Lin Min

linmin67@hotmail.com

WITH three companies becoming the first to receive the go-ahead for listing on the Science and Technology Innovation Board, the Chinese stock markets are poised to welcome new players into a venue designed to be the Chinese equivalent of NASDAQ.

The new venue is apparently a boon for the country’s emerging technology companies hungry for funds. However, given the lackluster performance among a flood of new listed companies over the past three years, investors should remain cool-headed.

According to media reports, among the 745 nonfinancial companies that debuted on the stock markets between 2016 and 2018, 236 saw negative profit growth over the past three years, while nearly 90 have degraded into shell companies that no longer have viable major operations, according to the Finance and Investment newspaper.

A total of 108 companies that went public on Shenzhen Stock Exchange’s ChiNext board from 2016 to 2018 reported loses in 2018, accounting for 41 percent of the total number of firms newly listed on the board in the period, according to media reports. The percentage of firms that have debuted on the SME board in the past three years and reported loses in 2018 reached a stunning 44 percent.

Much of the new blood that was promised for the markets when “normalization of IPOs” was advocated to make the stock markets healthy turned out to be bad blood. Company owners and executives have become billionaires overnight as they unload their stocks, yet investors have suffered huge losses in a prolonged bear market.

The ChiNext index began the year 2016 at 2,706, but closed at 1,411 Thursday afternoon. The SME board index was 8,385 on the first trading day in 2016, but settled at 5,426 at the end of the last trading day last week.

Compared to other markets around the world, the rate of IPOs (initial public offerings) on China’s stock markets has been stunning.

By the end of 2013, stocks of 2,457 companies were traded on the two stock exchanges in China. The number surged to over 3,600 by the end of the first quarter of 2019, rising over 46 percent in just over five years.

When the U.S. stock markets celebrated its 100th anniversary, only 800 listed companies were traded. According to JPMorgan Asset Management, the number of publicly listed companies in the U.S. peaked at 8,025 in 1996 but shrank 46 percent by August 2016. By March 2019, the U.S. stock markets had seen a 10-year bull run, meaning investors enjoyed handsome gains while a large number of companies were delisted for various reasons.

The stringent U.S. regulations targeting listed companies and investment banks and the higher cost of filing for IPOs and maintaining compliance have been cited as major reasons that discourage small and medium companies from going public. Executives know they could end up being locked up for irregularities if their companies are listed.

The Enron Scandal saw several executives receive lengthy jail terms for financial fraud, after the company declared bankruptcy in 2001. Another high-profile accounting scandal also led to company executives being jailed. WorldCom filed for bankruptcy in 2002, after its auditor, Arthur Andersen, was convicted of obstruction of justice for shredding documents related to its audit of Enron. In the WorldCom scandal, CEO Bernard Ebbers was sentenced to 25 years in prison for the US$11 billion fraud.

In the wake of the Enron Scandal, U.S. lawmakers acted swiftly, putting several new protective measures in place, including the Sarbanes-Oxley Act of 2002, which serves to enhance corporate transparency and criminalize financial manipulation.

Chinese regulators and investment banks have over the years tried to draw lessons from the U.S. stock markets, with many urging for the adoption of a registration-based IPO system like the one in the U.S. However, investor protection has lagged behind even as the markets saw rapid expansion. China’s Securities Law caps the punishments for accounting fraud at a fine of 600,000 yuan and a lifetime ban on market entry. Compared with millions even billions of yuan in illegal profits for those who cook the books, these purported punishments instead work as an encouragement for fraud. China has its equivalents of Enron and WorldCom, yet few have received their fair share of punishments even after their shams were unraveled.

Under the current regulatory and legal environments, for company owners and investment banks, the stock markets are huge ATMs specially built for them, but for millions of investors, the stock markets may well be shredders of wealth.

Such imbalances have caught the attention of regulators. Yi Huiman, chairman of the China Securities Regulatory Commission, said in early May that regulators will push for the revision of securities laws and companies laws, and make perpetrators “pay for the price” they deserve.

While we seem to waste no time in launching new IPOs, the criminalization of financial fraud and protection of investors should be high on the agenda, if we are to make the stock markets function properly.

(The author is head of the Shenzhen Daily News Desk.)