China would be wise to avoid having cornerstone investors bear too much of the load. Tech stars such as Alibaba may be encouraged to pre-sell shares to underpin listings at home, and Foxconn just did something similar for its initial public offering in Shanghai. The practice can prevent wild stock swings, but also distorts markets.
Finding investors to backstop new listings is common in Hong Kong, but new for Beijing. The phenomenon gathered steam following the Asian financial crisis of 1997, when well-heeled tycoons and sovereign wealth funds helped get deals done. Selling a big chunk of shares ahead of an IPO reduces some risk for issuers and underwriters. Restricting advance buyers from selling their shares for six months or more also can ease volatility in already volatile markets.
For that reason, the strategy makes some sense for China as it tries to bring big overseas-listed technology companies home. Mom and pop investors have a habit of unloading their sizeable allocations on a whim. Tying up a portion of a huge new allotment with cornerstone investors, and forcing the shares to be held for a while, should keep things in check. Foxconn is road-testing the idea with its $4.3 billion IPO of a subsidiary. It placed about 30 per cent with 20 investors – including Alibaba, Tencent and Baidu – with a lockup as long as three years.
It’s easy to overdo it, though. In challenging markets, Chinese issuers in Hong Kong have called on state-owned enterprises and other companies to subscribe to as much as 80 per cent of an offering. That subverts the listing process by reducing the influence of professional fund managers and everyday investors. Postal Savings Bank of China, for example, sold over $7 billion of shares in 2016 at a premium to book value when peers were trading at lower valuations.
These arrangements also can unduly push companies onto public markets. Menswear maker China Outfitters tried and failed to launch an IPO in 2011, only to succeed later with cornerstone backers. The stock now trades at 15 per cent of its original price.
Chinese markets are already beset with corporate-governance issues. Stocks also can be halted for months on end. Adding another level of market perversion by leaning on cornerstones too much would be a mistake.