A new era of competition between China and the United States has manifested itself in areas from trade to technology. As tensions between Washington and Beijing rise, calls for a bilateral decoupling continue to gain traction. Since June 2020, the rivalry has extended to a new arena – US and Chinese equity markets.
The recent accounting scandal affiliated with China’s Luckin Coffee has intensified Washington’s scrutiny of US-listed Chinese companies. In late May 2020, the US Senate passed legislation requiring foreign companies listed on the NYSE and Nasdaq to open up their books to American regulators with the aim of “kicking deceitful Chinese companies off US stock exchanges,” according to the bill’s bipartisan co-sponsors, Senators John Kennedy and Chris Van Hollen.
Companies are seeing the writing on the wall. Two Chinese giants, NetEase (NTES) and JD.com (JD), have already begun migrating markets. After filing for a secondary listing on the Stock Exchange of Hong Kong (HKEX) in May 2020, NetEase began its first day of trading on the HKEX on June 11, 2020. JD.com launched its HKEX listing a week later. As Washington’s scrutiny gains momentum, many other Chinese public companies have identified Hong Kong as the leading alternative to US markets. HKEX’s accessibility and recent reforms make it a natural destination for companies fleeing US oversight.
History of Chinese Listings on US Stock Exchanges
Since 1991, over 270 Chinese companies have listed on US stock exchanges. Early listings like SINOPEC Shanghai (SHI) in 1993 and China Eastern Airlines (CEA) in 1997 demonstrated the viability of cross-Pacific financial exchange. For Chinese companies seeking international standing and deeper liquidity, US markets presented an unrivaled opportunity. Alibaba’s historic 2014 IPO on the NYSE is a prime example. The Hangzhou-based company’s US$21.8 billion listing was the largest US IPO in history, totaling more than Google, Twitter, and Facebook combined.
Top IPOS in NYSE History
New York IPOs from Chinese companies soon became the new norm. Of the approximate 200 US-listed foreign companies, over 156 are Chinese with a total market capitalization of over US$1.8 trillion. In 2018, the number of Chinese IPOs hit an eight-year high with over 33 NYSE and Nasdaq listings. Initially, Alibaba’s record-breaking IPO set a preference for NYSE listings; however, the predilection gradually faded as the Nasdaq relaxed its regulatory filing requirements – lowering the threshold for going public while still offering the benefits associated with a US listing.
Top Chinese Company IPOs in the US, 2018
Ever since, the Nasdaq has attracted the majority of Chinese company IPOs, reaching 155 since 2000. However, it appears that Nasdaq’s warm welcome is over. In 2019, Nasdaq began blocking smaller Chinese aspirants from listing on its exchange, requiring companies to raise over US$25 million or a minimum of 25% of their post-listing market capitalization before becoming eligible to list in an IPO.
The Factors Driving US Scrutiny
US regulators’ skepticism towards Chinese financial practices has deep roots. Led by Senator Marco Rubio, Washington lawmakers issued a similar complaint in late 2019 over the Thrift Savings Plan (TSP), a federal pension fund which held investments in Chinese companies. Sen. Rubio repeatedly emphasized the need for the US public portfolios to divest from companies close to the Chinese Communist Party (CCP). According to Rubio, “The retirement funds of federal government employees…should not be invested in companies controlled by the government of China.” This legislative push was rewarded in early 2020 as President Trump ordered the TSP to exit all its existing positions in Chinese equities.
Sen. Rubio’s scrutiny of CCP-involved firms is based on wider concerns that the CCP may be able to acquire access to sensitive information and potentially increase its influence through US-listed Chinese companies that it has close ties to. In early 2019, Beijing Kunlun Tech Co. Ltd, a publicly listed Chinese company, was forced to relinquish control of the dating app, Grindr, amidst concerns that the CCP could use the app’s user data to influence and blackmail American officials. Similar concerns currently haunt Huawei, the Chinese telecom giant. According to White House officials, Huawei’s access to sensitive user data and close relationship with Beijing render the company a threat to US national security.
Progression of US-China Financial Practices Tension
Among the recent flares in US-China tensions, Washington’s skepticism towards China is resurfacing with bipartisan support. On May 20, 2020, the Senate passed the “Holding Foreign Companies Accountable Act,” subjecting foreign companies listed on US exchanges to the same standards of financial oversight as US-based companies. While the legislation is theoretically secular in nature, the bill contains multiple references to the CCP, requiring that foreign firms must disclose any CCP board members or any references to the CCP or associated parties contained within the articles of incorporation. The prevailing “Tough on China” stance in Washington has allowed the bill to advance with ease. As Raymond James analyst, Ed Mills, states in a recent letter to clients, “We believe it is only a matter of time before this bill (or something similar) is signed into law.”
A major catalyst for Washington’s bipartisan criticism of Chinese companies came in early April with the scandal surrounding “the Starbucks of China,” Luckin’ Coffee. After its founding in 2017, Luckin’ quickly grew into an international phenomenon and raised US$571 million for its Nasdaq listing in 2019. Its success, however, was short-lived. Luckin’s Chief Operating Officer was outed for fabricating over US$310 million in sales between Q2 and Q4 of 2019. Luckin’s shares dropped over 75%, triggering alarms for investors. Washington quickly pointed to the coffee hub’s scandal as an indication of a larger problem with Chinese companies. As outlined by Gary Dvorchak, the managing director of financial advisory group Blueshirt, “Luckin’ poisoned the well.”
Hong Kong, not Shanghai or Shenzhen, as Top Alternative
Chinese companies are being proactive given the latest advances in US-China tensions. Anticipation of the Holding Foreign Companies Accountable Act passing in the US House of Representatives sent early shockwaves throughout Beijing’s boardrooms, compelling many companies to explore contingencies to US market listings. Among the most immediate contenders were China’s two largest exchanges: the Shanghai Stock Exchange (SSE) and the Shenzhen Stock Exchange (SZSE). While Beijing’s 2019 push to incentivize public listings through eased regulations made both exchanges more attractive, many prominent companies favor a more global option. With a strong international investor base, robust financial infrastructure, and deep liquidity pools, the Stock Exchange of Hong Kong (HKEX) has become the primary choice for Chinese companies looking to transition away from US exchanges.
Shanghai Stock Exchange (SSE)
The SSE offers the benefit of familiarity for many US-listed Chinese companies. Shanghai remains China’s financial capital, providing Mainland companies direct access to China’s financial system. In July 2019, Beijing announced the SSE’s Science and Technology Innovation Board—known as the “STAR Market”—would establish a designated listing platform for less mature firms that boast high growth potential. Modeled after the Nasdaq, the initiative has thus far been unsuccessful in attracting prominent US-listed Chinese companies.
Part of the STAR Market’s lagging adoption stems from its failure to alleviate concerns about underdeveloped market regulations and strict restrictions on cross-border capital flow. As analyzed by Julian Evans-Pritchard, China Economist at Capital Economics, “investors want exposure to China, but they don’t necessarily want to deal with the legal uncertainties that would be involved in investing from within China itself.” As a result, many companies that are specifically seeking international exposure may find the SSE unsuitable for their needs.
Shenzhen Stock Exchange (SZSE)
In addition to the STAR Market, Beijing’s latest developments within the SZSE showcases China’s efforts to offer a Mainland alternative to the HKEX. Founded in 1990, the SZSE boasted an overall market capitalization of US$3.36 trillion in Q2 2019, making it the world’s eighth-largest exchange at the time. In April 2020, Beijing initiated a Nasdaq-style listing process to the SZSE’s “ChiNext” start-up board, allowing companies which have yet to turn a profit the ability to list on the board. Regardless, the SZSE still has similar deficiencies as the SSE, and as such, has so far failed to attract many significant listings.
Stock Exchange of Hong Kong (HKEX)
Located just over 17 miles across the border from Shenzhen, the HKEX has become the top choice for US-listed Chinese companies looking to undergo an international secondary listing. The exchange’s recent push to expand its dual-class shares structure marks a clear advantage over its mainland counterparts, as dual-class shares permit companies to create two designations of stock with respective voting rights while often allowing founders to retain control of their company. While controversial, this reform has already begun to pay off. Xiaomi, the world’s fourth largest smartphone producer, and Meituan Dianping, China’s food delivery giant, both listed on the HKEX in 2018. Raising a combined US$8.92 billion, these IPOs represent a stark break from the allure of deep US market liquidity. As US-listed Chinese companies continue their exodus out of US markets, the HKEX’s reformed infrastructure will likely offer a tempting alternative.
So far, Hong Kong does not share Washington’s skepticism over Chinese companies’ financial practices. Regardless, the HKEX has seen higher-than-normal volatility within its markets since mid-2019. Worries related to Hong Kong’s continued autonomy and status as a special economic region have introduced systemic risks that have rocked the financial capital. In late May following Beijing’s vote to pass a highly controversial National Security law that would undermine Hong Kong’s autonomy, the Trump administration issued a strong statement saying it would “take action to revoke Hong Kong’s preferential treatment.” Following Trump’s announcement, Secretary of the Treasury Steve Mnuchin said he would begin working on measures that would potentially restrict capital flow to the city. Liu He, the top economic aide to Xi Jinping, responded that Beijing “will adhere to the policy of ‘one country, two systems’, and give support to Hong Kong as it plays the role of an international financial centre.” Despite the recent unrest, Hong Kong’s recent high-profile IPOs and deep access to capital continue to elevate the HKEX beyond its Mainland counterparts.
Higher-than-normal Hang Seng Volatility Amid Worries Over HK Autonomy
Fallout Forecast: What Top Companies are Doing
Earlier this month, China’s second-largest gaming company, NetEase, underwent a dramatic step to disassociate itself from US oversight. The company, which first listed on the Nasdaq in January 2000, recently completed its US$2.72 billion secondary IPO on the HKEX and began trading on June 11, 2020 at around HK$130 per share. According to CEO William Ding, “By returning to a market in which we share a closer mutual understanding, we can further foster the collaboration of people…to bring greater value to our users.” Ding’s sentiment underlines a growing theme amongst Nasdaq-listed Chinese tech companies facing Washington’s latest “tough on China” stance.
JD.com announced plans to IPO on the HKEX shortly after NetEase. On June 11, 2020, the e-commerce giant signaled its confidence by raising approximately US$3.9 million for its HKEX secondary IPO. JD.com’s IPO is the second-largest global listing of the year, after Beijing-Shanghai Railway’s US$4.3 billion IPO in January. On June 18, 2020, JD.com closed its first day of trading at around HK$234 (US$30.19) per share. In an interview shortly following, CEO of Hong Kong Exchanges and Clearing, Charlies Li, reflected on the recent trend of secondary listings, stating “Netease just finished last week, and we have JD.com…[these IPOs] are returning home.”
While companies like NetEase and JD.com are already trading in Hong Kong, many other US-listed Chinese firms are torn. Baidu, China’s domestic equivalent to Google, is still weighing its options. In late May 2019, Reuters reported that Baidu was considering delisting from the Nasdaq and moving closer to home. While Baidu refused to comment on the rumors, CEO Robin Li expressed a similar tone in a discussion with China Daily, “the US government is constantly tightening its control of Chinese companies listed in the US. Internally, we are constantly discussing what we can do in response, including a secondary listing in Hong Kong or other places.”
Tensions between Chinese companies and Washington are likely to persist as a symptom of larger US-China disputes. Passing at “warp speed” through the Senate, the Holding Foreign Companies Accountable Act leaves little room for negotiation for US-listed Chinese companies. If the current trend of bipartisan scrutiny continues, financial decoupling will be the last road standing.
Alternative markets for US-listed Chinese companies have already begun to surface. Faced with the reality of increasingly hostile US oversight, many are actively weighing the costs and benefits of a move to Hong Kong. The HKEX’s recently-reformed dual-listing structure and regional familiarity makes it an ideal market for secondary IPOs. In the coming months, Chinese firms, especially those listed on the Nasdaq, will have to decide if a US market listing still makes sense – NetEase and JD.com have already provided their answers.