SEC Response to the Report of the President’s Working Group on Financial Markets
August 12th | 2020
On August 6, 2020, the President’s Working Group on Financial Markets, released its Report on Protecting United States Investors from Significant Risks from Chinese Companies (“PWG Report”).
The PWG Report includes five recommendations for the SEC that are centered on strengthening protections for investors and promoting the integrity of our capital markets by leveling the playing field for all companies listed on U.S exchanges and improving disclosure regarding of the risks of investing in emerging markets.
The general rule is that any accounting firm, whether in the United States or abroad, that prepares or issues an audit opinion with respect to any issuer of securities in the United States is required to produce the underlying audit work papers related to that audit work at the request of the PCAOB or the SEC. Certain jurisdictions, however, do not currently provide the PCAOB with the ability to inspect public accounting firms or otherwise do not cooperate with U.S. regulators (“Non-Cooperating Jurisdictions,” or “NCJs”).
To help rectify this problem, and thereby reduce the risks to investors in U.S. financial markets posed by NCJs who do not allow the PCAOB to do its job, the PWG Report makes five recommendations:
Enhanced Listing Standards for Access to Audit Work Papers. Enhancing the listing standards of U.S. exchanges to require, as a condition to initial and continued exchange listing, that the PCAOB have access to the work papers of the principal audit firm; or, in jurisdictions where that is not possible, provision for a co-audit from an audit firm with comparable resources and experience where the PCAOB determines it can conduct an appropriate inspection of the co-audit firm.
Enhanced Issuer Disclosures. Requiring enhanced and prominent issuer disclosures of the risks of investing in NCJs, including issuing interpretive guidance to clarify these disclosure requirements to increase investor awareness, and more general awareness of the risks of investing in such companies.
Enhanced Fund Disclosures. Reviewing the risk disclosures of registered funds that have exposures to issuers from NCJs to enhance the disclosures by these funds, including issuing interpretive guidance to clarify the disclosure requirements to increase investor awareness of the risks of investing in such funds.
Greater Due Diligence of Indexes and Index Providers. Encouraging or requiring registered funds that track indexes to perform greater due diligence on an index and its index provider, prior to the selection of the index to implement a particular investment strategy or objective.
Guidance for Investment Advisers. Issuing guidance to investment advisers with respect to fiduciary obligations when considering investments in NCJs.
Although China is the clear target of the President’s directive, the PWG Report’s recommendations appear to be designed to achieve the desired effect from all NCJs. Ideally, these measures would prevent recent high profile frauds like Luckin Coffee. The PWG Report also notes that there may be some potential negative consequences of its recommendations, including that Chinese companies could delist or retaliate by buying out U.S. investors at unfavorable prices.