The U.S. Securities and Exchange Commission, responding to Beijing’s clampdown on private industry, has halted initial public offerings of Chinese companies until they boost disclosures of risks posed to shareholders.

SEC Chair Gary Gensler said the Chinese government’s recent actions, including its announcement of enhanced security reviews of firms seeking foreign listings, are “relevant to U.S. investors.” He said he’s asked the SEC staff to seek additional disclosures from Chinese firms before signing off on their registration statements to sell stock.

“I believe such disclosures are crucial to informed investment decision-making and are at the heart of the SEC’s mandate to protect investors in U.S. capital markets,” Gensler said in a Friday statement.

China’s crackdown, including banning a swath of private education companies from making profits, has triggered a dramatic selloff in shares as investors reassess how far the government will go in tightening its grip on the economy. Losses in Chinese tech and education stocks have surpassed US$1 trillion since February.

Meanwhile, the SEC has faced intense pressure from Capitol Hill to increase scrutiny of Chinese companies as shares of Didi Global Inc. have plunged following its U.S. IPO this month. Right after the listing, China announced it was conducting a security review and restricting the ride-sharing company from adding new customers. U.S. lawmakers have urged the SEC to investigate Didi to find out whether the company knew what steps China was considering and failed to disclose those risks to U.S. investors.

 

Lucrative listings

Chinese companies listing in New York have been a lucrative source of revenue for Wall Street banks that underwrite the deals. This year is already the second-best on record for such listings, with companies raising at least US$15.7 billion -- more than the entire amount in 2020, according to data compiled by Bloomberg.

But China proposed new rules earlier this month requiring that nearly all companies seeking to list overseas undergo a cybersecurity review, a move that would significantly enhance its oversight. That tighter grip has thrown a wrench into the listing plans of many Chinese startups, which have flocked to the U.S. for its deeper capital markets, more streamlined listing processes and broader investor base.

There are roughly 70 companies from greater China in the pipeline to go public in the U.S., the data compiled by Bloomberg shows. Some of them are already being deterred by tighter scrutiny from Beijing. Daojia, a home-services platform backed by KKR & Co., and on-demand logistics firm Lalamove are among startups that have paused their plans to go public or are considering non-U.S. listings, people with knowledge of the matter have said.

Another victim of the crackdown is Chinese bike-sharing giant Hello Inc., which said earlier this week that it had formally scrapped plans for a U.S. IPO. Hello is backed by Chinese tech mogul Jack Ma’s Ant Group Inc.

 

VIE scrutiny

In his statement, Gensler raised particular concerns about so-called variable interest entities, or VIEs, that Chinese companies commonly use for U.S. listings. He said U.S. investors may not be aware that they are actually buying shares of shell companies -- often based in the Cayman Islands -- that maintain service agreements with Chinese firms, as opposed to buying direct stakes in the Chinese businesses themselves.

Companies should also disclose that future actions by the Chinese government “could significantly affect” their financial performance, Gensler said.

Other issues he said should be revealed include:

  • Whether the operating company or the issuer were denied permission from Chinese authorities to sell shares on U.S. exchanges.
  • That companies could be delisted for failing to comply with U.S. law that requires firms let American regulators inspect their audits.
  • Detailed financial information so that investors can understand the financial relationship between the VIE and the issuer.
  • Gensler said he has separately asked SEC officials to perform targeted reviews of filings submitted by companies with significant operations in China.