Case Study for Advanced Accounting
Case 8.1 Longtop Financial Tech. Ltd.
MIKE JONES
Liberty University
Summary
As noted, “In 1996 two friends and business partners, Jia Xiao Gong and Weizhou Lian,
founded Longtop Financial Technologies Limited in Beijing. The two men developed a
business model intended to make Longtop, the leading provider of information technology to
the booming banking industry of the People’s Republic of China. (Knapp, 2018) The company
engulfed in a rapid expansion plan that Gong and Lian constructed which became an intrinsic
fit to enter the American stock market in 2007 via initial public offering (IPO). The company’s
IPO proved to be successful as it nearly doubled their total stock price value to $2.5 billion.
With the rapid gain in momentum in the American markets came accusations of fraudulent
financial reporting that was ingenerated by management. The origination of these claims of
fictious accounting was a small advisory firm that is unique to bringing companies to light that
are falsifying their accounting books. One such mention was the $400 million of cash reported
in Longtop’s preaudit 2011 financial statements that did not exist. Moreover, similar accusations
need to have substantial support, while the auditor who had Longtop Financial as their client, D
& T Shanghai, countered with reopening their audit and evaluating their audit procedures. When
the audit procedures were reevaluated, Longtop completely shut out D & T Shanghai auditors
from any entrance to files. Furthermore, they were physically kept files that belonged to the
audit firm so that they could not be used against Longtop.
After a few days of the audit attempt failed, Gong communicated to a partner of the firm
and acknowledged that there was a purposeful amount of deception on the financial records that
was concluded by the direction of management. Moreover, D & T Shanghai wrote to Longtop
that they were ceasing work as the company’s auditor. As written below:
As part of the process for auditing the Company’s financial statements for the year ended
31 March 2011, we determined that, in regard to bank confirmations, it was appropriate
to perform follow-up visits to certain banks. In light of this, a formal second round of
bank confirmations was initiated on 17 May. Within hours, however, as a result of
intervention by the Company’s officials including the CFO, the confirmation process was
stopped amid serious and troubling developments including: calls to banks by the
Company asserting that Deloitte was not their auditor, seizure by the Company’s staff of
second round bank confirmation documentation on bank premises; threats to stop our
staff leaving the Company premises unless they allowed the Company to retain our audit
files then on the premises; and then seizure by the Company of certain of our working
papers. (Knapp, 2018)
This was a consequential letter that with time that assisted the New York Times uncover
that there were employees that were in association with the top management to cover up the
fraudulent accounting activity.
What makes these circumstances ever more shameful is that when the SEC requested
paperwork from D & T Shanghai, they declined on the basis of a Chinese law that prohibits
Chinese citizens and firms from providing documents to foreign entities that relate to “the
national economy”. This essentially created an impasse between the Public Company
Accounting Oversight Board (PCAOB) and Chinese companies that were traded on the
American stock market. Furthermore, Chinese officials would not allow American agencies to
examine Chinese mainland accounting firms that were auditing public companies trading on
American stock exchanges.
Making allowances for the slightest paperwork and documentation delivered to the SEC
to fulfill the investigation, the SEC could only prosecute the Chinese affiliates of the Big Four
accounting firms with violating the Securities Exchange Act of 1934 and the SOX Act of 2002.
Ultimately, the SEC announced in early 2015 that it had reached an agreement to settle the
pending charges against the Big Four’s Chinese associates. The settlement required each firm to
1.What are the key conditions or circumstances that must be present for a company
to be “auditable”? What uncommon challenges to “auditability” are posed by
Chinese companies?
A company must have basic accounting components to be auditable. Financial records,
internal control, and management cooperation are major accounting components. The auditor
must have a means of entry into financial data in a timely and an under-demand manner. A
management team’s ineptitude to provide auditors with these particulars are potential grounds
for an auditor’s decision to deem a company’s records as non-auditable, thus ceasing its
relationship. What constructs Chinese companies into so many obstacles is the support of the
companies withholding information as it could counter Chinese law.
The PCAOB supervises the audits of public companies particularly foreign companies
that are publicly traded on American stock exchanges. Furthermore, since Chinese companies
trade on the US market, they should be audited. Unfortunately, Chinese officials create a barrier
for auditors who attempt to research accounting firms in China and maintain that their firms are
appropriate enough for American standards. By American auditors unable to physically have
the means to audit in person or have all the documentation hinders their ability to write an audit
opinion.
each reimburse $500,000 to the SEC and assist in upcoming investigations of Chinese companies
traded on American stock exchanges. As noted, “the former chief financial officer of Chinese
technology company Longtop Financial Technologies has agreed to pay $2.3 million after a U.S.
jury found that he acted recklessly in making untrue statements or omitting facts about the firm.”
(Raymond, 2015) Ultimately, affairs of ongoing tenacity that the PCAOB be able to perform
inspections in mainland China did not get resolved.
2.Do the major international accounting firms have a responsibility to ensure that
their individual national practice units provide the independent audit services
that are uniform worldwide? Defend your answer.
Auditors should be aware of the differences that the international landscape presents in
accounting standards. Moreover, there are international uniform acceptable accounting
standards but the country’s firm accounting auditor may use a different accounting standard.
As noted (PCAOB, 2016), an auditor who is reporting on international firm s should include:
1.A title that includes the word "independent."
2.A statement that the financial statements identified in the report were audited.
3.A statement that refers to the note to the financial statements that describes the basis of
presentation of the financial statements on which the auditor is reporting, including
identification of the nationality of the accounting principles.
4.A statement that the financial statements are the responsibility of the Company's
management and that the auditor's responsibility is to express an opinion on the financial
statements based on his audit.
5.A statement that the audit was conducted in accordance with auditing standards generally
accepted in the United States of America (and, if appropriate, with the auditing standards
of the other country).
6.A statement that U.S. standards require that the auditor plan and perform the audit to
obtain reasonable assurance about whether the financial statements are free of material
misstatement.
7.A statement that an audit includes:
a.Examining, on a test basis, evidence supporting the amounts and disclosures in the
financial statements,
b.Assessing the accounting principles used and significant estimates made by
management, and
c.Evaluating the overall financial statement presentation.
8.A statement that the auditor believes that his audit provides a reasonable basis for his
opinion.
Auditors that are registered in the United States need to sustain the same standards that an
American firm would adhere to as a firm from an international country. Moreover, they would
need to be mindful of that specific country’s accounting procedures and entangle it together
with GAAP accounting standards as much as possible.
While it is hard to have uniform accounting procedures across the globe, an independent US
auditor should do their best to commit to GAAS and apply that to any audit that they complete
no matter what country. The parent company does have a responsibility for ensuring that each
individual practice is following independent audit services. It is important that they try to create
a uniform environment from practice to practice.
3. Acme, Inc., a multinational company based in the United States, has a large
subsidiary located in Beijing, China. Acme is audited by an international accounting
firm headquartered in the United States; its subsidiary is audited by the Chinese affiliate
of that firm. Under U.S. auditing standards, what responsibilities, if any, does Acme’s
U.S. audit firm have to supervise or oversee the audit of the Chinese subsidiary? Would
these responsibilities be different under International Standards of Auditing?
This scenario is homogenous to that of D&T Shanghai auditing Longtop Financial
Technologies. Deloitte Touche Tohmatsu CPA Ltd. operates globally but has a Chinese affiliate (D
& T Shanghai) that is allowed to audit Chinese companies in the Chinese mainland. As noted,
“Chinese officials have blocked any outside, non-domestic, auditing firms or accounting
standard- setting entities from inspecting mainland Chinese firms because they say it their firms
are “adequate””. (Knapp, 2018) Furthermore, Deloitte had granted Longtop a clean audit for the
previous six years, they corresponded a letter on the seventh year that expressed that they would
no longer remain the audit firm for Longtop. Even though Deloitte assumed that they could no
longer rely on the bank branches for accurate financial data, they did not foresee that the bankers
could be in on the fraudulent activity.
The PCAOB prerequisite that there must be mandatory inspections for accounting firms that
audit companies securities trade in the American exchanges but since China declined, it had
caused a stalemate. Acme’s American audit firm should investigate to see if its beneficial to
oversee standardization of its subsidiary in China. However, if the Chinese government is
blocking the auditors from completing their duties veraciously this would need to be examined in
the future. GAAS and IAS are similar in its foundation for wanting financial reporting
standardization, but ISA maintains that an auditor, when specifically auditing a foreign subsidiary,
must take full responsibility even though they might have used other auditor information for part
of the audit, where PCAOB standards give the auditor the option to not mention the use of other
auditors or clearly mention the division of responsibilities (Sapkota, 2017).
4.What alternative strategies or approaches could U.S. regulatory agencies consider
invoking to ensure that the audits of non-U.S. companies with securities traded on
U.S. markets are adequate?
The PCAOB should lead the rules and regulations that can apprehend international
markets, like China, to ensure standardization. As noted, “James Doty, the chairman of the
PCAOB, deflected much of the criticism of the agency over the Big Four accounting firms and
maintained that international accounting firms need to take control over their international
subsidiaries. (Knapp, 2018) According to the PCAOB standard setting process, these standard
setting activities should include identifying current or emerging audit issues, creating the
research agenda, and then working on those standard-setting projects. It would be advantageous
for a multitude set of international accounting and auditing standardization entities to come
together to create a uniform set of standards. Adapting to more of an I FRS approach could be
accommodating but would possibly still require an in-depth investigation into international
markets like China, that use a curtain of “state secrets” to camouflage their standard
inadequacies.
5. Since ethical and moral values vary from culture to culture and nation to
nation, does this mean that a global profession, such as the accounting
profession, cannot have a uniform ethical code? Explain.
It does seem nearly unfeasible to have complete conformity across the globe, but there
are ways to at least maintain some level of general standardization. If the intent is well, the
product should excel. The Chinese accounting delegators that are keeping regulators, as
reference, the PCAOB from investigating their companies are causing hesitation. This
elevates the interrogation of the auditing standards for that company’s country and their
integrity. We need to make ensure that international countries have set of rules or regulations
that will allow for ethical and moral decisions with unbiased objectives.
In hindsight, it is of great importance to realize that accounting standards just like most
processes in the real world should be based on a fair playing field. It is immoral for a country to
not ensure that their companies trading on American stock exchanges are not audited to the
same standards as American firms. A famous bible quote that supports this theology is noted
(Matthew, 70), “Therefore go and make disciples of all nations, baptizing them in the name of
the Father and the Son and the Holy Spirit”. This is of great significance as it shows that from
STATEMENT OF CHRISTIAN WORLDVIEW
a Christian Worldview standpoint, we are followers that support all nations and having
equilibrium in our thoughts and way of living.
References
Knapp, M. C. (2018) Contemporary auditing real issues and cases. Cengage learning
Matthew, (70) The Holy Bible retrieved from https://www.biblestudytools.com/topical-verses/the-
25-most-read-bible-verses/
PCAOB (2016) AU Section 534, “Reporting on Financial Statements Prepared for Use in Other
Countries”, subsection .09 retrieved from https://pcaobus.org/oversight/standards/archived-
standards/pre-reorganized-auditing-standards-interpretations/details/AU534
Raymond. N. (2015) “Ex-CFO of China’s Longtop to pay $2.3M in U.S. investor lawsuit”.
Retrieved from https://www.reuters.com/article/classaction-china-trial/ex-cfo-of-chinas-longtop-to-
pay-2-3-mln-in-u-s-investor-lawsuit-idUSL1N0Z52KU20150619
Sapkota, C., CPA. (2017) “A Comparison of U.S. and International Auditing Standards”,
Retrieved from https://www.linkedin.com/pulse/comparison-us-internationalauditing-
standards-chandra-sapkota/
