Trung Quốc Investigates PwC’s Responsibility in the $78 Billion Evergrande Fraud, Will the Big 4 Become the Big 3?
The Chinese authorities are currently investigating the renowned audit firm PwC’s role in the Evergrande scandal, where $78 billion in revenue was falsified, marking one of the largest scandals in history. To put this into perspective, the Enron collapse in 2001 involved only falsified profits of $600 million, and the Worldcom scandal of 1999-2002 involved financial fraud of $11 billion. Even the largest Ponzi scheme in history by billionaire Bernie Madoff led to investor losses of $64.8 billion.
The Enron case caused Arthur Andersen, a well-known accounting firm that was part of the Big 5 at the time, to collapse, leaving only the Big 4. Arthur Andersen, with its 89-year history and 85,000 professionals, dwindled to less than 200 people by 2007, primarily engaging in legal battles with former clients’ shareholders.
If the investigation into Evergrande expands, it will become one of the biggest scandals in the history of the auditing industry. PwC’s reputation will be affected globally, leading to potential collapse and industry-wide repercussions.
Earlier, the China Securities Regulatory Commission (CSRC) accused Evergrande’s subsidiary, Hengda, of inflating sales figures and exaggerating revenue multiple times over a period of two years until 2020, which became one of the primary reasons for the conglomerate’s debt crisis.
Insiders reveal that Chinese officials are investigating PwC’s involvement and the extent of its responsibility in such a massive auditing error.
“This error is one of the most fundamental mistakes in the auditing industry, risking PwC’s reputation not only in China but worldwide,” stated Richard Murphy, a professor of accounting practice at the University of Sheffield in the UK.
The Evergrande case comes as PwC faces numerous difficulties, with the famous Big 4 audit firm dealing with the aftermath of several global scandals, resulting in mass layoffs from the UK to the Canadian market.
PwC’s Australian branch came under criticism for revealing the government’s tax plans for clients, resulting in the dismissal of several employees. Similarly, in the UK, the firm was fined £5.6 million in 2023 and is still addressing the consequences of the Babcock International scandal.
“The suspicion regarding PwC’s responsibility in the revenue fraud at Evergrande is significant, especially concerning their involvement in revenue falsification,” expressed Nigel Stevenson, an analyst at GMT Research.
Prior to this, in December 2023, GMT raised questions about Evergrande’s financial reports, believing that the company never achieved the stated level of profit. However, Evergrande defended itself, stating that the financial reports were audited by a reputable Big 4 accounting firm like PwC.
According to the CSRC, apart from inflating revenue, Evergrande’s subsidiary, Hengda, also inflated profits by an additional CNY 91.9 billion (approximately $12.7 billion), accounting for 75% of the income between 2019 and 2020. This amount is 20 times higher than the falsified profits in the Enron scandal of 2001.
Before 2021, Evergrande had already recognized significant revenue from unfinished projects and pre-sales of homes to buyers. This strategy helped the company maintain a low debt ratio and facilitated the issuance of bonds.
However, as cash flow problems arose, Evergrande started experiencing a debt crisis when the previously recognized home sales failed to be completed and delivered to buyers on time.
Although the CSRC primarily holds Evergrande’s founder, Hui Ka Yan, responsible for the situation, the legal implications and immense scandal could heavily impact PwC for their fundamental auditing error.
Evergrande is currently going through bankruptcy liquidation procedures in Hong Kong, and the creditors will pursue PwC for compensation.
The penalty of CNY 4.18 billion imposed on Hengda for revenue fraud will further impede Evergrande’s ability to repay its debts. As of June 2023, the conglomerate carried a debt burden of up to $332 billion.
The consequences of this scandal are severe. In 2023, China’s Ministry of Finance set a record fine of CNY 212 million and suspended Deloitte’s operations in Beijing for three months due to auditing discrepancies in China Huarong between 2014 and 2019. Huarong also received a bailout package of $6.6 billion in 2021 after facing substantial losses and insolvency.
PwC’s auditors had been working with Evergrande and Hengda for ten years until January 2023 when they resigned due to “audit-related disagreements.”
The data reveals that PwC has over 1,600 certified auditors in China, generating CNY 7.9 billion in revenue in 2022 and becoming the largest accounting firm among over 9,000 companies in the market. PwC’s global revenue amounts to $50.3 billion.
Apart from Evergrande, PwC has also audited other Chinese real estate companies such as Country Garden and Sunac China before their debt defaults.
Over the past two years, PwC has withdrawn from at least ten Chinese real estate companies like Sunac and Shimao, with unclear reasons.
Experts state that most Chinese real estate companies make money by selling contracts for unfinished projects, promising delivery in a few years. Homebuyers deposit and mortgage their assets to make these purchases. However, this money often mysteriously disappears just before auditors from PwC scrutinize the situation until regulatory authorities intervene.
Only in 2021-2022 did Evergrande record revenue from projects delivered to customers, causing a significant and sudden change in their financial reports, raising suspicions of fraud.