Financing innovation requires innovation in finance

Many aspects of China’s technology are already much admired. Chinese companies are pioneering world-leading innovation in areas such as mobile payments and 5G infrastructure. But the next generation of technology firms also needs development and nurture to ensure its future success.

The Shanghai auhtorities understand that access to finance is often the biggest barrier to innovation for these firms. Many technology companies have assets based largely on intellectual property. The initial cash burn and limited early stage profitability can cause challenges when borrowing from banks or attracting private equity investment.

This is where the STAR Market plays a role. By providing access to capital for high-growth technology companies, the STAR Market supports the continued innovation that will drive China’s economic growth.

A second benefit, potentially even more significant for the longer-term, is the piloting of reforms that can be extended across China’s capital markets.

The STAR Market opened in July this year. Following the initial listing of 25 companies, a strong pipeline of further potential IPOs has developed. We expect the total number of STAR companies to exceed 100 by early next year.

This will have a significant impact on the development of the technology sector in Shanghai and across China. HSBC’s view is that by taking a series of steps in three areas, the Shanghai authorities can further develop this critical sector for China’s economic growth and future prosperity.

The first area involves making it easier for investors to access the STAR Market. Like China’s wider capital markets where gradually lifting restrictions, the STAR Market would benefit from attracting domestic and overseas investors. Our discussions with investors in the UK, Europe, US and Hong Kong have revealed a strong appetite to invest in STAR companies. Expanding coverage of the Hong Kong-Shanghai Stock Connect to include STAR stocks could capitalise on this by widening and increasing the channels through which investors can access them.

The second area involves making the STAR Market more attractive to a wide range of companies. So far, there has been a good spread of companies across the five strategically important sectors — next generation information technology, pharmaceuticals, high-end manufacturing, new energy and environmental protection, and new materials. Encouraging companies that meet a wide range of the eligibility criteria would enable more to apply — as would an accelerated process for a follow-on offering if additional financing is required. Allowing companies — including Chinese companies — that have a primary listing elsewhere to make a secondary listing on the STAR Market would increase diversity, and help to position the STAR Market as a global market of choice for the world’s leading technology companies.

Third, while the STAR Market can play a central role in the financing of innovative, high-growth companies, access could also be improved to equity finance and bank lending for technology companies more broadly.

At the UK-China Economic and Financial Dialogue in London in June 2019, the Chinese and British governments agreed to explore the UK’s experience of supporting early-stage companies through the “Business Growth Fund.” This was established in the UK in 2011 to address the financing gap for smaller companies that are either too small for private equity venture capital investors or public markets, or find the terms offered to them unattractive. A “Shanghai Technology Growth Fund” based on this model would be a logical step.

In addition, banks can promote lending to the sector. For example, in June 2019 HSBC launched a “GBA+ Technology Fund” that will provide US$880 million of finance to highgrowth, early stage technology companies, especially in the Guangdong-Hong Kong-Macao Greater Bay Area. The fund is part of the financing mix required to support the continued growth of technology companies, so many of the recipients may also have received funding from venture capital or private equity firms.

The establishment of the STAR Market to finance innovation in China’s technology sector represents the most significant measure so far in China’s ongoing program of capital market reforms. It is critical that Shanghai develops and builds on it.