Since JPMorgan first invented the American Depositary Receipt (ADR) in 1927, it has enabled non-UScompanies to realize the great capital-raising potential of having a USlisting. In October 1993, the first Chinese company to adopt the ADR route raised some $170 million with a listing on the New York Stock Exchange (NYSE). In the time since, Chinese companies have gone on to raise more than $7 billion through the issuance of ADRs in the USmarket.
A capital market in ascent
December 18, 2003 was a landmark day for China Life Insurance Co. as it made its debut on the NYSE. With a global offering which raised $3.5 billion, it became the largest IPO of the year. The Chinese company's stock, in the form of ADRs, would become the most actively traded non-USstock on the NYSE in the following weeks.
Just three decades ago, few people could envision a company from Chinalisting on a USstock exchange, let alone launching the largest IPO of the year. After all, communist China was running a tightly controlled planned economy in those days. Yet in the post-Mao period, China has virtually unleashed government control of the private sector economy, and with it the concept of equities financing and stock ownership has firmly taken hold.
The road to privatization has not been smooth of course. In the late 1970s and early 1980s, China initiated a series of reforms to revitalize the economy, using a bold trial-and-error approach to relinquishing state control of businesses. Chinese leaders described this process as "crossing a river by groping for stepping-stones." Indeed, the shareholding system reform gained traction, and the privatization taboo was gradually broken, paving the way for state-owned enterprises (SOE) to list on local stock exchanges in the early 1990s. At this time, China also saw the return of stock exchanges, with the establishment of markets in Shanghai and Shenzhen.
US investors diversifying internationally
While China's needs for overseas capital has been a major driving force, the growth of the China ADR market has also been fuelled by the secular trend of US investors' increasing interests in non-US equities. Driven primarily by demand of Asian issues, US investor net buying of non-US stocks in 2003 set an annual record of $62 billion. In early 2004, the level of US ownership of foreign stocks advanced to $2 trillion, representing about 13% of total US stock ownership, which was an all time high. With US investors aiming to leverage the investment theme of global economic expansion, particularly in Asia, the secular trend is likely to continue. This bodes well for the Asian ADR market.
In fact ADR institutional investment, as measured by data sourced from SEC 13-F filings, indicates that Asian ADR market capitalization has grown from $38 billion in 2001 to about $60 billion in 2004. Exposure to Chinese company ADRs has grown in tandem, accounting for about 5% of current Asian ADR holdings. The rapidly growing Chinese economy is supporting the continuous growth of the China ADR market. As it grows in proportion to China's economy weight in Asia, it will in time grow to reach the size of Japan; today's leading Asian ADR market with about $20 billion in ADR investment.
Global companies and more ADR listings on the way
The success of the China ADR market has become one of the driving forces of China's privatizationagenda. From airlines to the power industry, from telecommunications to oil and gas sectors, China has successfully led some of the world's largest privatizations, with more and more Chinese enterprises listed on the NYSE. No other country since Great Britain, under Margaret Thatcher's leadership, has accomplished so much privatizationin a single decade as China. There have been setbacks of course, but the Chinese march toward privatization is continuing.
Today, Chinese companies listed in the USinclude some globally visible names such as PetroChina, CNOOC and China Mobile.
Over the next few months, a new wave of internet companies will be busy preparing for USlistings. For investment banks and issuers alike, this is a welcome diversification, which further broadens the range of industry sectors of Chinese companies available to U.S investors. These companies, armed with the international recognition of a USlisting, will be well positioned to harness China's potentially vast and fast-growing internet population to drive enormous profit potential.
State-owned banks coming up
The restructuring of the state-owned banks to prepare for an eventual stock market listing is being touted as a way to raise corporate governance standard in China. It was recently announced that Bank of China and China Construction Bank, two of China's largest banks, could list without keeping a chunk of non-tradable shares in state hands: a move that underscores China's desire to use a listing to impose market discipline and oversight on the state banks.
Both the China Construction Bank and Bank of China IPOs, scheduled to debut in 2005 will be in the $5-10 billion range, dwarfing most other deals that might come into the market in the period. These deals are fully qualified as "elephant deals" and will assuredly achieve headline attention from the global financial media, as well as from global investors.
Raising corporate standards
For the Chinese companies that have made it to the US, they will face the challenge of whether they can meet the high expectations of the international equity market. They will have to comply with USrules and regulations, and stricter demands on corporate governance that will accompany their ADR listing. For these Chinese companies, an ADR listing is a step forward into the global arena. To succeed in the global arena, they will have to compete with international companies for investment capital, investor attention, as well as stock research coverage. Equally important for these companies is the need to continue to learn from global best practices, and improve their corporate governance.
All said, China's privatization plan will continue to be a high priority policy, and will be the main driver for continual growth of the China ADR market. As the privatization agenda continues, and as apprehension about the Sarbanes-Oxley Act subsides over time, there will be a continuous flow of large state-owned enterprises seeking listings in the US
Mr. Tse, a vice president with JPMorgan in Hong Kong, heads its ADR Asia-Pacific group.
