The data showed that not only were politically connected IPOs far more common in China than anywhere else studied, but that those firms which were politically connected were most likely to show a marked deterioration in their performance post-IPO. While it is impossible to prove, it is reasonable to suppose that a more open process for pre-IPO approval would uncover firms which were either falsifying their performance or showing some marked deterioration. Investors in Chinese firms don’t benefit from a process which does this kind of discovery well.
The study also found that politically connected Chinese firms were more likely to engage in “law-breaking” such as falsifying financial statements. Yet despite breaking regulations more often, they were less likely than others to be punished.
Of politically connected firms, 92 percent that falsified financial reports and 90 percent that violated laws were not prosecuted by regulatory authorities.
The authors, and it is hard to disagree, argue that China should move to a more open, disclosure-based review process, as well as freeing stock exchanges from direct political control. They’d also like to see better and more equal-handed enforcement by regulators.
Sadly, a look at China’s approach to regulation over the past year gives little hope for a belief that China will be quick to reform. While making much of its desire to be a global capital market, China’s short-selling hunting and practice of staging public confessions by supposed malefactors shows things are not moving in the right direction.
This puts investors in a very difficult position. It is very hard to simply take a pass on the world’s second-largest economy as an investment destination.
Reading this study, and the news, it may be hard for thinking investors to do anything else.