Shanghai vs Shenzhen: IPO Dilemma for China’s Tech Companies?
COVID-19 and China
Six white and brown eggs on a white towel. Image credit: NordWood Themes/Unsplash.

The hullabaloo surrounding the Shanghai bourse's sci-tech board is echoing in media and investment circles worldwide as numerous (141 applicants as of July 4) Chinese tech companies are pouring into the new marketplace these days. Designed to nudge the slowing domestic economy, the Star Market has been in high gear since it was officially opened on June 13.

The new project had a set of concrete goals and two precisely defined groups of target market users. The first of them comprises red-chip firms and other overseas-listed enterprises. Luring mature companies back to China is an essential step towards the construction of a sustainable financial ecosystem within the country.

Another type of target firms is, obviously, young home-grown tech startups. These companies haven’t been linked with any of the existing trading marketplaces yet. Looks like the state has finally realized that these firms need to be treated differently from the large government-owned corporations having shares circulating on the main boards in Shenzhen and Shanghai.

Choosing a landing spot

At the end of the day, a bourse is an element of financial infrastructure. It is created and maintained for businesses, executives of which, when the IPO time comes, tend to be sensitive choosers that consider all the options existing. We tried to wear these decision-makers’ shoes in the previous article, comparing the new board with Nasdaq. There is a real option as more than 150 companies (with a total market capitalization of over USD 1 trillion) of 'Chinese origins' keep their shares listed on the largest American venues: NASDAQ and the New York Stock Exchange.

What happens when you put a predator into the den filled with other carnivores? Exactly. Survival of the fittest. China’s bourses’ case isn’t that extreme, but the new institution will definitely have some influence on the in-country stock exchange market balance.

For example, before the establishment of the new tech board was announced, some firms had been planning to go public on one of the main boards, the ChiNext or the SME board last year. Eventually, some of them changed their minds, redirecting efforts toward the STAR Market. These companies are just a tiny fraction. A vast majority of China-born tech startups are expected to start pondering over their 'public' future in the following years.

It is obvious that a comparison between the existing domestic venues is needed. In terms of rules, there are three key things to consider: requirements for investors, listing requirements, and stock maintenance requirements. The second was discussed in the previous article. Here, we focus on the other two. 

The STAR Market is seemingly created to serve only experienced and solvent investors: at least CNY 500,000 (more than USD 72,000) in the pocket and two years of trading practice must be officially recorded. While the cash requirement is a novelty in China's mainland, the latter has been widely adopted on the main boards in both cities. To sum up, the demand side will face more restrictions than before (still, it doesn't look insurmountable). What about the supply side?

An improvement could be detected in the intraday share price volatility dimension: no price band within the first five days of trading and a daily deviation of 20% may create room for speculations and allow the companies to raise funding faster. For now, it is hard to say whether opportunities overweight possible setbacks, but the drifting-down degree of market regulation is a good sign. Moreover, according to some industry insiders, all China's stock marketplaces might adopt the STAR Market’s standards in the future. This may smooth out the disbalance problem raised above.

Who's on board?

In the stock exchange business, market users can indirectly dictate the rules of the game by their collective behavior, convincing the market maker to deregulate the field gradually. So, the inner characteristics of those who joined (or about to join) a certain board are what shapes the marketplace’s future. Only mentioning distinctive features such as rules of different venues is an entirely superficial way of comparative analysis.

In the next chapter of the STAR Market series, we conduct a quantitative analysis in order to track the number of companies listed on the four submarkets over time. Alongside with some 'classic' indicators, we use three unusual metrics:

Marketplace HHI Herfindahl-Hirschman index that is calculated based on the total income of top-20 enterprises listed on a certain board in a particular period (here, we use the annual data). This indicator is designed to show the degree of marketplace concentration. The main purpose of adapting this index to the trading venues is a need for testing hypotheses on the 'atomic' nature of China's exchanges.

Marketplace R&D-expense-to-operating-income ratiothe total amount of R&D expenses of all the companies listed on a certain board to the sum of operating revenues of these companies. Tech companies should concentrate their activity around R&D to remain competitive.

Marketplace net profit margin the total net profit of all the firms listed on a certain board divided by the sum of these companies’ total income. Seeing much hype around some of the loss-making applicants, we pay attention to the profitability issue in order to figure out the real picture.

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