• The China Securities Regulatory Commission (CSRC) fined Evergrande nearly RMB 42 billion ($$5.8million), implicating PwC in the scandal
• Over 30 companies, including major financial institutions, have terminated contracts with PwC, resulting in significant financial losses
• Potential record fine and new regulations could cripple PwC’s operations in China and reshape the audit landscape

PwC faces significant repercussions from its involvement in the Evergrande scandal

In the wake of the Evergrande financial scandal, China Securities Regulatory Commission (CSRC) imposed a record fine of nearly RMB 42 billion ($5.8 billion) on Evergrande, with a personal fine of RMB 47 million ($6.5 million) on its chairman, Hui Ka Yan, on 31 May. 

PwC, Evergrande's long-time auditor, has been deeply implicated in this scandal. PwC had issued unqualified audit reports on Evergrande for over a decade, despite significant financial irregularities, including overstated revenues of over RMB 560 billion ($ 77 million) for the years 2019 and 2020. The alleged fraud allowed Evergrande to perpetuate a facade of financial health, which crumbled dramatically when it collapsed following the Chinese authorities’ measures to control the overleveraged property sector with the now infamous three “red lines”. It revealed one of China's largest financial frauds. The audit firm’s failure to identify and report these discrepancies has put it under intense scrutiny.

Despite the record penalties on Evergrande, the consequences for PwC are not yet fully known. Industry insiders expect PwC to face the largest fine in Chinese accounting and auditing history. The regulatory body’s deliberations include not just financial penalties but also potential operational restrictions, curtailing PwC’s business in China.

In Guangzhou and Shanghai, rumours of office closures have driven employees to leave the company, further destabilising PwC's operations. Meanwhile, PwC is aiming to contain the fallout. On 3 July, PwC appointed Daniel Li, as the new chairman for Asia Pacific and China, replacing Raymund Chao, who was also probed by the Accounting and Financial Reporting Council (AFRC), Hong Kong’s financial reporting watchdog, following a whistleblower’s open accusation of his involvement in the Evergrande misconduct. 

The appointment of Daniel Li marks the first time that a Chinese mainlander has headed a Big Four firm in China. He is a PwC veteran who joined the firm in 1993 right after his graduation from Shanghai University of Finance and Economics. Li is known for his expertise in handling complex initial public offerings, mergers and acquisitions, and both inbound and outbound transactions. He received the National Advanced Accountant Award from the Ministry of Finance in 2015, becoming the first professional from a Big Four firm to receive this honor. 

More than 36 companies, especially financial institutions, have terminated their contracts with PwC 

At least 36 companies have terminated their cooperation with PwC, resulting in a loss of over RMB 600 million ($82.5 million) in audit fees, accounting for more than 70% of the audit fees from its China’s A-share clients in 2023.

In 2023, PwC had a total of 107 A-share clients, with combined audit fees amounting to RMB 963 million ($132.4 million). The top eight clients were Bank of China, China Life Insurance, China Telecom, PetroChina, People's Insurance Company of China, China Railway, Shanghai Pharmaceuticals, and Shanghai Electric. Their combined audit fees totalled RMB 505 million ($ 69.5 million), accounting for over 50% of the total audit fees from A-share clients in 2023. Currently, PwC has lost all orders from these eight clients.

Notably, Bank of China, PwC's highest-paying listed client in 2023, paid PwC RMB 193 million ($ 26.5 million) for audit services. On 7 June, the bank's board revised PwC's role to review its 2024 interim financial report, cutting the fees to RMB 35 million ($4.8 million), one third of the original amount. Other notable defections include China Life, China Taiping, and China Cinda Asset Management, all of which have historically been significant clients. 

This client exodus signifies a critical loss of trust in PwC’s capabilities and integrity. Financial institutions, which adhere to rigorous audit standards due to regulatory scrutiny and investor reliance, have been particularly quick to reassess their relationships with PwC. For example, China Life's decision to switch auditors from PwC to Ernst & Young (EY) underscores the growing trend.

However, three out of the six listed bank clients have not joined the exodus yet and extended contracts with PwC earlier this year, namely China Minsheng Bank, Bank of Shanghai and Bank of Suzhou. 

Potential record fine and new regulation could cripple PwC's operations in China and reshape the audit industry

The Evergrande scandal may see the reversal of role and fortune of PwC in a major corporate collapse. Twenty-three years ago, Enron Corporation was exposed for financial fraud, leading to its infamous downfall. Its audit firm, Arthur Andersen, also collapsed as a result. 

Notably, both Arthur Andersen and PwC were internationally-renowned audit firms with over 80 years of history. The Enron scandal devastated Arthur Andersen, and to some extent, PwC benefited from this situation, absorbing many of Arthur Andersen's lost clients and talents. 

Besides the expected record fine on PwC, the State Council of China issued the new “Nine Guidelines for Capital Markets” which emphasise further reinforcement of the primary responsibility of issuers and the "gatekeeper" responsibility of intermediary institutions. These measures include establishing a system of "blacklist” for intermediary institutions, upholding the principle of "accountability upon application" to rigorously investigate fraudulent issuance and other violations, and intensify the regulation of issuance and underwriting processes.

The implications of the fine and the new regulation could cripple PwC’s ability to function effectively in the Chinese market, forcing clients to seek alternative auditing firms. This regulatory action would set a new precedent, highlighting the rigorous standards and severe consequences for non-compliance in China’s auditing sector.

The immediate beneficiaries of PwC’s potential downfall are its competitors. EY has emerged as the primary beneficiary, acquiring several of PwC’s former clients. The firm’s strategic positioning and proactive client engagement have paid off, securing eight major contracts that collectively represent RMB 1.68 billion ($ 230 million) in audit fees for 2023. KPMG and Deloitte have also benefited, though to a lesser extent. KPMG picked up contracts with companies like China Taiping and China Merchants Group, totalling RMB 95.78 million ($ 13.2 million) in audit fees, while Deloitte secured deals worth RMB 83.84 million ($11.5 million).

Additionally, local Chinese “Big Eight” audit firms like Ruihua CPAs, BDO China Shu Lun Pan CPAs, Pan-China CPAs, and ShineWing CPAs have also capitalised on the situation. These firms have been gradually increasing their market presence and credibility, offering competitive services at lower costs. 

The broader implications of this regulatory action highlight a critical juncture for PwC and the audit industry. PwC’s ability to continue its business in China is at stake. In the meantime, there will be a shift towards a "new Big Three" era, where EY, KPMG, and Deloitte dominate the auditing industry in China, whereas the local audit firms will benefit in the process as well.