FinanceAsia: What are the advantages to an ADR issue for a Chinese company?
Tse: There are two ways to list - via ADRs or a direct listing. A direct listing is complicated by having to form a company overseas and then using it as the listing vehicle. Then Chinese assets are injected. Some Chinese Internet companies, such as Sohu.com and Sina.com, did this at the height of the tech bubble, but from a regulatory perspective it's quite complicated.
There are also other downsides of a direct listing in the US. If a Chinese company is not listed on its primary domestic market, or at least Hong Kong, the company's home analysts won't be able to cover the stock as effectively.
A more viable way for Chinese companies is to issue ADRs, following a listing in Hong Kong.
By being present in two markets, a company can increase the liquidity of its stock. And by having two different sets of investors holding the stock can have a good balancing effect in the wake of an economic or political shock.
What do you think of the current levels of Chinese ADR listings?
The Chinese ADR market accounts for only 8-9% of the Asian ADR market. Japan accounts for 25% and even Korea, with a smaller economy than China has a much bigger ADR presence than China. China only has 14 companies listed as ADRs in the US. There is room for a lot of growth.
What will the impact of WTO be on ADRs?
Leading Chinese companies will increasingly be compared against their global peers, not just their local rivals. ADRs permit Chinese companies to be compared in this way, while it also forces them to conform to US regulatory standards, such as US GAAP and SEC rules.
China has one of the largest pools of savings in the world and the second biggest stock market in Asia. Isn't that sufficient for Chinese companies?
The Chinese stock market is $600 billion, while the US stock market is $13 trillion. Chinese companies cannot afford to overlook this capital pool.
Valuations in China are far higher than in the US.
In the longer term, the US remains the largest and most reliable pool of investment money in the world. Chinese companies can't overlook this. One current trend is that many Hong Kong red chips are considering Chinese Depositary Receipts, but I believe that in the long term they must look to the US capital markets.
The Chinese market is the focus of many companies which want to list there, including foreign companies. Why wouldn't Chinese companies stay in China and enjoy the higher valuations, and wait for the world to come to them?
But at this stage, only Hong Kong registered companies have been given a tentative go-ahead to issue CDRs, so the internationalization of China's capital markets has barely begun. In addition, global companies can't just rely on their home market. Huge Japanese companies such as Honda, Sony and NTT are all listed in the US, because it's the most important stock market and it's vital to have a presence there.
You also said that the research coverage is not as extensive in the US.
The US market is very competitive: you have to very competitive to get noticed. And the Chinese government has done a very good job creating internationally attractive companies such as CNOOC, PetroChina, Sinopec, etc. CNOOC, especially, has performed extremely well in the US. These companies are completely different to the Chinese companies listed in the early 1990s, which were not well equipped for the ADR programme.
Has institutional interest increased in Chinese stocks with its entry to WTO?
It's still too early to say, but we do expect interest to grow.
It seems that the global trend is toward highly concentrated, very large companies which dominate industry sectors, and attract institutional investor interest. Do you think Chinese companies are restructuring sufficiently along these lines?
That's exactly what China is doing, as you can see from Sinopec, CNOOC, and the telecom companies. All these companies are very large scale. And you have to be. The ADR market is highly concentrated: The top ten companies represent 50% of the total market cap of the around 2000 ADR listings.
What size Chinese companies are you looking at?
A minimum size would a company with an Initial Public Offering of $1 billion and up. China Telecom will be around $3 billion to $5 billion, of which typically one quarter to one third would be issued as ADRs.
How do you get that figure?
It's a matter of investor appetite. CNOOC issued 37% of its shares as ADRs, whereas Chalco only did11%. The bigger the ADR share, the bigger the balancing effect between the two markets.
You say 'balancing effect', but actually the Hong Kong stock market slavishly follows the US market.
That's the case for the broad market, but individual stocks escape that effect.
