Regulators have recently strengthened self-disciplinary management of offline investors in the A-share market. The Shanghai Exchange (SSE) and the Shenzhen Exchange (SZSE) (collectively, the “Exchanges”), together with the Securities Association of China (SAC), successively conducted special inspections of certain offline investors and imposed self-disciplinary measures against several institutional investors found to have committed violations in the participation of offline IPO subscriptions earlier this year. Based on public information, below we offer a brief overview to these special inspections as well as the typical violations that have been subject to disciplinary sanctions.
It has been reported that in 2021, the Exchanges, together with the SAC, have conducted two special inspections on the bidding behaviors of certain offline investors, namely, the joint self-disciplinary inspections of offline investors conducted by the SZSE and the SAC, and the special on-site inspection of the STAR Board offline investors conducted by the SSE. Based on the findings arising from these special inspections, the SSE and the SAC respectively imposed the following self-disciplinary measures against offline investors whose bidding behavior was not in compliance with the relevant offline IPO rules:
The SSE has issued written regulatory warnings to six private fund managers (PFMs) for their violations of relevant offline IPO rules in the STAR Board offline IPO subscriptions1.
The SAC has imposed self-disciplinary measures on 11 institutional investors for their violations. Specifically, the SAC suspended offline investor credentials of a subsidiary of fund management company (FMC), and a PFM for three months, and one month for another PFM and a QFII; moreover, the SAC imposed self-disciplinary warnings to seven other PFMs.2
Since then, the SSE has formed seven workgroups to conduct special inspections on a number of offline investors in Beijing, Shanghai, Guangzhou and Shenzhen, of which the inspection targets including ten FMCs, six PFMs, one insurance company and two asset management subsidiaries of securities companies3.
It is reported that the above-mentioned inspection targets were institutional investors who submitted highly consistent price quotes, have a large number of placement targets, or have significant market influence, selected by the SSE out of numerous recent IPO projects that have finished the Request for Quotation (RFQ) procedure by using the so called “big data” analysis. The SSE has discovered that certain institutional investors had non-compliant bidding behaviors such as incomplete internal control policies and operation procedures, non-compliant decision-making mechanisms for pricing, insufficient pricing basis, and failure to properly archive working documents.4
Based on our observations of the recent special on-site inspection of the STAR Board offline investors conducted by the SSE in July 2021, as well as other special inspections conducted thereafter, below we summarized the most common activities targeted by regulators for sanctions:
1. Insufficient Internal Policies and Operation Procedures or Failures of Implementation
Incomplete posts for bidding or unclear division of duties of relevant posts.
Incomplete evaluation, decision-making or review procedures for bidding.
Failure to establish a double-post for a double review for major operation process, for example, bidding is implemented by only one person.
Failure to establish policies to control communication devices or implement controls of communication devices of the personnel responsible for bidding on the date of RFQ.
(2)Insufficient Justification for Pricing or Non-Compliant Mechanisms for Determining Pricing
Pricing not based on sufficient research.
Failure to establish effective evaluation and pricing models.
Failure to clarify pricing range suggestions or failure to elaborate on parameter setting in the research report.
Lack of logical reasoning from the pricing research to a final determined price quotes.
Pricing arbitrarily based on subjective factors.
Intentionally lowering price quotes in the evaluation and pricing process in order to increase the likelihood of winning the bid.
3. Mishandling Price Quote Information, Increasing the Risk of Information Leakage
Conveying price quote information to traders verbally or through group messages in chatting APPs.
Failure to control communication devices of the personnel responsible for bidding on the date of RFQ, increasing the risk of leaking important information such as price quotes.
4. Failure to Properly Archive Working Documents
Failure to keep records of and archive research reports, materials associated with the decision-making process for pricing, and the basis for pricing.
Failure to finalize research reports or submit finalized research reports to internal system before the closing of RFQ.
It is also reported that the SSE has established standard supervision mechanisms of bidding behavior of offline investors. The SSE may employ the following supervision methods:
1. With respect to daily supervisory practices, the SSE may gain access to the issuer or lead underwriter of IPO projects that receive price quotes highly consistent with each other to understand the situation, as well as arrange regulatory interviews via phone or on-site with institutional investors exhibiting abnormal bidding behaviors to closely monitor the situation and reiterate regulatory requirements.
2. The SSE has established behavior analysis models with respect to offline investor bidding, by which the SSE may analyze the details of bidding behaviors in the STAR Board IPO projects that have finished the RFQ procedure based on “big data”, screen out institutional investors who submitted highly consistent price quotes or whose bidding behaviors are seemingly arbitrary, and conduct special on-site or off-site inspections of such institutional investors by survey, regulatory interviews, or review of working documents.
3. The SSE will strengthen coordination and consultation with the SAC in supervision of the offline IPO process, and work more closely with the SAC to strictly punish violations arising thereof in accordance with regulations.
Pursuant to Article 13 of the Detailed Rules for Administration of IPO Offline Investors, Article 7 and Article 9 of the Detailed Rules for Administration of IPO Offline Investors on the STAR Board, offline investors shall establish and strictly implement internal policies and operation procedures for offline IPO biddings and subscriptions. Moreover, offline investors shall bid reasonably based on sufficient research and in accordance with decision-making procedures for pricing.
In addition, pursuant to Articles 16 and 45 of the Norms of Business of Underwriting IPO Shares, and Article 15 of the Norms of Business of Underwriting IPO Shares on the STAR Board, behaviors prohibited in the offline IPO bidding and subscription include (1) bidding through consultation with other offline investors; (2) colluding with the issuer or underwriter of the bid; (3) using multiple accounts to bid; and (4) deliberately depressing or raising prices.
The Exchanges and the SAC may impose the following self-disciplinary measures within their respective authorities against offline investors found to have committed violations in accordance with the relevant Exchanges rules and the SAC disciplinary rules:
1. Self-disciplinary measures by the Exchanges: Based on the circumstances of each case, the Exchanges may apply self-disciplinary measures such as regulatory talk, verbal or written regulatory warning, or may impose disciplinary punishments such as restrictions on trading, circulating a notice of criticism, and public censure.
2. Self-disciplinary measures by the SAC: Based on the circumstances of each case, the SAC may impose a warning against offline investors, order them to rectify the matter, suspend their qualifications, or apply other self-disciplinary measures.
3. Restricted List and Blacklist System of the SAC: In addition to the measures above, if offline investors or placement targets violate Article 45 or Article 46 of the Norms of Business of Underwriting IPO Shares, or Article 15 or Article 16 of the Detailed Rules for Administration of IPO Offline Investors on the STAR Board, the SAC may add the offline investor or placement target to the “restricted list for allotment of IPO shares” (the “Restricted List”) or the “blacklist of offline investors” (the “Blacklist”). A placement target shall not participate in offline bidding on the STAR Board, Main Board, and ChiNext for the duration that it appears on the Restricted List, while all placement targets managed by an offline investor shall not participate in offline bidding on the STAR Board, Main Board, and ChiNext for the duration that the offline investor is on the Blacklist.