More than a year ago, we began following the so-called Ernst &Young (“EY”) State Secrets Case in Hong Kong.  On 23 May 2014, the High Court of Hong Kong finally concluded that there was no “reasonable excuse” for EY’s failure to comply with Securities and Futures Commission (“SFC”) notices seeking information and documents, and that EY had “deliberately withheld from SFC.” Though EY has since produced a disc of documents it held in Hong Kong, EY filed a Notice of Appeal 20 June taking issue with the Court’s position on documents held in the Mainland by its PRC affiliate, Ernst & Young Hua Ming (“HM”).

When this case kicked off in April 2013, many watched carefully, wondering how the Court might deal with Chinese state secrets and archives laws, in addition to others, that supposedly prevented the cross-border transmission of certain documents, and accordingly, EY’s ability to comply with the SFC notices.  These laws have also been the purported excuse for non-cooperation in regulatory investigations in the United States, and have resulted in bans and censures of Chinese accounting firms in the United States.*  However, the Hong Kong Court emphasized that it is “concerned with and only with the obligation of EY as a firm in Hong Kong to comply with the Notices issued under the SFO as part of the laws of Hong Kong,” suggesting a strong reluctance to interpret the controversial Chinese laws.

In an interesting “eve of trial” twist, EY suddenly discovered a laptop in Hong Kong that had been used by the EY partner involved in the engagement with HM.  Incidentally, identification of this engagement partner was only revealed by affirmation filed in relation to these proceedings, despite numerous previous requests by the SFC for such identification.  These “sudden,” last-minute discoveries, which included two additional hard drives, alongside EY’s production of a single witness who repeatedly claimed he either had no personal knowledge or memory of the relevant facts, led Mr. Justice Peter Ng Ka-fai to conclude EY had been deliberately withholding information. With respect to any documents HM may possess in the Mainland, the Court concluded that EY, subject to any legal restrictions on cross-border transmission, has a currently enforceable legal right under PRC laws to demand production of the audit working papers from HM. Thus, EY could not argue that it did not have possession – including custody or control – of the documents the SFC sought, whether in the Mainland or not.

As to whether there was any legal restriction on the cross-border transmission of documents in the Mainland, the Court was reluctant to comment on PRC laws, suggesting they were a “complete red herring” since any legal effect was hypothetical until any analysis of the actual contents of the audit working papers could be made:

The burden is on EY to show an applicable restriction on the transmission of the audit working papers and other relevant documents from the PRC to Hong Kong. If it cannot do that by showing the papers or other documents do contain State secrets or commercial secrets, that is the end of the matter, as far as EY’s case is concerned.

This begs the question as to how EY could possibly submit such evidence if its submission is that such transmission would be illegal. However, the Court accepted that if its finding on the absence of legal impediments under PRC laws is wrong, then it was EY’s (and not the SFC’s) burden to make an application to the China Securities Regulatory Commission for approval.

So far, no hearing date has been set for EY’s appeal. 

*  Incidentally, the Hong Kong Court made reference to these American cases, and have noted that the SFO does not purport to have any extraterritorial effect in the same way that section 106 of the U.S. Sarbanes-Oxley Act of 2002 does.