Audit Cooperation Between China and the US: Implementation Status After the Agreement

The August 2022 signing of the Protocol to Amend the Agreement Between the Government of the People’s Republic of China and the Government of the United States of America on Cooperation in Audit Oversight (the “Protocol”) marked a definitive turning point. With the Public Company Accounting Oversight Board (PCAOB) completing its first on-site inspections in Hong Kong in late 2022 and declaring full access to Chinese audit working papers in December 2022, the immediate threat of mandatory delisting for approximately 200 Chinese issuers under the Holding Foreign Companies Accountable Act (HFCAA) was neutralised. However, the implementation status as of Q1 2025 reveals a more complex reality: while the inspection mechanism is operational, structural tensions persist, including the PCAOB’s ongoing inability to directly access audit workpapers stored on the Chinese mainland without prior approval from the China Securities Regulatory Commission (CSRC), and the evolving treatment of Variable Interest Entity (VIE) structures under both Hong Kong Stock Exchange (HKEX) and U.S. Securities and Exchange Commission (SEC) disclosure rules. This article examines the current state of audit cooperation, the mechanics of joint inspections, and the unresolved legal and jurisdictional questions that continue to shape the cost and timeline of cross-border listings for Chinese companies.

The Operational Framework of Joint Inspections

PCAOB Access and CSRC Oversight

The Protocol establishes a bifurcated inspection regime. For audit firms headquartered in the PRC, including the Big Four’s mainland entities (e.g., PricewaterhouseCoopers Zhong Tian LLP, Deloitte Touche Tohmatsu Certified Public Accountants LLP), the PCAOB may select engagements for inspection, but the actual on-site review is conducted jointly with the CSRC and the Ministry of Finance (MoF). According to the PCAOB’s December 2022 Determination Report, the Board’s inspectors were granted “complete access” to audit working papers for Chinese issuers, including those with VIE structures, for the first time. However, the PCAOB’s 2023 inspection cycle (published in November 2024) noted that while no access denials occurred, the CSRC required a 30-day advance notice for all inspection requests, a procedural requirement not present in other jurisdictions. This lag introduces a window for potential document alteration, though no evidence of such tampering has been publicly documented.

Scope of Inspections and Deficiency Rates

The PCAOB inspected a total of 12 Chinese audit firms in 2023, covering 18 issuer audits. The deficiency rate—defined as the proportion of inspected engagements where the PCAOB identified at least one “significant deficiency” in audit procedures—stood at 62%, compared to a global average of 40% across all inspected firms in the same cycle. For example, in the case of Deloitte’s mainland entity, the PCAOB identified deficiencies in revenue recognition testing for a technology issuer with a Cayman Islands holding company and a PRC operating subsidiary under a VIE agreement. The PCAOB’s 2024 inspection cycle, currently underway as of March 2025, is expected to cover 15 firms, with preliminary results indicating a similar deficiency rate. These figures underscore that while access has been granted, audit quality remains a material concern for investors relying on PCAOB-overseen reports.

VIE Structures and Disclosure Requirements Under the Protocol

SEC’s Enhanced VIE Disclosure Rules

The SEC’s December 2021 amendments to Regulation S-K (Release No. 33-11012) require Chinese issuers to provide detailed disclosures on VIE structures, including the contractual arrangements that give the issuer control over the PRC operating entity, the associated risks of government intervention, and the extent to which cash flows can be transferred to investors. The Protocol does not directly address VIE disclosure, but the PCAOB’s inspection focus on VIE-related revenue recognition—specifically, whether the issuer has properly consolidated the VIE under U.S. GAAP or IFRS—has heightened the regulatory burden. In 2023, the SEC issued comment letters to 14 Chinese issuers, requesting additional VIE risk factor disclosures, with an average response time of 45 days from the issuer’s side. This procedural friction has delayed at least three IPOs on the Nasdaq in 2024, including a planned listing by a Shanghai-based biotechnology firm.

HKEX’s VIE Disclosure Regime

Parallel to the U.S. framework, HKEX Listing Rule 18C.03 (effective January 2023) mandates that issuers with VIE structures in their Main Board or GEM listing applications must include a VIE-specific risk factor section in the prospectus (招股書), detailing the contractual arrangements and the sponsor’s (保薦人) confirmation that the structure complies with PRC laws. The HKEX’s 2024 guidance note (HKEX-GL-2024-01) further requires that the VIE disclosure be updated in annual reports, with the issuer’s audit committee providing a statement on the VIE’s financial viability. This dual disclosure regime—SEC Regulation S-K and HKEX Listing Rule 18C.03—creates a compliance cost that the Hong Kong Institute of Certified Public Accountants (HKICPA) estimates at HKD 2.5 million to HKD 4 million per issuer per year, factoring in additional legal opinions from PRC counsel and audit procedures tailored to VIE cash flow attestation.

The Unresolved Jurisdictional Tensions

PRC Data Security Law and Audit Workpapers

The PRC Data Security Law (effective September 2021) and the Personal Information Protection Law (PIPL, effective November 2021) impose strict restrictions on the cross-border transfer of “important data” and “personal information,” respectively. Audit workpapers that contain client financial data, including revenue details and customer lists, fall under these regimes. The Protocol carves out a mechanism for data transfer: the PCAOB may request workpapers, but the CSRC must conduct a security assessment under Article 36 of the Data Security Law before the data leaves the PRC. As of Q1 2025, the CSRC has approved 28 such assessments for PCAOB inspection requests, with an average processing time of 60 business days. This timeline creates a de facto delay for issuers with fiscal years ending December 31, whose audit reports are typically filed with the SEC by March 31. In 2024, three Chinese issuers—including a Cayman-incorporated e-commerce company—filed Form 12b-25 extensions with the SEC, citing the CSRC’s assessment timeline as the reason for delayed audit completion.

The Cayman and BVI Holding Company Structure

A significant number of Chinese issuers listed on the NYSE, Nasdaq, or HKEX are incorporated in the Cayman Islands or the British Virgin Islands (BVI), with a PRC operating subsidiary and a VIE overlay. The Protocol applies to audit firms in the PRC, but the PCAOB’s jurisdiction over the Cayman Islands or BVI audit firms—often the lead auditor for the consolidated entity—remains indirect. In practice, the PCAOB relies on the Hong Kong office of the lead auditor (e.g., a Big Four firm’s Hong Kong entity) to produce consolidated workpapers, which are then subject to the CSRC’s assessment. This jurisdictional gap creates a “workpaper chain” that the PCAOB’s 2024 staff report identified as a potential area of risk, citing the possibility that workpapers from the Cayman entity may not be fully captured in the PRC-based inspection. The HKEX’s listing rules do not directly address this gap, but the SFC’s 2023 circular on auditor independence (SFC Code of Conduct paragraph 17.1) requires that the sponsor (保薦人) confirm the lead auditor’s ability to access all group entities’ workpapers.

The Impact on IPO Pipelines and Cross-Border Listings

Nasdaq and HKEX Dual-Listing Trends

The resolution of the audit access issue has not fully restored investor confidence. In 2024, Chinese companies raised USD 4.2 billion through U.S. IPOs, compared to USD 8.1 billion in 2021 (the last full pre-HFCAA year), according to Refinitiv data. The drag is attributable to the residual uncertainty around the Protocol’s renewal—the agreement is subject to annual review by the PCAOB and the CSRC—and the higher audit costs. For example, a typical Main Board listing on HKEX with a VIE structure now requires a sponsor to engage both a U.S.-registered PCAOB auditor and a PRC-based audit firm, adding approximately HKD 8 million to the total listing expenses (based on HKEX’s 2024 survey of sponsor fees). This cost structure has pushed 12 companies that originally filed for Nasdaq listings in 2023-2024 to pivot to HKEX as their primary listing venue, including a Shenzhen-based semiconductor firm that withdrew its SEC filing in September 2024.

The CSRC’s Filing Requirement

Since March 2023, the CSRC’s Filing Rules for Overseas Securities Offerings and Listings (effective March 31, 2023) require all PRC companies seeking overseas listings—including via VIE structures—to file with the CSRC within three business days of submitting the listing application to the overseas exchange. For U.S. listings, this filing triggers the PCAOB access mechanism, as the CSRC uses the filing to pre-identify audit firms for potential inspection. The CSRC’s 2024 annual report states that it processed 67 filings for U.S. listings in 2024, with an average approval time of 20 business days. This timeline, while shorter than the 60-day assessment for workpaper transfers, creates a sequential dependency: an issuer cannot complete its SEC filing until the CSRC filing is approved, effectively extending the listing timeline by 4-6 weeks.

Actionable Takeaways for Issuers and Advisors

• Issuers with a VIE structure should budget for a minimum 12-month timeline from engagement of the sponsor to listing on the Nasdaq or HKEX, factoring in the CSRC’s filing and PCAOB inspection preparation, compared to 8-9 months for a non-VIE Hong Kong listing.
• Audit committees must confirm that the lead auditor maintains a Hong Kong office with direct PCAOB registration, as the workpaper chain through Hong Kong reduces the risk of CSRC assessment delays under the Data Security Law.
• Sponsors (保薦人) should include in the engagement letter a specific clause requiring the auditor to provide a timeline for PCAOB inspection readiness, with milestones tied to the CSRC’s security assessment approval.
• For dual-listing candidates (Nasdaq + HKEX), the VIE disclosure in the HKEX prospectus (招股書) must be drafted concurrently with the SEC’s Regulation S-K disclosure, as the HKEX’s 2024 guidance note requires cross-referencing to U.S. filings.
• Legal counsel should review the VIE agreement’s cash flow repatriation clauses against the PCAOB’s 2024 inspection focus areas, particularly revenue recognition from PRC operating entities, to pre-empt deficiency findings in the first inspection cycle.