tv Forum Focuses on Chinese Investment in the U.S. CSPAN January 26, 2017 1:00pm-3:01pm EST
litigate these cases and know about underlying transactions. are companies regularly advised about these problems before they do business with these companies? is it your view that they are conscious of this? >> if tla -- anytime you are dealing with a nonu.s. entity companies to lawyers ought to be thinking long and hard apart from china if they don't have assets available to the united states how do we protect ourselves? i think parties are sensitive. i think that is why you see such a prevalence. assuming bargaining position i advice u.s. clients to have a consent to jurisdiction and litigation in a new york court. >> your view is this is working pretty well now the way it is. litigation takes a long time sometimes so it may look like one of our companies are being treated unfairly but people are
aware of the legal framework and can guard against it? >> whether a company is adequately protecting themselves may be an open question. whether there is need for additional legal structure to help them i think that is the part i don't get to. i think it is adequate and up to the parties to take advantage of it. >> before we have just as if you can answer later just send us the question about that is in a transactional sense the question of -- and i understand the monopoly issue was a comedy issue whether there are areas where it falls outside of the transaction that there may be entities who have no idea that there is no waiver or there is no jurisdiction. is there a way of dealing with that? >> thank you. excuse me.
i wanted to follow up on commissioner shea's question. as i see it there are three types of companies in china, state owned, state controlled and private. take shang way. it appears to be a private company but the senior management is appointed by the chinese communitiest party. when shang way purchased smithfield it took the bank of china 24 hours to approve a $4 billion loan. in the bank of china is not really a bank but an arm of the chinese treasury. so it gets very confusing in our country trying to implement what appears to be a private company but it's not really a private company. can you talk about that? >> yes. i do agree that the announcement
of private enterprise is a different concept in china. just to be on the record in a country like china i do believe that we should assume that any company whether it is state owned or private can't be influenced and controlled by the government and communist party. we put that clearly in all of our research. but for analytical purposes we believe it does make sense to have distinctions between locally state owned companies, hybrid firms. maybe not for national security issues but if you look at the jobs impact, the management capabilities, i think those distinctions matter. we put it in our research because a lot of people are interested in looking as these
categories. for some it does play a role whether the company is state owned or privately owned. >> i don't know whether i missed this but did you say you were opposed or you support the net benefit test? >> i think the net benefit test is a problematic concept because there are no objective criteria for deciding whether an investment is beneficial to a country. there are different view points. so i think having a net benefit test as opposed to narrowly defined security test opens process and in my view dramatically reduces the certainty for investors in terms of regulatory decisions. i believe this is not a solution that the u.s. should implement. >> thank you.
>> thank you. thank you gentlemen. i would like to ask you a question. you urged us your hope is that we as a people are guided by facts and data. so thinking of average citizens and average american investors, you showed the line of increased foreign direct investment from china, significant trend prior being saudi arabia and prior to that japan. you also mentioned that 90% of that foreign direct investment is acquisitions with maybe another witness quoted it to be 8% green filled investment. would you say it is the green field investment that brings jobs to america or are those acquisitions affecting jobs, too? i would like to hear your
opinion on that because i think that is what our citizenry as we know it is increasing and will continue to increase. i want to know how jobs to the u.s. play into that. >> so economists in general assume that greenfield is more beneficial on net in terms of jobs impact because it creates new things. so in most instances it involves hiring people as opposed to acquisitions which is legally speaking a transfer of ownership. having said that, if you look at the numbers and we have done a lot of research looking at the impact of chinese investment i would argue that it is important to look at the post acquisition impact in terms of jobs. if you actually look at chinese
companies, acquisition track record i would say what we found looking at last 25 years in the overwhelming majority of instances chinese companies have increased staff at companies that they have acquired. there is the fear that chinese acquisitions could lead to a transfer of jobs back to china. that is what we used to call the headquarters effect and moves to headquarters. we have no evidence whatsoever that this is the case. in most instances there is an increase in especially the highly qualified staff. engineers and white collar workers. >> are you publishing on that? >> we have a separate line of work that looks at local impacts of chinese investment where we track jobs connected to these
investments. it is called new neighbors. we are doing this together with national committee on u.s. job relations. the next update is going to come out in april, may this year. last year's numbers we had about 100,000 jobs that were connected to chinese enterprises in the u.s. about 90% of those jobs were quired but we couldn't find evidence at acquisitions have negative net impact on employment in the u.s. >> thank you. >> maybe just -- >> quick preview on 2016 numbers. there have been a lot of acquisitions in the u.s. in 2016. i would estimate that the jobs count as of now is somewhere between 130,000 and 140,000 jobs that employ americans with chinese-owned enterprises. >> the more visible that can be beyond to our commission it will
be useful to the public. thank you. thank you very much. i wanted to ask a question similar to commissioner slayton's question on the issue of state-controlled. we had a hearing last year in which we had a lot of discussion about state-owned enterprises versus state-controlled enterprises. you mentioned with exception of the national security issues that might not make much difference but national security issues are what we are really, really concerned about. and when you go from $15 billion to $40 billion a year, 90% of which is for acquisition it reminds me that the dark shadow over all of this discussion is that if american businesses put together a capital fund of $40 billion, 90% of which was destined for acquisition in china of majority ownership of chinese companies they wouldn't
get to first base. so let me just -- having said that, isn't there a real significant interest in need for us to understand that it is not just state-owned enterprises, it is state-controlled enterprises which almost always have to what the party wants. isn't it important for us to understand that distinction? and when we talk about private always include some understanding about the state-controlled enterprises? >> i would say one of the first things i would look at is to take a look at the industry as a whole. we tend to look at a specific transaction and it helps us when we look at what is happening in the industry. in the industry as a whole they may use one state-owned enterprise to make one acquisition, state-controlled
enterprise to make another. and there is something in between, maybe a u.s. company that is controlled where they infiltrated it. it is a holistic approach and using different mechanisms to buy more ownership of those industries. i will give you an example with motoro motorola. we once saw motorola at the top of the industry in the early 2000s. you just track the mobile company alone, the mobile business line. so the mobile business line heavily infiltrated by chinese company. ip theft, case won in court but then shortly after that the line of business gets under duress and gets acquired by google and about a year later it gets acquired by china for 2 billion. keeps going down. once it is acquired it didn't
matter that it was so-called acquired by mobile because it falls understate controlled versus state owned. and they now have ownership of it. you look at what has happened to the jobs associated with that. it has been more of brain drain. the things that they have done to manage that motorola business line since the acquisition have destroyed it. they have allowed it to build great phones and release some significant technology but they don't let them market it. so how are you going to increase sales in a competitive market? so there are certain ways that they are using different companies to head it off but the real benefit here in the case is waway. so if you look at it from industry perspective how they insert different companies makes a lot more sense than looking at it one at a time. >> isn't it the case that -- i met with the chairman in
beijing. they indicated that they are not able to purchase in almost every case a majority interest in chinese company if an american firm has interest in chinese company. >> the only time that when our cases -- they let you get the majority is when it is a shell company they don't care about. in the case of caterpillar they were allowed to buy chinese assets. they fell. had to take about a $500 million write down and nobody knows what happened. that is the only time that they let you take that kind of position. >> we have two different systems. >> right. >> that's why you have to apply a lot of times fcpa checks did it make sense for caterpillar to invest x? did it make sense for joy global to invest 1.5 billion when
overall revenue was 5 billion. sometimes it doesn't add up because you look at numbers and say why did you pay 1.4 for it as you are being set up? >> chair woman barth aul mew. >> thank you to all of our witnesses. i have limited time and questions for each of you. i will do this and hope we have a second round. first, mr. johnson, i just wanted to note when you talk about media and entertainment segment campaigns i didn't see movie theaters. do you include it somewhere in the context of what you list here? you list nine. i'm thinking about distribution through movie. >> so just an observation which is that as wanda purchased amc movie theater company amc is trying to acquire nordic cinemas in sweden and the bigger
overlying concern is that through censorship they will be able to if there is a movie made about tibet will that be controlled so it can't be shown just about anywhere. just an observation. my question for you is you mentioned specifically in your testimony that chinese corporation investors have a unique advantage which is apparent immunity to foreign corrupt practices act. do you mean that they don't have a similar fcpa that they have to work under or do you mean that they are immune from the -- i'm sounding like a lawyer -- they are immune here on fcpa issues. and in a time of heightened concern can you talk about what that means? >> there are a few ways to look at that. they will still be held to our fcpa if it has to do with our country. they have an equivalent of their law. they apply their laws very, very specifically to their advantage
just like the penalties that they have applied to a company like quaalcomm. so they will selectively choose when and where to apply the penalty over there to benefit their own industry and even to then veer the penalty payments to their industry. whereas they can send somebody into the u.s. and because they have state support they can provide a bribe that doesn't look like a bribe. if apple were to go to china and just pay them it comes off as a bribe. if they come out here and invest 2 billion in a supposed plant in virginia and arkansas that looks like a great investment. but the fact that the industry in the u.s. is in negative growth and that virginia and arkansas really don't have strong industry or materials for it that those are the things. you can bring money into the country and you can influence
politics because they have so many means to bring the money in that our companies don't. our fcpa we look normally on forensic accounting for specific things and they have many ways to get around that. >> part of what i think you are saying here also is that that can make acquisitions or build plants or do whatever without commercial consideration. they droent is to turn a profit which is result of deep pockets of chinese government. >> correct. >> thank you, as always, for the data and then facts that you provide us. it is important to have a fact-based world i think. you mentioned siffious make sure it has adequate resources. do you believe the statute needs to have a serious look at whether the statute is adequate for the kinds of acquisitions that are taking place? there is for example ongoing situation where there is a company that is subject to a u.s. duties and it looks like
they are circumventing and they are in the process of acquiring an american company. does it protect against something like that? >> it is my belief that it has worked well in the past to safe guard u.s. national security interests. that is the mandate that it is tasked with. there might be certain adjustments that make sense. i don't have access to classified information so i can't speak to more narrow concerns. one is early stage financing there might be some adjustments that do make sense. however when you talk about things like circumventing -- i believe it should remain national security streaming body only and look for other bodies and solutions to address some of the economic concerns.
i think mr. johnson mentioned competition policy. i do believe that there are ways that u.s. could change its anti-trust laws to discipline some of the concerns that we have on state-owned companies and other mechanisms that would make sense to explore. we should stay away from expanding to a net benefit test. >> thank you. thank you all for being here this morning. as commissioner just mentioned we know it set up to defend national security interests. you mentioned that you think mandates should be alterred. if not, with the boom of chinese investment in the united states at such large numbers, how do we handle situations where state-owned enterprises or private firms with private subsidies make actions that harm
our economy or be anti-competitive? you mentioned other bodies and solutions. could you expand on that a little bit? >> sure. so i think the two main concerns on economic side that the u.s. and many others have are the question of market access which commissioner has mentioned earlier and a second concern is potential spillovers of market distortions and unfair competition from chinese companies when it comes to acquiring u.s. companies or functioning market mechanisms. i think there is a very good debate within the world about things like competitive neutrality regimes, companies that are state owned or state controlled, state influenced do have higher threshold when it
comes to disclosure, transparency and again i think it makes sense to explore an expansion or different approach to competition policy for some of these entities. we haven't had a situation like this before that there is large economy and emerging economy that has a state involvement similar to chinese economy. it is a unique situation right now. i think it is a debate we should be having but we should not water down for that approach. >> thank you. my first three days on the commission i spent a lot of time reading your report which i think is outstanding. in it you mention the experience of other companies that used the net benefit test, uk, australia. can you talk a little bit about what are the challenges in using that benefits test and maybe things that have gone right or wrong on those?
>> sure. so i think the two main examples you just mentioned are canada and australia. they have a net benefit test. i think the biggest concern is that there are no objective criteria for defining what a net benefit is. there are different views within governments and governments change. i think opening up that process there is already a lot of plitization of a lot of investments happening from special interests. i think opening up that discussion to a net benefit test would really reduce the -- or increase the uncertainty that foreign investors have closing transactions. if you look at canada, for example, it had a debate whether retirement homes are critical in national infrastructure. chinese company was interested in buying a retirement home chain and debating whether that is national security interest.
a lot of different interests. a trump administration has to review a foreign investment in the u.s. would you be confident that that can be entirely taken out? i don't know. i think what you want to do is reduce that leeway for the executive branch in making judgments about economic benefits. i think it has done that well. we should find solutions that allow that narrow band as little as possible when it comes to making those judgment calls. >> leaving aside a possible conflicts of interest isn't it possible that you could narrowly tailor a test, an economic test, maybe countries currently haven't done that. would it be possible to put together something more objective? >> i mean, there is certainly
certain criteria you can look at. you can look at jobs, competition policy and take a broader sense. i haven't seen a really good proposal so far. might be possible, but it would require a lot of work. maybe one example of what a very problematic case is, cost of capital. there is a lot of debate of whether chinese companies have access to financing from bank of china mentioned before. that is certainly a concern. there is no globally accepted correct cost of capital. what is the right market base cost of capital. there is no such thing. so it is really difficult for us to define that and especially define it at a certain point in time and having it adjusted going forward. a lot of these metrics are very fluid and legislation always takes time to catch up with reality. i haven't seen proposals that really allow that to design it
in an objective way. >> thank you. commissioner cleveland. >> thank you. we had a hearing a couple of years ago where the sec appeared and talked about filings for companies that were listing on our exchanges. and they presented a number of challenges in terms of the content of those filings. so i'm interested in your perspectives on -- let me back up. you talk a lot about reporting requirements but you speak in terms of thresholds for those reports to be triggered. i'm less interested in the threshold and more interested in when companies file with the sec or are required to fill these surveys out. how adequate is the information? all of you may speak to this. what is it that we are requiring companies to disclose and is it
adequate? >> so i think we have to make a bit of a distinction between fdi and chinese companies listing at u.s. stock exchange. those are very different things. companies acquiring hard assets in the u.s. with long term interest and the other we economists see the other as an outflow of u.s. capital to china. those are very different things. i'm not a securities lawyer. i can't really comment on the adequacy of sec filing requirements. i think certainly taking perspective of somebody who is trying to find information sec filings are very useful for us when we look at chinese companies' activity here in the u.s. i would like to see more chinese companies being required to do so. i do believe, for example, in the case of state-owned companies acquiring assets in
the u.s. if you had a mandatory requirement to file information on the sort of funding, conditions that those companies got from state-owned chinese banks i think would go a long way in clarifying questions that we still have. >> anybody else? >> i would say we monitor financials closely. most of what you need to be able to determine whether or not a chinese company is involved in cyber economic campaigns is in financials they present just not being paid attention to by us. we forget a lot. so my overall opinion on it is when they are submitting let's say alibaba is coming to the market and presenting so many things about financials and they are coming from a high risk
nation that they be required to rationalize some of the most obvious issues like you brought in overall investment and you have a billion in cash that you make -- can you explain where the funds came from and then see the documentation? and that it is most obvious. you go company after company. the red flags are there. we just tend to forgive and can't understand why it collapses long term. the financials themselves it's very difficult to manipulate every line item. if revenue is growing 50% a year there is an issue. if their cost to goods is higher
than western counter parts and cash on hand and liquidity is broken it is an issue. it does show up. but requiring that they provide that level of transparency would be very, very helpful to prevent some of this. >> in the surveys that you talk about is the structure the source of capital are those fundamentals included or not? you are referring to the eea service? >> you mentioned that and several other. >> so the surveys are not designed to get information on financials or funding sources. moreover it is my impression that there isn't really a whole lot of enforcement of these
filing requirements. if companies decide not to file i believe commerce department is probably following up but there is really no consequence if you don't file. that could be another thing that congress could look at in terms of increasing compliance with those rules would also help. >> thank you. >> senator goodwin. >> thank you, mr. chairman. quick point of clarification. in both chinese dry wall case and other cases that you have had experience in when sovereign immunity has been raised that hasn't foreclosed pursuing relief from other defendants including subsidiaries of companies that claim immunity. >> correct. >> in the chinese dry wall case the manufacturers and others in the chain of distribution
subject to jurisdiction by courts? >> cbm group was, i think the fifth level parent of the manufacturing defendant and there are i think 15 or 16 active defendants still in litigation. only top level defendant was taken out. to my knowledge i can't think of another where you didn't have remaining subsidiaries or co defendants. >> let's talk about commercial activity exception. in my estimation, the thrust of the exception, the intent is to treat market actors the same. once you enter into commerce in the market you will be treated the same regardless of ownership structu structure. >> that's correct. >> that's not what happened with regard to cmbm and chinese dry wall case. if it was privately held company they would still be in that
case, correct? >> actually not. we didn't get to the point of litigating the alter ego issues. >> subject to other jurisdictional challenges and legal arguments they obviously could not get out of the case on immunity grounds. >> if they were not -- >> the thrust of the exception is to treat commercial actors the same. >> right. >> is that occurring with the application of this exception in federal courts if cmbm is getting out or privately held company levels up also would not be able to enjoy that immunity? >> by definition it would not be able to enjoy the benefits of sovereign immunity. >> are they being treated the same? >> no because they are sauverns. >> is that defeating the intent of this commercial activity exception? is it being applied in a way that is undermining the attempt
of the commercial activity exception? they are engaging in some level of commercial activity. >> the exception requires commercial activity related to the claim and has to touch or concern the united states. in this case as a chinese holding company operating in china with no contact with respect to these transactions, didn't manufacture ship or sell product. that was all at the subsiderary. they engaged in no commercial activity. there isn't a question of parody with other commercial actors because there wasn't commercial on the part of cmbm group. >> if that group was entirely privately held they couldn't find sovereign immunity obviously. it is self-evident by definition. >> you are correct obviously that if it is not sovereign it can't claim sovereign. >> there was no commercial
activity. >> one might be held to jurisdiction to united states court and one cannot. >> if it was a privately held entity -- previously worked in various capacities at the u.s. securities and exchange commission, federal reserve and treasury department and served as associate director at accounting oversight board where he negotiated bilateral agreements. additionally he served as chief negotiator with chinese regulators on cross border cooperation and inspections of registered audit firms in china. he holds a jd from northeastern and received b.a. from university of virginia. we are also joined by dr. paul gill s, a professor of practice and co director of imba program at beijing university's school
of management. certified public accountant from the u.s. leading expert. he runs the popular china accounting blog website which covers accounting and finance news in china. he was a partner in the u.s. singapore and china for 28 years. you don't look that old. he was also a member of the standing advisory group. he received phd in australia and testified in 2013. did you actually testify or were you snowed out? >> i was snowed out. >> that's what i thought. we missed you in 2013. i think we had your testimony on record. finally we have mr. peter hillsworth, founder and portfolio manager focussing on chinese companies not researched by wall street banks engaging
several as activist investor. he is the author of the white paper china squeeze outs and the need to protect u.s. investors. this report assesses regulatory gaps and implications for investors in american stock markets and recommendations to close the gaps. he received his bachelor's from vaser. we are happy you could join us today. so we will ask you to hold opening marks to about seven minutes so we can quiz you. thank you. >> thank you very much. first i want to say it is an honor to be presenting before this commission on the very important topic of chinese investment and listings in the united states. before joining private practice almost a year ago as was mentioned i spent five years at the public company accounting oversight board in international
affairs department and more than 20 years working for financial regulators. among other responsibilities i served as organization's chief negotiator with chinese regulators on cross border. in this capacity i worked closely with sec and u.s. treasury department. i should note that the views i express here today are my views and do not necessarily reflect views of my colleague or firm. while my written statement provides a history of chinese listings in the u.s. including outlining what i say is decline in chinese listings from period of 2011 to present, today in my remarks i will focus on the current regulatory landscape and possible recommendations going forward. first i would like to address the role that the sec plays in regulating chinese companies
listed on u.s. exchanges. i know this question was posed this morning. i think this is probably the appropriate panel to address that issue. the sec requires chinese companies seeking to list in the u.s. whether either primary auditor or auditor with substantial portion to financial statements has not been inspected. that said the sec does not evaluate or opine on company's quality through ipo review. the risk does not necessarily move in lock step with static indicators such as financial data. as noted in a speech that sec chair white gave last fall before international ball association she stressed importance of cross border cooperation. commented that has over 75 formal arrangements with foreign
regulators and law enforcement agencies. all of these arrangements facilitate. the sec and other countries make use of them most recently entering into agreement provide frg enforcement with hong kong securities regulator last week. while the sec and doj are increasingly working with their foreign counter parts in such areas as enforcement to accounting fraud they must contend -- that complicate cross border data transfers. various laws including blocking statute privacy and state secrecy laws are designed to advance objectives but may
create barriers between regulators and foreign domiciled. having served as chief negotiator at the staff level of the chinese regulators i know first-hand the challenge faced with respect to ongoing impasse on agreement that would facilitate inspections of audit firms in mainland china. the ministry of finance, chinese regulatory commission and china institute of certified public accountants all have oversight responsibilities over accounting profession in china. they conduct inspections by examining quality control procedures as well as inspecting engagement work papers. penalties are most common sanctions imposed in china. while i led the negotiations for a number of years which resulted in an agreement on enforcement in 2013, negotiations on agreement providing for cross
border inspections stalled at the end of 2015 due to a dispute regarding issuer audits that would be inspected. we sought to inspect the audits of alibaba but chinese security regulator indicated that further approvals were needed from other relative ministries before that could be conducted. this past year and after almost a decade of negotiations the pcob has been largely silent on the progress of its negotiations with the chinese regulators only commenting that they continue to work on recent agreement. one report suggested that the inspectors obtained access by summer of 2016 but that review was hampered by lack of access to firm personnel and extensive redactions such that could not
conduct a meaningful inspection. last year two registered firms had registrations revoked for violations of audit standards and failure to cooperate with investigations. this gap in the inspection program exposes not only u.s. investors to uncertainty regarding quality of audits being performed in china but also u.s. companies with growing subsidiary. until it resolved the chinese inspection issue u.s. investors and companies faced uncertainty regarding quality and financial statements that chinese issuers listed. recently the staff issued guidance regarding obligations of audit firms located outside of mainland china that audit china-based issues. effectively this guidance instructs firms to disregard and
violate chinese law governing foreign access, ignoring long standing principles of international -- it will be interesting to see whether this staff can guide us and how it will address such conflict of law concerns. to date this particular issue has not been litigated in a u.s. federal court. in addition to sovereignty concerns another obstacle is the issue of state secrets. state secrecy laws are well known for vague language. state secrets can be defined as encompassing those matters involved national interest. in 2009 issued agency rule with state secrecy bureau referred to as notice 29. the rule addresses obligations to accounting firm and provides
auto work papers cannot be transmitted outside of china without the approval of the relevant chinese authorities. the rule concludes by reminding accounting firms of the liabilities including criminal consequences they may incur if they violate the rule. notice 29 con templates that with the approval information that does not deem state secret can be disclosed. i believe that the current law is available to u.s. law enforcement regulators are sufficient. before 2002 and the passage of the surbanes-oxley act. section 26 increase authority of the sec to compel the production of audit work papers on making such firms subject to jurisdiction of u.s. courts for purposes of enforcement and subject to -- secure agreement
on any foreign accounting firm upon which it relies to produce work papers of that firm. the act permits firms to produce work papers through alternative means such as through -- >> if you could summarize and finish up, please. >> let me just move on a little bit here. i think this commission is well aware of this conflict in long standing issues. the most formidable issue is the one of conflicting laws between the u.s. and foreign jurisdictions. i'll move ahead and offer a few recommendations. i think for such agreements that the sec has signed with the chinese regulators and other foreign counter parts as well as
the 22 agreements that pcob has entered into with its foreign counter parts there needs to be a regulatory framework that provides transparency and protects investors. a professional service environment that provides effective quality control for listings and investor base with knowledge and capabilities to understand our businesses properly. and equity market really is more than just an exchange. investors rely on broad under active system. equity analysis brokers and regulators who perform quality control in companies that list there. neither the pcob nor sec has published information pertaining to risks posed since 2011. to my knowledge the u.s. office has yet to conduct a study addressing this topic.
gaps in regulatory supervision must be resolved. should redouble efforts to reach an agreement with foreign counter parts in china and offer more transparency regarding prospects of doing so than have exhibited. could consider partnering with chinese regulators in conducting inspections so long as it can issue independent inspection report or joint report that reflects reviews of regulators. some creativity is very much required here. in just a few more recommendations and i will wrap up. china implements a system of credential oversight over markets rather than practice capital market oversight. this regulatory approach in china has been a fundamental problem causing instability within the chinese capital markets.
regulators and governments will keep listed kaechs afloat in china to ensure investment protection so there is little incentive to focus on transparency and management performance. u.s. regulators should initiate further education of counter parts in china on capital market principles and oversight and how those principles differ. in addition the national development and reform commission is a powerful agency that is in charge of reforms throughout central and local governments in china and includes within its remit capital market reform, cross border cooperation and economic reform. finding and establishing a channel to national development and reform should be a high priority. in my capacity both having worked at the treasury department and at the pcob i participated in a number of the
u.s. china strategic and economic dialogues which as i think everyone here recognizes is a premiere bilateral dialogue on financial and economic trade issues. often what we see that comes out of those dialogues is a list of outcomes, very broadly and vaguely written. i would suggest that it needs to be more accountability. after each of these dialogues there need to be more concrete action items that both parties need to take before the next dialogue. with that i will turn it over. >> let me make it clear that each of your written statements which we appreciate the work that went in will be going into our record. >> thank you. i would like to thank and give opportunity to testify today. >> thank you for the opportunity to testify before you today. china's made major use of u.s.
capital markets often to the disadvantage of u.s. investors. initially the former premier of china used u.s. capitalrestruct reform soe, state owned enterprises, in order to prepare them for the challenges that they were going to face following wto. in 12 major soes are listed on the u.s. stock exchange, new york stock exchange. the last listing of a major soe was in 2003. that was china life, which immediately ran into accounting problems that apparently discouraged china from listing any more soes in the united states. the second group is private companies like alibaba and these companies use off-shore holding companies in a vie structure in large part to get around chinese regular tlags would restrict overseas offerings. those off-shore holding companies and vie structures create risk that will be
discussi discussing some today. there is 135 of these companies in nasdaq and new york stock exchange today. down from over 200 a few years ago due to privatization that the next panelist peter halesworth will be discussing. a major attraction for the u.s. markets for these companies is u.s. rules on the u.s. on control structures. these companies like to follow a structure that keeps the founders in control of the company even while they sell down majority of the interest in the company. a structure that was widely adopted in u.s. technology companies after steve jobs got thrown out of apple by his board and the same structure is now used by most of the chinese companies. the third group of companies is reverse mergers. a reverse merger is a situation where a company that has a registration in the united
states has gone dormant and merges with the shareholders of the chinese company going control he and they try uplist the companies to one of the m l major exchanges. that structure was preferred because it is a -- it requires much less due diligence and has more process than an initial public offering in the united states. in 2011, exchanges with the support of the sec cracks down with mergers requiring them to go through a seasoning period before upgrading on a listing of major exchange and they have largely disappeared from the picture. at what point there are over 500 of these companies listed. many of them have gone dark. meaning they stopped communating with the se kc and wiping out
shareholders he and many are thinly over the markets. fraud has been a pervasive problem with listings of chinese companies in the united states. and short sellers have outed many of these fraud. there have been 199 attacks against overseas listed chinese companies. by short sellers. the fraud triangle which is used to explain the conditions necessary to have fraud said you have to have need, opportunity, and justification in order to commit fraud. and these companies have the opportunity to commit fraud. the justification often came because they -- many chinese feel that america is trying to hold them down and that was enough justification for them to feel that they could rip off u.s. shareholders. now if you do set out to commit a crime, probably the best place to do is in place that doesn't have any cops. and it turned out that u.s.
markets were place without cops. there were two primary roles, one is the security exchange he commission and and one is the oversight board. sec is challenged to get documents out of china and get access to people in china that might have committed securities fraud. the public company accounting oversight board has three roles. it sets the rules for how companies aught to be audited. it inspects firms to make sure that they have followed those rules and enforces those that don't follow rules. auditors are really the primary means of defense for investors to make certain that they are getting adequate information on companies. they set up the public accounting oversight board and commanded that they do inspections of oversight firms, including those accounting firms in china and there are about 50 in china and 50 in hong kong
that do audits of u.s.-listed chinese companies. china, however, quickly blocked the sec from doing inspectiones this china. arguing that to allow such inspections might result in the disclosure of state secrets and it also would impinge upon china's national sovereignty. china instead insisted that sec or pcob offer regulatory equivalency, that is to accept the work of the chinese regulators as if it were its own. the european union has accepted regulatory equivalency with respect to audits of chinese companies, but the cob has been unwilling to reach that. my recommendations are, that the law, that being czar are baines oxley aught to be amended. to go one of two ways. either to allow for regulatory
equivalency and get the chinese to agree on an allowance of expecting inspectors to make sure the chinese actually do what they are required to do. i'm kept cal that chinese have much interest in inspecting overseas listed companies. or alternatively they could terminate the registration of accounting firms that they are unable to inspect. now this option has been available since the inception of this. the pcob has been unwilling to terminate registration of accounting firms that cannot inspect. it now can no longer register accounting firms that it cannot inspect. however that was a bit too late because we have already got enough accounting firms registered to do these particular inspections. termination of registrations is a big step, however. it would lead to the deregistration of audit firms would quickly lead to delisting of all chinese companies listed in the united states.
that is because you need to have an audit by a pcob registered firm in order to be listed in the united states. companies that were delisted are likely to move listings to hong kong in order to deal with that. with that, i will pass my comments on to the next speaker. peter? >> i would ask the commission to guess in what country the following scenario occurs. and investor is told they must sell a company stock. the stock is down for more than 50% since the ipo three years ago and at a record low. the chairman and insiders, unseen since the ipo, control the company and ever to pay 60% premium. the investor will lose 42% on their investment. meanwhile, since ipo, the company has grown its cash balance by 400% and total assets
by 800%. the investor believes the buyout is too low, feels ripped off, and wants to challenge the company's low ball squeeze out. however, it's proving to be impossible because the stock exchange won't review it because of the company's extra legal status. the company's chairman and independent director ignore investor grievances. the courts don't recognize the investor because they have no legal standing. regulators simply shrug. there is no time for abuse that's technically not illegal. the investor publishes in the media. soon there is a defamation lawsuit bay company director who also is a foreign government official.y company director who also is a foreign government official. company director who also is a foreign government
official.a company director who also is a foreign government official. the legal bill starts at $100,000 in a foreign court. the investor is intimidated into suffering in silence against this powerful company. adding insult to injury, there is news the company is planning a future ipo in another stock market. at a mark-up of four to five times the value, the company will pay the investor to regain full control. the company will pay the investor to regain full control. in what country is this happening? considering the lack of legal protection and individual rights, it resembles an you a authoritarian government with an unregulated stock market, right? wrong. it is happening in america. considering the lack of illegal protection and individual rights, it resembles an you a authoritarian government -- sorry, our stock markets are havens for corporate governance, exported to u.s. investors.
even worse, the u.s. unwittingly incentivizes foreign issuers to become predators. how did we get here? u.s. laws allow foreign private issuers, fpis to raise capital primarily obligated not to u.s. laws but instead their home laws. in the globalization of american stock markets, the first wave is from canada, uk, europe and israel. today it is chinese companies, incorporated in off-shore jurisdictions. the next wave could be from india, russia, or nigeria. what is more relevant than where these fbis are from? is closing the regulatory gap that allows fpis to raise capital in american financial market without accountability to american investors. i asked the commission in our
congress, do we operate under laws in the u.s. or foreign investment in the funds? of course not. it's nonsense to forfeit u.s. jurisdiction over the protection of americans' in m our own country. yet fpi set up shop by the hundreds to sell securities, collect billions from u.s. investors and challenged for misconduct basically enjoy diplomatic immunity. it's time for us to come to our senses. we are not china bashing. we are optimistic about the future of chinese companies, entrepreneurs and investors. we find most companies we invest in to be ethical and law-abiding. however, as in any country, there are unethical business people. when we see fpis hurting american investors they are shielded by accountability by crafty legal barriers.
starting with their extra legal status. stall wonder this legal loophole is bustling. biggest growth in fpi since 2000 have been in off-shore jurisdictions. hundreds of issuers hungry for the investment capital are nourished in the world's financial markets. wealthiest financial markets. as a bonus, our largely free to the burdens of u.s. laws and regulations. the cost of this legal loophole for u.s. financial markets is increasing. lower corporate governance standards are taking root in u.s. financial markets and eroding the confidence and integrity of our financial markets. as in the case of these low ball squeezeouts. disadvantage u.s. investors find little legal and regulatory support while they witness known violators of the foreign corrupt practices act trade openly on u.s. stock exchanges.
chai need chinese investors are stunned to find they have no resource. i don't believe this is the outcome u.s. investors expected they they purchased stocks on the platform of the nasdaq and nyse. increasingly purchasers discover they are not shareholders but mere holders of depository receipts with no legal standing in our own courts. in these times when businessmen are calling for less regulation and citizens to lower the cost of globalizations weaknesses, there are six conditions readily available it solve the problem. first, if foreign companies raise capital in the u.s., the issuer, officers and directors must be legally accountable in the u.s. and if harmonization of laws is too heavy a lift, and believe me
we have low expectations, despite its simple rationale then provide checks and balances in particular during buyouts such as sec should monitor activity of fpi during buyout. sec should actively solicit the large nonmanagement shareholders for an opinion on the fairness of the buyout offer. special committees evaluating buyouts of fpis need to be composed solely evaluation experts apoint by the exchanges and paid for by the companies. a majority of minority shareholders should be acquired to approve a management buyout transaction by an fpi. this should be part of the listing requirements of the nyse and nasdaq. and if checks and balances fail to be implemented, then give investors a chance with truth in advertising. an fpi stock ticker should include an explicit warning label similar to the u.s.
surgeon generals warning on smoking. in conclusion, i want to state i believe in globalization and the aim to globalize our stock markes to the reflect the global economy is admirable. i have witnessed and enjoyed its benefits but the regulatory and legal gaps outline show flaws endured by investors and u.s. financial markets and increasingly heavy cost. let's correct it. and it's on us, not on china. thank you. >> commissioneres withel? >> thank you all for being here and your testimony. it's very helpful and let me also start out by saying what both pcob and sec were invited to testify here today. and were unable to company and that is regressable. hopefully they will find time to
sit down with us at h some time. we've had trouble with the psob for a couple of years in getting briefed. >> my question is to the three of you, what kind of confidence can an investor have in investing in any china-related asset? without controls, knowledge to ensure that proper fris or accounting standard have been used et cetera. use of vies and other structures to access these transactions seems to me that it is a, you know, real cra shoot for any investor directly or indirectly to invest through u.s. exchange in a chinese asset. can you each of you opine on that snrs? >> i will start out. i think most try to do the right
thing. i think auditors try to do the right thing. there are some bad apples but they try to do a good job. but if there is one place where you need to bring to bear the full range of regulatory processies to make certain that that the practice of the proper practices are followed, it would be china. it is one place before we really are operating with one hand tied behind our back. >> i would agree. i do think that in terms of the investment and professional sector, i think that most institutions and regulators are trying to dot right thing here. but we do have a situation where, you know, some of it is really about buyer beware.
they don't opine around an ipo. they don't cast a view or evaluate the quality of the company or really the veracity of the financial statements. but really whether there's full and full disclosure. so while i think that -- obviously, that's critical and that's the foundation of our federal securities laws, it's, you know, again as i indicated in my opening remarks, i think it is insufficient. i think investors in the absence of, you know, pcob's ability to inspect firms need to go the
extra mile and we have to look to analysts, look to i think the regulators themselves need to highlight the risk associated with these listings and some of the issues that they are seeing. they do have some insight because the cob does have access with respect to u.s. audit firms that outsource audit work -- sorry, u.s. audit firms that conduct audits of chinese-based companies listed in the u.s. and outsource most of that work to china. and so, they have some insight, but where the chinese accounting firm serves as principal auditor, i think that's where the rubber meet the road here. so i'm entirely, you know, sensitive to your, you know, to
your question. i think that's a question that regulators have been grappling with for a number of years, and as i said, pcob has been trying to negotiate an agreement on cross-border inspections since 2007. so with this information, it remains really an ongoing problem. >> i would respectfully disagree as much as i respect these gentlemen. i would say raise the bar here. at home. we have been trying to get china to be responsive for how many decades? has it worked? so i think it's time that we just take care of our business here at home, use the regulatory and enforcement tools that we have, because without enforcement, there's basically no regulations and we need to do
that here. targeting china to try to be responsive to our needs i think should just be off the table. >> thank you. >> mr. shea? >> thank you for being here. i have a question for mr. das and a question for dr. gillis. sorry mr. halesworth, maybe next time. for mr. das, we have talked about the pcaob issue for years. i think commissioner cleveland and commissioner wessel held a hearing a few years ago where people came in and testified and said this is coming to head. we will have resolution on this soon. and as i understood it, it looks like the u.s. blinked. we require by law that u.s. government has to have access to the audit work of companies listed, any company, listed on
u.s. exchanges the chinese refuse to allow that. negotiations occurred. now the pcob has been silent, as you said. a lot happened in between but the bottom line is we blinked. that's how i see it. and could you, mr. das, tell me if i'm right or wrong on that. and if so, why did that happen? where did the u.s. blink? what is happening behind the scenes that made the u.s. blink? >> i would say, first of all, yes. it is a fact that the pcob has been trying to negotiate an agreement again for almost a decade here. and while there's been some progress on that front, and i'm really referring to an agreement of a struck in 2013 on cooperation with respect to enforcement matters and
investigations, really what the pcob has been seeking is an ability to gain access to work papers and audit firm personnel to conduct inspections like it does in many other -- >> i know, but it is not doing that. >> it is not doing that. there has to be -- is it because diplomatic concerns, because if we terminated registration, or is it because of investment banking fees that might be lost? what is the reasoning? >> yeah. i think that's right. i think ultimately, i'll just be very candid here. it is political pressure, right? after had to dodd-frank was enas a result of the amendments of dodd-frank to sarbanes-oxley act, there were information with foreign counter parts.
it strength he thend pocb's ability to compel the production of work papers. but as i mentioned, the number of chinese listings in a six, seven-year period in the u.s. largely due to the reverse merger crisis, from 2007 to 2011, but not entirely attributable to that, 2011 and i know i'm on the record, so i probably can't say, don't quote me on this, but was around 600 companies. today it is around 136. so and the jobs act which was effectively a reaction to the dodd-frank act and intended to address the lack of ipos in the
u.s., i realit really reflects declining chinese listings was emblem attic in the general decline of ipo listings in the u.s. and were the pcob to actually follow peter's recommendation, and actually enforce the laws on the books, in this case the sarbanes-oxley act and bring actions to deregister the firms, right, well you know, these companies cou could -- the alibaba, the ten cents would no longer be listed in the u.s. >> right. >> further exacerbating, current decline in ipos. i think the board is very sensitive to that. >> thank you. i have 30 second. i will try get my question into dr. gill piis. you write about interest entity. in short hand they are basically
work-arounds, chinese law which prohibit foreign ownership of companies and certain sectors of the chinese economy. so alibaba, the ipo, was a vie structured ipo. i was wondering, how many chinese companies are listed on u.s. exchanges using the vie structure, and do you have a sense of the market capitalization. and what's your sense of the risk involved if some judge or someone in the chinese system says this vie structure is illegal, then what if you're an investor in alibaba or other companies that are vie structured? >> yeah. i got the question. i haven't done a calculation lately of how many companies use it. but last time i did, it was over half. and i think it is probably majority now use the vie structure. which controls companies through contracts instead of through ownership.
contracts are an interior form of ownership compared to owning stock in these. there have been a number of cases where shareholders have been ripped off where the vie has been taken by the chinese pern who owns the operations just says i'm not going to follow the contracts. and one case made it all the way to china supreme court and found contracts were invalid. following a law very similar, chinese law, having common laws that frustrate common purpose. i'm not aware after single situation where a vie contract has ever been successfully enforced in an add ver sayre yap action. now china las been trying to fix that for a few years. they recently opposed amendments to the foreign investment rules that would have allowed most of the current vie structures, would have made them obsolete. but that provision wasn't there.
chinese have pragmatically allowed the vie structure even though it allows foreign investment in for bidden sectors including internet and highly sensitive areas. i think they like the ambiguity because it gives them the ability to shut down companies at will. >> but from a u.s. investor standpoint, i assume allalibaba and under chinese law, you are buying into a structure considered illegal under chinese law, is that considered efficient? >> there is extensive disclosures. there is a wonderful job being done to make sure companies expand disclosures. it would have been one page ten years ago to 15 pages today. but investors don't pay much attention to them. >> thank you. senator dorgan. ? >> in almost all of the discussions we have in almost every area, there is a lack of
reciprocal treatment. that is true with almost everything we discuss for china. that exists because we are enablers. at some point our country i would think want to say with china with whom we have robust trade relationship that that will continue provided there is reciprocal treatment of opportunities on both sides. but i want to ask the question, mr. halesworth, you talked in the last page of your testimony, you said that securities and exchange commission should monitor the activities of an fpi during a buyout. you said the sec should actively solicit the largest nonmanagement shareholders for a fairness on the buyout offer. there is nothing that prohibit the sec from doing that now, right? if the sec decided tomorrow morning, we better start doing that, they could start doing that? >> i don't have a solid answer on that, senator. but i can say that the sec and
doj and other regulators are often overstretched under the current circumstances. so layering on another monitoring activity, i think, would be -- >> is overstretch the right word? or are they undernourished or perhaps tired, sleepy, perfectly content to observe? let me ask mr. -- >> well if i could just address that. i think what happened is because we have set up a two-tier system in terms of corporate governance expectations, for foreign issuers, expectations are very low for these foreign issuers. and when something goes wrong or there's misconduct, it is almost like met expectations. let's just default is basically let it go and if it's too small
to care, then it doesn't need to be addressed. i mean, we have foreign issuers enlisted, trading today, in the u.s. financial markets that are confirmed to be violating the ascpa, and nothing has been done. >> when we've gone from 600 companies listed on a u.s. exchange to 135, is that 135 equal to the value of 600? i'm just curious whether it is just consolidated and large one to remain? >> well, most of the companies -- there have been a large number of companies that have delisted either by going dark which means they stop communicating or by going private. i think there are more than 135 companies still registered with the sec. there are 135 traded on the new
york stock exchange, nasdaq, american stock exchange. but the market cap, most of the market cap is in the big companies, the alibabas and bidus. there were fairly sizeable companies that did go private but mostly the ones that went dark were all tiny micro cap companies. >> if i could just add, there are some others coming, some big ipos coming down the pipeline including the uber of china which is known as dd kwie d, is set to be expecting the list in the u.s. so if they want to raise capital in the u.s., and there is still a keen interest in doing that, i think there's a good opportunity to raise the bar. >> just as an aside, i was well familiar with the case in which a chinese businessman had developed a very large business, became a billionaire and had oil pipelines and various things and
was picked up one day and sent off to prison for five years. never charged. five years later he was released. and his companies had all been taken from him with new board members put in, established by the government, and he then filed a suit with -- taken a lot of papers with him when he was apprehended and filed a suit. but it is interesting -- and the suit went nowhere, of course. it is interesting that the suit was against a company that is listed on the u.s. exchange. and the suit contended that almost all of the information that company's financial disclosures was wrong. and he demonstrated it was wrong with the written evidence that he had. and i'm not aware of anything that resulted in that circumstance. so it is exactly what we have talked about, lack of transparency and difficulty of understanding what the numbers really represent and whether
they are audited numbers and numbers that people can rely on. ni ba anyway, thank you for the testimony from the three of you. we appreciate that. >> commissioner slane? >> i'm trying to figure out how to solve this problem in a different way. and mr. halesworth, you know, my feeling is shame on us for allowing this. and i'm wondering if we gave a private right created a private right to our american stock holders, to file suit, would something like that help correct this? >> that's a very good question. i think that would help, having some legal standing and recourse would definitely help. i think also, you know, just
getting back to my fundamental message is that the foreign issuers should be as accountable to u.s. investors as domestic issuers are to u.s. investors. which means to me, that these foreign issuers should be fully subject and accountable to the u.s. jurisdictions. so if the public enforcement tends to lack because of these, you know, this foreign issue or relaxation that we have, then let's give the private enforcement option a chance. and do something in the case of these low ball squeeze outs what we allow domestic investors and share holders to do in delaware. which is to petition for appraisal rights. and to make and seek a fair value on the buyout. so that i think would be an appropriate remedy.
>> commissioner tobin? >> thank you. the word loophole, you want to close the loophole, of what you suggested, and i think of loopholes as small. this strikes me as a gigantic discrepancy. really what you also called it, mr. halesworth, almost like two standards that are operating at once. so i would like it ask of all of you just for the heck of it, let's look at the suggestion you have, mr. halesworth, about an fpi stock ticker that would include an explicit warning that would be similar to the u.s. surgeon general's warning that we saw on smoking. and it over time had a very significant effect. it seems to me that maybe people wouldn't recognize it and maybe
they wouldn't be willing to take the risk but at least there would be a naming of things more accurately. so i would like to hear, mr. halesworth, how you imagine how that might work and obviously a law has to change and play out and dr. gillis and mr. das, what is your thought on that recommendation? >> i think what it does is send a very strong message to the industries involved in bringing an ipo to the u.s. who are benefiting greatly from it. and that is, we are going to inform. it is no longer a casual buyer beware. it is buyer beware but make them aware.
and tax law is almost a holiday reading that compared to securities law. and i would say this might get the exchanges and investment banks and the legal advisors. to say if we even bring this up as a possibility. and i would just ask, this happens with other exchanges around the world but there are different symbols that are interpreted and intend to make a -- to send a message to investors. >> which exchanges? >> other exchanges in asia. they will have f or this is a preferred share and have you different rights and owning these et cetera. we don't really do that much because it is seen as discriminatory. but i think if we have no -- if the investor and buyer or
purchaser has no legal rights or resource, we've got to be very upfront about that. so i think it would send a message and i think it would be a worthy message to start the conversation about maybe tightening up things. >> before i go to others, i think that naming of it, one could begin to put pressure. two, it goes to what you said, the responsibility is on us to do something. and to me, it doesn't strike me as the least bit discriminatory because it is calling things for what it is. so i think your idea and the analogy of smoking, people started to look underneath it over time to say is it really going to harm me. dr. gillis and mr. das, what are your thoughts on that recommendation? >> stock analysts tell me that they are well aware of these risks that are there and that these risks are reflected in the
values of these stocks. and that if companies like alibaba were u.s.-based and focused on the u.s. market, their market cap would be significantly higher than it is now. so that they think that risk has been priced in. i think that u.s. has long had a lighter regulatory touch on foreign companies listed in the united states than on domestic companies. and i think that's based on the theory that foreign regulators are picking up the gap. however in this case we have companies most of these u.s. listed companies other than the big soes are not skpukt to any foreign regulation. they are incorporated in cayman island and other tax haven jurisdictions. they are not listed in china or any other stock exchange and the u.s. is the sole regulator and it is hamstrung in its ability to regulate. >> thank you. >> i generally agree with my
co-panelists here. specifically paul's remarks. but i will say, there is a continuing appetite by investors of hedge funds, public mention funds, private equity firms, to invest in companies. it is a high risk and reward opposition. i think they appreciate the risks. i think some of that is reflected in the value that these stocks are trading on under our markets. i would not necessarily support here, you know, something akin to what you suggested as a surgeon general's label, because i think really that's the entire point behind the secs disclosure review process, right?
again, this is what they do. they make sure the risks are significantly disclosed and it is a rather rigorous process. i mentioned with respect to chinese listings, and ipos, they must disclose, that they have not been inspected by the pcob. that's the disclosure. it was in alibaba's -- >> i see my time is up. okay, keep going. >> my only other point, i think what you are subjecting, might move us away from this disclosu disclosure system and more to a system that should judgment or merit based, which is where sort of almost the government selecting, you know, which companies that investors should -- >> but i see less selection than if we can't get what we need in
terms of the audit process. it's -- that's why i called it naming. and if they were providing that information, it could deflag, so to speak. but if i get a second round, i have more questions. thank you. >> commissioner bartholomew? >> thank you. and thanks to our witnesses. dr. gillis, i have a colleague in the corporate world who loves your china accounting log. >> thank them for me. >> and thinks it gives some of the best insight into what is going on in china. thank you for the service that you are providing with with that, too. so if companies are deregistered, this is a naive question, with you if companies are deregistered, what happens to the investors? >> generally they are wiped out. you become investors in a private company. they still have right to the shares they have, but the ability to sell those shares, basically, disappears. and in reality, what has happened in companies that have gone dark and sec deregistered,
is that the chinese shareholders take the assets out of the company and no one ever hears from them again. they are completely wiped out. >> so we have been told oest course of the increased u.s. china relationship that u.s. engagement with china on a lot of issues, but i will focus on this one, will improve chinese practicees. but what it sound like of course with the two-tier system is that we are heading towards a potential race to the bottom. do you have any estimates on how much u.s. pension fund money is invested in chinese companies that are listed on the exchanges and extending it to some of these -- >> i don't have numbers like that. i do, i talk with a lot of these pension funds and i would guest most of them have investment in china, fastest growing economy in the world, and they need to be part of that. >> mr. halesworth or mr. das? >> i don't have an estimate.
i would say, and i think you are barely get together point here is that we are not talking at an abstract level with big institutions. mom and pop investors are getting impacted by this. >> which i was also thinking about when you talk about a stock analysts who are of course supposed to be sophisticated in what they are doing versus people who are doing investing. or in the case of people who have pensions and these pension funds don't even know where that investment is going. another question is, some of the practices of the big four contributed to the groeb al financial crisis because they add conflict of interest in the business practices. is that a concern as the big four are engaging in activity and china setting up subsidiaries this china that their design for business in china is going to color the work that they're doing in terms of accounting? >> i don't see the same kind of issues present here.
the issue of the fact that companies pay auditors, select and pay auditors, is conflict of interest that has always been present. and it is exasperated there. you are reporting to management so you are reluctant to call out management in that kind of situation. normal human behavior. i do think that most of the big four firms are trying to do a good job in china but occasionally they make mistakes. >> anybody else? >> no, i would embrace what paul said. that conflict is also present in the credit rating agency area as well. perhaps even more so. but i think generally, i think the big four firms are trying to do their best and really in a very difficult circumstance. and to adapt at chinese business practice laws and i do think that the trend that i've seen and in particular when i was at the pcob is that big four is
trying to exercise greater enterprise oversight in their affiliate of firms around the world. >> and are there any in terms of governance, sort of standard for audit committee members on these companies in china? not just the big four, i don't mean the big four but companies listing? >> all companies listed in the united states are subject to u.s. rules often defined by exchanges so those apply. chinese companies that list in china on the chinese exchanges there are similar rules. sometimes stricter than u.s. rules. china has the tendency to adopt best practices worldwide for its own markets. >> okay. thank you. >> i would like to try and understand some basics. we have on one side of the equation, there are the auditing firms which may or may not have
access to necessary financial details. but it also strikes me, the sec has filings which when i talked about this morning, and i'm curious as to what is disclosed, if you could walk through what is disclose owned those filings and whether, i understand from the sec appearing here before, that the standard for chinese companies are no different than any other company filing. they are held to the same standard. so are the filing requirements rigorous enough to get at some of the concerns he about governance or financials? and if they're not, rigorous enough, what would you suggest that these documents require? understanding that they are all dependent in the end on audits. >> same applies to u.s.-listed
chinese companies to other companies listed to the -- and i think the disclesh you're are extensive. these filings are often hundreds of pages long. the problem is not in the disclosures, it is a question of whether, not in the requirement for disclosure, the question is whether the disclosures are in fact sack rat. sack rat. accurate. or misleading or false.accurate. or misleading or false.accurate. or misleading or false.accurate. or misleading or false.t accurate. or misleading or false.accurate. or misleading or false. accurat. or misleading or false. that is what the others in the market validate. >> i would say, the private issuers, though, in the u.s., they're not -- they have exemptions. so no quarterly reporting. that's not required. exemption from u.s. proxy rules which is separate from reporting, exemption from insider trading reports. regular fd.
and limited compensation disclosures. again we go back to that. there is relaxation for issuers. and in the u.s. site, domestic issuers are required to file what are known for the annual 10 k and the quarterly 10 q. for foreignish issuers, 20 f for annual and for quarterly, 6k.10. for foreignish issuers, 20 f for annual and for quarterly, 6k. >> mr. das, anything to add? >> no, i would just echo what my co-panelists commented on. i think the standard with respect to public companies are the same as applied by the sec. again with respect to private companies, there are concerns that peter just outlined here. i would say, you know, i think this harkens back to maybe
peter's comments earlier that we shied just focus on what is happening in china but own regulatory system. in some cases perhaps you know, our regulatory regime may be, you know, overly permissive in some areas and maybe more rigid in other areas. in fact, that was the very calculus that alibaba undertook when it determined to list in the u.s. as opposed to hong kong. hong kong would not accept sort of a dual listing of -- a dual class of shares. so that played a major role in the u.s. >> buyer beware. >> i'm looking at a letter that chair white sent to congressman mchenry in 2011 in which during
the course of five weeks the sec moved against three reverse merger entities. and suspended trading. and in each instance, heli, chj1, i guess, and rhino, they acted because of concern about accuracy and completeness of information contained in their public filings. have we seen any kind of action like that since 2011? geps a against any companies? >> there was regulatory activity around 2011. that's when we had the explosion of fraud allegations against china and sec set forth a task force to go after the companies. and they've been -- the access have been dripping out over the years. i haven't noticed anything. there have been continued cases
over the years against those. the sec, most cases they tend to be successful at bringing are u.s.-listed companies that have some u.s. connection. they are using a u.s. corporation. their executives may be based in the u.s. because those are much easier to bring than something where efb is in china. where it is quite difficult to bring action. >> i know reciprocity is something in the air a lot with your commission and in your hearings and i would just like to point out the sec has done a tremendous job in cracking down on fraud by americans who are are defrauding chinese investors. so one firm in the u.s. called geo investing has done great reporting on this kind of showing how the sec is very good at making sure we're protecting these chinese or foreign
investors but where is the quid pro quo. >> okay. i'll come back it this. >> thank you all again. mr. das i want it mato make oneg clear. i respect all of your public service and the work you did. those of us who toiled in the china issue know how difficult it is and you know, you tried exceptional hard as did the entity that is to get a good agreement and the chinese just didn't want one and our overall system didn't support or demand that there be a proper result. so i just wanted it ma to make clear. thank you for being here and thank you for your work. i want to ask two separate questions. first, and each of you have talked i think briefly about it. each of the exchanges has
differing standards. financial confidence as it relates it audit committees. there is a different standard on the nyse versus nasdaq et cetera. smig, whatever. chicago, whatever. what is being done -- is there any best practices within the exchanges? how could the exchanges do a better job as the first question. number two, the power of the sec, should it choose to use it, is quite broad and effective. when you serve on a public company, one of your first trainings is what is your d and o insurance because of derivative suites et cetera. because there is accountability there. to what extent could we ask or could the sec demand that companies disclose the subsidies they are getting from the chinese government. whether it is a u.s. company
operating in dhiechina because is a material fact. with all of the counter veiling duty and other activity that may be engaged by this may be greater exposure. so how could we use the sec and activities and all of the accounting issues to get deeper at some systemic issues that are perplexing us, subsidies, transfers, et cetera. that seems to me to be beyond the normal disclosure. how to pierce the corporate veil that we have to also get to the actual financing issues. so if you could respond on those of those, what can we -- what should exchanges be doing if anything differently and what can we get the sec to do to address the china problem to a greater extent? >> the exchanges competed for
the u.s. listings of chinese companies. and i think they all have regrets over what they did during the peak period. many of them took on companies that ended up being fraud and diminished exchanges and they have backed back from that. you don't see quite the activities. they all had marketing people based this china and there were big problems associated with that. as to expanded disclosures with respect to subsidies and other trance access,k actions, i thin that's within the power of the sec to do that. some disclosures are required by existing accounting standard that are are present but sec could, within its power, expand those disclosures. >> mr. das or mr. halesworth some. >> yes, were they to implement certain requirements or rules, the stock exchanges would have
to adhere to them. but i should note though, what the sec requires is really reflects a floor and not a ceiling. so the stock exchanges could go much further. and to add to paul's point, you know, during the reverse merger crisis, if you will, you know, the nyse and nasdaq were competing with each other for listings and that really was, i think, you know, a race to the bottom. and i recall meeting with them rather vividly. but as you know, after that crisis had dissipated, i think they recognize that, and of course the sec recognized, it by issuing new rules for reverse merger listings that the exchanges implemented almost immediately. that they had to step up their
efforts here and really monitor the companies that they clohoos to list for listings. there is still a lot of competitive pressure there. this is the point that commissioner shea raised earlier, that you know, why are the negotiations ongoing and why is the pcob deregistering firms? i think a lot of it has to do with the plit dolitical pressur associated with it. >> just going back to the second question before, mr. halesworth, as it relates it disclosure, very few companies relate disclosures they are getting. in any grand that you are reporting, or any tech requirements. as matter of law, do you believe
it is a material issue for most companies because materiality i know is a function of net income but presumably in most companies it is a material issue. would you agree or disagree? >> i can't address that issue. >> i understand it is a -- >> yes -- >> if ge, which did a jv on avionics, and $100 million out of a of 600 market cap, that is issue. it is not like a,05,000 papers clips that go missing some day. >> i would say instead of sec maybe getting involved in what we would say the exit process of these companies that have bought out, it could equally be the stock exchanges as well-being involved in that, particularly you know, hiring independent
valuation experts to make sure that on the way out, their constituents and investors are being treated fairly. and the other issue i would bring up is, and it is typical here in washington, as i'm sure you all know, is just the stove pipe approach to government. and for example, and not to pick on alibaba.com because i think it is a very interesting company and in most casees a good company, but ustr names them as notorious marketplace and puts them on a black list.s a good company, but ustr names them as notorious marketplace and puts them on a black list. and is the 16th largest market cap stock in the united states. there should be some, you know, people want to use different levers and tools to bring pressure to get better outcomes for everybody and raise the bar for corporate governance here.
you know, all the chinese companies are looking at alibaba. they are the godfather of chinese companies. and if they see that, you know, one u.s. agency is slapping them on the wrist and calling them a bad name, but their stock continues to go up, it is a mixed message. >> thank you. >> i'm not so sure the message is mixed. commissioner tobin? >> thanks again. i would just mention to my colleague, of course, that chinese government subsidies could be a risk factor because what is given can be taken away for political reasons. yeah. so -- we've been talking rightly here about potential impact on investors but when american companies are in essence held to a higher standard because people can look at the accounting and
what they are reporting, does that serve as competitive disadvantage for american companies? i am not advocating that i loosen our standard, i want to stipulate that. but is it yet another competitive disadvantage that americans have? >> it is a competitive disadvantage any time you list a company anywhere and have to disclose financial information. and that is probably one reason why some of the state-owned enterprises have not chosen to list. because that listing would require them, even listing in china would require them to make public public financial information that would allow them to be competitive with competitors. >> i think that is a possibility but i think it boomerangs on the chinese companies. as paul pointed out, they trade at a severe discount to most domestic issuers in the u.s. because of a cloud of uncertainty. their cost of capital is higher
as a result. and their ability to basically raise fund in a consistent fashion is broken. so the idea that, you know, these chinese companies came here to, you know, continue to get sustainable financing, they basically shot themselves in the foot. we could reverse this situation and get a better outcome by making this a boot camp for shareholders rights. and i think the chinese government would like to see that. in fact in paul's testimony he point out that when the u.s.-listed companies delist and go back it china, all these jurisdiction jurisdictional arbitroges and jurisdiction here in the u.s.
has to get cleaned up here before they go back and list. so the chinese government is very sensitive to shareholders right and we should make it work here for the chinese companies. >> thank you. >> this is less related to the fdi, but i've been tourus tcuri last three or four years. when you're a company like beau tlag boeing that is increasingly dependent on purchases from china, and have you tlheir auditor, and i don't know who that is, but how do their auditors handle -- can they get access to legitimate data? a how are they integrating it? is it a different situation than the fdis? i figure as long as you're all
here -- >> i'm not specifically familiar with the auditing of boeing. what i expect that they do is that their auditor in chicago or seattle or wherever it they are are headquartered sends instructions to their chinese member firm to conduct certain procedures for them and to report upon those procedures and that the technically the chinese government could interfere with that because they don't allow audit work papers to leave china. but i think china had a light touch on the audit of u.s. multinationals based in china. they haven't really interfered in that process that i'm aware of. so i think that that generally works pretty well. >> and just as a board hires their auditor, is the board of say boeing, i'm just using them as an example, are they hiring
from this or that chinese auditor too? or is the -- >> the company could hire a different auditor in china than they have in the out. that's quite rare. tip iblgly y typically u use the same firm and the world. it is probably an investors best interest to do it. typically when a job goes up for bid, it is a -- it is going to be -- they are going to select one auditor worldwide. that auditor will then, then the auditor in the u.s. will decide what need to be done around the world. >> that's right. the big four audit firm will generally choose one ofi its affiliates, in the case of boeing, and china conduct the audit ofity loc its local opera. and as paul pointed out, there is restriction regarding transfer of work papers.
but the u.s. audit firm would receive a summary memo describing procedures conducted bity by its affiliate in china and would review the memo if it has questions or is not satisfied with what provided then it will go to china and do hands on due diligence. >> thank you. i do also understand correctly that sarbanes-oxley is being followed, the guidelines of it? >> yes. i mean, the requirements of sarbanes-oxley apply to multinationals and so to the extent the auditors are reporting on internal controls as they are required to do they would examine the controls and material operations in china. >> thank you.