Regulation of private placements by issuers

The media recently reported that the China Securities Regulatory Commission (CSRC) had halted listed companies’ cross-industry private placements among the online finance, gaming, film and television, and virtual reality sectors. Reports said the CSRC had also suspended mergers and acquisitions (M&A), and refinancing in those industries. The authors will analyze the latest regulatory policies of the CSRC on private placements by listed companies, as well as future trends.

Chinese business news site Caixin reported the CSRC’s above-mentioned measures on 11 May. The report caused a disturbance in the above industries, but the CSRC denied the report a couple of days later. At a public ceremony in Chongqing, Zhao Lixin, the inspector and deputy director of the CSRC’s Department of Listed Company Supervision, said the commission would strictly punish false disclosures and other illegal activities.

We can conclude from recent statements of the CSRC that the regulator has not banned all cross-industry private placements. They will be examined on a case-by-case basis, and the audit speed will be strictly controlled for the purpose of strengthening supervision.

Companies in traditional industries might be suspected of being involved in stock-price manipulation when they enter the above-mentioned four industries by means of refinancing and M&A, and they may also face great operational risks. It is therefore difficult in principle to get approval from the regulator unless there is sufficient evidence that shows the M&A targets have good earnings forecasts.

Private placements, including M&A and refinancing within the four industries mentioned, will not be limited by the CSRC where there are real business needs for expanding the scale and enhancing the competitiveness of the company through acquisition and restructuring.

CURB OVERHEATING

Private placement is a widely used financing method by listed companies. Private placements of A-share listed companies have maintained high momentum this year.

Data show that as of 31 May, more than 200 listed companies have implemented private placements with an offering size of more than RMB500 billion (US$76 billion).

There are nearly 500 listed companies that have released private placement plans of which the offering size will exceed RMB1.5 trillion if fully implemented. A steady uptick in private placements may worsen the stock-market bubble that already exists, so it is crucial to curb overheating of this type of financing.

The CSRC has always been cautious on cross-industry private placements by listed companies, and it’s not the first time it has implemented stringent auditing criteria.

On the one hand, tighter regulation will help prevent listed companies from stock price manipulation by means of M&As, business transformation and upgrading, and other themes; and on the other hand, it will make listed companies focus on operation of their core business to make it stronger and improve their competitiveness. Due to earnings volatility and a lack of reasonable valuation standards within these four industries, cross-industry M&A in these sectors poses a greater business risk.

M&A and refinancing in these sectors should be rationally viewed. In recent years, M&A, especially investment in gaming, film and television, created a huge bubble that attracted the attention of the regulator. If the bubble expands, it threatens the healthy development of the capital market. Under current economic downward pressures, it’s necessary for regulators to fight against capital speculation and guide funds “away from virtual and into reality”, so serving the recovery and development of the real economy.

FUTURE REGULATORY TRENDS

The authors believe that under strict supervision of the regulatory authorities, we will see the following trends with regard to regulation of private placements of listed companies. First, profitability of M&A targets will become an important audit criteria and it will be difficult to get approval from authorities with only a theme, concept or story.

Second, compared with three-year private placements products, one-year private placements are more likely. Therefore, the regulator may gradually tighten the review of one-year private placement products.

Finally, it’s possible that in the implementation process, strict supervision of private placements may extend from the four industries discussed to all sectors. Therefore, listed companies must take actual business needs into account and be rational in implementing private placements, and do not follow trends blindly.

KEEP THE BALANCE

After 20 years of exploration and development, China’s regulation of capital markets is moving in a market-oriented direction. However, it’s still necessary for the regulator to implement administrative interventions on unreasonable phenomena due to China’s special regime and its development process for capital markets, for the purpose of their sustained and healthy market development.

The CSRC strengthens the supervision of the implementation of private placements by listed companies under the current economic situation with downward pressure, improving the efficiency of capital allocation, and guiding capital markets to better serve the real economy.

However, regulation on private placements should not go too far, and should avoid blocking the path of normal business transformation and upgrading of listed companies. Regulatory authorities must pay attention to the balance between them.

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Jiang Fengtao is the managing partner and Liu Bin is a partner with Hengdu Law Offices