Goldman, UBS Sidelined in China IPOs as Startup Offerings Soar

Photographer: Kevin Lee/Bloomberg

ChiNext and Shenzhen’s six-year-old board for small and medium-sized companies have dominated first-time sales in China this year, accounting for a combined 227 of the 241 deals. Close

ChiNext and Shenzhen’s six-year-old board for small and medium-sized companies have... Read More

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Photographer: Kevin Lee/Bloomberg

ChiNext and Shenzhen’s six-year-old board for small and medium-sized companies have dominated first-time sales in China this year, accounting for a combined 227 of the 241 deals.

Goldman Sachs Group Inc. (GS) and UBS AG are missing out on Chinese initial public offerings as local investment banks lead record numbers of small companies to sell shares in Shenzhen.

China accounts for a third of the $150 billion raised worldwide in IPOs this year -- yet the average deal size has shrunk as companies rush to list on Shenzhen’s ChiNext startup board introduced in October. Goldman Sachs, ranked first in overseas IPOs by Chinese companies, has expanded its local investment-banking unit’s workforce by about 40 percent in 2010 as it moves to target smaller domestic offerings.

“We are going to put more focus on ChiNext IPO deals,” Thomas Deng, head of China equity capital markets at New York-based Goldman Sachs, said in a Sept. 8 interview. “Our pipeline has traditionally been mostly big deals, or at least that’s the perception. This may change.”

Companies have raised 358 billion yuan ($53 billion) in first-time sales in Shanghai and Shenzhen since Jan. 1, putting this year on track to overtake 2007 as the biggest for local IPOs, according to data compiled by Bloomberg. Goldman Sachs hasn’t worked on any such deals. UBS (UBSN), in 18th place overall, ranks first among foreign investment banks in underwriting yuan-denominated IPOs after advising on one offering in 2010.

UBS was third in 2007, when the average IPO was more than twice as large, and Goldman Sachs was No. 7, Bloomberg data show. Joanna Sin, a spokeswoman for UBS Securities Co. in Beijing, declined to comment.

Higher Fees

China started the ChiNext board in October to spur stock sales by smaller companies. ChiNext has looser listing requirements than China’s two main boards, including a less stringent demand for profit history.

ChiNext and Shenzhen’s six-year-old board for small and medium-sized companies have dominated first-time sales in China this year, accounting for a combined 227 of the 241 deals.

While Shanghai IPOs have raised the most, driven by Agricultural Bank of China Ltd.’s $10.1 billion offering, sales on Shenzhen’s SME board have generated almost twice as much in fees for underwriters, according to Bloomberg data. Commissions averaged 4.5 percent of the 144 billion yuan raised there, compared with 2.3 percent for Shanghai IPOs and 5.2 percent for ChiNext deals.

“Smaller deals sometimes require the same amount of work as bigger ones, so naturally you charge a higher rate,” said Chen Zhenzhi, an analyst at Sinolink Securities Co.

ChiNext deals have been less rewarding for investors: The board accounts for six of China’s 10 worst-performing IPOs this year and just one of the 10 biggest gainers, Bloomberg data show. Credit Suisse Founder Securities Co. is the only overseas-backed firm to underwrite a ChiNext offering in 2010.

Local Ventures

Foreign investment banks are racing to set up local ventures so they can arrange stock and bond sales in China, which Goldman Sachs predicts will overtake the U.S. in equity market capitalization by 2030. A tie-up with a local partner is a prerequisite for overseas securities firms to do underwriting in China.

Goldman Sachs created its China venture, called Goldman Sachs Gao Hua Securities Ltd., in 2004. UBS followed two years later with UBS Securities Co. Deutsche Bank AG (DBK), Credit Suisse Group AG (CSGN) and CLSA Asia-Pacific Markets have also set up local underwriting operations, and JPMorgan Chase & Co. (JPM) is in the process of getting regulatory approval.

The two biggest domestic firms also suffered this year. China International Capital Corp. and Citic Securities Co., the dominant IPO underwriters in China in the past decade, saw their combined market share shrink to the lowest since 2005 as deals got smaller, Bloomberg data show. They still rank first and second after advising on Agricultural Bank’s sale.

Cherry-Picking

Foreign firms tend to pay more than their local rivals and have fewer bankers, limiting their ability to chase small deals, said an executive at an overseas investment bank who declined to be identified.

“When it comes to smaller deals, the big global banks do not have obvious advantages over local ones, for both cost and cultural reasons,” said Yu Huan, vice general manager at Soochow Securities Co., based in China’s eastern Jiangsu province. “They tend to cherry-pick deals and favor the bigger clients. It’s a matter of choice.”

PingAn Securities Co. and Haitong Securities Co. (600837) are among this year’s winners, reaching their highest IPO ranking since at least 1999 in fourth and fifth place respectively, Bloomberg data show.

Strategy Shift

UBS Securities worked on the 4 billion yuan IPO of Jihua Group Ltd. (601718), a maker of munitions for the Chinese military, in August. Zhong De Securities Co., one-third owned by Deutsche Bank, has arranged four deals worth a combined 2.9 billion yuan, putting it in 27th place, according to Bloomberg data. Fortune CLSA Securities Ltd. and Credit Suisse Founder Securities are 19th and 42nd respectively.

Smaller, privately owned companies going public after two decades of state-owned enterprises selling shares may drive a shift in investment banks’ strategy.

“Most big SOEs have already gone public, so we need to put more emphasis on the high-growth business opportunities,” said Goldman Sachs’s Deng.

One potential bottleneck is staffing.

Under Chinese rules, each underwriting firm must have two so-called sponsors -- bankers who have passed an underwriting test administered by the securities regulator and have relevant experience in equity offerings -- sign off on each deal. A single sponsor can’t work on more than two IPOs simultaneously.

IPO Reform

UBS Securities has 20 qualified sponsors, putting it in 25th place among the 71 firms that can underwrite local IPOs by that measure, the China Securities Regulatory Commission said Sept. 3. Goldman Sachs Gao Hua ranked 40th with 11 sponsors.

Guosen Securities Co. employs the most such professionals with 113, the regulator said. The Shenzhen-based firm has worked on 21 IPOs in China this year, trailing only PingAn Securities by deal count, Bloomberg data show.

Reforms aimed at making the IPO process in China more efficient and transparent may bolster foreign banks, said Deng.

The CSRC on Aug. 20 said it will adopt measures that hold participants in the pricing of shares more accountable for their bids to buy stock in IPOs. Last year, the regulator abolished a price-to-earnings ceiling for IPOs in a bid to combat excessive first-day gains.

“The direction of the IPO mechanism reform is to get more rational and market-driven pricing,” said Deng. “This will eventually benefit the big banks who are more experienced in pricing.”

--Eva Woo. With assistance from Frances Liu in Hong Kong. Editors: Philip Lagerkranser, Chitra Somayaji

To contact the reporter on this story: Eva Woo in Beijing at ewoo9@bloomberg.net

To contact the editor responsible for this story: Philip Lagerkranser at lagerkranser@bloomberg.net

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