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Two Steps Forward, One Step Back for China's Stock Market Reforms

People in the trading hall of a stock and securities exchange company in downtown Shanghai China. Photo by Remko Tanis CC: AT-SA-NC

People in the trading hall of a stock and securities exchange company in downtown Shanghai China. Photo by Remko Tanis CC: AT-SA-NC

After a more than year-long freeze on new initial public offerings (IPO) while Chinese authorities reformed the country's stock market to give more power to investors, companies were once again allowed to toss their hat into the publicly traded ring in early January.

But less than two weeks later on January 12, 2014, the China Securities Regulatory Commission (CSRC) announced that it will conduct random spot checks of book building, the process that assesses demand for a company's shares, and road shows, the presentations given by companies ahead of going public to drum up interest in their stock.

It also will require companies who price their IPO high in comparison with their peers, according to the companies’ price-to-earnings ratios, to publish investment risk reports at least once a week during the three weeks prior to subscription.

In response to the announcement, six companies have withdrawn their IPO applications. The first company to do so was drug manufacturer Aosaikang, whose share price was set much higher than similar companies in the industry.

The IPO system reform introduced in late 2013 is to replace the regulator approval system with a registration system which gives more power to investors to set the initial stock price. The regulation is based on a legal framework which makes the underwriters, or the person or firm that helps a company go public, responsible for any false statements made in the legal documentation filed with stock market authorities. To prevent insider manipulation, a limit on first day price increase is set at 44 percent. Furthermore, controlling shareholders are barred from selling their shares up to five years after listing.

The sudden intervention of regulators has been interpreted by a number of financial analysts a setback for the previous reform effort.

Confidence in China's stock market was low to begin with as insider trading and price manipulation resulted in the collapse of Shanghai composite index from over 6,000 in October 2007 down under 1,700 in October 2008. Recently exposed cases include that of China Petroleum, whose shares have dropped from an issuing price of over 48 yuan (7.93 US dollars) in late 2007 to under eight yuan (1.32 US dollars) currently as a result of the corporation's corruption scandal, grabbing a huge amount of wealth from small shareholders.

And then there's Sinovel, China’s biggest wind turbine maker, which had been listed with the high IPO of 90 yuan (14.87 US dollars) three years ago, and now goes for less than four yuan (0.66 US dollars) for continuing business losses. It is now under investigation for allegedly violating securities laws.

Caught between the need for market reform and the regulation required to deal with corruption, Chinese regulators chose to tighten their grasp on the IPO system soon after its reopening. A popular financial microblogging, “Tribe of financial female journalists”, on China’s Twitter-like Sina Weibo disclosed the regulators’ plan:

1月14日晚,市场有消息称51家IPO公司将全部接受核查,而不是此前的抽查,核查将由证监会稽查大队主导。 21世纪网从三个不同的信息源获悉,证监会可能对51家拟IPO公司做出核查要求,核查的主要内容是新股的定价过程。

On the night of January 14, sources said that all of the 51 companies queued to soon offer IPOs will be examined, aside from the random spot checks announced previously by the CSRC. 21st Century Network has learned from three different sources that the CSRC will require close inspection of all 51 to-be-listed companies, focusing on the setting of prices.

Liu Shengjun, a famous reformist economist, called for deeper reforms to resolve the stock market's deadlock:

【评证监会为新股政策“打补丁”】证监会急颁新规,6公司IPO被暂缓:1、审批制、新股发行停顿一年之久,是导致当下新股乱象的根源;2、允许老股转让,为本已严重的套现潮火上浇油,应该废止;3、加快推进注册制,消除供求扭曲,才是解决三高的正路;4、要相信市场,坚决放权、严厉打假,其他问题要淡定

Comments on regulators’ patching for new stock policy: Six IPOs were suspended after the CSRC issued urgent regulations: 1. New IPO chaos stems from the previous approval system and one-year halt on new listings; 2. The permission for the transference of old shares [shares issued before the IPO] has exacerbated the cash-out problem. Such activity should be banned; 3. The right way should be to set up a registration system and remove the distortion of supply and demand. 4. [Government] should have confidence in the market mechanism, give up its power [and let the market regulate itself], focus on the crackdown on frauds and keep calm on other problems.

Although the regulators intervention happened so suddenly, Liu felt no sympathy towards the six suspended IPOs as their public fundraising has little to do with their business projects:

时间投资的一位人士对财新网记者表示,IPO开闸的本批公司的募投项目几乎都是2008、2009年的规划,募集资金说白了就是走一个形式,四五年前规划的项目,要么早干完了,要么压根不能干了,公司还募那么多钱做什么?

An expert with Time Capital told a journalist from Caixin that the business undertakings of the current batch of companies awaiting for the relaunch of IPO were nearly planned in 2008 and 2009. Frankly, fundraising is an excuse because their businesses were planned four or five years ago and have either been completed or proven unviable. They don't need that much money for their businesses.

Accountant Ma Jinghao pointed out:

我国新股发行大部分都是包装造假上市,而且造假上市的手法还非常低劣,一点技术含量都没有,公司没什么业务,就是搞一个三方协议把钱倒出去再转手,变成营业额,也就是拿钱垫资虚构利润上市。因此,上市公司质量很差,可是一旦包装造假上市成功,除了股民是待宰的羔羊外,其他所有的参与方都一夜暴富。

Most of the IPOs in China are packaged with fraud. They use simple tricks to create business. By building some business deals among three parties and transferring money around, the cash flow becomes turn over. They just need an initial amount of money to create a profit for listing in the stock market. The quality of the companies is poor and once they are listed, all parties involved become rich. The small stockholders are sacrificed.

Because the underwriter is liable for any fraud on the part of the issuing company, the underwriting fee becomes very high. Investor Chen Yu wondered what the underlining cost is of the super high underwriting fee of Aosaikang, the drugmaker that was first to withdrew its IPO:

【荒唐的承销费】被暂停IPO的奥赛康,本来要向中金支付2.6亿承销费。老大吃个包子才21,2.6亿够请1千万人吃包子;袁隆平获国家科技进步奖才100万,他激动地说研究团队辛苦,大伙平分每人2万。而投行几个年轻人编编资料勾兑勾兑,事成每人要分2000万吧。我想问:凭什么?

Ridiculous underwriting fee: The suspended Aosaikang were to pay 260 million yuan [about 40 million US dollars] to China International Capital Corporation for underwriting. President Xi has just paid 21 yuan [3.47 US dollars] for eating buns, so it’s enough to pay 10 million people for eating buns with that sum. Yuan Longping has just gained one million from the National Prize for Progress in Science and Technology, who has excitedly said it’s tough for the research team and every member averaged 20,000 yuan [about 3,300 US dollars]. However, [with the 260 million fee], a team of young men from an investment bank could average 20 million [3.4 million US dollars] each after IPO with just editing and adulterating the stuff. I want to ask: do they really deserve such a big service fee?

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