Reforming the parts

Some brokers did a double-take in December when Sinopec, Asia's largest oil refiner, confirmed it would pay US$494m to privatize and scoop back 30% of subsidiary Hong Kong-listed Yanhua Petrochemical, China's largest plastics maker.

Was it, as some optimists thought, a signal that a state company was really saying goodbye to any form of state ownership? No, seems to be the answer, but that is no cause for pessimism – because Sinopec's move could signal something almost as good: that China's corporate giants are starting to streamline and rationalize themselves. "The privatization was part of a move to tidy up [Sinopec] because it's messy having too many listings," said a foreign banker in Beijing. "Investors were confused. It's better to consolidate and have fewer listings if you're an H share company."

Such streamlining might initially shrink the population of Hong Kong-listed Mainland companies, but this banker declared the future for the H-share market bright, given the prospect of several automakers and banks heading for IPOs on the Hong Kong market in 2005.

Another banker, GTA Allianz chief investment officer Sun Jian, said Sinopec's move was an indication that state-owned enterprises were on the cusp of a "revolution" in corporate governance. The central government used to privatize SOEs by restructuring them as shareholder-based corporations and going for listings, but "now the government realizes the SOEs have to be reformed too by restructuring. SOEs must become mature, modern enterprises before they can attract international investment."

Sun's firm is itself a recently formed entity, a joint venture between Guotai Junan Securities and Germany's Allianz financial group. This suggests there may be more H-share de-listings coming up, but not everyone agrees with the scenario. Joon Lv, a fund manager at China International Fund Management in Shanghai, sees the Yanhua buy-back as a one-off. "It's unlikely that such activities will become mainstream in H shares."

Expensive move
Delisting can be expensive, for one thing. The offer price for Yanhua's privatization added up to a near 11% premium to its pre-suspension HK$3.425 price. This was strictly a Sinopec integration exercise, insisted Joon. "The market before couldn't afford the listing of the whole group, so Sinopec originally made subsidiaries like Yanhua go public separately. Now Sinopec would like to put all the listed parts into one. This streamlines management issues and avoids transactions between two companies within one group."

Sinopec itself said de-listing Yanhua was simply making good on an old promise to consolidate group businesses. And that strategy made more sense than ever: "The deal will effectively eliminate intra-group competition," noted Zhang Jiaren, Sinopec's chief financial officer, announcing the Yanhua move.

Regardless of which view is right, the privatization certainly had the market hopping. "Sinopec's acquisition of Yanhua was well recognized by the market," GTA Allianz's Sun said, adding that investors were now speculating about other mergers and privatizations of H share firms.

They can stay focused on Sinopec for a start, and ponder which of its 12 separate listings will come up next for privatization – and get in early: Yanhua shares soared 13.2% within a month of the privatization announcement. Add Sinopec's premium payout on top of that and a good guess could deliver a very handsome return.

Sinopec's Shanghai Petrochemical rose 1.75% the day it was announced, analysts laying that gain to speculation that it may be next. Investors have not appeared as sanguine about Sinopec itself, for all the streamlining news. Its share price slipped 1.56%, to HK$3.15, in next-day trade, investors seeing no improvement in earnings on that score. For Sinopec's part, CFO Zhang predicted the deal would, besides reducing operating costs, raise Sinopec's earnings per share "slightly."

The market could use a boost, as evidenced by trading volumes of H-Share index futures contracts. A Chong Hing Securities source in Hong Kong said the market needs more blue chips to give it lift. "Current trading volumes of H-Shares index futures are less than 70% of the volume of underlying H shares. In New York, he said, the volume of futures is three times the cash market. "Quality, large-capitalized mainland companies representing a variety of sectors listing in Hong Kong will make the index a better reflection of the overall Chinese economy. Then the market will be on the road to maturity."

The process has been helped by blue chip arrivals such as China Life and Ping An Insurance. Bank of China and China Construction Bank are both expected to list in Hong Kong this year and more could follow. Add in this year's long-anticipated launch of the Qualified Domestic Institutional Investor (QDII) scheme – allowing mainland institutions to invest offshore – and Hong Kong-listed mainland stocks should get still more of a lift.

Foreign investors can be partial to H shares, too. Improved corporate governance and corporate structures can only help, Sun Jian said.

And Sinopec's clawback of Yanhua should move the process along nicely, he said, as more acquisitions and privatizations pull more domestic and global investors into the market. "If investors want to buy into China, they will go for H-shares [and] the H-share market is offering much more opportunity for global investors."