What Happened With All Those Chinese IPOs?
It’s been a long time coming…Back in November 2020, the U.S. Securities and Exchange Commission (“SEC”) issued guidance regarding disclosure considerations for publicly traded companies based in or with the majority of their operations in China (“China-based Issuers”). The SEC’s article noted that over the past decade, U.S. investors have increased their exposure to China-based Issuers. And, while China-based Issuers are generally held to the same disclosure obligations and legal responsibilities as other non-U.S. issuers, the SEC may be materially limited in enforcing those standards for China-based Issuers, rendering such disclosures incomplete or misleading. Further, investors generally have substantially less access to recourse to hold China-based Issuers accountable.
In December 2020, President Trump signed the Holding Foreign Companies Accountable Act into law, requiring publicly listed companies on U.S. stock exchanges to declare that they are owned or controlled by a foreign government. Such companies will be banned from trading or delisted if the Public Company Accounting Oversight Board is unable to audit specified reports for three consecutive years. This Act coincided with the financial scandal involving Luckin Coffee, which saw its stock plunge approximately 80% after the company fired its CEO and COO in May 2020 for accounting fraud concerning the intentional fabrication of $310 million in sales in 2019. Luckin Coffee was ultimately delisted from the Nasdaq stock exchange.
More recently, SEC Chairman Gary Gensler has asked for specific disclosures from Chinese firms before signing off on regulatory filings that precede an initial public offering and additional reviews of filings for China-based Issuers. These disclosure requirements are designed to address concerns over Variable Interest Entities (“VIEs”) – a form of a shell company that allows Chinese companies to raise capital abroad despite government restrictions on foreign ownership and listing on overseas exchanges. VIEs allow U.S. investors to gain access to Chinese companies through contracts with the operating company rather than a direct equity stake. “[T]he SEC will require the registration statements to clearly distinguish the shell company and the China-based operating company, and to provide detailed information about the relationship between the two entities.” These companies will also be required to disclose whether they have received permission from the Chinese authorities to list on the U.S. exchanges and the risk that that permission might be rescinded, as well as the possibility they could be delisted if U.S. auditors are not allowed to review their papers within three years.
China Imposes New IPO Rules for Chinese Corporations
Simultaneously, concerns about foreign regulators’ access to sensitive data controlled by Chinese companies have led China to implement new rules for IPOs, overhauling how Chinese companies can raise capital both at home and overseas. Under the guidance of President Xi Jinping, China has made the technology sector and its digital data a key area of regulation, noting national-security concerns. Some see these rules as a campaign to impose stricter control over the country’s technology firms and their extensive amounts of user data and near-monopolies in their fields.
One case in point is Didi Global Inc., the ride-hailing firm that had its IPO in June 2021, selling enough stock to give it a market capitalization of more than $67 billion. Before its IPO, China’s cybersecurity watchdog suggested it conduct a thorough self-examination of its network security prior to going public amid concerns that the U.S. government could use audit documents that Didi was required to file as a U.S.-listed company to gain access to data on Chinese citizens.
Didi ignored the request and went public anyway. Days after its IPO, the Cyberspace Administration of China put the firm under cybersecurity review, blocked the company’s app from accepting new users, and then ordered mobile app stores to pull it from circulation. These actions stem from China’s concern over the company’s expansive data falling into foreign hands due to greater public disclosure associated with a U.S. listing. The impact on Didi caused its stock to stumble and the company is now the subject of a securities fraud class action alleging it withheld information about the scrutiny imposed by the Cyberspace Administration of China at the time it proceeded with its IPO. The Cyberspace Administration has also launched data-security reviews of apps operated by Full Truck Alliance Co. and Kanzhun Ltd., which are also facing shareholder lawsuits for alleged fraudulent misstatements.
What Does the Future Hold?
Chinese companies have raised more than $100 billion from U.S. IPOs. Year to date, 37 Chinese companies have gone public in the U.S., surpassing the 36 deals for the whole of 2020, according to Dealogic. However, with increased scrutiny from both countries, it is unclear what the future holds. At least five Chinese companies have shelved or delayed their IPOs in response to the Didi debacle. Seventeen companies are still in the U.S. IPO pipeline. Only time will tell the impact both countries’ new regulations will have on Chinese IPOs.
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