More than 80% of the companies that started trading last week on Shanghai’s Nasdaq-style Star and Shenzhen’s ChiNext boards saw their shares fall below water, after the duo introduced new rules in September that aim to help realise better prices for IPOs.
It all kicked off when Sinocat Environmental Technology began trading on the Star market on October 22. When most Star and ChiNext IPOs priced under the old mechanism generally jumped 150%–300% on their debuts, Sinocat’s shares surprisingly closed 6.9% below its issue price of Rmb70.90 after a Rmb1.53bn (US$239m) Star IPO.
It was only the second company to drop below the issue price on the Star market on its first day. The first was Luoyang Jalon Micro-Nano New Materials back in December 2019, five months after the new board was launched.
The poor debut performance of Sinocat was only the start. Of the 12 companies that made their debuts on Star or ChiNext board from Monday to Friday, seven of them fell below the issue prices on the first day while three dropped below water on the second day of trading. Among the debutantes, only two ChiNext IPOs are still trading above their issue price.
Market participants attribute the disappointing performance to the September rules that intended to bar investors from joining forces to artificially push down IPO prices.
Currently, Star and ChiNext are the only two boards in China with a registration-based IPO system. Chinese regulators have been testing different pricing mechanisms on the two boards to identify a more market-oriented pricing system, before rolling it out to the main boards in Shanghai and Shenzhen.
The regulators in August imposed penalties on 19 institutional investors for teaming up to bid on IPOs to ensure the shares priced within their targeted range. The penalties included banning them from participating in IPOs for a month, and some were barred from participating in any share placements.
To stop such behaviour, the new rules remove the highest 1%–3% of bids for an IPO, down from 10%, before the weighted average is produced and used as a reference to set the price.
Ironically, instead of pricing IPOs too low, bankers said investors are now pricing deals too high.
“It seems that the institutional investors have begun to use an opposite price strategy to price Star and ChiNext IPOs after the new rules,” said an ECM banker. “They tried to push down prices before so they could earn more on the first day. But now they do not dare to quote too low but bid as high as they estimate the deal will be priced.”
The banker explained that most of the institutional investors would calculate the average price-to-earnings ratio of several listed peers and in the past they would bid at a discount to the average P/E. Now they tend to bid at the average P/E or even above.
“We absolutely do not want to see our deals trading below water on the debut or afterwards. But we could do nothing as average quotations from institutional investors determine the final issue price,” she said.
Issuers are also taking advantage of the new rules, which no longer require them to postpone an IPO for 5–15 trading days if its offer price is set off the bottom of the range produced by the quotations. The delay was supposed to allow investors to re-think whether they should participate in the deal.
“Issuers rarely challenged the bottom-end pricing before as they did not want to waste too much time on the process,” said an investment banker.
With investors bidding higher and issuers achieving better prices, most Star and ChiNext IPO candidates have been able to raise two to three times more than their original targets. For instance, medical devices manufacturer Cofoe Medical Technology raised Rmb3.72bn from its ChiNext IPO, more than triple the original target of Rmb1.01bn. The stock fell 4.43% on debut on Monday.
Change of strategy
Given most A-share IPOs surged on their debuts in the past, some institutional investors have been adopting a strategy to sell on the first day no matter what in order to secure some quick gains.
The recent weak debuts, however, have prompted some investors to change tack. A Chinese insurance fund told its own fund managers who are in charge of IPO bidding that it would “selectively participate in the subscription of new shares” and might also lower the expected annualised rate of return for the fund, according to an internal notice issued last week.
However, some are expecting the regulators to step in again if the current pattern continues.
“If the poor trading debuts continue, I assume that the regulators may amend the IPO price mechanism again soon,” said a Shanghai-based banker.