In November last year, the Singapore Exchange (SGX) and the China Securities Regulatory Commission (CSRC) announced the establishment of a direct listing framework (Framework) that will allow companies from China (which satisfy SGX's listing criteria) to list directly in Singapore.
Due to stringent regulatory restrictions in China, companies incorporated in mainland China traditionally had to take the ’red-chip’ approach in overseas listing by incorporating a non-Chinese holding vehicle and restructuring its assets under such an overseas entity.
Under the Framework, Chinese companies which have obtained licensing approval from the CSRC are able to seek listing on the SGX directly without having to undertake such restructuring. The Framework presents a golden opportunity for the SGX to level the playing field with Hong Kong and gain a competitive advantage over New York and London, all of which compete to bring sizeable Chinese companies to their own exchanges.
Rise and Fall of Chinese Listings on the SGX
Once actively pursued by the SGX in the late 1990s to boost our capital markets and to allow local investors the opportunity to tap China's economic growth, Chinese businesses listed on the SGX (commonly referred to as "S-Chips") had a good start and were often the darlings of investors on the SGX in the early 2000s.
In 2004, more than 40 China-originated businesses raised more than S$900 million through initial public offerings (IPOs) on the SGX and enjoyed an average price increase of 21% over their issue price by January 2005. Other than a few notable exceptions, most of these were privately-owned. The market had promising options and diverse opportunities for investors looking to partake in the Chinese growth story. For a while, S-Chips formed an indispensable part of the Singapore stock market.
By the end of the decade, however, it was a different picture. Investors' confidence in S-Chips took a beating after a series of events. These included the default on loans by steelmaker FerroChina just weeks after announcing that its quarterly earnings tripled in 2008; the spectacular accounting intrigues in Sino Techfibre (an office fire); and missing assets of China Sun Bio-Chem (stolen trucks). Many Chinese companies listed around the world today are still beleaguered by a widespread lack of confidence among foreign investors and regulators.
In Singapore, a significant number of S-Chips originally listed in the 2000s have been delisted, and the share prices of many which remain are languishing. In contrast to the optimism of the 1990s and the early 2000s, success stories are few and far between.
Lack of Regulation and Accountability of S-Chip Companies
The problem stems from a variety of sources. The ’red-chip’ approach to an overseas listing created a corporate structure where the listed entity is merely a shell incorporated often in a tax-free or low tax jurisdiction, while the revenue generating operations and businesses remain onshore in China.
Our experience with many suspended or affected S-Chips in Singapore has been that this structure gives the owners of S-Chip companies significant insulation from Singapore regulatory actions and accountability.
First, as the listed vehicle is typically just a shell, any attempt to impose sanctions or regulatory penalties on the listed vehicle is likely to affect the minority shareholders adversely while the majority shareholders/original owners remain free to continue ’business as usual’ in China (whether by transferring the businesses out or by simply moving on).
Second, the local authorities in China regularly take the view that no action can be taken against the responsible persons despite a breach of Singapore law on the basis that no offence has been committed under Chinese domestic laws.
The lack of accountability and regulatory reach are systemic flaws in corporate governance and regulatory oversight, and also hinder rescue and restructuring efforts. In fact, we would note that China Aviation Oil (CAO) has been the most significant rescue and restructuring of an S-Chip suspended due to regulatory or other issues. A key factor in CAO's case which contributed to the success was the fact that CAO was part of a large state-owned enterprise (SOE) in China. CAO's parent company voluntarily backed the restructuring plan, and was prepared to send its ex-CEO back to Singapore to face the music.
Unfortunately, the fate of investors of many other S-Chip companies in crisis has been quite different - key responsible persons in a number of cases have defaulted without having to suffer the consequences. The listed entities were either suspended and subsequently delisted or recycled through a reverse takeover. This often happens at an immense loss of value to the minority shareholders in Singapore, though in the event of a reverse takeover, the minority shareholders at least have the consolation of a chance of upside should the new business be a financial success.
A Few Rotten Apples and the Apple Barrel
The negative reputation of the S-Chip market as a whole is undeserved as many S-Chips have flourished in the Singapore market. Cosco Singapore, Avic International Maritime and Yangzijiang Shipbuilding are a few good examples.
Nonetheless, the approximately 140 Chinese companies listed on the SGX today battle against a negative perception perpetuated by the actions of a few. Investors' lack of confidence often directly translates into poor trading volumes and low single digit price-to-earnings ratios (P/E ratio).
The SGX is fast losing its appeal as a viable listing platform among many promising Chinese companies. This is underscored by the number of Chinese companies that were listed on the SGX last year - none. For the same year, 65 Chinese companies were listed in Hong Kong, and eight Chinese companies were listed in the US. As poor investor confidence and low valuations increasingly deter reputable and desirable Chinese companies from listing on the SGX, the profile of Chinese companies which are interested in a Singapore listing under such circumstances could become more marginal.
It is a vicious circle. Such companies expose investors to greater risks, and when things go awry, investor confidence takes a further beating. This downward spiral could negatively impact the S-Chip market further unless something is done. We think that the Framework, if properly implemented, may provide a solution.
Having left behind the rose-tinted glasses of the China growth story of the 1990s, investors on the SGX today are far warier. At the same time, they have also shown themselves to be sufficiently sophisticated to take a discerning bet on some Chinese companies. This is borne out by those Chinese companies which today enjoy healthy valuations on the SGX as well as a stable investor and analyst following.
If more strong and profitable Chinese companies list in Singapore, we may escape the shadows of the S-Chips' history. The Framework has the potential to bring very credible Chinese companies to the Singapore market.
The Framework is significant for at least four reasons. First, it sends a clear message that Singapore is an overseas market recognised and endorsed by the Chinese authorities. It signals CSRC's support of the choice of the Chinese enterprises, be it SOEs or privately-owned companies, to list on the SGX in pursuit of their respective development needs so long as they have fulfilled the SGX's listing criteria.
Second, the procedures for listing have been made much clearer and simpler with the Framework. The CSRC has also effectively removed the requirements widely known as "456 Requirements" early last year. To us, these actions of the regulatory authorities in China form part of a consistent and coherent message promoting listings on identified overseas stock exchanges.
Third, and critically for investors, the Framework creates dual compliance requirements. Applicants must comply with all relevant laws and regulations in China as well as legal requirements and regulatory standards in Singapore. It has historically been difficult to investigate fraud or governance failures that originate outside Singapore and little can be done by way of enforcement against parent offshore holding companies or executives that remain in China.
S-Chip companies were restructured to get around CSRC regulations; and therefore it has been challenging to secure Chinese authorities' support when attempting to take regulatory action against such offenders. The existence of a formal mechanism will provide a much-needed structure for any investigation. Furthermore, with the CSRC and the SGX having a role in vetting the listing applications under the Framework, the listing process will be rigorous and will improve the gate-keeping and selection.
Finally, the Framework opens an avenue for SOEs to list in Singapore. SOEs need multiple PRC approvals to transfer their assets to an offshore holding company. In our experience, exceedingly few SOEs are even willing to attempt this process. As the Framework allows Chinese companies to list directly as a Chinese firm, the only material local approval required now is the CSRC approval. This greatly simplifies the regulatory approval process for SOEs seeking a listing in Singapore under the Framework.
The confluence of these factors makes it an opportune time for both investors looking to invest in new promising companies and for Chinese companies seeking an SGX listing.
Putting the SGX Back on the Map
The Framework and the changes in Chinese government policy on foreign listings have resulted in some Chinese SOEs showing greater interest in seeking a listing in Singapore. SOEs are a significant part of the Chinese economy, and even more so since the last financial crisis. They have better-defined operational advantages over private Chinese companies and can assuage investors' wariness of Chinese companies.
We have found it challenging to attract SOEs to come to list in Singapore due to the various levels of approvals that are required for an overseas listing. Of the few that did obtain approval, Singapore had to face strong competition from Hong Kong. The Framework and the overall developments in the Chinese government's policy may prove the impetus in re-engaging the interests of suitable SOEs.
An increase in the number of quality Chinese companies listed here will help in readjusting investors’ perception of Chinese companies in Singapore. Consequently, a better P/E ratio and stronger investor interest in the stock market should just be a matter of time. Singapore could once again become an attractive platform to Chinese companies looking for a primary listing. In other words, we are looking to create a benign cycle - one driven by the confluence of higher investor confidence and valuations as well as better quality listings.
The SGX has sought to present itself as the "Asian Gateway" by connecting investors in search of Asian growth to corporate issuers in search of global capital. The Framework, if properly implemented, is a much needed channel and a feasible solution to connect global investors with quality Chinese companies venturing abroad - all through the well established, globally branded, ‘Singapore’ platform.