The economic rise of China has been nothing short of amazing. Equally incredible is the way its financial markets have adapted and improved over the past few decades. While the Chinese stock market is in its early stages compared to the United States’ Stock Exchanges, it is important that investors understand the fundamentals of the Chinese equities market.
Unlike in the U.S., where public companies mainly have one class of common stock, Chinese companies have several different share classes, each with its own requirements and implications. It’s important to note that the different share classes in China, such as A share and B shares, are not the same as when a U.S. company has two different share classes.
Berkshire Hathaway, for instance, has two types of shares: BRK:A and BRK:B. Berkshire’s class B shares were simply created to make it easier for investors who wanted to own their stock but did not have the capital to buy into their class A shares. Apart from the equity percentage differences and voting right differences, Berkshire class A & B are primarily the same.
Chinese share classes are very different, and they can be grouped into two categories. The first category consists of companies incorporated within The People’s Republic of China, and the second group consists of companies incorporated outside the PRC.
Share Clases From Companies Incorporated in PRC
Companies incorporated inside the PRC can have their shares listed as either A shares, B shares, or H shares.
A shares within China are stocks that are traded on the Shanghai or Shenzhen stock exchange and are explicitly traded in the Chinese Yuan. In order to trade in Chinese A-class shares, you must either be a resident of China or be qualified as a Foreign Institutional Investor. In addition, Chinese A class shares can be traded through the Stock Connect Program, an electronic trading system built to make it easier to buy and sell Chinese securities.
B shares of Chinese companies are similar to A-shares. They are both traded on the Shanghai and Shenzhen exchanges. However, unlike A shares, B shares are traded in U.S. dollars on the Shanghai Stock Exchange and traded in Hong Kong dollars on the Shenzhen Stock Exchange. What is also different about Chinese B shares is that they can be traded by individuals who are not residents of The People’s Republic of China.
The third share class of companies incorporated in the PRC are H shares. This class of shares are traded on the Hong Kong Stock Exchange and are traded in Hong Kong dollars, but are still incorporated in mainland China.
Share Clases From Companies Incorporated Outside PRC
The second group of share classes pertains to companies not incorporated within China and are listed in territories other than China, such as The United States, Singapore, or Hong Kong. Each share class of companies not incorporated in the PRC comes with several requirements in order to be listed.
Companies incorporated outside the PRC can have their shares listed as Red Chip shares, P Chip shares, S Chip shares, or N Shares.
Red Chip companies are incorporated and listed outside the PRC, but the company also has to be majority-owned by state entities of China. Red Chip companies are traded on the Hong Kong Stock Exchange, and the majority of their revenues (at least 55%) come from China.
P Chip companies are very similar to Red Chip companies. However, instead of the companies being majority-owned by Chinese state entities, they are owned by individuals and corporations of China. Like Red Chip shares, P Chip companies have to be incorporated outside the PRC and earn most of their revenue from China.
S Chip companies are essentially the same as P Chip shares. However, instead of being listed on the Hong Kong Stock Exchange, they are listed on the Singapore Stock Exchange. S chip companies still have to be controlled by Chinese companies or individuals and incorporated outside the PRC.
Like P chip shares and S Chip shares, N Shares are stock of companies that companies and individuals within China control, are incorporated outside of the PRC, and bring in most of their revenue from within China. The main difference with N shares is that they are traded on American Stock Exchanges such as the New York Stock Exchange or NASDAQ.
One of the most popular examples of a Chinese company listing in the United States is Alibaba Group Holding which went public in 2014 and raised $25 billion.
As the Chinese financial markets become more evolved, there will undoubtedly be changes to their current system to make capital raising in the primary market and trading in the secondary market more efficient. Systems such as the Stock Connect Program are being developed to make trading shares easier for individuals and institutions.
All investors should take the time to understand the Chinese equity markets to expand both their knowledge and their world of investment opportunities.
This article has been reprinted with permission from William Douthat’s LinkedIn page.