May 21, 2020 By LegalMiner

I.Overview of IPO Review in 2019

1.Number of IPO reviews in 2019

In 2019, the Public Offering Review Committee (PORC) of the China Securities Regulatory Commission (CSRC) reviewed a total of 161 IPO applications (STAR Market excluded) , of which 85.71% (138) passed, 9.94% (16) failed, 3.73% (6) terminated, and 0.62% (1) suspended the review. Since Jiangsu Guomao Reducer Co., Ltd., Sichuan Anning Iron and Titanium Co., Ltd., and Zhongtai Securities went through the review twice during the year, the total number of examinations is actually 164.

Compared with the same period last year, the total number of companies under review in 2019 decreased by 19.5%, and the proportion of companies that have passed the review rose to 85.71% from 55.5% last year.

IPO Review Results in 2019

2.Temporal distribution of companies under IPO review in 2019

In respect of the number of IPO applications reviewed each month in 2019, there was a relatively small peak in June and November. In particular, from September to December, the number of IPO applications reviewed by the PORC as a whole exceeded that of the same period last year, a situation never seen in a year. In spite of this, on the whole, the number of IPO applications handled by the PORC this year still registered a certain decline from last year. Especially in the first quarter of this year, the number of enterprises reviewed decreased significantly.

3. Analysis of IPO denials in 2019 with respect to board distribution

With respect to board distribution, since the STAR Market opened for trading in 2019, the proportion of companies that have applied for the GEM listings has increased significantly while applications for the main board listings reduced remarkably.

Board Distribution of IPO Applications in 2019

4.Industry distributions of companies under IPO review in 2019

In respect of the industry of IPO applications reviewed in 2019, the manufacturers of computers, communication and other electronic equipment filed the most applications, which is in line with that in the same period last year. The number of applications filed by manufacturers of raw chemical materials and chemical products came second. It is worth noting that the number of software and information technology enterprises that had been consecutively topped the number of applications in previous years has significantly reduced to only 7 enterprises this year, a decrease of 50% compared with the same period of last year. This is related to the official implementation of the registration-based system for IPOs in the STAR Market this year, leading many high-tech software enterprises to applying for listings on the STAR Market board instead.

Top 10 Industries of Companies under IPO Review in 2019

5. Industry distribution and capital raising of companies that passed IPO examination in 2019

In 2019, there were a total of 161 companies under 164 IPO reviews, of which 138 passed the review. Among the 138 companies that succeeded, a majority (i.e., 89 companies) came from the manufacturing industry, which also raised the most capital with a total number of RMB 70.947 billion, accounting for over 61.61% of all capital raised. The information transmission, software and information technology service came second, with 12 companies successfully passing the review, raising RMB 8.853 billion, and accounting for 7.69% of all capital raised. The financial industry ranked third, and the total amount raised is unavailable from public sources.

Industry distribution and capital raising of companies that passed IPO review in 2019

6. Regional distribution of companies under IPO review in 2019 


In 2019, companies from 23 provinces, cities or autonomous regions applied for IPO listings. From the aspect of geographical distribution, Guangdong province is the region where most IPO applications generated. In October, in particular, 9 enterprises in Guangdong were reviewed for IPO listings, accounting for 37.5% of all the reviews in that month. Beijing, Jiangsu and Zhejiang, which have always been among the top in IPO applications, came second, third and fourth respectively. This is consistent with the trend of IPO reviews in recent years.

Regional Distribution of Companies under IPO Review in 2019

II. Analysis of IPO denials in 2019

1. Board analysis of IPO denials

With respect to board distribution, there were 2 IPO denials for the main board, accounting for 12.5%; 2 IPO denials for the small and medium sized board, accounting for 12.5%; and 12 denials for the GEM, accounting for 75%. Compared with the same period of last year, the proportion of the companies whose applications for the main board listings have been rejected declined significantly, and of those who have been rejected for GEM listings increased remarkably. Such change is driven by the opening for trading of STAR Market this year where many applications went to.

Board Distribution of IPO Denials in 2019

2. Temporal distribution of IPO denials

The number of IPO denials in 2019 peaked in June, exceeding that of the same period last year, which is never seen in a year. In spite of this, on the whole, the number of IPO denials this year declined from last year. Especially in January, the number of IPO denials decreased significantly, which was closely related to the decrease in the number of applications in that month.

Board Distribution of IPO Denials in 2019

3. Geographic analysis of IPO denials

In terms of geographical distribution, the province with the largest number of IPO denials (i.e., 5 denials) in 2019 was Guangdong, accounting for 31.25% of all IPO denials, followed by Beijing and Jiangsu accounting for 18.75% respectively with 3 denials each.

Compared with last year, Zhejiang has seen reduced IPO denials, consistent with the total reduction of IPO applications in the region.

Geographic Distribution of IPO Denials in 2019

4. Industry analysis of IPO denials

Compared with 2018, the industry concentration for IPO denials in 2019 has reduced. The manufacturing companies accounted for the largest number of IPO denials with 62.5%, down from 69.4% in 2018.

In 2019, the top three industries with the largest number of IPO denials were manufacturing, information transmission, software and information technology service, and wholesale and retail. Among them, the manufacturing industry has seen the largest number of IPO denials, i.e., 10, accounting for 62.5% of total denials. The number is slightly lower than the percentage of manufacturing companies among all companies under IPO examination. The data shows that the approval rate for companies in the financial service industry is relatively high, reaching 90%.

Industry Distribution of IPO Denials in 2019

5. Analysis of reasons for IPO denial

The data shows that among the feedback on companies that failed IPO examination, the top five risk concerns are: gross profit margin, horizontal competition and benefit transfer, continuous profitability, affiliated transaction, and internal control.

Among them, the issue of gross profit margin has been raised most frequently and accounted for 75% of IPO denials. The issues of horizontal competition and benefit transfer and continuous profitability accounted for 62.5% and 50% of IPO denials.

Major Concerns for IPO Denials in 2019

6. Analysis of core reasons for IPO denials

1) Gross profit margin (GPM)

GPM is a very important financial indicator and has been the focus of IPO examination by the CSRC for the past two years. Based on the feedback on IPO denials, applications by companies whose GPM is apparently higher or lower than the industry average, or subject to fluctuations are very likely to be denied in the review.

GPM differs greatly from that of comparable companies in the industry.

Example:
Applicant: SHENZHEN Z&F CULTURE CONSTRUCTION CO., LTD.

Specific issue: comprehensive GPM is higher than that of comparable companies in the industry.

Original feedback:
“The issuer's comprehensive GPM during the reporting period was 17.34%, 18.29% and 17.01% respectively. The GPM varies greatly among projects. The issuer shall:

(1) Provide a supplementary explanation for the pricing basis and internal control system for undertaking projects;
(2) On the basis of the progress and settlement of major projects during the reporting period, provide a supplementary explanation for the contract amount, revenue recognized, cost, GPM and the reasons for the difference of different projects;
(3) On the basis of the similarities and differences in specific projects, clients and sales models between the company and the comparable listed companies in the industry, further disclose the reasons why the GPM of the issuer during the reporting period differs from that of the listed companies in the industry and the justifiability of such difference. Explain the basis and scope for selecting such listed companies and explain whether such selection reflects an overall picture of the industry.
(4) Given that the issuer’s main business is acoustic decoration engineering, please make a further comparison between the issuer's GPM in this market segment and the average GPM in the decoration engineering industry. If there is any difference, please explain the reason and justifiability of such difference. The sponsor and the reporting accountant are required to verify the forgoing issues and issue their opinions accordingly. ”

Original review comments:
“The issuer's comprehensive GPM during the reporting period was higher than that of comparable companies in the industry. The issuer’s representative shall:

(1) Explain the commercial justifiability that GPM of general contracting projects is significantly higher than that of owners' projects, and explain whether it is the same case for comparable companies in the industry, and whether it is in line with industry practices;
(2) Explain the reasons why the GPM of the solicitation-based bidding projects is higher than that of public bidding projects and the justifiability of it;
(3) Explain the specific content of the general contracting management model, the professional project bidding price control, management fee standards and payment methods reviewed and confirmed by the government financial departments involved in the major projects during the reporting period, and the specific impact on the GPM of each project;
(4) Explain whether the higher labor cost in the company is also true for other companies in the industry, whether the labor cost is authentic and rational and whether there is cost adjustment through labor subcontracting companies. The sponsor’s representative is required to explain the basis and process for the verification and issue a clear verification opinion.”

Wild fluctuation in GPM

Example:
Applicant: Hangzhou Tianyuan Pet Products CO., LTD.

Specific issue: the growing revenue is contradictory with the declining main business, GPM changes are abnormal, etc.

Original feedback:
“The issuer's comprehensive GPM during the reporting period was 24.77%, 26.58% and 28.99% respectively. The issuer shall:

(1) On the basis of the changes in raw material price, unit product cost, unit product price, fluctuation of upstream and downstream industries, etc., fully disclose the reasons for the change in GPM, and make a quantitative analysis on the impact of the above changes on the GPM of the issuer;
(2) On the basis of the product structure, purchase and sales model, product cost and pricing of the company and the industry, fully disclose the reasons why the GPM of the company differs from that of the comparable listed companies;
(3) Explain the basis and compliance of GPM calculation, whether the revenue and related costs and expenses match with each other, and whether the division of each component of costs and expenses is reasonable.
(4) Provide a supplementary explanation for the reasons why the GPM differs among products and why the GPM of the same product fluctuates in different periods, with a special focus on the analysis of the rationality of the increase in GPM of products with an increasing GPM year by year, and the influence of the GPM of products with a decreasing GMP year by year on sustainable profitability. The sponsor and the accountant are required to conduct further verification and explain the method, scope, evidence for such verification and issue their opinions accordingly.”

Original review comments:
“In 2017 and 2018, the issuer’s domestic revenue increased significantly, while the GPM of its main business was going down. The issuer’s representative shall:

(1) Explain the composition of domestic sales revenue, and quantitatively analyze and compare the reasons why its domestic revenue soared in 2017 and 2018, and explain whether comparable companies in the industry experienced the similar trend;
(2) Explain the reasons and justifiability of lowering the price of pet cushion and whether it is the general practice of comparable companies in the industry;
(3) Explain the reasons and justifiability of the decline in GPM and whether the factors leading to such decline will remain and inflict an adverse effect on the business performance and sustainable profitability, and whether relevant risks have been fully disclosed;
(4) Explain whether the impact of Sino-US trade friction on future business performance will have a significant adverse effect on the issuer.

The sponsor’s representative is required to explain the basis and process for the verification and issue a clear verification opinion.”

2) Horizontal competition and benefit transfer

Horizontal competition is not clearly defined in China's legal regulations, but the PORC has been paying close attention to whether there is horizontal competition between enterprises and their affiliates. The main purpose of disallowing horizontal competition is to prevent the controlling shareholders and actual controllers of the enterprise from using the company's existing resources to invest in or operate other similar companies. This phenomenon will definitely affect the integrity of the market share and the independence of the management of the listed entities and will be more likely to breed potential benefit transfer. As such, horizontal competition and benefit transfer will be one of the important reasons why a company’s IPO application is rejected.

Example:
Applicant: Shanghai iRay Technology Company Limited

Specific issue: whether there is horizontal competition and benefit transfer between the issuer and its affiliates

Original feedback:
“Yang Weizhen, one of the actual controllers, served as R&D engineer and R&D director of Shenzhen Landwind Industry Co., Ltd. (“Landwind”) from 2000 to 2011, and is now a supervisor of Jiangsu Landwind Kaitai Medical Equipment Co., Ltd. Guo Peng, the issuer's chief financial officer, served as the group financial manager of Landwind from 2010 to 2011. Landwind is one of the top five customers of the issuer during the reporting period. The issuer's sales to Landwind and its affiliates account for about 4% to 6% of its total sales. Explain Yang Weizhen’s work in Landwind and how he joined the issuer after leaving Landwind; describe the basic company profile of Landwind, the relationship between its previous and current shareholders and actual controllers, and Yang Weizhen, his close family members and other actual controllers of the issuer, and whether they are affiliates of the issuer; describe the actual main business of Landwind and its relations with the main business of the issuer; explain Landwind’s relations with the issuer in terms of technology, assets, personnel, etc., Landwind's main financial situation, the proportion of the issuer's sales in its purchases, and the content, quantity, price, amount and pricing basis of the transaction between Landwind and the issuer; and explain the fairness of the transaction based on the market price, and whether Landwind is covering costs and transferring benefits for the issuer. ”

Original review comments:
“The issuer’s representative shall:

(1) Explain whether there is horizontal competition between the four affiliates, namely Meili Weiye, Shiya, OXI Technology and Feisen, and the issuer, the reasons and justifiability of the continued losses during the reporting period, and whether there are assets, personnel mixing or cost and expense sharing with the issuer in purchasing, selling or R&D;
(2) Explain the reasons and justifiability of the funds connections between the main shareholder and the main customer, Landwind and its affiliates;
(3) On the basis of the operation and reorganization of Landwind, explain the authenticity and rationality of the transaction with Landwind, the fairness of the transaction price, and whether there is any benefit transfer;
(4) Explain the reason why the issuer adopts the 100% advance payment settlement method towards Landwind, and the reason why Landwind continues to carry out the transaction even though there was a long-term uncollected large amount of accounts receivable and justifiability of doing so.
The sponsor’s representative is required to explain the basis and process for the verification and issue a clear verification opinion.”

3) Sustainable profitability

As one of the focuses of the PORC, inquiries about the sustainable profitability of enterprises frequently appear in the feedback and review comments of the committee. Such inquiries may be based on a variety of reasons, such as drastic changes in the issuer's business model, lack of core competitiveness, fluctuations in performance , major changes in upstream and downstream partners, and major adjustments in relevant trade policies.

Inquiries about sustainable profitability based on the issuer's performance fluctuation and gross profit decline

Example:
Applicant: Beijing Centre Biology Co., Ltd.

Specific issue: inquire about the impact of the decline in GPM of the issuer’s major products on its sustainable profitability.

Original feedback:
“The prospectus discloses that the GPM of the issuer's main business in each of the reporting period was 63.87%, 62.54%, 66.64% and 66.20% respectively. The issuer shall provide a supplemental explanation for the following:

(1) As the GPM of veterinary biological products, veterinary chemical preparations and premixed feed products has greatly increased since 2015, please state the reasons and justifiability of the substantial increase in GPM of the above products in terms of product structure, process optimization, equipment improvement and scale effect and so on.
(2) Explain the proportion of products with high GPM and their main clients, and whether there are some clients who have long bought such products.
(3) Explain whether there is big difference in the GPM of the same kind of product sold to different clients and the reasons behind that.
(4) As the GPM of the issuer's products is significantly higher than the average GPM of listed companies in the industry, please explain the reasons and justifiability of the higher GPM by comparing and analyzing the unit price, technical route, customer structure, product characteristics, etc.
(5) Analyze whether the division and collection of various components of operating costs and expenses in relevant period are in compliance with relevant requirements, and their impact on GPM. The sponsor and reporting accountant are required to verify the authenticity, accuracy and integrity of the GPM and issue their opinions accordingly.”

Original review comments:
“During the reporting period, the issuer’s GPM is going down period by period. The issuer’s representative shall:

(3) On the basis of the situation in the first quarter of 2019, explain whether the GPM of major products is on the decline and its impact on the issuer's sustainable profitability. The sponsor’s representative is required to explain the basis and process for the verification and issue a clear verification opinion.”

Changes in the political and economic environment may have a negative impact on the sustainable profitability of enterprises

Example:
Applicant: Nantong Chaoda Equipment Co., Ltd.

Specific issue: whether Sino-US trade friction will lead to significant adverse effects on the issuer’s sustainable profitability

Original feedback:
“The prospectus discloses that the overseas sales ratio of the issuer during the reporting period was 46.57%, 47.89%, 44.25% and 45.16% respectively. The issuer shall:

(1) Further disclose major outbound sales destinations, their sales proportions and settlement currencies during the reporting period, and make a quantitative analysis on the impact of exchange rate swings on the operating income;
(2) Provide a supplementary explanation for the development history and transaction background of major overseas customers, the basis for concluding high-value contract orders and the execution process for such orders, and whether the issuer's export tax rebate matches its overseas sales scale. The sponsor is required to explain the verification method, scope, process and conclusion of overseas customers' sales revenue, and issue clear opinions, in combination with the logistics transportation records, funds transfer vouchers, delivery acceptance documents, invoices, export documents and customs data, and the final sales or use of products.”

Original review comments:
“During the reporting period, the issuer's revenue generated from overseas sales accounted for about 50% of its total sales revenue, of which sales revenue from the United States accounts for an increasing proportion in operating income, while the proportion of revenue recognized through response from external confirmation during the reporting period was relatively low. The issuer’s representative shall:

(1) Explain how the issuer reached out to the major overseas customers and the background of relevant transactions conducted, and the basis for concluding high-value contract orders and the execution process for such orders;
(2) Explain the reasons and justifiability of the differences in GPM between domestic and overseas sales;
(3) Explain the reasons and justifiability of the big difference between the freight premium stated in the export declaration form and the freight premium actually settled;
(4) As the new orders received from the United States dropped from the same period last year after the U.S. imposed additional tariffs since 24 September 2018, explain whether this will have a significant adverse impact on the issuer’s sustainable profitability and how the issuer will respond to such situation;
(5) Explain the reasons and justifiability of the lower proportion of revenue confirmed through response from external confirmation in the overseas sales revenue and whether the alternative verification procedures

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