Chinese technology startups are soon going to have more options about where to go public. During his speech at the China International Import Expo on Monday, President Xi Jinping announced plans to launch a new technology innovation board for tech startups.
Under the aegis of the Shanghai Stock Exchange, the new board will allow tech startups to list without the approval of the authorities, as long as a company's filings meet certain requirements.
For venture capital funds, it means new opportunities, but volatility too.
Chinese stock markets have had a difficult time of late. The Shanghai Stock Exchange Composite Index, for example, dropped to 2600 in October - its lowest level since 2015. No wonder then that the Chinese government is doing all it can to boost domestic stock markets: it is issuing Chinese Depositary Receipts; allowing more foreign investment; and now, setting up a new board.
“We heard that the government was going to set up the technology innovation board 12 months ago, but it was delayed for a year,” Chen Ai, partner of Shenzhen Qianhai Reform Fund, told FinanceAsia. “I think the government wants to build people’s faith in the whole Chinese market. Chinese investors have been demoralized by the trade war.”
The new technology innovation board on the Shanghai Stock Exchange will not have mandated requirements on net revenue. Companies can either report two consecutive years of net profit which must be above Rmb4 million ($578,000), or choose to report the company's valuation which doesn’t require a profit.
Under the new rules, companies which have a valuation of $29 million only require annual sales of $2.9 million for the previous year to list. If its valuation is above $87 million, the company can list on the new board if its total assets are higher than $8.7 million and net assets surpass $5.8 million. This should be easy for so-called technology unicorn companies. Their valuations can easily surpass $145 million.
The new regulations definitely mark a relaxation of the rules, even when compared to the newly updated listing rules for biotech companies in Hong Kong. Those, at least, require a valuation of $191 million before a company can list.
It is a positive message for early stage investors. “Right now, it is difficult for investors to exit an equity investment. They are mostly done via share transfer and repurchase, which is not a perfect ending,” Chen Zhaojin, director of Nali Capital, told FinanceAsia. “Through the listing on the new board, it will definitely be easier for early stage investors to exit the project, as the new regulations don't require much in the way of net revenue.”
Startups too are also eager to see the technology innovation board. “It is like injecting adrenaline into the market,” a startup general manager said. “It will be better still if state-backed investment banks such as CICC and China Investment Corporation enter and lead this market.”
The new board, however, could be challenging to investors. The burden of heavy state intervention as well as the perpetual shadow of a trade war means that many expect to see large fluctuations in stock prices.
A significant detail in the technology innovation board is that it intends to allow a 50% rise and fall in the stock price before a ticket is suspended. This is notably different from the 10% fluctuation allowed on other Chinese boards. “It can be a thrilling roller coaster ride for startup investors when they want to exit the project,” Chen Zhaojin said.
Administrative intervention is strong in Chinese markets, Chen added. The 50% fluctuation shows that the government is aware of the economic tremors that exist for technology startups - and investors may not like that.
Another point is that the new board will bring down the valuation of all listed companies. More players will join and chase the same sources of funds. And it will have the most impact on companies which are already listed on the tech-heavy Shenzhen Stock Exchange’s Second Board - ChiNext. The new board with its lighter regulations will be definite rival.
Hong Hao, chief strategist of BOCOM International, said that the new board will have to attract more foreign investment. Setting up a new exchange board when there is already not enough funding in Chinese capital market is a bad news for listed companies. And the market needs a better investor protection, something the current system seems unable to achieve.
“It may get harder for investors to exit with profit,” Zhang Gang, director of Chongqing Qinsheng Equity Investment Fund said.
As long as the trade war still preys on people's people’s minds, how much confidence this new technology innovation board can bring to venture capitalists is still unknown. Investors are still waiting for clearer signs.