China's B-share market - reform and revival

New regulations demonstrate the government''s commitment to establishing a more transparent and open market.

The China Securities Regulatory Commission (CSRC) recently announced new selection processes for potential listing companies. In addition, under the supervision of the CSRC, the Shanghai Stock Exchange (SSE) has issued important new share listing rules. Together, the two new rules go some way towards relaxing government restrictions and improving market transparency.

PRC B-shares are domestically listed shares for companies incorporated in China. The shares are denominated in foreign currency: US dollars in Shanghai and Hong Kong dollars in Shenzhen. Strictly speaking, B-shares are only available to foreign investors, although, many B-share transactions are entered into by domestic investors attracted by prices much lower than those on the A-share market. Despite domestic investor interest, the trading volume on the B-share market has been thin, and the quality of listed companies generally poor. In a bid to boost liquidity and improve the quality of B-share companies, the government has significantly enhanced the approval process, which should ensure greater quality B-share listed companies. In addition, the stamp duty charged on B-share stock transactions has been reduced from 0.4% to 0.3%, and Sino-foreign joint securities funds will, for the first time, be permitted to invest in the B-share market.

Improved approvals process

The process of nomination and approval for companies looking to list has significantly improved. Previously, companies were subjected to a quota system that often prevented the best candidates from coming into the market. Under the old system, the government set a quota for the capital value of shares to be issued each year. The quota was then allocated among provinces by the CSRC. Provincial authorities, in accordance with ‘national development guidelines’ identifying ‘key’ industries, heavily favoured state-owned enterprises. This had the effect of stacking the deck with inefficient companies chosen from biased and ineffectual criteria.

Earlier this year, the government announced that a selection process based on legislation and overseas practice would replace the quota system. Under the new system, first-tier securities firms are now permitted to nominate and groom companies which are potential candidates for listing prior to actually applying for permission to list. Importantly, an independent committee comprised of independent professional assessors, nominated for a two year term, will examine and approve the nominated companies. Additionally, IPO prices are to be set by the market not by government authorities.

The effect of the new rules is significant, in that the government will no longer decide which shares can or cannot be issued.

Greater transparency

Following the above-mentioned new reforms, the SSE has begun tightening up rules governing the disclosure of information. The amended rules are welcome news to investors who have been frustrated by the perceived poor quality of disclosure by many Chinese companies. In the past, companies have been reluctant to disclose bad news for fear of discouraging investment, with the result that published annual results frequently underscore market expectations.

The new rules make clear for the first time what are the fundamental obligations of directors and supervisors of PRC listed companies. The rules require directors and supervisors to sign a letter of commitment, which incorporates a responsibility to work honestly and diligently, and to abide by PRC laws and regulations and the company’s articles of association. In signing the commitment, directors and supervisors undertake liability and thus responsibility for any wrongdoing. Penalties vary and include fines of up to Rmb300,000 ($36,240) and disqualification as a director or supervisor. Correspondingly, the rules also strengthen the responsibility of the secretary of the board of directors in information disclosure and the confidentiality of insider information.

In connection with the events and activities listed companies are obliged to disclose, the new rule crystallizes the concept of ‘important daily routine’. That refers to anything that will have an influence on the listed company, such as mergers & acquisitions, sale of assets, connected transactions with connected parties, lawsuits and important warranties. The new rules go further than previous provisions by stipulating in greater detail disclosure requirements for companies in relation to their activities. The rules make it quite clear what information needs to be disclosed and the frequency and timing of such disclosure.

The overall result

As a result of these provisions and rumours that the government plans to announce a series of new measures to boost trading, including introducing B-share mutual funds, the B-share market has recently enjoyed a measured revival. Although there are still some fundamental problems with the B-share market, these measures are at least a step in the right direction towards a more transparent and open market. Importantly, it appears that the CSRC remains committed to reducing governmental involvement and to improve disclosure, enforcement and corporate governance in the B-share markets.

By Simmons & Simmons International Finance Group in Hong Kong.

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