Guiding Opinion on Further Reforming and Modifying the Offering Mechanism for New Shares

Nine months after suspending all Initial Public Offerings on the Shanghai and Shenzhen stock exchanges, the China Securities Regulatory Commission (CSRC) lifted its moratorium with the issuance of new rules designed to improve pricing mechanisms, reduce speculation and make IPO stocks more available to non-institutional investors. The CSRC had suspended IPOs in September 2008, after stock prices plunged. The CSRC drafted the Guiding Opinion on Further Reforming and Modifying the Offering Mechanism for New Shares (New Guiding Opinion) partly in response to criticism that large institutional investors were excessively dominating China's IPO market, fueling speculation and driving up stock prices.

With public release of the New Guiding Opinion, IPO activity in China began almost immediately, as giants such as the China State Construction Engineering Corp. Ltd.—the nation's largest housing contractor—jumped at the opportunity to raise capital. By some estimates, more than 400 companies have submitted applications for an IPO to the CSRC.

Since the first issuance of stock in mainland China occurred just 25 years ago, the country's market system is still under construction, and its IPO mechanisms are likewise evolving. With the gradual improvement of market structures and gradual maturity of investors, the New Guiding Opinion introduces a shift in IPO pricing mechanisms from government window guidance to market-driven pricing, and meanwhile emphasizes the importance of protecting the rights and interests of individual investors.

Reforms Introduced by the New Guiding Opinion

The New Guiding Opinion provides for four reform measures:

• Improvement of Stock Price Quotation Mechanism and Market-Driven Pricing. The opinion calls for the initial offering price to be provided in good faith and to reflect real market demand. The issuer and lead underwriter should reasonably set the minimum subscription volume based on the issuance size and market conditions.
• Optimization of Online Subscription System. Investors may use either the online or offline system to subscribe to a single stock, but not both. This change is intended to limit the amount of IPO stock purchased by institutional investors, in theory reducing speculation and increasing access of individual buyers.
• Imposition of Online Subscription Cap. Each investor may only use one qualified account for the purchase of new shares, and each online account may subscribe for no more than 0.1 percent of all new shares issued online. This change, too, is designed to reduce speculation and increase public access.
• Stronger Risk Alerts. The New Guiding Opinion calls for the issuer and lead underwriter to publicize special announcements for investments in new shares, and to fully state IPO market risks. Securities firms should also take appropriate measures to remind investors of the risks of subscribing to new shares.

The New Guiding Opinion also provides that the CSRC may, from time to time, make adjustments to new share issuance policies and increase the number of tradable shares on the market, again reflecting the regulator's intent to discourage speculation.

Conclusion

Since the restart of IPO activity in China in mid-June, a number of companies have completed listings. Despite the changes wrought by the New Guiding Opinion, however, the new IPO mechanisms have not met regulators' expectations, and over-speculation by certain institutional investors has continued, resulting in market unsteadiness. While China, with its relatively short experience with stock markets, has consciously borrowed from developed countries while also trying to take into account the country's particular situation, it still has a long way to go in order to build truly effective, transparent and healthy IPO and listing markets.