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August 23, 2005
To,
Provincial People’s Governments
People’s Governments of Autonomous Regions
People’s Governments of Municipalities Directly under the Central Government
Relevant Departments under the State Council
Since the promulgation of the Guidelines on Promoting Reform, Opening-up and Sustained Development of China’s Capital Market (No.3 [2004] the State Council) (the Guidelines of the State Council), significant progress has been made in the reform and institution building for China’s capital market as evidenced by improvements in functioning mechanism and operational environment of the market as well as the fact that problems of fundamental and institutional nature hindering effective functioning of China’s capital market are being resolved. With the tremendous support from relevant departments and regional People’s Governments, the reform on split share structure of listed companies (the Share Reform), led by the State Council, has gone through its experimental stage and is now ready for extensive implementation pursuant to the requirement of the State Council, i.e. “ The split share structure problem shall be dealt with in a dynamic and prudent manner.” Previous warning-up work on the Share Reform has prepared the market for such an upgrading of reform as the general principles and specific practices adopted in the previous pilot Share Reform has been widely accepted by the market, and expectations of the regulator and the market towards the results of the Share Reform are beginning to converge.
To further take forward the Share Reform, Guidance notes are provided as follows:
Section 1 Significance of the Share Reform
1. To fully carry out the Guidelines of the State Council and to improve the functioning mechanism of China’s capital market, we need to start from issues that are of institutional and fundamental nature, and concentrate on improving the functioning of capital market so as to boost return on investment, direct-financing capability, and resource allocation efficiency. In particular, promotion of a sound capital market with full spectrum of securities instruments, high-quality listed companies, well-regulated securities companies, and a sound legal framework shall work for two purposes: first, it may help to mitigate problems inherent in an emerging market including absence of market elements, poorly built market institution, disorder in operations, and inadequate regulations; Second, it provides an opportunity to address historical problems developed in the process of China’s structural transformation including split share structure of listed companies to reduce potential risks and pave the way for a bright future of the capital market.
2. The split share structure refers to the existence of both tradable shares on the stock exchange and a large volume of non-tradable shares owned by the state and legally defined entities in A-share market. It was a peculiar problem developed in the process of China’s economic structural transformation and has flawed the capital market in forms of distorted pricing mechanism, resource allocation inefficiency, invalidation of the market share price as an innate factor that promote efficiency and limit the power of the substantial shareholders and management of listed companies, lack of common interest as the basis for corporate governance, the price discrepancy between negotiated non-tradable share transfer and competitive quotation of tradable shares, deficient market condition for exercise of capital operations, etc. On the whole, the split share structure has been acting as a major counterforce against the sound development, opening-up and reform of capital market. Dynamic reform must be conducted to eliminate such a split share structure.
3. The Share Reform is intended to address historical problems, and more importantly, to enhance market institution and market functioning mechanism. It shall be recognized as one of the vital moves to carry out the Guidelines of the State Council and set the stage for subsequent capital market reforms and institutional innovations. Therefore, the Share Reform, protection of market stability, and promotion of functioning and the opening-up of the market shall be planned as a whole. “Listed companies may undertake the Share Reform one by one while only the one that is ready may set to undertake the Share Reform. ” The Share Reform shall proceed step by step, leveraging interests of parties involved while mobilizing all positive factors to promote market stability and healthy development by using the Share Reform as a great chance to enhance listed companies’ value, regulation of securities companies’ operations, market institution building and market system, and innovations in securities products.
4. The Share Reform is designed to float the former non-tradable shares rather than for the purpose of unloading state-owned shares through the open market. Neither the authorities intend to cash the state-owned shares in listed companies through domestic capital market. The controlling shareholder of the state-controlled listed company shall determine a reasonable minimum stake in the listed company under its control in light of the national layout and structural adjustment strategy with respect to the public sector economy. State capital shall be persistently maintained to the extent that it holds dominant control and acts as the leading force in sectors that are vital to the national economy and public welfare, as well as in the state-controlled listed companies that are fundamental and the pillar for the national economy. Where necessary, the state-owned shareholders may increase its stake in such listed companies through buying shares in the open market. Meanwhile, Controlling shareholders of other ordinary listed companies are responsible for the continuing operation and sustained development of listed companies. The regulator shall adopt appropriate institutional arrangements or technological devices to tempo the entrance of non-tradable shares into the market.
Section 2 General Principles of the Share Reform
5. Taking forward the Share Reform prudently – the Share Reform shall be conducted in a way that is consistent with maintenance of market stability and market development while more efforts need to be applied to the following aspects -- clearer illustration of where the Share Reform is heading, coordinating and instructing, establishing sound legal framework for the Share Reform and sound market infrastructure, and improving market environment for reform and development. In all, we must mobilize all positive factors to push along execution of tasks put forward by the Guidelines of the State Council and strive to bring the capital market a fresh start towards a track of healthy development.
6. Compliance with the Guidelines of the State Council -- “ The problem of listed companies split share structure shall be approached in a manner that is consistent with the way the securities market works, maintenance of the market stability and development, and protection of the legitimate interests of investors, especially public investors”.
To observe the way the market works, we shall treat the market-based decision-making and pricing mechanism among other market forces, along with policy support from the government, as the leading engine for reforms in the listed companies.
To maintain the market stability and development, we shall tempo the velocity and intensiveness of reform in proportion to the capacity of the market to endure changes brought by the reform as well as the current stage and character of the reform, leverage works on capital market reform in light of the latest market mechanisms and impact of the reform on the market, and reconcile the set of applicable policies and measures concerning capital market reform. In this way, a mutual beneficial relationship can be formed between the market reform and the market stability.
To protect the interests of investors, especially public investors, effective procedures and policies shall be adopted to ensure that general public investors are kept well informed, given the access to participating and voting in the Share Reform so as to form a share reform scheme that would re-unite interests of non-tradable shareholders and tradable shareholders, and stabilize share price expectations following completion of the Share Reform.
Section 3 Operating Principles of the Share Reform
7. Coordinated Organization. The China Securities Regulatory Commission (the CSRC) shall formulate the Regulations on the Split Share structure Reform of Listed Companies with a view to regulating the Share Reform in a transparent, fair and equitable manner, as well as protecting the interests of investors, especially public investors. Relevant departments under the State Council shall support and do their part in the Share Reform, establishing policies that promote stability and healthy development of the capital market, while making adjustment to reconcile the set of regulations concerning state-owned assets management, assessment of corporate performance, accounting, credit policy, foreign investment, etc. that are related to the Share Reform. The Regional People’s Government, as the major coordinator in individual share reform undergoing in its territory, shall lead the work on specific share reform in light of local circumstances and resource advantages, and consider possible impact of the Share Reform on listed companies structure optimization, local economic development and social stability.
8. Independent decision-making with respect to specific share reform scheme to suit circumstances. Non-tradable shareholders of the listed company shall consult floating A-shareholders on the share reform scheme that is fit for specific circumstances of individual listed company pursuant to applicable laws, regulations and measures on the Share Reform. The share reform scheme shall be determined through classified voting at the Share Reform meeting of interested A-shareholders conducted under the same procedures as a general shareholder meeting. The compensation program contained in the share reform scheme is a good approach to balance the interest between non-tradable shareholders and tradable shareholders and shall be continuously fine tuned in practice.
9. Maintenance of market stability and long-term development of listed companies. The listed company and its substantial shareholders are encouraged to take steps to stabilize the price expectation towards its shares, and to make comprehensive arrangements to improve company performance and growth potential. Regulatory authorities and stock exchange shall strengthen the coordination and supervision over specific implementation measures and corresponding arrangements relating to individual share reform scheme provided that independence of the interested parties is kept intact in negotiating and determining specific share reform scheme.
10. Observing the way the market works, and establishing market institution that facilitates resolution of the split share structure problem. When the time is ripe, a free float system may be adopted where future IPOs would not contain portion of non-tradable shares while the split share structure in some listed companies may still remains. Existing listed companies that have completed the Share Reform will be given the priority to refinancing application, and the approval for implementation of stock incentive scheme, while the authority will revise the supervision regime for refinancing activities that would serve to boost refinancing efficiency. Specific implementation and assessment measures, along with corresponding supervision regime concerning the management stock incentive scheme of listed companies shall be adopted separately by the securities regulatory departments jointly with other relevant departments. Likewise, listed companies contemplating A-share listing on a foreign exchange or A-share listed companies seeking spin-off and separate listing abroad will be permitted to proceed with such plans on condition that the share reform is completed. The negotiated non-tradable share transfer in listed companies shall be handled with additional arrangements with regard to the Share Reform, or in tandem with the Share Reform.
11. Properly dealing with the specific share reform of listed companies under peculiar situation. For the listed company with H-shares, B-shares, and A-shares outstanding, the solution for the split share structure shall be negotiated between A-shareholders involved; for the A-share listed company in banking sector with foreign stake and the Certificate of Approval for Establishment of Enterprise with Foreign Investment share, its share reform scheme is subject to the approval of competent departments under the State Council pursuant to relevant laws and regulations in addition to the approval of the share reform meeting of interested A-shareholders. Change in the foreign stake shall, in principle, not annul the preferential policies previously granted to the subject listed company. Foreign shareholders may reduce its shares in the listed company upon the expiry of lock-up period in accordance with relevant regulations and specific measures that are to be separately adopted by the department of commerce and securities regulatory department under the State Council jointly with other relevant departments. For the listed company posting poor financial results, injection of good assets, assumption of debts etc. are suggested as viable approaches towards the split share structure problem.
Section 4 Stringent Administration of the Share Reform
12. The Listed company and its board of directors shall strictly follow the procedures provided in the Regulations of the Split Share Structure of the Listed Companies in carrying out the Share Reform and performing relevant information disclosure obligations to keep the investors well-informed of important matters concerning the Share Reform, and enable the investors, especially public investors to participate and vote in the Share Reform. Investors are encouraged to take active part in the Share Reform and lawfully exercise shareholders rights. Non-floating shareholders are required to strictly comply with their undertakings made in relation to the Share Reform, and shall be held accountable for failing to fulfill their undertakings.
13. The sponsor and its representatives involved shall act with integrity, impartiality, and diligence in performing their sponsor work in relation to the Share Reform, which includes taking necessary steps to attain a thorough understanding of the general state of the company, coordinating activities relating to the specific share reform, conducting necessary inquiries, assisting the listed company and the interested shareholders in establishing a viable share reform scheme that suits specific situations, urging performance of disclosure obligations, and coaching compliance with the undertakings made in relation to the Share Reform. Regulatory measures will be taken against the sponsor and its representatives for failing to duly perform the sponsor responsibilities in relation to the Share Reform.
14. Institutional investors, i.e. fund management companies, securities companies, insurance companies and asset management companies etc. shall take active part in the Share Reform, and defend the rights of investors, especially public investors, as well as sustained development of the market. Disciplinary actions will be taken against those institutional investors for such misconducts as interfering into the decision-making on the part of other investors, manipulating the voting results of the Share Reform meeting of interested A-shareholders, or abusing the dominant shareholding position to seek interest exchange.
15. The stock exchange, as a self-disciplinary organization with closer contact with the market, more flexibilities, and larger capacity in coordinating innovations in the market institution and instruments, is in a better position to co-ordinate and instruct specific implementation method and the combination of measures for individual share reform scheme, and work with securities depository & clearing agencies to provide technical support for innovations adopted in individual share reform schemes during the reform period, as well as innovations in market institution and instruments after the Share Reform is concluded.
16. The authorities will strengthen supervisions on the listed company and its controlling shareholders, sponsors, fund management companies involved in the Share Reform, as well as the connected person and senior managements of the above institutions in a bid to deter and punish fraudulent activities, insider trading and market manipulation in connection with the Share Reform.
17. The media shall guide the public opinions on the Share Reform towards right direction with objective, positive and full coverage on the significance, progress, and latest events relating to the Share Reform in accordance with relevant news reporting disciplines.
Section 5 Promotion of Sustained Development of the Capital Market
By Mobilizing Every Positive Factor
18. The Share Reform provides a great chance for the listed company to improve its corporate governance structure and governance standard, while effectively eliminate or deter such misconducts as appropriation of funds of the listed company by its controlling shareholder or de facto controllers, illicit extension of loan guarantees, connected transactions that are not based on arm’s length basis and unfair for the listed company. After settlement of the split share structure problem, large corporation with sound performance is encouraged to seek an overall listing by means of private placement through the listed company under its control. Corporate restructuring in the form of mergers and acquisitions, all-stock transactions, share considerations are suggested as good ways to enhance competitiveness and strength of listed companies.
19. Share secured loans, short-term financing bonds or debentures, among other commercial instruments, may be issued to finance the purchase of additional shares in listed companies by substantial shareholders. The Share Reform may be conducted in tandem with works on securities companies restructuring and expansion of alternative financing sources for securities companies. Specifically, securities companies are encouraged to engage in a combination of fund-raising activities on a commercial basis to improve its liquidity, corporate governance, and internal risk control mechanism. The regulator shall seek to strengthen industry supervision, facilitate securities sector resource consolidation through cautious handling of restructuring or going-out-of-business with respect to securities companies with high-risk profile, and expansion of high quality securities companies.
20. Innovation activities in securities trading mechanism and instrument as follows shall be encouraged - introduction of separate stock index containing stocks that have completed the Share Reform, R&D on index derivatives, improvement of negotiated share transfer and block trade system, introduction of warrant or other instruments in IPOs and re-financing activities to balance the market supply and demand, etc.
21. Favorable tax policies shall be established to boost securities investment by the general public. To develop institutional investors for the market, we shall endorse entrance of the corporate annuity into the market, boost investment by social security funds and the qualified foreign institutional investors, and deregulate investment limit on insurance companies or other large institutional investors. In respect of matters concerning strategic investments in China’s listed companies by foreign investors after the Share Reform is concluded, the securities supervisory departments and departments of commerce under the State Council shall work with relevant departments to formulate relevant regulations and policies.
22. Current legal regime for the Share Reform needs to be revised and improved.
Existing laws, mainly the Securities Law, the Company Law and the Criminal Law, need revision while works must be done to develop and formulate Regulations on Supervision of Securities Companies, Regulations on Risk Handling for Securities Companies, Regulations on Supervision of Listed Companies, etc; Policies and rules that are not conducive to the dynamic and prudent advancing of the Share Reform must be adjusted while adopting measures to deal with new situations and issues arising from the Share Reform when appropriate. The regulators will endeavor to improve supervision method and enforcement effectiveness with a view to making room for market growth and innovation, as well as to providing a sound legal environment for the reform and opening-up of China’s capital market.
The China Securities Regulatory Commission
The State-owned Assets Supervision and Administration Commission
The Ministry of Finance
The People's Bank of China
The Ministry of Commerce
(This English version by Shenzhen Securities Information Co., Ltd. is for your reference only. In case any discrepancy exists between the Chinese and English context, the Chinese version shall prevail.)
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