Boost for Hong Kong IPO market as China and US tighten rules

Global investment banks are racing to redirect initial public offerings by Chinese groups towards Hong Kong after new cyber security rules instituted by China halted lucrative tech listings previously heading for New York.

In the first half of the year, 34 Chinese companies raised US$12.4 billion in New York IPOs, while some 20 Chinese companies had publicly disclosed plans to raise US$1.4 billion from share sales in New York this year according to Dealogic data. But that was before regulators in Beijing launched an investigation into Didi Chuxing on 6 July, just days after the Chinese ride-hailing group’s US$4.4 billion listing on the New York Stock Exchange.

The Cyberspace Administration of China (CAC) ordered the firm’s app to be removed from mobile app stores in China to investigate its findings that the company had illegally collected users’ personal data. Didi shares fell by as much as 25% from its IPO pricing.

The CAC has further announced cybersecurity investigations into other China-based companies causing drops in the share price of their US-listed parent companies. Online recruitment platform Kanzhun and digital freight platform Full Truck Alliance, which both listed in New York in June, fell 17.4% and 14.3% respectively.

The disclosure requirements followed a draft rule proposed by the CAC in June that Chinese companies holding data on more than one million users will have to secure cybersecurity approval prior to listing outside China. Most fintech and e-commerce companies in China fall within the scope of the proposed requirement.

Extending its actions beyond the tech sector, the Chinese government also said it would step up supervision of Chinese companies listed offshore to crack down on illegal activity and punish fraudulent securities issuance. It has also broadened its crackdown to include the education technology sector, while increasing regulatory pressure on food delivery companies as well as the music-streaming operations of Tencent Holdings, on antitrust grounds.

In April, Shanghai’s STAR Market said it would stop hosting new listings of real estate, financial and investment companies while ‘restricting’ IPO applications from financial technology companies.

The US Securities & Exchange Commission said on 30 July that Chinese issuers will now be required to disclose if they are structured as variable interest entities, which involve offshore holding companies controlling onshore assets and are widely adopted by Chinese internet and e-commerce companies. The issuers must also disclose if their IPO plans were rejected by Chinese authorities and could be delisted if they do not share their audits for local reviews within three years.

These interventions have thrown further US listings into doubt and set off a scramble to redirect deals, with Hong Kong likely to be the main target for mainland Chinese companies seeking to build diverse shareholder bases and raise funds for international expansion.

The Hong Kong Stock Exchange (HKEX) was the world’s third-largest IPO destination in terms of funds raised in the first half of 2021 after the Nasdaq and New York Stock Exchange. The Shanghai Stock Exchange’s main board and its Nasdaq-styled STAR Market, combined, ranked fourth.

During the first six months of 2021, Hong Kong IPOs raised a total of HK$213.2 billion, more than twice the amount raised from the same period in 2020. Mainland Chinese companies accounted for 78% of IPOs in Hong Kong in the first half and about 55% of proceeds were raised by companies from the telecom, media and technology sector. A sizeable part of the IPO volume via from secondary listings of US-listed mainland Chinese companies, such as search giant Baidu.

To safeguard investors’ interests, the HKEX has pushed through with an increase in profit requirements for listing eligibility, which will impact small companies applying to be part of Hong Kong’s stock market.

As from 1 January 2022, the profit requirement for listing eligibility will be KH$80 million, a 60% increase from the previous HK$50 million. Additionally, the minimum amount of profit attributable to shareholders will be increased to HK$35 million in the most recent financial year, from the previous HK$20 million and HK$45 million in aggregate over the two preceding financial years.

Since the increase in minimum market capitalisation requirement to HK$500 million in 2018, HKEX noticed a surge in listing applications from small market capitalisation issuers that only managed to fulfil the Market Cap requirements with high historical price-to-earnings ratios.

The HKEX, together with the Securities & Futures Commission, released a joint statement, saying they had become aware of IPO malpractices from ‘ramp-and-dump’ schemes, in which stock prices had been artificially inflated through false and misleading statements. There had also been issues with the share placement and price discovery processes.

Concerns for malpractices will be addressed by Hong Kong regulators through a more stringent review of each IPO applicant’s estimated valuation to ascertain their actual ability to comply with the Market Cap requirements. HKEX will exercise its discretion to reject a listing application if the regulators’ concerns are not satisfactorily addressed.

Sovereign is assisting companies listing in Hong Kong with their pre-IPO trusts. Contact us for more information.

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