Over the past two decades, the value of Chinese stocks on Wall Street has soared from billions of dollars to 2 trillion dollars, as investors turned a blind eye to the unstable legal structure that supports many of China’s largest U.S. listed companies.
But Beijing’s repression China’s $100 billion tutoring industry The past week included companies that banned the use of this structure, called Variable Interest Entity (VIE), Brings the specter of a wider disaster to some of the world’s largest investors.
Fearing that the ban on coaching VIEs may cause the market value of Chinese companies listed in New York to shrink by tens of billions of dollars. Expand to other departments.
Prohibitions and ambiguous warnings Existing Education VIE Will be “rectified” raises concerns that other VIEs may be hit, such as Alibaba, Pinduoduo and JD.com. Since Friday, the Nasdaq Golden Dragon China Index has fallen 15%.
China VIE, Holding companies usually located in tax havens such as the Cayman Islands are essentially holding companies designed to circumvent strict regulations that prohibit foreign investors from owning key industries such as technology. In theory, they allow American shareholders to obtain economic benefits from Chinese companies while restricting their operational control over the company.
“Investing in VIEs is a mindset of accepting or giving up,” said a person close to the New York Stock Exchange. “The owner has no legal rights to the underlying entity, but this is the only way to gain access.”
According to data from the National Bureau of Economic Research, so far, investors in Beijing and the United States, such as BlackRock and Fidelity, have been willing to conceal the risks of this structure, and the value of VIE-backed stocks has grown to approximately US$2 trillion.
But this week’s shocking statement provoked long-term criticism of the structure, who expressed concern that China might expand Crack down on education company VIE To other departments.
For more than a decade, the lawyer Dan Harris of Bricken Harris, an international law firm that has been warning clients about the legality of VIEs, stated that the Chinese Communist Party “slammed big companies violently, and all signs now show that they are chasing VIEs. “.
“If I had money in any type of VIE now, I would be very unhappy,” he added, adding that the options for investors seeking to make up for their losses are limited. “They are unlikely [investors] Get all their money back. Legally speaking, they are in quicksand. ”
Due to the uncertainty surrounding the VIE and broader regulatory repression in China, US regulators have not approved any new listings of Chinese companies in recent weeks.
On Tuesday, Reuters reported that U.S. Securities and Exchange Commission official Alison Lee said that Chinese companies listed in the United States will be required to disclose the risks of China’s interference in their business as part of their reporting obligations.
The risks of investing in VIEs are well known. When Alibaba went public in New York in 2014, it used a three-page prospectus to illustrate the potential problems of its VIE.
This week’s attack on tutoring groups is not the first time China has banned an industry from using VIEs. In 2009, the regulator announced restrictions on online game companies from using VIEs to list, but enforcement is almost non-existent. Bilibili, a streaming media and online game company, was listed on the Nasdaq in 2018.
But the evolving struggle between Beijing and the United States surrounding China’s overseas listing has shaken the trust they rely on. Experienced Chinese investor Tim Clissold said: “VIE is inherently risky and unenforceable-foreigners no longer doubt participating in China’s growth story.”
This fighting This situation intensified when US regulators threatened to delist Chinese companies that did not have open audit procedures for review. At the same time, China passed a new data security law that prohibits companies from handing over any data to foreign officials without government permission.
Earlier this month, Chinese online ride-hailing company Didi began targeting its data security shortly after listing in New York, becoming a high-profile victim of tensions. Since then, its stock price has fallen by more than 40%.
“The uncertainty is so high and so unpredictable that an agreement to disclose risks during the IPO process may not be enough [to protect investors in New York],” said a senior IPO lawyer for a US company in Hong Kong. He added: “The ball is on the court of the Chinese government. The United States is responding to this, but they are not pushing it. “
But some people believe that if regulators are more clear that Beijing prefers the structure of foreign listings, then China’s renewed focus on VIEs may prove to be positive.
“This situation has been going on for 25 to 30 years. Over the years, the government has made it increasingly difficult to establish offshore structures.[but], As time goes by, people will find ways to solve every obstacle set by the government,” said Marcia Ellis, a partner at Morrison Foster Law Firm in the United States.
Risk expert Fredrik Öqvist, including VIE, said that new rules that require companies with more than 1 million user data to conduct security reviews of foreign listing plans may eventually formally recognize popular structures.
Öqvist said: “If anything passes the review, this may be the first time that the VIE structure has received some form of official approval.”
The Hong Kong IPO lawyer said that the government may give itself “greater power to reserve the right to say no.”
“They may get new tools to supervise these companies, but that doesn’t mean they will ban the entire structure because the consequences are too serious. But we just don’t know yet.”
Additional reporting by Eric Platt in New York