Suck it and see

Given the Chinese stock market’s propensity for feverish behaviour, it seems fitting that a medicine maker looks like being the first company to launch an IPO this year.

Back in March, the vice chairman of the China Securities Regulatory Commission (CSRC) Fan Fuchan even told reporters that the IPO market needed continued rest, “like a person with a cold or a fever.”

But he didn’t rule out listings for later in 2009, and last week the CRSC announced the moratorium on IPOs is to come to an end, after almost 11 months. First up is a company that specialises in herbal lozenges.

In fact, the initial public offering of Guilin Sanjin Pharmaceutical on June 29 is less significant for its size (at $93 million, hardly a blockbuster) and more for what it signals. There are another 32 companies pre-approved for IPOs waiting to see how Guilin Sanjin gets on, and another 300 seeking approval, according to the mainland press.

So the Guilin Sanjin debut is a toe in the water; regulators will then decide if it is time for a deeper plunge.

Why the ban on IPOs in the first place?

It stems back to the stock market disintegration in late 2007 and the first half of 2008, in which the local bourses lost close to 65% of their peak value.

The previous year Chinese firms sold a record Rmb472 billion ($69 billion) of stock, second only to the US in volume terms. The Shanghai and Shenzhen markets soared. Millions of new retail investors signed up for stock trading accounts.

Many were then caught in a vicious sell-off. As the descent continued, Beijing feared that additional listings would drain further liquidity from the marketplace, pulling stocks lower.

The mega listing of the period – state oil giant PetroChina – was already under fire for its own contribution to the downward spiral.

The stock, which debuted in November 2007, doubled almost immediately to a market capitalisation of more than $1.1 trillion. That made it the world’s most valuable company, with a worth in excess of Australia’s GDP. But over the following five months, the stock price fell by close to two-thirds.

So PetroChina got the blame for the market collapse?

Not specifically. It’s probably fairer to say the market itself ran out of steam, after reaching crazily speculative levels. Bear in mind that investors knowingly chased IPOs for their huge gains. According to Bloomberg data, even in 2008 the average first day trading gain for IPOs was a colossal 152%. Little wonder the buying was frenetic.

But run-ups of this magnitude annoy the regulators, who want to see a more orderly market. They also frustrate the companies undergoing listing, who question why they are priced at levels that clearly leave so much money on the table. And they unnerve the millions of retail investors who have bought into the windfall gains, often to find themselves soon sitting on substantial paper losses. So the CSRC called a halt in September last year.

If the ban is being lifted, what is different now?

The index is up 58% on its most recent lows and investor sentiment has improved again. The CSRC must feel that the mood is bullish enough to support a new tranche of IPOs, without a destabilising of the wider market.

Certainly, the stimulus package and an unprecedented growth in bank lending are contributing to a surge in liquidity – some of which is finding its way into the stockmarket. Even the house take in the high-roller rooms in the Macau casinos is said to be benefitting from stimulus trickle down.

But Beijing must think too that the stimulus has underpinned wider investor confidence in the economy, and the market rose slightly last Friday, on news of the Guilin Sanjin approvals.

Still, Beijing is being cautious and the smaller firms are likely to be given permission to proceed first. If things go to plan, the big boys may be up next. CSCEC, the construction firm that built the Water Cube and the Shanghai World Financial Centre (the mainland’s tallest skyscraper) wants to raise Rmb40 billion just by itself.

The CSRC has also announced new regulations that it hopes will take some of the steam out of the surges in the early days of post-IPO trading. Most prominent of these is a rule that will allow a single investor to have only one stock investment account. Previously those with more than Rmb5 million could have multiple accounts, and a greater chance of purchasing new shares in an IPO by putting in multiple orders. “The revision is expected to improve market fairness and protect small investors’ interests,” a CSRC spokesman said at a recent news conference.

But can we expect a more measured response to future listings?

Not everyone thinks so. The torch paper is lit, says the Financial Times, and the Wall Street Journal thinks that connoisseurs of stock market bubbles must be rubbing their hands with glee. Sections of the Chinese media also wonder if the new CSRC regulations will have any impact and suspect they will be circumvented.

WiC has talked before about the wider factors that promote the stop-go psychology common among Chinese investors (see WiC6 and 17). But the CSRC cannot shut off the markets to new IPO candidates indefinitely, as equity capital is needed to finance growth.

This is especially the case for smaller companies, which employ millions and contribute a disproportionate share of China’s economic development. The government wants to facilitate their growth too, and so has announced the creation of a Growth Enterprise Market board on the Shenzhen exchange. GEM slots will be available to companies not large enough for full Shanghai or Shenzhen listings – with an emphasis on technology-related firms, as well as those deemed to be innovative.

The FT says the listing rules for the new board should take effect on July 1, but expects trading may not actually begin until after the national holiday on October 1.

The challenge is that smaller boards of this type (like London’s AIM, critics claim) can be high-risk frontiers for investors. So the CSRC is insisting that GEM candidates meet a range of criteria in revenue and profit performance, management experience, and competitive positioning within their respective industries. Whether the new rules are enforced becomes a key question. If they can be, the GEM board might even become China’s high-tech Nasdaq-equivalent.

So for now, at least, all eyes are on Guilin Sanjin. The firm will be hoping for a listing as smooth as one of its lozenges. If all goes well, local investment bank CICC estimates that 32 companies will follow it to market, raising a combined Rmb72 billion.

Keeping Track: WiC 21 discussed how the Chinese IPO market is booming again. Further evidence this week: Sichuan

Expressway’s A-share listing in Shanghai closed up 202% on the first day of trading. It was also announced that 108 companies have applied to IPO on Shenzhen’s new ChiNEXT board, designed for start-ups with a tech or

innovation edge.(31 July 2009)

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