SEC Saber-Rattling May Backfire in China

Forbes contributor Junheng Li claims that the U.S. Securities and Exchange Commission (SEC) is walking a tightrope in its actions against the Chinese arms of the five major accounting firms, and has little leverage as the Chinese government “has almost nothing to lose,” even in a worst-case scenario:

Back in July, China Development Bank, a policy bank, provided $1 billion loans to help the U.S. listed Chinese companies to return home. Bank loans and other financing were made available for privatization deals as the government tried to build out a global capital market that vies with those in North America, and, in the nearer term, Hong Kong and Singapore.

If the SEC refuses the back down, voluntary privatizations will accelerate, supported by Chinese private equity funds in addition to the government. With low valuation in the U.S. exchanges, the PE firms in China will select companies that they believe have the potential to relist in China at a more attractive price.

Beyond China’s borders, another devastating effect of the SEC’s hard line could be felt by the multinationals with Chinese operations, notes Carl Yeung, the CFO of Sky-Mobil (NASDAQ: MOBI) and a former Merrill Lynch banker.

“Hurting the quality Chinese companies that have listings in the U.S. is one thing. But this [policy could] trickle through to multinationals such as Ford (NYSE: F), General Motors (NYSE: GM), Coca-Cola (NYSE: KO), and P&G (NYSE: PG), which have sizable operations in China and will also no longer to be able to produce audit reports,” he says. “It is clear that if the SEC does not back down, the whole auditing regulatory framework supporting the global operation of those firms and the capital raising function of U.S. capital market will crumble.”

Earlier this week, Peking University’s Paul Gillis proposed a solution to the standoff in a guest post for the Financial Times:

Part of the problem has been that privately held Chinese companies have used offshore companies, typically incorporated in the Cayman Islands, as vehicles to list in the United States. While this was done mostly to circumvent Chinese laws restricting overseas listings, it has resulted in the companies falling into a regulatory hole. China can’t regulate the companies because they are incorporated in the Cayman Islands, and the US cannot regulate them because China will not allow access to the people and records of the company in China.

China should bring these companies back to China by disposing of the offshore parent company and allowing private Chinese companies to list directly abroad. For companies in sensitive industries like the internet, these companies could adopt dual class share structures keeping the voting power in Chinese hands, replacing the variable interest entity structure that is currently used to control them through contracts rather than through ownership. Overseas listed companies should be placed firmly under the regulatory oversight of the China Securities Regulatory Commission (CSRC). The CSRC should serve as gatekeeper to overseas markets, ensuring that sensitive companies do not list overseas. The CSRC should be given the authority to work with foreign regulators on companies that do list overseas, allowing for joint inspections and document sharing as appropriate.


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