Investors likely to cheer clarity on VIE companies as China unveils requirements on offshore IPOs

  • China’s CSRC publishes a draft stating that companies can list overseas as variable interest entities as long as they abide by compliance rules; rule not retroactive
  • Stock investors are likely to cheer the clarification, removing a regulatory overhang on tech stocks and end months of speculation

Investors are likely to cheer a new rule proposed by China’s market watchdog on stock offerings by local companies in offshore markets, potentially removing a major regulatory overhang hobbling the nation’s biggest tech stocks.

The China Securities Regulatory Commission (CSRC) said it will allow companies to sell shares overseas as long as they register their plans with regulators, according to a draft released on December 24. It also allows mainland-incorporated firms to directly list overseas without the need for a so-called variable-interest entity (VIE) structure if they meet compliance requirements.

The draft, published online to solicit public opinion through January 23, could douse months of speculation that authorities would ban VIE-type of listings. The VIE controversy has abetted a sell-off that erased more than US$1 trillion of value in Chinese stocks amid scrutiny by US regulators.

“The draft rule ends months of speculation about China’s stance on VIEs, and it turns out to be friendly to those cash-starved tech companies and foreign funds,” said Cao Hua, a partner at private-equity firm Unity Asset Management. “At least companies that previously looked to list shares abroad via the VIE structure can stick to their fundraising plans and focus on business growth.”

A view of the China Securities Regulatory Commission (CSRC) office building located at Beijing’s Financial Street in downtown Beijing, China


The move could also inject some confidence in Hong Kong’s stock market, the world’s worst performer this year, and the bourse operator Hong Kong Exchanges and Clearing, a key IPO venue after New York. The local market is shut for a public holiday on Monday and will resume trading on Tuesday.

A VIE structure allows founders and investment funds to set up offshore vehicles that can sign contracts with Chinese companies, giving the latter effective control of the entity. Investors only enjoy the economic benefits of the arrangement, and do not own the onshore operating companies.

Some 545 mainland companies, mostly tech start-ups, have raised funds offshore through such a mechanism as of end-September, according to Guotai Junan Securities. Recent accounting fraud at Luckin Coffee and troubles faced by ride-hailing giant Didi Global have put the structure in focus as the stock tanked.

A trader works during the IPO for Chinese ride-hailing company Didi Global Inc on the New York Stock Exchange floor in New York


The market regulator said it would only assess the truthfulness, accuracy and completeness of submitted documents before giving applicants a green light for offshore listings. It dispelled an erroneous December 1 report from Bloomberg that China was going to ban IPOs on overseas exchanges through VIEs to address data security concerns.

The CSRC said that the rule is not retroactive, meaning that the companies that are listed overseas through VIEs will be exempt.

The CSRC may be levelling the playing field between the US and Hong Kong by barring non-compliant companies from listing overseas, according to law firm Morrison & Foerster. Some of them “may no longer be able to list anywhere,” said Marcia Ellis, a partner and global chair of the firm’s private equity group in Hong Kong.

Beijing has tightened the grip on overseas listings after Didi launched its US$4.4 billion IPO in late June despite warnings from regulators. That led to a data security investigation led by the powerful Cyberspace Administration of China, which prompted the ride-hailing group to withdraw the US listing and seek a listing in Hong Kong.

Under new rules drafted by the CAC in July, Chinese companies handling the data of more than 1 million users must seek approval before listing overseas. Such reviews were later clarified to also apply to Hong Kong listings.

The new rules “do not demand companies that seek offshore listing get regulatory approval, instead they need only file relevant documents with the CSRC for records. So it is essentially paving the way for overseas listings,” said Luo Zhiyu, a partner at DeHeng Law Offices who specialises in cross-border IPOs, mergers and acquisitions.

“But for the companies that need data security reviews or other pre-approval reviews before they can file the relevant documents, the details of such review are vague and there aren’t many precedents as it is a rather new type of regulation. This can add to uncertainty for filing with CSRC,” Luo said.

Didi’s case sparked concern about the fate of the VIE structure, which was first used by a Chinese enterprise in 2000, when Weibo owner Sina Corp listed on the Nasdaq. CSRC officials held discussions with the Securities and Futures Commission in Hong Kong, as well as investment bankers, accountants and lawyers over the past few months on the VIE structure, the South China Morning Post reported earlier this month.

Under the new rule, Beijing will strengthen oversight of companies’ operations, including the handling of data, before allowing them to list overseas.

“The filing system essentially creates a new policy tool to manage the overseas listings in terms of both quantity and quality, and the practical impact will largely depend on how CSRC will administer and adjust the implementation,” said Chen Weiheng, partner and head of China practice at US law firm Wilson Sonsini.

The lawyer added that the new rule also sheds light on a mechanism allowing for cross-border cooperation between the CSRC and overseas counterparts such as the US Securities and Exchange Commission.

Under this mechanism, the CSRC may inform an overseas regulatory counterpart of a company’s violations of China’s overseas listing rules. The overseas regulator may also request the CSRC’s assistance in regulatory investigations in connection with a Chinese company’s overseas share offering.

International underwriters of a Chinese firm’s offshore listing will also be required to register with the CSRC, according to the new regulation.

Authors: Zhang Shidong, Daniel Ren, Coco Feng, SCMP

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