IPO reform a test of Chinese regulator’s resolve
The CSRC is under renewed pressure after approving an unprecedented 200 debut listings so far this year, undermining the stock market
Initial public offerings (IPOs) have again found themselves at the centre of controversy in the mainland as debate rages over the pace of new share sales.
The heated discussions represent an embarrassment to the securities regulator whose inertia has caused millions of investors to grow weary waiting for long-heralded IPO reforms.
In late May, Han Zhiguo, a Beijing-based economist, fired the first salvo at the China Securities Regulatory Commission (CSRC), lambasting it for the rapid pace of IPO approvals that has undermined the stock market this year.
The regulator has given the go-ahead to about 200 listing applicants to raise funds on the Shanghai and Shenzhen stock exchanges so far this year, an IPO bonanza that has never been seen before in China. To put that in perspective, there were 280 approvals in the whole of 2016.
On his Sina Weibo account, Han also urged the Communist Party’s anti-graft body to launch an investigation into the CSRC’s procedures for vetting IPO requests.
His criticism was echoed by other economists including Wu Xiaoqiu, a vice-president of Renmin University and renowned financial securities scholar.
“Fast-tracking IPO approvals is not supposed to be a key task,” he wrote in a commentary. “The focus should be on loosening regulations on merger and asset restructuring deals.”
Other experts, including Li Xunlei, chief economist with Zhongtai Securities, defended the CSRC’s policy directions, contending that controlling the pace of IPOs would not be enough to buoy the weak stock market.
Over the years, China’s stock regulator has frequently limited new stock offerings to stave off declines in the secondary market, believing that cutting the supply of stocks will push share prices back up.
Technically, an influx of fresh equity dilutes existing holdings as new shares divert funds from the secondary market.
On the mainland, millions of investors gauge market outlook based on the pace of debut listings, believing it reflects the regulator’s attitude toward the movement of prices in the index.
An IPO suspension or a slowed pace of approvals suggests the regulator is aiming to shore up investor confidence, while an acceleration of first-time stock sales reflects an attempt to curb purchases of existing shares.
“After years of talks about IPO reform, we still believe that the rhythm of IPOs is one of the key barometers of the market,” said Li Yan, a Shanghai-based individual investor. “New share issuance remains the biggest topic for us.”
The fundraising spree has weighed on investors. The benchmark Shanghai Composite Index hit a low for the year of 3,052.78 on May 10, edging down towards the psychologically important 3,000-point level.
A crash below 3,000 could spark a crisis of confidence in the A-share market as investors would be worried about a sustained bear run.
Weak market sentiment triggered the current debate on IPO review and approval procedures.
Earlier this week, the CSRC, in an apparent attempt to soothe investors’ concerns, approved only four companies to float new shares, compared with seven a week earlier.
The regulator appeared to be balancing its need to continue approving fundraising applications to support the real economy against putting a floor under the falling stock prices that have been spooking skittish investors.
“The most important thing to do is drastically reform the IPO mechanism,” said Haitong Securities analyst Zhang Qi. “The planned reform is sort of being forgotten.”
Beijing has made at least two attempts to revamp the IPO system in the past decade, but the efforts proved unsuccessful.
The CSRC hopes to relinquish its power of IPO approvals and price-setting so that the market can decide the worth of companies.
Before 2009, the regulator had the final say on IPO pricing and required all listing prospects to set their offering prices at about 20 times earnings, a move to facilitate fundraising by state-owned firms.
Under a reform that year, underwriters and companies were given full play in setting share prices, but the new stock was sold at unreasonably high prices amid mainland investors’ enthusiasm for IPOs.
Most of the stocks, after surging for several days, saw their prices sink owing to profit-taking.
In 2015, the CSRC planned to embark on a registration-based IPO system, similar to the process used in the United States.
Under that system, the regulator would require full information disclosure by the companies once they submit their listing applications.
The CSRC would be responsible only for assessing the truthfulness of the documents, rather than the applicants’ earnings potential, before granting them approvals to raise funds.
It aimed at giving market forces full play in deciding IPO prices.
But a stock market rout in mid-2015 foiled the regulator’s attempt to push ahead with the market-based reform.
After a decade, the decision to develop the A-share market in line with international practices has not lived up to expectations.
The reforms will continue to be a test for the regulator as to whether or not it has the resolve to let market forces play a dominant role in market performance.