Money for nothing
So, Facebook has dived in its debut. The world might be wringing its hands over this calamity, but it's business as usual for Hong Kong's long-suffering equity investors - just another new listing that has been disappointing.
There are many reasons why Facebook faltered. For one, its listing price was too high. But discerning investors are also interested in how the funds generated by this initial public offering (IPO) will be used.
In the case of Facebook, investors were told that the US$16 billion from the IPO proceeds would be devoted to enhancing working capital and general corporate purposes. In other words, Facebook had no plan or need for this mountain of cash.
The Facebook prospectus said as much: in the section labelled 'Use of proceeds' the firm said, 'We do not currently have any specific uses of the net proceeds planned.'
In classic stock market theory, listings are supposed to have a purpose. For example, money raised can be used to expand production or to make acquisitions or, possibly - if potential shareholders don't mind - to pay off debts.
The reality is that many IPOs are launched largely as vehicles for owners and key employees to 'monetise' (cash in) previously untradeable shares in their firm.
In essence, the company's owners are aided and abetted - or perhaps more accurately, induced - by investment banks, accountants and other fee chargers, who make a killing from the offering no matter how it trades.
Hong Kong regulators want to curtail such behaviour. At the start of the month, the Securities and Futures Commission sent out a guidance letter on various issues connected with new issues. It included the following rules on the use of IPO proceeds:
The much-used phrase of 'providing working capital' will no longer be adequate, and applicants will need to spell out details of what this means for any issue in which more than 10 per cent of the proceeds are to be used for this.
Second, a lot more detail will be required for any plans to acquire properties from persons connected with the issue.
Third, it will no longer be enough to say that the IPO will fund business acquisitions; details will be required.
Fourth, if the IPO is intended to cut debt, investors must be given full details of the nature of the liabilities.
Finally, IPO applicants will be allowed to change the purposes for which the proceeds are used, but if they do so, the exchange may treat this information as price sensitive.
This guidance note comes as the Securities and Futures Commission turns its attention to the bad odour surrounding a number of recent Hong Kong listings. It will beef up penalties for IPO sponsors who fail to perform proper due diligence and tighten requirements in this area. However, some critics would like to see stronger action.
Hong Kong is keen to retain its place as the world's top venue for IPO fund-raising. Last year 90 listings raised HK$271.4 billion in the local market; it also saw a record number of cancelled floats.
Market declines and relentless reports of governance abuse among listed firms took their toll, and investors bailed out of the new-listings market.
IPO applicants did not help themselves with their often slack investing stories.
Chow Tai Fook Jewellery, for example, earmarked half of its IPO funds for building inventory, 18.5 per cent for paying off related-party loans, 18 per cent for a bank loan and 3.5 per cent for our old friend 'working capital'. That left a mere 10 per cent for developing the company's stores, building an office in Shenzhen and buying unspecified equipment for research and development. The firm has lost about one-third of its market value since listing.
Meanwhile, there is some excitement over a related Hong Kong listing from London-based Graff Diamonds to raise about US$1 billion. At least here the IPO appears to have a specific purpose, which is to expand its store network in the growing Asian market. But that's a lot of money for retail development.
Investors clearly have a right to know how their money is going to be used, and if the main purpose of an IPO is little more than to allow the company owners to cash out and provide the poor old investment banks with new funds, discretion may well need to be exercised.