Fintech — internet-based financial technology — is an incipient industry and, as such, comes with a number of risks. There is virtually no regulation, and it’s not clear what types of rules the government will put in place once it does take off.
That gap, and the uncertainty around it, is coming into focus now that ecommerce behemoth Alibaba is considering listing its young affiliate, Ant Financial Services Group. The prospect of an IPO is already sending tremors through the banking world in China. Some analysts value Ant Financial $25 billion.
But lawyers and regulators are also feeling the ground shift beneath their feet; given its size and prominence, listing Ant would crystallize the coming of age of fintech in China.
“It’s still early days, though I would imagine [the Chinese government] will become more involved at some point,” Berwin Leighton Paisner’s Mark Chan said. “It really comes down to if and when something goes wrong, [such as] major issues in terms of compliance or defaulting loans. Then it is likely the government will step in sooner and push for regulations to be passed.”
Chan also noted that while the government will undoubtedly impose restrictions on internet companies, it also recognises that this industry could serve an important and growing market in China: offering loans and credit to SMEs and consumers.
“The government recognises there is a benefit to this [type of] financing because other [traditional] banks can’t service this group of clients,” Chan said. “They also recognise that this [fintech] sector is growing quickly. [They probably don’t] have the full understanding of what this could potentially become [and in the meantime], they may have to take a back seat and see how it develops.”
A recent research report by Barclays notes that both regulators and banks are “concerned that internet companies starting to provide financial services could create some noise in the financial system.”
Still, thus far, the government has kept its regulations on internet companies limited. It is actively encouraging financial innovation by internet companies in an effort to help open up the economy. For example, last year the China Banking Regulatory Commission gave approval to Tencent and Alibaba to establish their own private banks.
Although it’s unclear what regulations will be imposed on internet companies, bankers agree they will look completely different from those on traditional banks. “It comes down to the consumer base,” Chan said. “It has to have an entirely different set of rules. The loan numbers won’t be as big. [Companies will have to conduct] due diligence on clients before they lend them money. It’s an entirely different ball game.”
The biggest question is not what regulations to expect, but when Beijing will get around to implementing them.
“The government needs to be quite careful. If they impose something too strict, they could potentially kill the [fintech] industry,” Chan said. On the other hand, if fintech “grows at a very fast rate and the government [stands back], it could go bust.”
Bankers agree that any sector experiencing such rapid growth will likely turn to equity capital markets for fundraising, but won’t be able to access public markets without spelling out some dos and don’ts for companies and investors.
“I think with any growing businesses, there’s always the possibility of ECM at some point. But I personally don’t see how you can float any of these companies until the regulation becomes more clear,” a banker in Singapore said. “Until people are much more comfortable in terms of the regulatory landscape and whether the Chinese government will allow these types of businesses, as an investor, you don’t know what you’re investing in. Would you risk investing if there’s a risk it will shut down?”
Investors in Chinese tech companies are no stranger to uncertain regulations. Variable interest equity structure (VIEs), a favoured route for many foreign hedge funds and private-equity firms to own companies in sensitive sectors, particularly technology, are at best a dubious legal framework in China, and in a worse-case scenario, could be deemed illegal by the Chinese government. Regulators have recently cracked down on foreigners using VIEs for such access.
But for now the regulators seem ready to maintain a very light touch with regard to internet finance companies. When and how they respond to changes or a crisis will shape China’s technology revolution as much as the entrepreneurs, bankers and programmers on the front line.