CSRC ends China IPO drought

The moves comes in response to a bull run in the A-share market, which is up 70% since last June.
The China Securities Regulatory Commission came out with new regulatory measures, known as Document 32, permitting the resumption of domestic IPOs in the early hours of Thursday morning.
Such regulations have been long awaited. The government cancelled new IPOs in the middle of last year to allow much-needed structural market reforms following a four-year bear market.

However, the CSRC clearly feels that the marketÆs impressive six-month bull market, with the benchmark Shanghai composite index gaining nearly 70% since June 2005, justifies resumption. The index had previously fallen from 2,245 points in mid-2001 to a 998 point low in mid-2005.

The regulations provide a list of conditions, such as a requirement for IPO candidates to have at least three- years of profitability of at least Rmb30 million per year; as well as corporate governance requirements regarding the need for a board of directors and independent directors. The regulations say that the size of the IPO should not be lower than Rmb30 million. Strict conditions are also attached to the use of the funds raised.

A major question mark surrounds the issue of pricing. Previously, the CSRC played an important role in setting the price of the IPO, and the timing of the issue, thereby preventing domestic bankers from developing their skills. The new regulation say little about pricing, only (in clause 45) that the company should indicate whether it wants to go in with a range, or a fixed price in the resolution voted on by shareholders. The CSRC clearly retains the right, in clause 49, to accept or reject the application for an IPO. The issuerÆs provincial government must also agree, and the agreement must be attached to the issuance document. Contrary to market rumours, it appears there is little scope for a more extended role for the stock exchange, as in the case of the listing committee in Hong Kong.

It therefore appears that the CSRC is still reluctant to give up its right to choose companies for a listing, rather than allow that function to be taken over by the market. Members of the CSRC have been involved in corruption scandals over this, because a stock market listing can be very lucrative.
More encouragingly, a clause states for the first time that once the IPO has been launched in accordance with the regulations, itÆs up to the investors to take responsibility for changes in the companyÆs performance.

Bankers say that the move to resume IPOs had long been expected and that the timing of the first IPO will depend on the performance of the domestic markets - that's because the termination of IPOs was ordered in the first place to prevent an oversupply of shares on the market and thereby prop up share prices.

A big issue looming over the market is the so-called æA+HÆ phenomenon, whereby companies listed in Hong Kong will be transferred to the Chinese domestic stock market.

Bank of China, earmarked for a $10 billion listing in Hong Kong over the next few weeks, is earmarked for just such a transfer. ôBut itÆs crucial that the A-share market should be buoyant if such a transfer takes place,ö says the Chinese banker.

Such a transfer of Chinese companies listed abroad is being prompted by Chinese investor resentment at their best stocks being snapped up by foreign investors. But as another mainland banker in Hong Kong points out, the omens for such a transfer are not good.

ôWhenever a giant blue chip does an IPO on the Chinese A-share market, the effect on the broader index is negative. They suck the liquidity out of the market,ö he says. Investors also get spooked by the sheer size of the share issue, which they believe increases supply in the market, to the detriment of price, he adds.

The question therefore, is whether ChinaÆs newly invigorated markets have reformed sufficiently to attract the trillions of dollars in bank deposits to support giant new listings. Here, the jury is still out.

Consequently, itÆs unlikely that leading companies such as China Mobile and PetroChina - which are looking at an A-share listing - will be allowed first dibs on local IPOs. It is more likely that smaller, local companies will first test the waters. And observers agree that if the index starts to slide again, all bets are off.

One foreign fund manager says that the CSRC may have missed the crest of the wave already.
ôWith a price/earnings ratio of 23x 2005 earnings - which is very high for an emerging market - the market is outrunning fundamentals. It's looking frothy out there,ö he says.

Fraser Howie, CLSAÆs head of structured products and an author on ChinaÆs stock markets, says that sentiment has been allowed to run up because of the share reform scheme introduced last year. This involved swapping non-tradable government shares into tradable shares, and paying existing shareholders compensation (mainly in the form of shares and cash) for the pressure on the share price such an increase in supply entails. 896 companies have carried out the share reform, or some 70% of the number of listed companies.

ôBut fundamentally what has really changed? There has been a sell-down of state shares, but the government still holds half the shares, even if they are now tradable. The question is, what is the government going to do with this remaining stake? ThatÆs still a massive overhang,ö he said at the CLSA conference earlier this week.

In addition, a core of poor companies who have not carried out share reform because of the cost involved, is weighing on the market. The CSRC estimates that these comprise 20% of listed companies. On Thursday, the CSRC threatened them with demotion to the OTC market if they do not get their houses in order.

One senior foreign fund manger in China estimates that it could be up to 10 years before the Chinese stock market functions properly.
¬ Haymarket Media Limited. All rights reserved.
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