Legal liability of certified public accountants in the disclosure of information in the securities market

Author: Wen Jianxiu
Publisher:
Publishing Date: 2003-07-01
Features: In the securities market plagued by rampant false statements and severely distorted information disclosure systems, certified public accountants (CPAs) serve as a crucial checkpoint for information disclosure quality control, playing an indispensable role. Following the exposure of a series of false statement cases, countries worldwide have raised questions about the professional quality of CPAs. What are the root causes of frequent audit failures? How can the CPA profession overcome its crisis of credibility? How can the seriousness of the securities information disclosure system be ensured? How can the order of the securities market be maintained? With these questions in mind, after conducting an in-depth study of false statement phenomena in the securities market, the author has come to realize that one of the key reasons for this situation is the lack of clear legal liability for CPAs, particularly the absence of civil liability and the low legal costs associated with issuing false reports. Therefore, strengthening research on the legal liability of CPAs and establishing a comprehensive civil compensation mechanism are crucial for maintaining securities market order, protecting investor interests, and restoring the credibility of the CPA profession. The paper begins by analyzing the phenomenon of false statements, conducts comparative research to fully draw on experiences from various parties, and focuses on specific issues in establishing a sound legal liability system for CPAs, objectively presenting its own insights.
Chapter 1 introduces the current state of false statements in the securities market and their relationship with CPAs. By analyzing major false statement cases in recent years, it summarizes the content and methods of false statements and examines the role of CPAs in such cases through an analysis of their legal characteristics. On this basis, it summarizes the main reasons for CPAs' involvement in false statements: the audit market being in a buyer-driven phase and the severe lack of independence for CPAs; an underdeveloped legal environment with low legal costs for CPA violations. It further analyzes that the low legal liability costs are a significant and critical factor driving CPAs to engage in fraudulent activities. Therefore, strengthening research on the legal liability of CPAs and gradually establishing a civil liability system is an important task faced by China's securities law.
Chapter 2 introduces the current state of research on CPA legal liability issues abroad and the existing problems in China, as well as the significance of studying this topic. The legal liability of CPAs has always been a major issue in securities markets worldwide. Developed securities markets have accumulated extensive research findings on this matter, which are worth. The author summarizes these findings and provides a brief evaluation of the current state of CPA legal liability issues in China. It points out that China, both in terms of legal provisions and practice, heavily relies on administrative liability, while civil liability, which truly protects investor rights, is relatively weak. The existing civil liability laws are poorly operational and offer limited relief. Therefore, conducting foundational research on the civil legal liability of CPAs, such as the nature of civil liability, standards for identifying false reports, principles of attribution, allocation of burden of proof, and civil compensation systems, is a vital legal means to effectively address false statement issues. This will have significant implications for maintaining the healthy development of the securities market, protecting investor rights, and restoring the credibility of the CPA profession.
Chapter 3 introduces the professional activities, risks, and expert responsibilities of CPAs in the securities market. The fundamental motivation for introducing audits in the securities market is to ensure the authenticity and legality of information, and statutory audits have been established in the information disclosure system. Audit services primarily focus on financial reports of various periods, with four types of opinions issued: unqualified, qualified, adverse, and disclaimer of opinion. The type of audit opinion is directly related to whether the CPA has been negligent and the extent of legal liability. The main cause of audit risk for CPAs is the issuing company's desire to obtain an unqualified opinion. As experts participating in information disclosure, CPAs hold information advantages and thus bear a high degree of expert duty of care to users of audit reports. This characteristic determines that the expert responsibility of CPAs is: based on the principle of prudence, to diligently fulfill their duties, conduct independent and reasonable investigations, identify significant issues that should be discovered according to their professional standards, and issue accurate certification opinions.
Chapter 4 summarizes the legal system of accounting information disclosure in the securities market and analyzes its legal status and role in the practice of CPAs. The of the accounting information disclosure legal system in the securities market lies in the fact that legal provisions only establish general principles for CPA practice, while specific audit services primarily follow independent audit standards considered industry regulations. This has given rise to a long-standing debate both domestically and internationally: whether CPAs can use strict adherence to this information disclosure legal system as a legal defense. The author argues that the fundamental purpose of the accounting information disclosure system is to protect the interests of users of audit reports. The audit standards system is the only authoritative standard that can be reached by both the audited information's suppliers and demanders, a comprehensive and stringent regulation of CPA diligence, and the only current legal and regulatory framework to measure the quality of CPA practice. Therefore, it should serve as the legal basis for CPA practice. In other words, rights and obligations are mutually complementary. This system is both the highest restriction on CPAs and the greatest protection for them.
Chapter 5 builds on the previous chapters to explore the legal standards for constituting false statements and proposes a certification system for false audit reports. The legal standards for constituting false statements are a contentious issue in both legal and accounting circles. Through analysis and, the paper establishes two legal elements for constituting false statements: first, the existence of false, misleading, or omissions in content; second, the false, misleading, or omissions being material. By analyzing these two elements in detail, the author has, to some extent, bridged the between legal and accounting professionals, arguing that they are not contradictory but rather result in disagreements due to different applications of the "materiality standard." It follows that to improve the legal liability of CPAs, it is essential to enhance the understanding of their business content and characteristics and to strengthen communication between legal and accounting professionals. Based on the professional characteristics of audit reports, the author proposes a "system of establishing an independent list of audit appraisers and a random selection system for appraisers in specific cases" to ensure the fairness and justice of the law.
Chapter 6 explores the administrative legal liability that CPAs should bear. By comparing the provisions on administrative legal liability for CPAs in major securities markets worldwide, the author proposes recommendations for addressing existing issues in China's administrative liability system. The author argues that China relies too heavily on administrative penalties, particularly fines and warnings, which are not effective. It is recommended to reduce the use of fines and strengthen administrative penalty measures such as suspending practice qualifications, revoking securities practice qualifications, revoking licenses, dissolving firms, and declaring individuals as prohibited from participating in the securities market. Additionally, the author addresses the legal positioning issue of the securities market prohibition system in China's legal system and proposes adjusting it according to China's legal framework to clarify its legal status.
Chapter 7 introduces the criminal legal liability that CPAs should bear. This section primarily discusses the legal provisions on criminal liability for CPAs in major securities markets and examines the determination of subjective elements of crimes. The author argues that for criminal acts of CPAs in false statements, the subjective requirement is not limited to direct intent but also includes crimes caused by gross negligence. Based on this, the author evaluates the of criminal legal liability in China's practical work.
Chapter 8 explores the civil legal liability of CPAs, which is the focus of this paper. Since the legal relationship between CPAs and clients is relatively clear, this section only briefly touches on it, primarily discussing the civil legal liability of CPAs toward third parties with interests. This includes: the concept and scope of third parties with interests; the nature of CPA civil legal liability toward third parties; applicable principles of attribution and allocation of burden of proof; elements of civil liability; damage compensation systems; and legal remedies for third parties with interests, as well as the CPA professional liability insurance system. Through analysis, the author concludes that the third parties with interests targeted by CPA legal liability primarily include buyers of securities issued by companies, securities pledgers, and creditors of issuing companies, with a focus on buyers of securities issued by companies. The conclusions also apply to other third parties with interests. CPA civil legal liability toward third parties is tort liability, and the principle of fault liability applies. In practice, the "presumption of fault" method should be adopted, with a "reversal of burden of proof" based on the presumption of reliance, to ensure the operability and fairness of the securities legal system. The civil liability of CPAs toward third parties has four legal elements: constituting false statements, CPA negligence, damage, and the causal relationship between damage and CPA negligence. The author discusses the specific meanings and judgment standards of each element and, based on this, explores CPA exemption reasons. Regarding damage compensation for CPA civil liability toward third parties, the author argues that only compensatory damage compensation should be applied, not punitive damage compensation, and provides a detailed analysis and discussion of the determination of compensation scope and the calculation of compensation amounts. Regarding legal remedies for third parties with interests, given the characteristics of widespread plaintiff subjects, numerous plaintiffs, and vulnerable populations in false statement cases, the author proposes that class actions are the best remedy. By comparing the similarities and differences, as well as the advantages and disadvantages of representative lawsuits and collective lawsuits in China, the author proposes revisions to the representative lawsuit system based on China's market characteristics. Additionally, to ensure that victims' losses are compensated, the author explores the development of the CPA professional liability insurance system in various countries, analyzes the functions and effects of liability insurance, and explains the necessity and urgency of China increasing its promotion efforts for professional liability insurance.
Chapter 9 discusses the organizational forms of accounting firms. Organizational form is a fundamental prerequisite for the ability to bear legal liability. China's current situation, where accounting firms primarily operate as limited liability companies with partnerships as a supplement, clearly disadvantages the full assumption of legal liability. This section introduces the organizational forms used worldwide, the evolution of China's accounting firm organizational forms, the characteristics of various forms, and focuses on the limited liability partnership (LLP) widely adopted by international accounting firms. It discusses the feasibility of applying this form in China. The author argues that China should accelerate the reform of accounting firm organizational forms, fully introduce LLPs, and reduce the proportion of limited liability companies.
Chapter 10 discusses the audit committee system. The audit committee system is an important component of corporate governance for listed companies and a management tool to ensure the authenticity of information disclosure. This section introduces the development process, responsibilities, close relationship with CPA audits, and application of the audit committee system in China. From the application in various countries, the audit committee system is a crucial method to ensure CPA independence and an important institution to prevent financial fraud and promote the soundness of financial reporting systems. Therefore, it holds significant value for China. In the conclusion section of this paper, the author provides a comprehensive overview of the main research findings.
Keywords: Information Disclosure, Securities Market, Certified Public Accountants, Legal Liability, Audit, Civil Liability