The comprehensive implementation of the registration-based system of IPO regulation in China: practice, progress, problems and prospects

ABSTRACT

In June 2019, the Shanghai Stock Exchange Sci-tech Innovation Board was established with the deployment of the registration-based system as a pilot test, opening the chapter of China’s initial public offering regulatory reform. Implemented for nearly four years under gradualism, the registration-based system was expanded to the whole Chinese stock market in February 2023, further catching the spotlight on its functioning and effectiveness in accommodating issuers while safeguarding investors to promote market development. This article conducts a close examination of the registration-based system, exploring its functioning in practice, canvassing its progress and problems in accommodating issuers and looking into the landscape and prospects of investor protection. This article argues that although the registration-based system does not eliminate regulatory uncertainty, it improves regulatory efficiency to attract issuers while relying on the close engagement of public regulators in the transition era and supporting mechanisms in the long run to ensure investor protection.

KEYWORDS:

• Registration-based system
• merit-based system
• regulatory efficiency
• regulatory certainty
• investor protection

Acknowledgements

The authors gratefully appreciate the insightful comments from Professor Eilís Ferran, Professor Brian Cheffins and Professor Iain MacNeil on an earlier version of this article. The usual disclaimers apply.

Disclosure statement

No potential conflict of interest was reported by the author(s).

Notes

1 Robin Hui Huang, ‘The Regulation of Securities Offerings in China: Reconsidering the Merit Review Element in Light of the Global Financial Crisis’ (2011) 41 Hong Kong Law Journal 261, 261.

2 Securities Act of 1933 ss 7 and 10 (US).

3 Companies Ordinance (Cap 32) s 38 (HK).

4 Lin Lin, ‘Private Equity Limited Partnerships in China: A Critical Evaluation of Active Limited Partners’ (2013) 13 Journal of Corporate Law Studies 185, 192.

5 Michael Brennan and Julian Franks, ‘Underpricing, Ownership and Control in Initial Public Offerings of Equity Securities in the UK’ (1997) 45 Journal of Financial Economics 391, 408.

6 See, e.g. Samuel Shen and others, ‘China Expands IPO Reform to Help Companies Raise Capital’ (Reuters, 1 February 2023) <www.reuters.com/world/china/china-expand-registration-based-ipo-system-2023-02-01/>. Unless otherwise stated, all URLs in this article were last accessed on 11 April 2023.

7 At the end of 2017, the SSE was ranked the 4th in market capitalization, the 3rd in annually raised funds, and the 4th in annual trading volume; whilst for the SZSE, the corresponding rankings were the 8th, the 2nd, and the 3rd. Source: WFE Stock Market Ranking (2017).

8 For a discussion of the quota system, see Leyin Zhang, ‘The Roles of Corporatization and Stock Market Listing in Reforming China’s State Industry’ (2004) 32 World Development 2031.

9 Measures for the Administration of the Registration of Initial Public Offerings on the Sci-tech Innovation Board (for Trial Implementation) 2020 (科创板首次公开发行股票注册管理办法(试行) 2020).

10 Measures for the Administration of the Registration of Initial Public Offerings on the ChiNext Board (for Trial Implementation) 2020 (创业板首次公开发行股票注册管理办法(试行) 2020).

11 Measures for the Administration of the Registration of Initial Public Offerings on the Beijing Stock Exchange to Unspecific Qualified Investors (for Trial Implementation) 2021 (北京证券交易所向不特定合格投资者公开发行股票注册管理办法(试行) 2021).

12 Measures for the Administration of the Registration of Initial Public Offerings 2023 (首次公开发行股票注册管理办法2023) (Measures for Registration-based IPOs 2023).

13 Rafael La Porta and others, ‘Investor Protection and Corporate Valuation’ (2002) 57 The Journal of Finance 1147, 1147.

14 Huang (n 1) 274.

15 Marianne M Jennings, ‘The Efficacy of Merit Review of Common Stock Offerings: Do Regulators Know More than the Market?’ (1992) 7 BYU Journal of Public Law 211, 240–42.

16 Huang (n 1) 275.

17 John R Nofsinger, The Psychology of Investing (5th edn, Routledge, 2016) Ch 1 and Ch 5.

18 Huang (n 1) 274.

19 Ibid, 279.

20 Kathryn Cearns and Eilis Ferran, ‘Non-Enforcement Led Public Oversight of Financial and Corporate Governance Disclosures and of Auditors’ (2008) 8 Journal of Corporate Law Studies 191, 193.

21 Lin (n 4) 192.

22 Besides the two facets discussed in the text, for Chinese issuers, pre-IPO equity financing may have largely diluted corporate founders’ shareholding, and thus, founders may intend to use a dual-class share structure (DCSS) to maintain control. Moreover, to raise foreign capital, Chinese issuers may have used a variable interest entity (VIE) structure to ‘satisfy’ China’s regulation of foreign investment. The Chinese stock market regulatory and policy changes responding to the market needs for using the DCSS and/or VIE structure are beyond the scope of this article. For a discussion of introducing the DCSS in China, see Fa Chen, ‘Does the Dual-Class Share Structure Help Stock Markets Attract Issuers? Empirical Lessons from Global Financial Centres’ (2023) 43 Legal Studies 159. For a discussion of the Chinese VIE structure, see Fa Chen, ‘Variable Interest Entity Structures in China: Are Legal Uncertainties and Risks to Foreign Investors Part of China’s Regulatory Policy?’ (2021) 29 Asia Pacific Law Review 1.

23 See Shanghai Stock Exchange Statistics Annual 2021, 691 <www.sse.com.cn/aboutus/publication/yearly/documents/c/5641852.pdf>; Shenzhen Stock Exchange Fact Book 2020, 679 <http://docs.static.szse.cn/www/market/periodical/year/W020221226388078413293.pdf>.

24 The ministerial regulation issued by the CSRC in 2000, i.e. the Approval Procedure of the China Securities Regulatory Committee on Stock Issuance (中国证监会股票发行核准程序), stipulated detailed rules regarding the implementation of the merit-based system. Thus, although proposed in 1999, the merit-based system was not formally implemented until 2001.

25 Jiangyu Wang, ‘Regulation of Initial Public Offering of Shares in China’ (2009) 1 China Law 56, 60.

26 Measures for the Administration of Securities Issuance and Listing Sponsorship 2023 (证券发行上市保荐业务管理办法 2023) Ch 3 (stipulating sponsors’ duties).

27 Huang (n 1) 280.

28 John C Coffee, Gatekeepers: The Professions and Corporate Governance (Oxford University Press, 2006) 4.

29 Measures for the Administration of Initial Public Offering and Listing of Stocks 2022 (首次公开发行股票并上市管理办法 2022) (Measures for IPO 2022, expired in 2023) did not apply to issuers seeking to conduct stock offering and listing on the STAR/ChiNext Board under the registration-based system.

30 Ibid, Arts 8–9.

31 Ibid, Art 10.

32 Ibid, Art 12.

33 Ibid, Art 26.

34 Ibid, Art 10.

35 Ibid, Art 13.

36 Ibid, Art 16.

37 Ibid, Art 18.

38 Huang (n 1) 267.

39 Measures for IPO 2022 (n 29) Art 41.

40 426 US 438 (1976), 449 (stating ‘[a]n omitted fact is material if there is a substantial likelihood that a reasonable shareholder would consider it important in deciding how to vote’).

41 Measures for IPO 2022 (n 29) Arts 14 and 17.

42 Ibid, Arts 19–20.

43 Wang (n 25) 57.

44 Huang (n 1) 280–81.

45 Wang (n 25) 65.

46 See Sohu Finance, ‘How Long Does the IPO Queue Take at Present? Big Data Tells You … ’ (现在 IPO 排队多久能上市？大数据告诉你 …) <www.sohu.com/a/130843842_649910>.

47 Ibid.

48 See Didi’s F-1 Form filed on 10 June 2021 and Prospectus filed on 30 June 2021 on the SEC, <www.sec.gov/edgar/browse/?CIK=1764757&owner=exclude>.

49 Pre-IPO investors are often keen to exit on a timely basis, which enables them to raise future rounds of capital, see Andriy Bodnaruk and others, ‘Shareholder Diversification and the Decision to Go Public’ (2008) 21 The Review of Financial Studies 2779, 2782.

50 Nofsinger (n 17) Ch 1 and Ch 5.

51 Measures for IPO 2022 (n 29) Art 30.

52 Huang (n 1) 279.

53 Ibid, 268.

54 Ibid.

55 Rasoul H Tondkar, Songlan Peng and Christopher Hodgdon, ‘The Chinese Securities Regulatory Commission and the Regulation of Capital Markets in China’ (2003) 16 Advances in International Accounting 153, 160.

56 Sophie Roell, ‘Reining in the Free Market’ (1996) 327 Euromoney 146, 148.

57 Xianghai Ma, ‘Capital Controls, Market Segmentation and Stock Prices: Evidence from the Chinese Stock Market’ (1996) 4 Pacific-Basin Finance Journal 219, 237.

58 Huang (n 1) 269.

59 Ibid, 270.

60 See Jianzhong Yin, ‘One-Week Suspension of IPO Application is Just to Give Way to the IPO of Agriculture Bank of China’ (Shanghai Securities News, 11 July 2010) <http://big5.ifeng.com/gate/big5/finance.ifeng.com/ipo/xgpl/20100711/2394996.shtml> last accessed 27 September 2021.

61 Measures for Registration-based IPOs 2023 (n 12) Arts 10–13.

62 Ibid, Arts 5, 16 and 20.

63 So far, Chinese authorities have not officially announced the integration of these two review processes. Yet, in many governmental documents, the stock exchange review process is termed ‘stock offering and listing review’. Also, in practice, stock offering review and listing review are conducted concurrently by the same arm of stock exchanges, see Measures for Registration-based IPOs 2023 (n 12) Art 19.

64 Under the US framework for securities regulation, securities offerings are sometimes subject to the regulation at the state level as well. However, the exercise of regulatory power by state authorities is not within the research scope of this article.

65 Measures for Registration-Based IPOs 2023 (n 12) Art 16.

66 Rules of the Shanghai Stock Exchange on Reviewing Stock Offering and Listing 2023 (上海证券交易所股票发行上市审核规则 2023) (SSE Reviewing Rules 2023) Art 12.

67 Measures for Registration-Based IPOs 2023 (n 12) Art 16; SSE Reviewing Rules 2023 (n 66) Art 13.

68 Measures for Registration-Based IPOs 2023 (n 12) Art 17; SSE Reviewing Rules 2023 (n 66) Art 15.

69 Measures for Registration-Based IPOs 2023 (n 12) Art 19; SSE Reviewing Rules 2023 (n 66) Arts 5–6 and 29–34.

70 Yang Xu, ‘The Disclosure-Based System in the US’ (美国注册制管窥) (Shanghai Stock Exchange Research Report Series, No 14/2014), 15 <www.sse.com.cn/aboutus/research/research/c/3996085.pdf>.

71 SSE Reviewing Rules 2023 (n 66) Art 42.

72 Ibid.

73 Measures for Registration-Based IPOs 2023 (n 12) Art 20; SSE Reviewing Rules 2023 (n 66) Art 4.

74 Measures for Registration-Based IPOs 2023 (n 12) Art 20; SSE Reviewing Rules 2023 (n 66) Arts 4 and 50.

75 Measures for Registration-Based IPOs 2023 (n 12) Art 24.

76 Ibid.

77 Ibid.

78 Ibid, Art 32.

79 It is considered that developed economies, such as the US, should conduct a partial return to the merit-based system to counteract market misconduct, see Daniel J Morrissey, ‘The Road Not Taken: Rethinking Securities Regulation and the Case for Federal Merit Review’ (2010) 44 University of Richmond Law Review 647.

80 Measures for Registration-Based IPOs 2023 (n 12) Art 9; SSE Reviewing Rules 2023 (n 66) Art 11.

81 SEC, ‘About the SEC: What We Do’ <www.sec.gov/Article/whatwedo.html> last accessed 1 October 2020.

82 SSE Reviewing Rules 2023 (n 66) Arts 36 and 44.

83 Ibid, Art 44.

84 Measures for Registration-Based IPOs 2023 (n 12) Art 24. However, in the event that the stock exchange conducts on-site examinations and/or the CSRC instructs the stock exchange to resume the exchange-issuer written conversation or conduct on-site examinations, relevant time spent will not be counted.

85 Yuye Zhan, ‘The Time Needed to Go Public has been Shortened, and the Fastest IPO Used 53 Days’ (上市周期缩短,最快用时 53 天) (Shenzhen Press Group, 3 December 2020) <http://szsb.sznews.com/MB/content/202012/03/content_958174.html>.

86 Opinions of the China Securities Regulatory Committee on Playing the Role of the Capital Markets in Supporting the Nation’s Poverty-Alleviation Strategy (证监会关于发挥资本市场作用服务国家脱贫攻坚战略的意见) Art 2(4).

87 See Shi Jing, ‘Foxconn Unit’s Planned Public Float Progressing at Fast Pace’ (China Daily, 6 March 2018) <www.chinadaily.com.cn/a/201803/06/WS5a9defb2a3106e7dcc13fc6b.html>.

88 For an introduction of Foxconn’s IPO, see Stella Yifan Xie, ‘China Fast-Tracks IPO Approval for Foxconn Unit’ (The Wall Street Journal, 9 March 2018) <www.wsj.com/articles/china-fast-tracks-ipo-approval-for-foxconn-unit-1520587810>.

89 Ibid.

90 John C Coffee, ‘Law and the Market: The Impact of Enforcement’ (2007) 156 University of Pennsylvania Law Review 229, 255–56. For a discussion of the characteristics of the three models of stock market regulation, see Howell E Jackson and Stavros Gkantinis, ‘Markets as Regulators: A Survey’ (John M Olin Center for Law, Economics and Business, Faculty Discussion Paper No 2007-579) 22–38 <www.law.harvard.edu/programs/olin_center/papers/pdf/Jackson_Gkantinis_579.pdf>.

91 Securities Law of China 2005 (中华人民共和国证券法 2005) Arts 55, 56 and 115.

92 Measures for the Administration of Securities Exchanges 2021 (证券交易所管理办法 2021) Art 18.

93 Securities Law of China 2019 (中华人民共和国证券法 2019) Art 99.

94 Ibid, Art 167.

95 Measures for the Administration of Securities Exchanges 2021 (n 92) Art 22.

96 Ibid, Art 23.

97 Securities Law of China 2019 (n 93) Art 102.

98 Measures for the Administration of Securities Exchanges 2021 (n 92) Art 27.

99 Kai Lyu, ‘The Institutional Transformation of China’s Stock Exchanges: A Comparative Perspective’ (2015) 5 Accounting, Economics and Law 43, 76.

100 Measures for the Administration of Securities Exchanges 2021 (n 92) Art 35.

101 SSE Reviewing Rules 2023 (n 66) Art 21.

102 Measures for Registration-Based IPOs 2023 (n 12) Art 53.

103 Yang Cao, ‘Approval System to Registration System of Stock Issuance in China’s Capital Market: To Perfect the Stock Issue System in China’ (我国股票发行从核准制到注册制发展的初步研究 – 兼论我国证券法关于股票发行制度的修改与完善) (2015) 9 Reformation & Strategy 68, 71.

104 Measures for Registration-Based IPOs 2023 (n 12) Art 27.

105 Ibid.

106 For an introduction of the Ant Group IPO suspension, see Ryan McMorrow and Hudson Lockett, ‘China Halts $37 bn Ant Group IPO, Citing “Major Issues”’ (Financial Times, 4 November 2020) <www.ft.com/content/c1ee03d4-f22e-4514-af46-2f8423a6842e>.

107 Strictly speaking, upon the establishment of the Shanghai-London Stock Connect, London Stock Exchange (LSE)-based global issuers can issue Chinese depositary receipts that represent their shares, thereby achieving flotation on the SSE. Yet, no LSE-based global issuers have issued Chinese depositary receipts by the end of 2022.

108 The available routes for global investors to access China’s A-share market are to get licensed under the Qualified Foreign Institutional Investor (QFII) scheme and trade the shares of selected issuers listed in China via the Shanghai-Hong Kong Stock Connect, Shenzhen-Hong Kong Stock Connect and Shanghai-London Stock Connect.

109 See, e.g. Xuan Tian, ‘Promoting the Reform of Corporatizing Stock Exchanges’ (推进交易所公司制改革) <https://finance.eastmoney.com/a/202303062653309992.html>.

110 Kai Lyu, ‘The Role of State/Market Division and Political Economy in Understanding Institutional Transformation of China’s Stock Exchanges: Response to Dr. Ortiz’ (2015) 5 Accounting, Economics and Law 99, 103.

111 La Porta and others (n 13) 1147.

112 Wang (n 25) 65.

113 Measures for Registration-Based IPOs 2023 (n 12) Art 7; SSE Reviewing Rules 2023 (n 66) Art 27.

114 Measures for Registration-Based IPOs 2023 (n 12) Art 8; SSE Reviewing Rules 2023 (n 66) Art 28.

115 Coffee (n 28) Ch 3 (explaining gatekeeper failure).

116 Measures for Registration-Based IPOs 2023 (n 12) Arts 61–64.

117 SSE Reviewing Rules 2023 (n 66) Art 79.

118 See Asia Financial, ‘China Bourses Halt IPO Applications in Regulatory Probe’ (28 January 2022) <www.asiafinancial.com/china-bourses-halt-ipo-applications-in-regulatory-probe>.

119 According to the CSRC, the average number of mandatory delisted companies per year before 2019 was 3, compared to 9 in 2019 and 17 in 2021. Source: CSRC Annual Reports 2015–2021.

120 The exact figure of the NYSE was 6% in 2014, while the counterpart figure of the NASDAQ was 8%, see Xu (n 70) 11.

121 NYSE Listed Company Manual r 802.01C; NASDAQ Stock Market Rules r 5810(c)(3)(A).

122 See Alistair Gray, ‘Luckin Coffee to Pay $180m in Accounting Fraud Settlement’ (Financial Times, 16 December 2020) <www.ft.com/content/4db3b074-829f-4f1c-a256-11c7e28a31d1>.

123 China Securities Investor Services Centre v Kangmei Pharmaceutical Co, Intermediate People’s Court of Guangzhou City, Guangdong Province [2020] Civil Judgment No 2171 (广东省广州市中级人民法院民事判决书 [2020] 粤 01 民初 2171 号).

124 See ISS, ‘The Top 100 U.S. Class Action Settlements of All Time as of December 2019’ <www.issgovernance.com/library/the-top-100-us-class-action-settlements-of-all-time-as-of-december-2019/>.

125 For a discussion of the Chinese SSRA mechanism and the first SSRA lawsuit, see Fa Chen, ‘The Chinese-Style Securities Class Action Mechanism for Investor Protection: Context, Content, Comparison and Consequence’ (2022) 30 Asia Pacific Law Review 287.