Corporate Governance and Transparency for Chinese Companies
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This presentation, given by The Smart Cube Director, Gavin Rankin, at the Deutsche Eigenkapitalforum in November 2012, addresses the inherent conflict between the interests of company management and ...

This presentation, given by The Smart Cube Director, Gavin Rankin, at the Deutsche Eigenkapitalforum in November 2012, addresses the inherent conflict between the interests of company management and controlling shareholders and the interests of other/minority shareholders.

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Corporate Governance and Transparency for Chinese Companies Presentation Transcript

  • 1. Benefits  of  Improving  Corporate  Governance  and  Transparency  for  Chinese  Companies  
  • 2. Contents  Background  To  Chinese  CG  And  Transparency  Prac=ces  Importance  Of  Improving  CG  and  Transparency  Scandals  Highlight  Urgent  Need  For  Improvement  CG  &  Transparency  Vs.  Stock  Performance  –  Overseas-­‐listed  Chinese   Cos.  Conclusions  
  • 3. BACKGROUND   A  Brief  History  Of  Corporate  Governance  and  Transparency  In  China:  Steady  Regulatory  Progress   §  Economic  reforms  first  established  the  need  for  improving  Corporate  Governance  (CG)  and  transparency   ―  Reforms  focused  on  shi>ing  away  from  State-­‐Owned  Enterprises  (SOEs)  and  promoCng  private  enterprise       §  Subsequent  improvement  in  CG  and  transparency  standards  driven  by   ―    Opening  up  of  foreign  trade  and  increasing  globalisaCon   ―  Capital  market  development  and  seYng  up  of  China  SecuriCes  Regulatory  Commission  (CSRC)   ―  Accession  to  the  WTO   ―  Various  laws  and  regulaCons   Major  Developments  in  Improving  Corporate  Governance  and  Transparency  Standards  in  China   §  WTO  accession;   §  SecuriCes  Law   §  B-­‐shares  bring   §  Company  Law   (amended)   requires   §  Start  of  economic   in  overseas   (amended  in   §  SOE  Asset   improved   §  Criminal  Law   reforms   investors   2006)   ProtecCon   transparency   (amended)   Act   1990   1992   2000   2002   2007   1978   1991   1993   2001   2006   2009   §  Code  of  CG  for   §  Establishment  of   §  CSRC   §  AccounCng  Law   Listed  Companies   §  RegulaCon  on   Shanghai  and   established   to  standardise   §  Scheme  started  for   InformaCon   Shenzhen  stock   accounCng   Qualified  Foreign   Disclosure  of   exchanges     policies   InsCtuConal   Listed  Companies   Investors  (QFII)  to   trade  in  A-­‐shares   (trading  started   from  2003)  3   Source:  CSRC,  OECD,  various  white  papers,  TSC  research  and  analysis  
  • 4. BACKGROUND   Despite  Posi=ve  Development  Of  Regulatory  Environment,  CG  Standards  In  Prac=ce  Remain  Low   §  CG  and  transparency  in  listed  Chinese  companies  lag  developed  as  well  as  emerging  market  peers   §  Major  issues  include   ―  Monitoring  and  enforcement  of  regulaCons  needs  to  improve   ―  Persistently  high  state  ownership,  non-­‐tradable  shares  are  detrimental  to  minority  shareholders’  interests   §  Assessments  by  various  organisaCons  corroborate  that  Chinese  CG  and  transparency  are  sCll  at  very  low  levels     Transparency  in  Corporate  Repor=ng  Index:     CG  Rankings  Of  Asian  Markets  (Asian  Corporate  Governance   Largest  105  Public  Companies  Globally  (Transparency  Interna=onal)   Associa=on)   Average  score  of  companies  in  each  country  (countries  with  three  or  more   Scores   companies  in  top  105)    CG  Rules    Poli=cal  &    CG    Overall      Enforcement      IGAAP     Number  of  companies   Market   &Prac=ces     Regulatory     Culture     Singapore       69    68      64      73      87      54     7   11   4   4   8   3   39   5   6   Hong  Kong       66    62      68     71    75      53     Thailand       58    62      44      54      80      50     Japan       55    45      57      52      70      53     Malaysia       55    52      39      63      80      38     Taiwan   53    50      35      56      77      46     India   51    49      42      56      63      43     Korea   49    43      39      56      75      34     China   45    43      33      46      70      30     Philippines   41    35      25      44      73      29     Indonesia   37    35      22      33      62      33    4   Source:  OECD,  Transparency  InternaConal,  Asian  Corporate  Governance  AssociaCon  
  • 5. INCREASED  IMPORTANCE  OF  CG  AND  TRANSPARENCY   Improving  CG  And  Transparency  Is  Cri=cal  For  Con=nued  Access  to  Foreign  Capital…   §  Despite  slowdown,  China’s  economic  growth  remains  strong   China  GDP  And  Fixed  Asset  Investments  (FAI)  Growth1   ―  Companies’  expansion  and  related  funding  needs  to  conCnue   30.0%   §  Foreign  markets  have  been  a  key  source  of  new  capital   26.0%   25.9%   23.9%   24.8%   23.8%   23.8%   §  Overseas  capital  raising  by  Chinese  companies  hit  by     20.7%   14.2%   ―  Global  macro  concerns  and  “hard  landing”  fears  for  China   11.3%   12.7%   10.4%   9.6%   9.2%   9.3%   7.7%   ―  Further  aggravated  by  accounCng  scandals  involving  Chinese   lisCngs  in  the  US   §  Overseas   Chinese   IPOs   now   face   weak   investor   confidence   2005   2006   2007   2008   2009   2010   2011   YTD  2012   and  increased  scruCny  on  CG  and  informaCon  disclosure   GDP  Growth  (real,  Y-­‐o-­‐Y)   Fixed  Asset  Investment  (nominal,  Y-­‐o-­‐Y)   Overseas  IPOs  By  Companies  Domiciled  in  China2   Inward  Foreign  Direct  Investment  (FDI)  in  China   50   AccounCng   100   140   40%   scandals   120   30%   40   Global  crisis   80   100   20%   30   60   80   10%   20   40   60   0%   40   10   20   -­‐10%   20   0   0   0   -­‐20%   2005   2006   2007   2008   2009   2010   2011   2012   2005   2006   2007   2008   2009   2010   2011   Amount  raised  (USD  billion)   No.  of  IPOs  (RHS)   Inward  FDI  (USD  billion)   Y-­‐o-­‐Y  Growth  (RHS)   Notes:    1)  2012  GDP  growth  cumulaCve  Cll  3Q  2012;  2012  FAI  growth  cumulaCve  Cll  October  2012  5                              2)  Includes  IPOs  in  Hong  Kong;  2012  data  as  of  October  31,  2012   Source:  NaConal  Bureau  of  StaCsCcs,  China;  Thomson  One;  UNCTAD  
  • 6. INCREASED  IMPORTANCE  OF  CG  AND  TRANSPARENCY   …And  Business  Expansion  And  Alliances  Through  Cross-­‐border  M&A   §  China’s  “go  global”  strategy  going  strong  with  increasing  overseas  acquisiCons  in  2010  and  2011   §  Number  of  inbound  M&A  deals,  however,  has  been  on  a  declining  trend   §  Issues  with  Chinese  overseas  lisCngs  do  not  yet  seem  to  have  had  a  direct  effect  on    cross-­‐border  M&A   ―  However,   given   increasing   exposure   to   acquired   foreign   companies   and   their   CG   standards,   it   remains   important   for   Chinese   corporates    to  improve  upon  their  own  CG  standards   China  Cross-­‐border  M&A  –  Number  of  successfully    completed  deals1   China  Cross-­‐border  M&A  –    By  Value  (USD  Billion)   946   38   34   769   791   718   30   21   455   360   384   399   377   264   11  12   11   11   9   7   6   5   4   2008   2009   2010   2011   2012   -­‐2   2005   2006   2007   2008   2009   2010   2011   Chinese  acquirer/non-­‐Chinese  target   Non-­‐Chinese  acquirer/Chinese  target   Net  Sales   Net  Purchases  6   Notes:    1)  2012  data  as  of  October  31,  2012   Source:  Bloomberg;  UNCTAD  
  • 7. URGENT  NEED  TO  IMPROVE  CG  AND  TRANSPARENCY   Alarming  Increase  In  Accoun=ng  And  Transparency  Related  Scandals   §  Two  Chinese  companies  were  sued  for  stock  fraud  in  the  US  in  2009,  15  in  2010  and  38  in  20111   §  AllegaCons  typically  revolve  around  fraudulent  or  misleading  accounCng  disclosure;  some  cases  of  other  poor  CG  pracCces   ―  IniCated  by  firms  such  as  Muddy  Waters  Research,  Citron  Research  and  Alfredliqle.com  with  subsequent  SEC  involvement   ―  Many  of  these  companies  were  de-­‐listed  from  respecCve  exchanges  as  a  fallout  of  the  allegaCons   §  However,   few   cases   where   independent   invesCgaCon   exonerated   company   –   further   highlighCng   need   for   beqer   transparency  and  CG   Some  Examples  Of  The  Scandals   Company   Year  of  scandal   Main  Issues  In  Scandal   Acermath   Fraudulent  disclosure  related  to  non-­‐existent  contracts  based  on   RINO  InternaConal  Corp.   2010   De-­‐listed  from  NASDAQ   which  revenue  was  booked   Chairman  accused  of  trying  to  sell  the  companys  only  source  of   Puda  Coal   2011   De-­‐listed  from  NASDAQ,  moved  to  OTC   revenue  -­‐  Shanxi  Puda  coal   China  Media  Express,  Sino-­‐Forest     CorporaCon,  SinoTech  Energy,  Focus   2011   Overstatement  of  assets/  revenue/  margins/  earnings   Trading  suspended/  de-­‐listed   Media  Holding  Ltd.,  Longtop  Financial   Overstatement  of  revenue/  margins,  failure  to  disclose  direct   Deer  Consumer  Products   2011   Trading  suspended   compeCCon  from  enCCes  related  to  its  chairman   Trading  halted;  subsequent  independent   SilverCorp  Metals,  Orient  Paper   2011   Overstatement  of  revenue  and  assets   invesCgaCon  ruled  out  fraud   Notes:    1)  The  number  includes  cases  against  companies  with  principal  execuCve  offices  in  China  and  China-­‐domiciled  companies  7   Source:  Muddy  Waters  LLP;  Alfredliqle.com;  NASDAQ;  NYSE;  TSE;  TSC  Research  
  • 8. URGENT  NEED  TO  IMPROVE  CG  AND  TRANSPARENCY   Case  Study:  Orient  Paper  Inc.  –  the  fraud  that  never  was     Company  Background   Market  capitaliza=on  on  lis=ng1:  USD135.5  million     §    Paper  products  manufacturer,  founded  in  1996  and  headquartered  in   Current  market  capitaliza=on  (as  of  9  November  2012):  USD37.5  million     Baoding  city,  China   Current  share  price  (as  of  9  November  2012):  USD2.03   §  Operates  through  subsidiaries  Hebei  Baoding  Orient  Paper  Milling   Company  Ltd.  (94.5%  of  total  revenue)  and  Baoding  Shengde  (5.5%   FY11  revenue:  USD151  million     of  total  revenue)     Scandal  Timeline  And  Stock  Price  Movement         17  December  2009:   Orient  Paper  starts   17  July  2010:   trading  on  NYSE   Orient  Paper  announces   AMEX   third  party  invesCgaCon   16   to  look  into  the   allegaCons   29  November  2010:   14   InvesCgaCon  concludes   12   that  allegaCons  were   untrue   10   8   6   4   28  June  2010:   Muddy  Waters  LLP  publishes  report   2   alleging  fraudulent  pracCces   0   Notes:    1)  Orient  Paper,  Inc,  started  trading  on  NYSE  Amex  on  17  December  2009  8   Source:  NYSE  AMEX;  Muddy  Waters  LLP;  Orient  Paper  Inc.  ;  Bloomberg;  TSC  Research  
  • 9. CORPORATE  GOVERNANCE  &  TRANSPARENCY  AND  STOCK  PERFORMANCE   Stocks  With  The  Best  Performance  Follow  Sound  Transparency/  Disclosure  Prac=ces   §  Given  increasing  scruCny  of  overseas-­‐listed  Chinese  companies,  we  evaluate  CG  and  transparency  pracCces  of  the  best  and   worst  performing  overseas-­‐listed  Chinese  companies   §  Best  performing  companies  clearly  have  beqer  transparency/  disclosure  pracCces   ―  However,  significant  room  for  improvement  in  Environmental  Sustainability  and  Corporate  Social  Responsibility  disclosures   §  CG  pracCces  are  generally  uniformly  poor  across  best  and  worst  performers   Transparency/  Disclosure  –  Percentage  Of  Companies  Following  Good  Prac=ces   100%   100%   93%   100%   100%   87%   73%   73%   40%   47%   7%   0%   Has  adhered  to   Provides  guidance/   Holds  regular  earnings   Has  disclosure  on  CG/ Has  disclosure  on   Has  disclosure  on   prescribed  Cme  limit  to   Business  outlook   calls   Code  of  Ethics   Environmental   Corporate  Social   report  results   Sustainability   Responsibility   Best  Performers   Worst  Performers   Other  CG  Areas  –  Percentage  Of  Companies  Following  Good  Prac=ces   100%   93%   80%   73%   80%   67%   60%   67%   47%   20%   Holds  Regular  AGM   Majority  Of  Board  Is   Shareholding  is  not   Does  not  have  differenCal   Specific  commiqee  for   Independent  directors   concentrated  among   voCng  rights   different  roles   promoter/  directors/   management   Best  performers   Worst  performers   Notes:    1)  Our  study  is  based  on  15  best  performing  and  15  worst  performing  companies  9    2)  We  evaluate  performance  on  the  basis  of  returns  and  higher  valuaCon  (P/E  mulCple)   Source:  Bloomberg;  Company  websites  and  filings;  TSC  Research  
  • 10. Conclusions   §  Regulatory  environment  for  CG  and  transparency  in  China  has  evolved  greatly   §  ImplementaCon  +  enforcement  has  not  kept  pace   §  Scandals  involving  Chinese  overseas  lisCngs  highlight  the  need  for  significant  improvement   §  In  the  a>ermath  of  the  scandals,  restoring  weakening  investor  confidence,  especially  overseas,  is  of  paramount  importance   §  Overseas-­‐listed  Chinese  companies  fare  reasonably  well  on  disclosure  –  beqer  disclosure  appears  to  drive  beqer   performance   §  Main  area  of  improvement  for  such  companies  appear  to  be  aspects  such  as  ensuring  independence  of  directors,  creaCng  a   broader  shareholder  base  and  improving  overall  disclosure   Notes:    1)  The  YTD  return  is  calculated  as  net  of  company’s  YTD  return  vis-­‐à-­‐vis  its  peers  industry  average  listed  in  China   2)  FY12E  PE  premium/  discount  in  comparison  to  that  of  peers  listed  in  China  10    3)  Tick  mark  indicates  that  the  company  has  not  issued  any  differenCal  shares   Source:  Bloomberg;  TSC  Research  
  • 11. Contact    Gavin  Rankin  T:    +44  (0)  20  8323  8528  M:  +44  (0)  77  7165  5846  gavin.rankin@thesmartcube.com  www.thesmartcube.com      Connect