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Concerns over international board

2011-05-09 09:55

Analysts fear B-share market may be rendered redundant by bourse

SHANGHAI - Shanghai's long-awaited international trading board has come under intense scrutiny after a flurry of recent media reports that China's regulator has selected 10 foreign and overseas companies to offer yuan-denominated shares for sale to domestic investors.

While the new development has thrilled many investors at a time when the Chinese bourses are in the doldrums, analysts have remained skeptical. They pointed to potential problems in share price evaluation, unpredictable capital flow and supervisory issues. What's more, the international board, as proposed, could render the B-share market redundant.

B Shares - foreign-invested shares issued domestically by Chinese companies and subscribed and traded in foreign currencies - have been mired in low volume trading for years.

"If handled improperly, the board could prove a drag rather than a boon to Shanghai's financial market," said Wang Jianhui, chief economist with Southwest Securities.

Preparations for the board, which Shanghai sees as an essential component in its ambition to become an international financial center by 2020, have been taking place over the past two years. Shanghai's Deputy Mayor, Tu Guangshao, who is responsible for finance, said in February that the board could be launched this year.

On April 22, the 21st Century Business Herald reported that regulators will allow a first batch of 10 foreign and overseas-listed Chinese companies to list on the board, citing a draft plan.

According to the proposed rules, a company seeking a listing on the board must have a market capitalization of more than 30 billion yuan ($5.5 billion) and a combined three-year net income of more than 3 billion yuan. In addition, the proceeds of the initial public offering can only be used abroad.

So far, many foreign companies, including HSBC Holdings Plc, Standard Chartered Plc and Bank of East Asia Co, have shown an interest in filing for a listing on the board.

"I don't think the timing is right if the introduction of the international board can't address, or might even worsen, the long-standing problems in the B-share market." said Wang.

"The international board actually threatens to further marginalize the B-share market, which is already plagued by low-trading."

Launched in 1991, the dollar-traded B-share market is designed as a channel for foreign investors to invest in China's stock market. But as the country's foreign investment channel widened and foreign reserves increased, trading in the first and secondary market went sluggish.

The market, which opened to domestic investors in 2001, had its latest IPO back in 2000. The B-share index plunged about 8 percent on April 27 and 28 on concerns that the planned international board may be launched sooner than expected.

"A preferable way to deal with the B-share market is to tweak the market a little bit and merge it into the international board, but according to the current timetable the move is unlikely," Wang said.

"The B-share market will become a bigger headache with the advent of the international board."

Sun Lijian, vice-dean of the school of economics at Fudan University, focused on the stability of the nation's financial market.

"Launching the international board has a similar effect as further opening up the capital account, which will expose the country to more international capital flow and greater risk," he said.

"Making the yuan more convertible under the capital account has its benefits but it will also incur more speculative activity and financial instability."

Sun suggested that regulations and supervision should keep pace to track how foreign companies use their funds through the international board and efforts should be made to guard against speculative activity.

Sun said Chinese regulators lack experience in supervising big international companies.

"They can learn from the regulatory frameworks from other major exchanges, but the problem is whether they can ensure sound enforcement. What I am worried about is the regulators allowing double standards in favor of foreign companies to attract them to list on the board," said Sun.

"Another issue is once disputes occur, which law should be enforced? Chinese law or the law in the company's home country?"

Lu Zhengwei, chief economist with Industrial Bank, said the launch of the international board could also bring more outside pressure on China to revalue its currency.

"The appreciation of the yuan will help people change the yuan they are holding into foreign currencies, so they will definitely want the renminbi to appreciate," he said.

Another issue that has attracted more attention from investors is pricing, said Wang.

"Big foreign companies generally have a lower price-earnings ratio than domestic companies listed on the A-share market," he said.

"If the shares' valuation is too low it will cause instability in the A-share market by draining capital from it. If the valuation is too high, investors are threatened with losing money. Measures have to be taken by regulators to give foreign companies' shares a reasonable valuation."

Despite these potential problems, it is necessary for Shanghai to allow foreign companies to get listed if the city wants to become an international financial center, analysts said.

"It's a step Shanghai and China must take in their process of financial internationalization. There is no other financial center where foreign companies cannot raise capital from the stock market," said Wang.

Meanwhile, many foreign companies in China have a lack of funding channels. Letting them directly raise capital can help them speed up their development in China, a market that is growing fast, he added.

"It's not about whether to launch the board or not. It's about how and when to launch it," said Fudan University's Sun.

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