China’s central government has just issued the draft version of the “CDR Issuance and Transaction Administrative Measures” (存托凭证发行与交易管理办法) on 5 May for the solicitation of public opinions, leading observers to speculate that the instruments could be primed for launch in as little as a month’s time.
Depository receipts are a type of security that will enable China’s domestic shareholders to obtain stakes in companies that are listed abroad.
Beijing hopes that depository receipts will foster the return of some of China’s leading tech giants, who first listed abroad in order to gain access to the more favourable financing conditions of mature markets, and have since transformed into some of the world’s biggest companies.
Here are seven key features of the new Administrative Measures that are likely to define the market landscape for CDR’s following their launch.
1. Issuers will need to satisfy at least five key conditions
i) The basic conditions for public issuance of stocks as outlined by article 13 of China’s Securities Law;
ii) Being a company that has been lawfully established and in existence for at least three years, without any major ownership disputes over key assets;
iii) No changes to the actual controller of the company for the past three years, or major disputes in relationship to ownership of controlling shares;
iv) No record of illegal behaviour that harms the lawful rights and interests of investors or public interests over the past three years on the part of the overseas issuer of underlying shares, as well as their controlling shareholder or actual controller;
v) Other conditions as stipulated by the China SecuritIes Regulatory Commission.
2. Issuance of CDR’s will involve at least three types of financial institutions
According to the draft Opinions these three financial institutions will be a sponsor, an underwriter, and a depository trustee.
Article eight of the Opinions stipulates that when applying for CDR public issuance, the issuer of the overseas underlying securities must enlist a qualified sponsor as stipulated by article 11 and article 19 of the Securities Law, while the CDR’s must also be underwritten by a qualified securities firm as stipulated by articles 28 and 36 of the Securiteis Law.
In addition to a sponsor and underwriter, CDR’s also require a depository trustee, that may be one of three different types of institutions:
i) China Securities Depository and Clearing Co.;
ii) A commercial bank as approved by the China Banking and Insurance Regulatory Commission (CBIRC) and the China Securities Regulatory Commission (CSRC);
iii) A securities company as approved by CSRC.
According to the draft opinions the depository trustee is not permitted to trade in the CDR’s for which it serves as depository trustee, or serve as a sponsor for them.
3. CDR and A-share transaction methods are distinct
The chief difference between CDR transactions and A-share transactions is that the former may adopt the “market maker” transaction system, involving specially approved dealers who undertake to buy or sell securities for specified prices at all times.
China currently does not have a market maker transaction system for A-shares, although one does exist for the domestic futures market.
4. Information disclosures for overseas companies issuing CDR’s are largely consistent with those for A-share listed concerns
There are two main areas of difference – the first being in relation to the possibility that an overseas issuer of CDR’s has employed a variable interest entity structure, and differences in voting rights are potentially unknown or poorly understood by future Chinese investors.
In order to address this matter, overseas issuers are required to fully and in detail disclose related information on the prominent parts of public documents such as prospectuses – in particular information with regards to risk and corporate governance.
The Opinions also stipulate that the overseas issuer of the underlying securities, as well as the actual controller and other parties that bear information disclosure duties, ensure that any information disclosures made in overseas markets are simultaneously disclosed within China.
5. Prompt disclosure is required by the Opinions when the CDR’s undergo material change
These material changes include the following:
i) Changes to the depository trustee;
ii) The pledging, misappropriation or judicial freezing of the underlying securities, or any other changes in ownership;
iii) Major amendments to the depository agreement;
iv) Major amendments to the entrustment agreement;
v) Changes to the conversion ratios for the CDR’s and the underlying stocks;
vi) Other circumstances as stipulated by CSRC.
6. Stock exchanges must conduct examinations of CDR’s
Prior to listing, China’s stock exchanges will be required to conduct examinations and approvals of CDR’s, while the overseas issuer of the underlying securities who is applying for listing of CDR’s must satisfy the listing requirements of the stock exchange.
After the issuer submits a listing application to the exchange and the exchange conducts examination and approval, both parties will sign a listing agreement.
7. Protections for investors are heavily emphasised
The draft Opinions heavily emphasise protections for investors.
In addition to the protection afforded to investors by laws, administrative regulations and CSRC, the Opinions also outlines several key measures, including the convening of meetings of CDR holders by overseas issuers whenever major events arise that could impact their interests.