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Recently, the debt risks of some listed companies and the risk of shareholders’ stocks being liquidated have become prominent. The main reasons behind these are highly-leveraged acquisitions, high-percentage pledges, and high-debt operation of listed companies and their shareholders, which are detrimental to the healthy development of the capital market.
Due to a lack of long-term consideration and crisis awareness, some companies and shareholders blindly launch projects and pursue high-speed development, with higher leverage and direr capital shortage, posing huge risks to the operation of the listed companies themselves, the interests of investors and the operation quality of capital market. As a result, SZSE pays close attention to the above issues, responds promptly, earnestly performs its duty of front-line supervision, and takes multiple measures to prevent and defuse relevant risks.
Continuing to strengthen regulation of highly-leveraged acquisitions
There are mainly two kinds of highly-leveraged acquisitions conducted by listed companies: shareholders’ highly-leveraged acquisition of controlling interest in listed companies, and listed companies’ highly-leveraged acquisition of underlying assets.
When a shareholder acquires the control stakes of a listed company at a high leverage ratio, he or she will usually pledge his or her shares in the listed company. Once the stock market becomes more volatile, the risk will be multiplied, which shall again lead to transfer of the control over the listed company. Some shareholders are not interested in running the company after they gain control over the company. They just spend their time hyping the stock price and even misappropriating company assets.
For example, there is a listed company whose controlling interest was transferred twice in one year, and both are highly leveraged acquisitions. When the company disclosed change of its actual controlling party while releasing a plan to increase shareholding by CNY1 billion to CNY1.5 billion, it was suspected of hyping the stock price. Besides, the actual controller was suspected of misappropriating the assets of the listed company and bringing about serious troubles, huge debts and dozens of lawsuits by means of stealthy related-party transactions, illegal guarantee, and financial support. SZSE immediately reviewed the stock trading, conducted careful inquiries, strengthened its supervision on the source of capital, and focused on such issues as the source of acquisition funds, the capability of performing the agreement, the authenticity of company performance, and the compliance of information disclosure of the listed company. The listed company and its actual controller are now under investigation.
Purchase of assets at a high premium by listed companies has always been an important concern in the regulation of mergers and restructurings. High valuation usually produces high goodwill. When the object company’s profitability fails to meet expectation and it also fails to deliver the performance commitments, the listed company will face the risk of large depreciation of goodwill, resulting in a drastic change of its performance. The use of cash to pay consideration by some listed companies raises the debt-to-asset ratio, which may lead to debt default. In practice, the highly-leverage acquisitions conducted by shareholders are usually followed by more radical assets acquisitions.
The premium rate of recent acquisitions conducted by some listed companies is more than 10 times or even up to 15 times, and the purchase amount is two or three times more than the company’s net assets. During the review following the acquisitions, SZSE focuses its enquiries on such matters as the source of purchasing funds, the financing arrangements, the rationality of the high valuation, the viability of performance commitments, the risk of high goodwill depreciation, and the changes of debt ratio of the listed companies after the transaction. As a result, all companies involved in above cases terminated the restructurings, and the potential risks of acquisition with high premium were resolved properly.
Preventing the risk of high-percentage pledges with multi-pronged measures
Pledging stocks in listed companies is a common way for shareholders to raise money. In reality, due to lack of crisis awareness and sufficient assessment of their capital strength, some shareholders pledge a high proportion of shares, sometimes even 100%, to raise funds. When shareholders are in dire need of capital, falling stock prices are often the last straw that breaks the “high leverage”, leading to forced liquidation. Controlling shareholders’ high-percentage pledges of stocks shall lead to liquidation risks, affect the control over the listed company, and have a great impact on the stock price in the secondary market as well as the interests of small and medium investors. From January to June 20, 2018, a number of listed companies disclosed that the shares pledged by the controlling shareholders or actual controllers had reached the liquidation line. Seven of them have experienced forced liquidation with an amount of CNY205 million.
To avoid forced liquidation of shares, some listed companies applied for suspension of trading on the ground of planning major events, affecting the normal trading of stocks. From January 29 to February 7, 2018, the stock market volatility increased, and a large number of listed companies suspended trading of their stocks for reason of planning major events, while some of which were doing this to avoid risks because they were unable to cover short positions.
To effectively guard against systemic risks, SZSE pays much attention to the high-percentage stock pledges of shareholders and the abuse of the right to suspend trading by listed companies. At present, SZSE has preliminarily established a stock pledge monitoring platform, taking technological measures to grasp information about shareholder stock pledges and identify whether the controlling shareholders try to avoid liquidation by way of trading suspensions. Since 2017, SZSE has issue over 350 regulatory letters, drawing listed companies’ attention to the fluctuation of stock price, risks of liquidation of controlling shareholders’ stocks and of changes of the control over the company, and remind them to prevent occupation of funds by controlling shareholders and other violations.
Controlling shareholders of some listed companies pledge up to 90% of their shares in the long run, and the listed companies repeatedly applied for suspension of stock trading on the ground of planning major events. For such cases, SZSE sent letters of inquiries and concern for several times, requiring the listed companies to explain the progress of major events, source of acquisition funds, purpose of stock pledges, the proportion of performance guarantee, the warning line, and liquidation price. In the end, all the above companies terminated planning relevant events. SZSE has initiated the disciplinary procedure of public censure against listed companies whose shareholders were forced to liquidate their stocks but who failed to perform their obligations to disclose information in accordance with the new regulations on share reduction or other provisions on share reduction.
In addition, to standardize high-percentage pledges of shareholders and strengthen risk warning, SZSE makes use of the information disclosure, requiring that such information be disclosed as shareholders’ capacity of performing agreements and their capacity to provide additional guarantee, whether the pledged stocks are restricted stocks, special risk warnings when stocks may be forced to be liquidated. All these can provide investors with a clear picture of relevant risks.
Preventing risks of high-debt operation with a combination of measures
Leverage is a double-edged sword. When a listed company runs well with a high rate of return on investment, proper leverage can be applied to magnify benefits. When a company is in trouble, the leverage can accelerate the deterioration and outbreak of problems of the company.
By the end of the first quarter of 2018, the debt-to-asset ratio of 11 SZSE-listed companies exceeds 100%, 69 companies 80%. The net cash flow from operating activities of these companies remains negative, and business activities are in difficulty, and some even have debt defaults. Some controlling shareholders of several listed companies face liquidity crisis, and some have established mutual guarantee with the listed companies. These may lead to the joint and several guarantee liability of the listed companies. Some listed companies engaged in landscaping and engineering construction adopt the operation mode of short debts and long investments. And the receivables return slowly. Once the financing plan changes, liquidity crisis may break out. With regard to the above issues, SZSE took a combination of measures including continuous enquiries, regulatory interviews and regulatory cooperation, urging listed companies to ensure the stability of production and operation and take active measures to resolve the risk of debt defaults.
SZSE focuses its regulation on companies with high debt ratios, conducting frequent investment via M&As or pursuing diversified development. SZSE keeps a close eye on their cash flow and operational movements, sending letters of enquiries in time to such companies urging them to evaluate liquidity risk and guard against the build-up of risks. For companies unable to repay debts, SZSE timely requests them to disclose the default amount, the repayment plan and resolutions to safeguard the interests of investors. By sending letters of enquires and conducting reviews on periodic reports of listed companies, SZSE digs into the reasons for debt defaults, with emphasis on fund occupation, guarantee violations, legal proceedings, assets freezes and other violations.
Recently, SZSE had a group meeting with 11 companies with debt-to-asset ratio higher than 100% and debts default risks, requesting them to elaborate on the debt risks, the impact of debts on their profitability, business activities, and standard operation, as well as their plans to dispose of the risks. Besides, SZSE also urged them to fully disclose the debt risks and reminded investors to make prudent investing decisions. To get a clear picture of the debts of the companies and their ability to repay the debts, their production and operation, the truthfulness of their business performance results and standard operation, SZSE conducted thorough researches on possible major issues or clues of violations of companies with high debt ratios, bringing them to the attention of local securities regulatory offices or calling investigations thereto. Once the issues or violation are confirmed, SZSE shall immediately initiate disciplinary and other regulatory procedures.
SZSE shall pay close attention to the issues of highly-leveraged acquisitions, high-percentage pledges and high-debt operation, further sort out and screen highly-leveraged and high debt risks, and continue to strengthen the mechanism of continuous enquiries, regulatory interviews and regulatory cooperation, ensuring the smooth and sound operation of the multi-tiered capital market.
