security, in his mind there is no separation between the two,” Pillsbury said.

“The National Security Council and the National Economic Council should co-sign a letter demanding action,” he added. “It’s a matter of both national security and economic fairness to Americans.”

Trump was asked about China’s lack of compliance with the MOU last week during a TV appearance with Fox Business News anchor Maria Bartiromo, and said his White House is reviewing the matter.

“What happens is, so we say, 'You're going to do this and you're going to follow the rules of the New York Stock Exchange or Nasdaq.' And what are they going to do? They say, 'OK, we'll move to London or we'll move to Hong Kong,'” the president said in explaining past inaction on an issue that has been known to regulators for years.

Roger W. Robinson, the chairman of the Prague Security Studies Institute and a former senior economic adviser to President Ronald Reagan, said Trump has the leverage to demand an end to China's preferential treatment because China has no other capital markets with the liquidity, depth, research support and prestige of the U.S. markets.

 And, he added, there is a powerful political argument that China’s ability to access U.S. capital markets without complying with the same rules as U.S. firms can unfairly cost millions of Americans jobs down the road because of an uneven playing field.

“The fact that Chinese companies are not required to comply with federal securities laws and SEC regulations on material risk disclosure means that they are actually receiving preferential treatment over their American corporate counterparts in our capital markets,” Robinson said.

"For those worried that forcing such compliance would cause China to simply move its companies' listings and equity and debt offerings elsewhere, U.S. global financial dominance is such that, to a large extent, there is no ‘elsewhere’ given China's huge annual fundraising requirements,” he added.

China’s ability to access the New York Stock Exchange, NASDAQ and other markets without fully complying with the Sarbanes-Oxley accounting rules came during the Obama-Biden second term.

After American and other foreign investors lost billions in Chinese investments between 2010 and 2012 during an era of risky mergers and startups, U.S. regulators began cracking down, including seeking action against the four major accounting firms in China that had refused to provide auditing documents requested by the SEC. The accountants claimed they couldn’t provide the information without violating Chinese privacy laws.

The SEC would eventually settle the accountant cases with fines.

And the PCAOB -- with the SEC’s blessing -- proceeded with the MOU with China’s securities regulator. Under the deal, China agreed to let PCAOB gain “timely access” to certain audit documents of its homeland companies, but did not allow on-site audit firm inspections like those imposed on American firms, kicking that compliance issue down the road.

In the end, China never allowed the inspections and mostly failed to comply with the document requests, essentially allowing the country’s U.S.-listed firms to enjoy all the benefits of U.S. stock market access without the need to comply with Sarbanes-Oxley. The SEC and PCAOB has been raising red flags since 2018 but its lack of action has drawn significant criticism.

In the period leading up to the MOU, China pleaded its case to Vice President Biden, who was a point man for Obama on many issues related to China and frequently visited with Chinese leaders, according to documents in the Obama administration’s archives. Biden himself embraced China's economic emergence as good for the world.

"I’ve held the view for so many years and continue to hold the view that a rising China is a positive development," Biden declared in 2011 speech.

Biden hosted current Chinese President Xi Jingping, then Beijing’s vice president, at an event in August 2011 where the Chinese leader urged that the Obama administration “eliminate the interferences of trade and investment protectionism” in American markets, according to a transcript in the Obama administration archives.

Biden responded with a promise to work toward a solution, the transcript shows. 

“You have legitimate concerns about access to America. And I would argue we have legitimate concerns in reverse,” Biden said. “But the trajectory of the relationship is nothing but positive, and it’s overwhelmingly in the mutual interest of both our countries.  And it’s presumptuous to say this, but I think it’s in the interest of the world.  It’s in the interest of the world that we increase the interaction between not only our business community, but our economies writ large.”

A month later, Biden penned an op-ed rejecting the notion that China posed a threat to U.S. supremacy and urging Americans to invest in Beijing’s success.

“Some here and in the region see China’s growth as a threat, entertaining visions of a cold-war-style rivalry or great-power confrontation. Some Chinese worry that our aim in the Asia-Pacific is to contain China’s rise,” Biden wrote. “I reject these views.

“I remain convinced that a successful China can make our country more prosperous, not less,” he added.

Within 18 months of that meeting and op-ed, the MOU was signed.