Hong Kong is set to become the destination for more IPO hopefuls from mainland China due to increased scrutiny from Washington and Beijing, even if valuations take a hit.
The U.S. SEC said July 30 that Chinese issuers must disclose if they are structured as variable interest entities, which involve offshore holding companies controlling onshore assets and are widely adopted by Chinese internet and e-commerce companies. The issuers must also disclose if their IPO plans were rejected by Chinese authorities, and could be delisted if they do not share their audits for local reviews within three years.
The disclosure requirements followed a draft rule proposed by the Cyberspace Administration of China in June that said Chinese companies holding data on more than 1 million users will have to secure cybersecurity approval prior to listing outside of the country. Most fintech and e-commerce companies in China, among the biggest drivers of the global IPO market in recent years, will fall within the scope of the proposed requirement.
Hong Kong and the U.S. have always been top offshore listing platforms for mainland Chinese companies that sought to build diverse shareholder bases and raise funds in currencies other than the yuan for international expansion. The pending cybersecurity rule, together with Beijing's recent investigation into ride-hailing company DiDi Global Inc. days after its US$4.4 billion U.S. IPO, already have led some mainland Chinese companies, such as e-commerce company Little Red Book, to abandon their IPO plans in the U.S. and switch to Hong Kong, analysts say.
"Going forward, I expect the Hong Kong market will be in favor. I wouldn't be surprised that [some] small- and mid-cap [Chinese] companies that were thinking about U.S. IPOs may start thinking about Hong Kong as an easier path than the U.S.," said Andy Maynard, Hong Kong-based managing director and head of equities at China Renaissance.
A July 2 report by PwC said the total funds raised by Hong Kong IPOs are expected to reach a record HK$500 billion in 2021, up from about HK$397.7 billion in 2020.
Strong market, pipeline
Hong Kong stock exchange, operated by Hong Kong Exchanges and Clearing Ltd., was the world's third-largest IPO destination in terms of funds raised in the first half of 2021 after the Nasdaq and New York Stock Exchange. The Shanghai Stock Exchange's main board and its Nasdaq-styled STAR Market, combined, ranked fourth.
During the first six months of 2021, Hong Kong IPOs raised a total of HK$213.2 billion, more than twice the amount raised from the same period in 2020. About 55% of proceeds were raised by companies from the telecom, media and technology sector, according to a report by consultancy KPMG. Part of the IPO volume came from secondary listings of U.S.-listed mainland Chinese companies, such as search giant Baidu Inc., amid tensions between Beijing and Washington. Mainland Chinese companies accounted for 78% of IPOs in Hong Kong in the first half, according to consultancy Deloitte.
As of July 20, more than 180 companies have filed applications to go public in Hong Kong, according to Ringo Choi, Hong Kong-based Asia-Pacific IPO leader at consultancy EY.
"I think Hong Kong has a high chance to [keep being] in the top three [IPO markets this year]," Choi said.
Medical devices and property management companies, for example, are among some of the popular sectors in the Hong Kong IPO market this year, added Ke Yan, Singapore-based head of research at DZT Research, which focuses on small- and mid-cap companies.
Since Hong Kong started allowing pre-revenue drugmakers and medical device manufacturers to go public in the city in April 2018, the Hong Kong bourse has become the second-largest fund-raising hub for biotech companies in the world after only the Nasdaq. Chinese cardiovascular instruments supplier Ningbo Jenscare Biotechnology Co. Ltd. and surgical robot company MicroPort MedBot (Shanghai) Co. Ltd., for example, have applied to list in Hong Kong.
Beijing Capital Jiaye Property Services and R&F Property Services Group Co. Ltd. are among the property services companies that filed IPO applications to the Hong Kong Stock Exchange.
Uncertainty hits valuations
On the mainland, the government has tightened its grip on the real estate sector in the past month, from developer financing to new-home pricing.
After Beijing unveiled the proposed cybersecurity rule, the government broadened its crackdown to include the education technology sector while upping regulatory pressure on food delivery companies as well as the music-streaming operations of Tencent Holdings Ltd. on antitrust grounds.
Earlier in April, Shanghai's STAR Market said the venue would stop hosting new listings of real estate, financial and investment companies while "restricting" IPO applications from financial technology companies.
Analysts say while Beijing's regulations on the technology and property sectors will continue to evolve, policy uncertainties could weigh on new-share pricing.
"Investors will increasingly look at the regulatory risk side of the deals, which might affect the valuation that the company is asking for," said DZT Research's Ke.
China Renaissance's Maynard added: "You will definitely see investors [getting] more vigilant and conservative in their valuation appraisals of newly listed stocks. In the last couple of months, [investors feel] many IPOs went against them."
Such cautious sentiment hit the performance of some of the newly listed shares in Hong Kong in the first half, which could bode ill for the pricing of new issuances in the second half, analysts said.
As of June 30, 17 of 44 companies that debuted on the Hong Kong Stock Exchange's main board in the first half were trading above their IPO prices while 27 had dropped below. Hong Kong's benchmark Hang Seng Index increased about 6.4% during the same period.
Louis Tse, managing director of Hong Kong brokerage Wealthy Securities, added: "Your valuation depends on your earnings. [For example], if [new rules] come in, your app cannot be downloaded, you lose out [on] business and that, in turns, [leads to] less earnings potential."