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H-share convertibility boon is just wishful thinking

fingers crossed 230
By Jonathan Breen
04 Jan 2018

The Chinese regulator’s decision to kick-start a pilot scheme that will allow mainland-based holders of Hong Kong-listed stocks to convert them into H-shares is a big move, with many advantages for both stockholders and the city’s equity market. But it’s not time to crack open the champagne just yet. If the past is any example, progress will be slow at best.

A huge amount of shares in Hong Kong-listed Chinese companies are locked up on the Mainland, as holders are prohibited by local regulations from selling them in the open market. So the announcement last week by the China Securities Regulatory Commission (CSRC) — that it will allow these domestic shares to be converted into H-shares — is cause for celebration.

It will finally offer major shareholders a way to monetise their stakes in listed companies, most likely through block sales. This will undoubtedly give a boost to the IPO market. Major shareholders would no longer fear a perpetual lock-up (or a lengthy private sale) if they were assured their unlisted stock would be convertible in the future.

That would, in turn, be a boon to banks. Total deal volume in Hong Kong’s equity capital markets shrank from $96.9bn in 2015 to $46.2bn in 2016 and $45.6bn last year, according to Dealogic data. Any boost in activity would be a welcome source of fees for banks.

But although the benefits from such a wide-scale move would be sizeable, China is taking a predictably slow and steady approach to the roll out.

The CSRC’s pilot programme will allow the stock of only three companies to be fully converted into H-shares. To qualify, the companies have to meet a variety of ambiguous standards that make it easy for the regulator to reject applications at will.

The criteria includes requirements that the applicant is beneficial to the economy, supports the Belt and Road Initiative, and is in line with China’s policy development and national strategies. Hardly the quantitative measures that would give companies any real confidence of their ability to get approval.

Among other criteria are a need to be innovative and green. The only somewhat clear requirements for now are a ‘relatively simple stock ownership structure’ — presumably meaning a lack of dual-class shares, although no companies listed in Hong Kong have this anyway — and a minimum market capitalisation of HK$1bn ($127.9m).

The CSRC’s ultra-conservative approach speaks volumes. Beijing’s first and only attempt at full H-share convertibility was with the Hong Kong listing of China Construction Bank in 2005. But the state feared its ownership might drop too far, despite being the majority shareholder, so it chose not to convert any of its stock into H-shares.

There is a good chance the government will once again use state-owned enterprises for the pilot, despite interest from the likes of ZhongAn Online Property and Casualty Insurance Co, which is reportedly lobbying to become fully convertible.

This means there will be limited activity even among the state-owned companies that do offer up H-shares for trading — Beijing-linked shareholders are unlikely to jump at the chance to give up controlling positions.

It is a good sign the CSRC has approved the pilot project for H-share convertibility, which first came to light in November last year. But when it comes to reaping the rewards of more activity in H-shares, the market may have to wait a while yet. 

By Jonathan Breen
04 Jan 2018