Shenzhen Stock Exchange (SZSE) held a press conference on May 15, 2018. Lu Xusheng, Press Secretary of SZSE, answered questions from the journalists at the press conference regarding SZSE’s acquisition of equity stake in Dhaka Stock Exchange (DSE) and supervision of the 2017 annual reports of SZSE-listed companies.
Q 1: The Chinese Consortium, led by SZSE, signed with DSE the Share Purchase Agreement at a ceremony held on May 14, 2018 in Dhaka, Bangladesh. Would you please introduce SZSE’s acquisition of equity stake in foreign stock exchanges including DSE?
A: Under the coordination of China Securities Regulatory Commission, SZSE has actively carried out China’s opening-up strategy, served the “Belt and Road” initiative, comprehensively enhanced supervision, technology and personnel exchanges, intensified business exchanges, promoted facility connectivity and accommodation of funds, and deepened strategic cooperation. As a member of the Chinese Consortium, SZSE has become a cornerstone investor of Pakistan Stock Exchange (PSE), dispatched directors to PSE, and duly fulfilled its responsibilities of involvement in the governance of PSE. Cross-border equity cooperation between stock exchanges has become an important way for SZSE to promote cross-border market operations, seek technical cooperation with foreign countries, and serve the real economy through cross-border cooperation.
In 2013, DSE released demutualization rules and started demutualization, seeking to attract suitable strategic investors. In 2017, SZSE received DSE’s tender invitation to bid for 25% of its stake. After preliminary assessment, the SZSE-led Consortium participated in the bid. In addition to the Chinese Consortium, other stock exchanges from India, the United States, and Turkey were also invited.
On the basis of sincerity, practicality and win-win cooperation, the Chinese Consortium advanced bidding based on business principles. As a result of in-depth research and mutual consultation, the Chinese Consortium developed a comprehensive bidding proposal according to the development needs of DSE and the strengths and advantages of the Chinese Consortium, laying out a clear vision and path to deepen business and technical cooperation. For this purpose, the Chinese Consortium conducted a four-month due diligence, eight on-site visits to Bangladesh and received DSE delegation’s three visits to China. The Chinese Consortium and DSE had several rounds of sincere and amicable consultations. The Chinese Consortium took into full consideration the prospects of Bangladesh’s capital markets and the value increase of DSE from the perspective of win-win cooperation, and gained the trust of DSE’s shareholders in a sincere and pragmatic manner.
On May 3, 2018, Bangladesh Securities and Exchange Commission officially approved the Chinese Consortium’s proposal to purchase the stake in DSE. The Chinese Consortium and DSE signed the Share Purchase Agreement at a ceremony held on May 14, 2018. This is the first cross-border equity cooperation led by SZSE. Next, SZSE will be further committed to creating long-term benefits and value for DSE, give full play to its positive role as DSE’s strategic investor, promote the development of Bangladesh’s capital markets through consultation on an equal footing and sincere cooperation with Bangladesh, and ultimately achieve the goal of mutual benefit.
Q 2: What is the specific operation plan after investment in DSE?
A: Based on the actual situation of Bangladesh and the strategic planning and development needs of DSE, in accordance with local laws and regulations, we will actively participate in the corporate governance of DSE, assist DSE in improving its strategic planning, impel DSE to build and improve product and service modules, help Bangladesh develop multi-tiered capital markets, and promote the economic integration and development of China and Bangladesh.
Firstly, to further carry out bilateral basic research. The Chinese Consortium plans to dispatch its staff to DSE for in-depth research, and welcomes DSE to send its staff to SZSE for the same. Exchanges between the research institutions of two parties are expected to provide research support for further future cooperation. And exchanges between both parties’ staff are expected to clarify the key demands of each other and lay a foundation for implementing the specific cooperation requirements.
Secondly, to further strengthen the DSE market construction capabilities. DSE attaches great importance to the offering and listing of SMEs. Our achievements in China on the construction of a multi-tiered capital market system have been widely recognized. The Chinese Consortium will provide DSE with experience and technical support in aspects like the construction of the SME board and the cultivation of a market service system. The Chinese Consortium will also actively assist DSE in improving construction of bond market, fund market and derivatives market to enrich DSE’s diversified product system. Based on the upgrade requirements of DSE’s technical system and our advantages, the Chinese Consortium also proposes a series of technical cooperation solutions. In the future, the Chinese Consortium will strengthen cooperation in key areas, and promote and achieve technical win-win based on the development direction of Bangladesh.
Thirdly, to further promote connectivity between the capital markets of both parties. We’ll take an active role in utilizing the functions of the SZSE’s V-next platform, improve the China-Bangladesh cross-border capital service mechanism, and promote the China-Bangladesh cross-border capital formation. We encourage Chinese enterprises that do business in Bangladesh to use diversified methods (such as stocks, bonds, and asset securitization) for financing in DSE. We’ll explore the panda bond issue by Bangladesh government and enterprises and promote infrastructure construction in Bangladesh. In addition, we encourage market institutions to develop cross-border financial products and promote the cross-board asset allocation in the two markets.
Q 3: What significance does the DSE acquisition have for the domestic stock exchanges and capital market development in China?
A: China’s stock exchanges are now at the top of the global rankings in regard to many indicators and have found an international development path with Chinese characteristics by means of transaction connectivity and product cooperation. We now have the capabilities and conditions for further expanding the global network by using methods such as equity cooperation. This strategic investment in DSE helps further improve the international cooperation mechanism in China’s stock exchanges, strengthens the internationalization level of China’s capital market, and enables the capital market to better serve China’s “Belt and Road Initiative”.
The global capital market is currently facing many complex and uncertain factors. Under the guidance of the cooperation philosophy of “wide consultation, joint contribution and shared benefits”, China’s stock exchanges will strive to build a stock exchange cross-border cooperation framework that features consultation on an equal footing, wide participation and shared benefits while interconnecting the cross-border infrastructure to promote financial integration, policy coordination, and people-to-people bonds. In so doing, we aim to create more opportunities for cooperation in the global capital market and inject a stability-promoting force coming from China’s capital market into the challenging international economic and financial situation.
Q 4: Based on this acquisition, what are the key tasks of SZSE in opening-up to the international market in the future?
A: Facing the historic opportunity of two-way opening-up in economic globalization and capital market, SZSE will continuously promote the opening-up process and endeavor to improve its long-term competitiveness and global influence. Since 2017, SZSE has fully and faithfully carried out the spirit of the 19th CPC National Congress, implemented the CSRC’s internationalization strategy of capital market to extend the feature service chain, enrich the financial product system, and strengthen international exchanges and cooperation. While promoting cross-board capital formation, SZSE has also continuously improved its foreign investor relation management, advanced the development of “Belt and Road Initiative” and its internationalization in an orderly manner, built a fully open new pattern. All these are expressions of SZSE’s all-out efforts to build a world leading innovation capital formation center and grow itself into a world first class stock exchange.
According to the goals set forth in the Strategic Development Planning Outline of Shenzhen Stock Exchange (2018-2020), by 2020, SZSE will further deepen cooperation in global market, especially with countries covered by the Belt and Road initiative, and adapt to the trend of deploying innovative resources globally, so as to form an international pattern where we could interconnect with developed markets, expand products and services in developing markets, forge diversified cooperation in frontier markets, and have a greater say in industrial and international organizations. Therefore, the subsequent opening-up of SZSE will focus on four aspects. Firstly, SZSE will improve the cross-border capital service mechanism. The full-service cross-border capital service mechanism will be built based on the V-Next platform to create a leading innovative capital ecosystem. Secondly, SZSE will promote cross-border investment and financing products and the development of relevant mechanisms, thereby enhancing cross-border asset allocation capabilities of the SZSE market. Thirdly, SZSE will explore industrial cooperation to facilitate the exchange of key technologies and experience. Thanks to its rich practical experience in the technical field, SZSE will sort out a standard technical system which is easy to use, widely applicable, and with Chinese characteristics to further commercialize and internationalize SZSE’s trading technologies. Also, SZSE will provide such services as technical training, consulting and remote diagnosis externally, to facilitate technological cooperation and combine the strengths of exchanges. Fourthly, SZSE will bolster its international influence and position by strengthening communication with innovative capital markets in the Asia-Pacific region or even those around the globe, increasing participation in international organizations (such as the World Federation of Exchanges and the Asian and Oceanian Stock Exchanges Federation), and actively joining influential international organizations.
Q 5: Would you introduce the review of 2017 annual reports? Are there any changes in terms of regulatory efforts, method and focus this year?
A: Under the leadership of CSRC, SZSE earnestly fulfills the statutory regulatory responsibilities defined in the Securities Law by carrying out legal, comprehensive and strict regulation with strict adherence to the regulatory requirements, and focuses on the annual report review when conducting the front-line supervision. To ensure the smooth operation of the capital market and protect the legitimate rights and interests of investors, SZSE continuously strengthens the review of annual reports for listed companies. As of May 11, 2018, SZSE has sent listed companies about 250 letters of inquiry covering over 3,000 issues about the 2017 annual reports. Of these letters, about 130 are posted on the official website, with a disclosure percentage over 50%, far higher than the same period of last year.
In January 2018, the newly revised Measures for the Administration of Stock Exchanges took effect. On March 29th, SZSE held the signing ceremony of Securities Listing Agreement (2018 Revision). These measures provide SZSE with a new tool for effectively implementing its supervisory responsibilities and thus ensure the coverage and depth of annual report supervision. This year, SZSE highlights risk-oriented review of annual reports and focuses both on companies and events with risks, which are further demonstrated in the following “four combinations”.
First, the combination of early deployment and precise supervision. By clearly specifying responsibilities, strictly conducting classified reviews, predicting risks in advance, and deploying annual report review in advance, SZSE is capable of conducting precise annual report review. For behaviors that increase company profits at the end of the year, SZSE has issued 66 letters of inquiry or concern. To ensure the disclosure quality of annual reports for the next year, SZSE has also offered training programs on annual reports and for new listed companies, serving nearly 10,000 people.
Second, the combination of daily regulation and annual report review. Periodic reports and annual report provides two mechanisms for information disclosure to listed companies. SZSE would probe into details from both periodic and annual reports and precisely detect problems or problem behavior in information disclosure.
Third, the combination of on-site inspection and off-site supervision. SZSE has gradually established an on-site routine inspection mechanism to collect more field information and enhance active intervention, strengthening the effectiveness and deterrence of front-line supervision. In addition, on-site inspection assists SZSE in its review of high-risk companies and issues, especially relating to decisions on removal of delisting risk warning and special treatment and listing resumption to hold delisting parties liable.
Fourth, the combination of traditional and intelligent supervision. Playing an important role in reviewing annual reports, the intelligent analysis system uses modern technologies such as text mining and cloud computing, in combination with supervisory staff’s experience in respective companies and industries to pinpoint problems and assist in making accurate inquiries. After finding problems in the review of annual reports, SZSE sends letters of inquiry to companies concerned, asking them to correct or supplement information immediately. Till now, over 160 companies have done so. SZSE also severely punishes violations. It has initiated disciplinary procedures against nine listed companies.
Q 6: What measures have SZSE taken to cope with the high-risk companies shown in 2017 Annual Reports?
Answer: After years of development, Shenzhen is now home to many industry-leading companies with stable development and strategic emerging enterprises with great potential. In 2017, the performance of SZSE-listed companies increased by more than 20% year-on-year, making these companies the major force for economic growth. Thanks to the deepened supply-side structural reform, various industries in Shenzhen witnessed sound performance in 2017, especially those high-end equipment manufacturing companies. However, some companies still face challenging problems, such as business problems, large shareholders’ overriding of internal control, tight cash flow, high debt ratios, high pressure on restructuring performance, and constant competition for equity. SZSE worked towards the goal of finding problems and showing risks during market supervision and implemented “three-early supervision” for high-risk companies.
First, early identification. Risk prevention is a top priority in financial supervision. SZSE conducted risk inspection throughout all aspects of daily supervision. Based on the comprehensive risk inspection results upon the previous periodic reports, and the assessment of risks caused by shareholder pledges, operational risks and market risks, SZSE obtained a clear risk picture and made company-specific risk handling solutions, holding fast to the bottom line of no systemic financial risks. In addition, by evaluating the operation and growth, information disclosure and standardized operation, and market recognition of companies, SZSE sorted out companies with high risks and those wanting particular attention, and strictly carried out annual report review immediately. Till now, SZSE has sent annual report letters of inquiry to more than 110 companies.
Second, early warning. For those high-risk companies, shell companies, and companies with specific characteristics (such as drastic performance change, runaway restructured companies, and replacement of auditors right before the disclosure of annual reports), SZSE sent letters of concern to the annual auditors of more than 150 companies before the disclosure and treated these companies as key targets in inquiry. The letters listed accounting issues of concern and reminded the auditors to duly perform their responsibilities in annual report auditing. SZSE also paid much attention to companies that experienced long-time or repeated trading suspensions or provided unconvincing performance data, and asked them to disclose key issues in the annual report in detail.
Third, prompt handling. At present, SZSE has already initiated disciplinary procedures against 5 listed companies that failed to disclose their 2017 annual reports within the statutory time limit, issued delisting risk warnings to 21 listed companies, and will send letters of inquiry to all the above mentioned companies. More than 20 letters of inquiry have been issued to companies that have submitted applications for the removal of delisting risk warning and special treatment, with the issues of major concern including huge fluctuation in corporate performance, confirmation of non-recurring gains and losses, measurement and confirmation of asset impairment, and ability to continue as a going concern. Upholding the principle of implementing comprehensive and stringent law-based supervision, SZSE has been making considerable efforts in the review of high-risk companies so as to reveal potential risks.
Q 7: Since 2017, SZSE has enhanced the supervision on the accounting and auditing of listed companies. The amount of modified audit opinions issued by auditing institutions in 2017 was much higher than that in previous years. Can you brief us on the specific work and follow-up arrangements of SZSE in this regard?
A: The compliance and appropriateness of accounting treatment is directly related to the credibility of annual reports. In recent years, CSRC has taken a number of measures such as administrative penalties and suspension of securities business qualifications against many accounting firms, forming a powerful deterrent. In our front-line supervision, SZSE has been continuously enhancing the supervision on intermediary institutions that are related to annual reports to ensure that the intermediaries have fully exerted their subjective initiative and positive roles in various aspects of the capital market. Up to now, 77 SZSE-listed companies have received modified audit opinions on their 2017 annual reports. Among them, 11 reports were marked “disclaimer of opinion” by auditors due to issues like deficiency of reasonable commercial substance in some transactions, limited scope for auditing, failure to identify related parties and related transactions, major defects in financial internal control, and significant uncertainty in its ability to continue as a going concern. In 2017, modified audit opinions were issued not only for financial reports, but also for other authentication reports, therefore the total amount of modified audit opinions was much larger than that in the previous year. SZSE promptly set up a special opinion monitoring plan on modified audit opinions and comprehensively carried out the posterior review of annual reports of the aforementioned companies. At present, SZSE has issued letters to around 20 companies which had received modified audit opinions, requiring for supplementary explanations on issues mentioned in the modified audit opinions. SZSE will carry out strict supervision in accordance with laws once any serious violation occurs.
The independence and professional expertise of intermediary institutions are key factors to discover company issues and reducing company risks. In the next step, SZSE will require a verification procedure done by intermediary institutions for transactions with high levels of complexity and underlying valuation, strengthen supervision on intermediary institutions, urge them to assume their due responsibility and liability, continue to deepen the regulation on accounting and auditing. SZSE will also strictly supervise on the practice of dodging the “implementation of delisting risk warning and special treatment” or delisting by means of revising financial data or making false accounting statements, so as to purify the market ecology and effectively protect the legitimate rights and interests of investors.
Q 8: Recently, SZSE has been intensifying regulations on asset impairment, and the substantial impairment of goodwill of listed companies has also attracted much attention from the market. Please brief us about the relevant considerations and basic situations of supervision work on asset impairment such as goodwill.
A: Goodwill is mainly generated from corporate mergers and acquisitions. The high premium rate of underlying assets is due to reasons such as the acquisition of light assets, the objective consideration of intangible assets that are not identifiable but have significant impact on going-concern, or the subjective tendency to choose optimistic evaluation parameters. If there is a large amount of unreal factors in goodwill, the impairment of goodwill will become a major trigger for the fluctuation in the performance of listed companies.
CSRC has been optimizing regulations on restructurings since 2016, with continuous efforts made to regulate the market for M&As. In 2017, SZSE issued 246 letters of enquiry on restructurings, mainly focusing on issues of “high valuation, high goodwill and high performance commitment”. As was found, the proportion of goodwill impairment of listed companies in Shenzhen market to overall asset impairment is on the upward trend, the proportion being 4.38% in 2015, 5.21% in 2016 and 12.52% in 2017. Furthermore, the amount of asset impairment rose by 40% in 2017 compared with 2016. SZSE pays close attention to the review procedure and information disclosure of listed companies regarding their provision for asset impairment, and seriously demands information in that respect and conducts due researches during its review of annual reports to check profit manipulation.
In recent years, new issues also arise from fulfillment of performance commitments concerning restructurings, resulting in large goodwill impairment losses. Some transaction counterparts refuse to deliver performance compensation commitments and initiate legal or arbitration proceedings requesting that they be exempted from fulfilling relevant obligations, which seriously damages the legitimate rights and interest of small and medium investors and undermines market equality and fairness. In this connection, SZSE implements strict regulation and imposes disciplinary punishment on the default parties with regard to their breach of commitments. Some listed companies fail to establish effective control over the underlying assets after the M&As, restricting the audit scope for annual auditors, which usually give rise to issues during annual report disclosing. On this regard, SZSE pays special attention to such issues and takes countermeasures in time during its review of annual reports.