So this is what Hong Kong is missing.
Alibaba has finally put some meat on the bones of its proposed initial public offering; in the US not Hong Kong, of course.
The message contained in the Chinese ecommerce group’s listing prospectus, lodged with the Securities and Exchange Commission on Wednesday, is that Alibaba is not just big, it is also complicated.
Jack Ma’s spaghetti junction of businesses could raise as much as $20 billion through the IPO, with analysts expecting the group to be valued as much as $250 billion once it starts trading, according to some media reports.
This makes it potentially the largest-ever US technology IPO, trumping that of Facebook, which raised $16 billion in 2012.
Alibaba's prospectus is short on detail in terms of how many shares will be offered or exactly how much could be raised but it does shed more light on the unconventional shareholder structure that so outraged Hong Kong.
In essence, the structure will allow Ma and his “Alibaba Partnership” – comprising 28 members – to nominate a simple majority of the board even though the founder's stake is less than 10%.
"This proposed structure is generally the same as the one proposed for the HK listing. i.e., the Alibaba Partnership essentially controlling the board," Mark Chan, capital markets lawyer at Berwin Leighton Paisner, told FinanceAsia.
Unlike Hong Kong, New York is no stranger to such structures and the prospectus spells out in detail the issues created by this and the role played by Ma, Softbank and Yahoo as shareholders.
Softbank will continue to own more than 30% of Alibaba after the IPO, while Yahoo must sell down its 23% stake; Ma owns about 9% and Joseph C. Tsai, executive vice-chairman, holds 3.6%.
Although partnership nominees to the board will be voted on at an AGM, Softbank and Yahoo have agreed to back them. A reciprocal clause, in turn, allows Softbank to nominate its own member, with backing from the partnership, Yahoo and Tsai.
Little wiggle room
Since Alibaba expects the board to be made up of nine directors, it leaves investors with minimal wiggle room – a point recognised in the prospectus. The voting arrangement between key shareholders “will limit [investors’] ability to influence corporate matters, including any matters determined at board level,” it warns.
Such a governance structure effectively hands the partnership (Ma) control over the makeup and direction of the board – great when times are good; not so great if things turn sour.
“Whatever the structure, it should be in the best interests of investors. It should provide good governance. [Alibaba's structure] may not be that as it doesn’t appear to offer shareholder democracy,” Michael Cheng, research director at the Asian Corporate Governance Association, told FinanceAsia.
The Alibaba prospectus states that Softbank will have “significant influence” over the outcome of matters that require shareholder votes and over business and corporate matters. Alibaba also warns that Softbank’s interests may sometimes conflict with those of other shareholders.
Furthermore, the structure includes provisions that:
- “grant authority to our board of directors to establish from time to time one or more series of preferred shares without action by our shareholders and to determine .. the terms and rights of that series.”
- “[create] a classified board with staggered terms that will prevent the replacement of a majority of directors at one time.”
Alibaba warns that these provisions “could have the effect of delaying, preventing or deterring a change in control, and could limit the opportunity for our shareholders to receive a premium for their [American Depositary Shares], and could materially decrease the price that some investors are willing to pay for our ADSs”.
Of course, to invest in anything is to assume risk and technology companies do seem to possess a mystique that befits their conception and growth.
"[The partnership structure] works given that the few key members of the management are primarily responsible for the growth of these companies, which have been and remain very successful, so the market is generally more receptive to having them in charge,” Chan said.
But there are degrees of risk.
Some market watchers say to buy into Alibaba is to take a bet on China, and it is not difficult to see why, since Ma’s company is a patchwork quilt of business models, each facing its own challenges.
The company is exposed to complex, sporadic and unpredictable financial services regulation through Alipay, its online payment processing business; it is exposed to the rapidly evolving (and unpredictable) mobile technology industry; it is virtually a slave to the whims of the burgeoning (and unpredictable) Chinese middle class; and on top of all that it has many competitors to contend with.
There is also the issue of the variable interest entity structures (VIEs) that allow Alibaba to hold certain domestic assets deemed sensitive by the Chinese government while at the same time having foreign investors.
Such VIEs effectively circumvent China’s ownership rules and mean investors in the IPO will not actually be buying into the group’s Chinese assets.
VIEs have at best an uncertain legal framework in China and – as a worst-case scenario – could be deemed illegal under Chinese law, the prospectus points out. This could result in Alibaba being forced to relinquish assets contained in such VIEs in the future.
So betting on Alibaba is also betting on the mood of the Chinese government, which is a daunting prospect.
All these risks are outlined in the prospectus.
The SEC does not have the power to ban IPOs for the level of risk but it does require companies to outline those risks so investors can make a decision with all the cards on the table.
New York opened its arms where Hong Kong shook its head. The question now is whether investors will open their cheque books.