Shenhua Energy raised $8.9 billion in its Shanghai initial
public offering on October 8 — so far, it is the world’s largest IPO
this year. The Beijing-based coal company is just one of many Chinese companies that have gone public recently to tap seemingly limitless investor demand. Thomson Financial forecasts that by the end of 2007 more than 200 Chinese companies will have launched IPOs at home and overseas, raising a combined $100 billion. Can Chinese companies find a good use for all their new money?

There is plenty to be concerned about. China’s corporate governance
standards — outside its large, internationally competitive firms
— are poor. A new survey by CLSA Asia Pacific Markets and the Asian Corporate Governance Association (ACGA) ranked China ninth out of 11 countries surveyed in the region, putting its “corporate governance culture” on par with that of Indonesia. Combine this with underdeveloped finance functions and the effect of too much cash on managerial discipline, and the chance that this equity capital will be invested productively looks small.

But it may be unfair to characterize Chinese companies as inefficient
spendthrifts. “There is certainly no shortage of examples where companies are spending these proceeds productively, in ways that will enhance shareholder value,” says Jing Ulrich, managing director for China equities at JPMorgan. Ulrich cites ICBC and China Construction Bank, both of which are using cash from their staggeringly lucrative IPOs to seek opportunities overseas.

There are also new investments in R&D, an area where China has traditionally lagged other countries. “Great Wall Motors plans to
use the bulk of the proceeds from its upcoming A-share listing to build up its R&D capability and develop new products,” Ulrich points out.

Chinese regulators are helping,too, banning companies from using IPO proceeds to invest in securities and requiring shareholder votes when managers want to spend IPO money in ways other than declared at the time of the issue.

Paul Cavey, an economist at Macquarie Securities, is optimistic but
concedes that discipline will be hard to maintain. “Equity finance is basically free and companies aren’t good at using free money,” he says.