“Remarkable” reform to hit China's capital markets

Previously, the CSRC used an approval-based system for listings. This saw the regulator in charge of reviewing companies wanting to list with mixed results.

“Generally speaking, under the registration-based system, the approval agency will focus on the formal examination of the application documents instead of substantial judgment,” said Hu Yijin, a partner with Jun He in Shenzhen.

International standards

The move will bring China's capital markets in line with developed capital markets in western countries, where the registration system has been widely adopted for initial and follow-on public offerings of securities.

This also means that underwriters and intermediaries like accounting and law firms have to be up to standard as they will take on a share of issuing risks and be responsible for monitoring compliance matters.

“We do not have a mature system to evaluate the integrity of the applicant and the corresponding legal system cannot match the registration-based system at present which has impeded the application of the registration-based system in China,” said Hu.

Fu agrees stating that one of the reasons the CSRC has been reluctant to grant a registration-system in the past is because “the intermediaries including investment banks, accounting firms and law firms were not experienced and required guidance from the regulator”.

Accountants will need to take on more responsibilities in the IPO process by conducting audits and issuing audited financial reports.  Lawyers are similarly affected as they will have to draft and prepare the prospectus, conduct legal due diligence and provide legal opinion letters.

The freeze ends

As a result of the IPO freeze, many companies waiting to list have chosen to abandon their IPO and other sources for financing.  As of November 21, there are 761 companies waiting to list of which 670 are still being reviewed by the CSRC and have not received approval for an IPO.  

Chinese private companies have been affected the most by the moratorium as they have experienced great pressure to find alternative financing in order to survive.

It is expected that the moratorium will be over by the end of this year or early next year. When IPOs resume, companies could be listed in several batches with 20 to 30 going public at the same time in the first few months.  

“If dozens of companies are listed at the same time or within a relatively short time period, this could adversely impact the stock market,” said Fu.

However, the new registration system is not likely to be in place until 2015, so companies desperate to raise funds will have to go through the approval system.

“I think Beijing's blessing at the Third Plenum is a good sign for the new system, and there may be a test in a comparatively low or small market before it is adopted into all capital markets,” said Hu.

Tasks ahead

Practitioners agree that the PRC Securities Law (中华人民共和国证券法) and the listing rules for each market will have to be amended to accommodate the new system.

New regulations to guide the application of the new system and updates for punishments will be essential to ensure all the parties duly perform their responsibility respectively under the new system.

“The CSRC need to change its working manner, accept responsibility of the formal examination of the application documents and the CSRC also needs to educate the investors and guide the intermediary agencies in appropriate manner,” said Hu. 

Reforms also need to be made to the existing legal and judicial system. “In particular, the civil compensation system needs to adopt protection mechanisms like class action litigation to ensure the protection of small and medium investors in capital markets,” Fu said.

Investment banks, accounting firms and law firms engaging in IPO services will also have to understand their heightened responsibility.

By David Tring

Further reading:

What China's IPO crisis means for PE investors

Reforming China's capital markets