It’s Time the Markets Offload Rogue Foreign Companies

The Senate passes a measure that will delist companies with a history of non-compliance with U.S. regulations.

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The notion of launching a Chinese version of Starbucks makes sense: A market with 1.4 billion people, some of whom must like coffee. After all, there’s a Chinese Uber (Didi Chuxing), a Chinese Google (Baidu), and a Chinese Amazon (Alibaba). Enter Luckin Coffee in 2017. It quickly became the largest coffee chain in the People’s Republic, publicly listed on the New York-based NASDAQ with a market capitalization of $12 billion in January 2020. Only its sales were all lies. When it came out that Luckin’s numbers for much of 2019 were fabricated, shares cratered and U.S. investors took massive losses.

How could a Chinese company listed on an American stock exchange have garbage financials? Good question. The story is complex, and it’s not really about Luckin. It’s not even about Communist China, at least not entirely. At heart, this is a story about companies, often state-owned, sometimes under U.S. sanctions, from non-market economies who have effectively unregulated and unfettered access to U.S. capital markets, and the U.S. policymakers who allow it.

It should come as no surprise that in a year in which bank deposits earn interest rates close to zero, interest in the kind of return the stock market can deliver is high. More than half of all Americans are in the market, a slight decline since the Great Recession. And while your average Josephine wouldn’t consider plunking her hard-earned dough on the Shanghai or Moscow exchanges, she doesn’t think twice about Wall Street. That’s probably where her 401(k) is invested if she has one, and since she probably doesn’t like buying individual stocks, she may have some mutual funds or index funds.

Our Josephine, like most others, probably thinks that unlike on the Shanghai or Moscow markets, her precious investments are strictly supervised by the world’s greatest and richest democracy. But there, she’d be wrong. “Gently overseen” might even overstate how the SEC and the Public Company Accounting Oversight Board (PCAOB) regulate foreign companies. Either by its own choice, or because of pressure from the business community, the SEC has historically turned a blind eye to bad behavior by foreign corporations. Which brings us back to Luckin.

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  1. Avatar photo
    Show Jay Janney the 🚪!

    We don't need to necessarily de-list them, but we do need to stamp them as dangerous, so people know they are unaudited. I like the idea of NYSE setting up a new exchange just for firms like this, and sell naming rights to it. How about the "Golden Nugget Casino Chinese Stock Exchange" We could pronounce it "junksie".

    My advice to Schwab: be a leader, and mark these as dangerous for your customers. Require them to acknowledge they may be fraudulent....Once firms like Schwab start doing that, it'll be tough on companies like Luckin. Their exceutives will have to go back to their day jobs of reporting Covid-19 statistics....

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  2. Terry Sexton

    This is a terrific piece of reporting and analysis. Allowing foreign companies to circumvent US securities regulations exposes American investors to unnecessary and unacceptable risk. And American companies suffer higher costs and a competitive disadvantage in our own capital markets. How could we allow this to happen? Perhaps we find the answer in an a putative maxim of Lenin: "The Capitalists will sell us the rope with which we shall hang them."

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    Paul Montagu

    It seems like it would be simple enough to require foreign companies to adhere to American accounting standards, specifically that financial statements comply with Generally Accepted Accounting Principles (GAAP), and that a company cannot be listed unless those statements get unqualified opinions from their American accounting firms. That shouldn't be too much to ask.

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    DougCLE

    In general, I agree with the points expressed. However I’m curious about U.S. investors, including public pension funds, buying shares in companies under a “variety of U.S. sanctions (which limit access to capital and/or technology)”. What do sanctions on capital mean, if not that U.S. citizens/companies cannot invest in said companies?
    I’m not a financial guy (my wife won’t even let me near the checkbook). Can someone explain this for me?

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    Logical

    Good luck with that. WS will resist mightily. They salivated over Alibaba where the ADRs don't even reflect the outright ownership but a fictitious quantity reflecting future earnings and with no voting power.

    Before going after foreigners, why not constrain pension funds, etfs, and mutual funds owning fictious, unaccountable securities? Then you will see who the master is!

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    Brandon McLarty

    This is such an informative read. It also should be noted just how hypocritical this leniency is by the SEC and PCAOB. The PCAOB having been established after the Sarbanes Oxley Act of 2002, was created to enforce better reporting standards after the fall of companies like Worldcom and Arthur Andersen.

    US companies that are publicly traded go through rigorous reporting standards established by PCAOB audits just ensure that the financials are “reasonably stated” and can boost investor confidence. Yet these Chinese and foreign companies are getting by with shoddy financials. Simply giving a warning is not enough as the WSJ op-ed says. If US companies have to put out “going concerns” for their companies that are in financial distress, then logically you would think it is not reasonable to have companies trading securities priced based on fictitious sales.

    This move by the US will benefit investors in the future or hopefully make foreign companies adhere to reporting standards. Again Daniella, fantastic work.

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