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Disclosures by Chinese Corps. Trading on U.S. Exchanges Have a Defined Duty to Shareholders

Commissioner Allison Lee of the Securities and Exchange Commission (SEC) is requiring that Chinese companies listed on U.S. stock exchanges disclose any known risks related to the Chinese government interfering in their business. This adds an extra level of responsibility toward investors from corporations domiciled in China. Any disclosures are to be included as part of their regular reporting.

Impact

Regular annual and quarterly filings by all public companies contain discussions of the firm’s liquidity, capital resources, results of operations, any favorable or unfavorable trends in the industry, and any significant events or uncertainties. This could include lawsuits, political risks, and other potential shocks. For companies headquartered in China and listed on a U.S. exchange, they will need to specifically address known risks that are present due to the Chinese government.

There are at least 248 Chinese companies listed on three major U.S. exchanges with a total market capitalization of $2.1 trillion, according to the U.S.-China Economic and Security Review Commission (USCC). There are also eight national-level Chinese state-owned enterprises listed in the U.S. To the extent that any of the companies have reportable circumstances, it may place them in the difficult situation of being required to highlight activities related to the Chinese government and their specific business. If not complied with, they could face penalties from the SEC, including delisting.

Why the Requirement

There are five SEC commissioners, Commissioner Lee’s remarks are the first by an SEC official since Chinese regulators enacted a massive cyber-investigation of ride-hailing company Didi Global last week. The actions by the Chinese government came a few days after its $4.4bn NYSE listing. The “meddling” is suspected of erasing 25 percent of investor value. There is concern among policymakers that Chinese corporations are violating the current SEC rules that require public companies to disclose to investors material risks that may impact their businesses. This order spells out that government meddling must be included.

The Wall Street Journal reported that Didi was warned by regulators to delay its initial public offering and address its cybersecurity. Didi has said it had no idea about the investigation before listing. The SEC does not disclose active investigations.

Additional Information

During the past decade, Washington policymakers have focused on having US-listed Chinese companies comply with U.S. Public Company Accounting Oversight Board regulations. Last year, Congress passed a law that would delist Chinese companies from U.S. exchanges if they did not comply with U.S. auditing standards. The SEC has been asked by lawmakers to devote more resources to these risks. “U.S. regulators must ensure that American investors and workers are protected from the anti-market behavior that is scarring American investors,” said Senator Bill Haggerty, Senate Banking Committee, in a statement to Reuters.

High-quality, reliable disclosure, including financial reporting, is the core mission of the SEC. It’s tasked with protecting investors, maintaining fair, orderly, and efficient markets, and facilitating capital formation. Although China-based Issuers that access the U.S. public capital markets generally have the same disclosure obligations and legal responsibilities as other non-U.S. issuers, the Commission’s ability to promote and enforce high-quality disclosure standards for China-based Issuers may be materially limited. This leaves the door open to greater risk that their disclosures may be incomplete or misleading. In addition, in the event of investor harm, investors generally will have substantially less access to recourse in comparison to U.S. domestic companies and foreign issuers in other jurisdictions.

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