China banning foreign IPOs would be pretty unsurprising

Didi’s U.S. IPO is one of several key moments of the recent regulatory shift inside China regarding its leading technology companies. The other is Ant’s IPO that never happened, pulled in the wake of criticisms of the Chinese government’s handling of newer technologies by the previously prominent Alibaba founder Jack Ma.

It’s been a busy year for changes to how the autocratic Chinese government handles its economy. From a larger crackdown on technology firms to new rules regarding youth video game playing, a shellacking of the for-profit edtech sector, and changes to how fintech can operate, watching China from a tech perspective this year has proved hectic.

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Even though it’s the first of December, we may not be done yet with this year’s changes.

Bloomberg reports that China is considering removing the VIE loophole that allowed Chinese companies to list in the United States, closing a method by which local companies could access foreign capital.

VIEs, or variable-interest entities, are complex. But legal group Winston & Strawn has a good summary of why they matter, which will do for our purposes. Per the law firm, VIEs are “commonly used in China to allow foreign investors to participate in industries that are explicitly or practically restricted from foreign investment.”

VIEs don’t grant ownership of the underlying asset as we might normally understand it. Instead, they can help get around Chinese laws concerning foreign ownership of companies in select industries. How do they do that? By using an offshore company setup to collect “a claim on the profits and control of the assets that belong” to the actual company in China, GCI Investors explains. That’s where the interest part of VIE comes into play.

VIEs are how Tencent, Didi and others went public in the United States. Not by listing their main corporate bulk, but instead by dodging domestic rules, creating a puppet entity, and selling Americans stock in that corporate bridge. Not what you expected? Did you think that your Alibaba holding was in the actual company? Well, bad news.

The model was always risky as heck, but tolerated because folks wanted to buy shares of Alibaba, as well as the general risk-on climate of the last few years. But now the Chinese Communist Party is considering doing away with the side-step of its own rules.

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