(Yicai Global) March 5 -- China Securities Regulatory Commission has unveiled new rules on share sales by venture capital fund shareholders of listed companies, linking their investment period with their exit pace and allowing earlier investors to exit projects more speedily after their listing. However, the new policy will only provide moderate support for venture capital funds, insiders told Yicai Global.

The new rules will be effective from June 2 and encourage long-term investment. Under the new rules, investors investing in a company within 36 months before it submits an initial public offering application are not allowed to sell shares that account for more than 1 percent of the company's total within three months after the company's listing.

However, investors investing in a company for 36 to 48 months before it submits an IPO application may cut their holding to less than 1 percent within two months, and those investing in a company for more than 48 months may do so within one month.

The new rules will be conducive to small- and medium-sized enterprises and high-tech companies looking to raise venture capital in the early phase of growth, CSRC, the country's top securities regulator, said.

The new rules will motivate venture capital funds to make long-terms, value investment, facilitate their exits from investments and help form a virtuous cycle of reinvestment, and will also be conducive to SMEs and high-tech companies looking to raise capital in the early phase of growth, the commission said.

"The new rules aim to crack down on sudden investments in a company prior to its IPO. Regulators believe such investments do not create value and may even lead to bad consequences," Feng Zhi, vice president of Aplus Capital, told Yicai Global. "For long-term investors, the rules allow them to exit investments faster than others after a company lists its shares."

Effects of New Rules Remain to Be Seen

IPO has become the most important channel for venture capital funds to quit their investments since the commission quickened the pace of IPO approvals in late 2016.

Domestic and foreign venture capital funds conducted 1,420 exits from investments last year, including 470 exits through IPOs, accounting for one-third of the total, with average returns falling to 2.64 times from 3.23 times a year ago, according to Zero2IPO Research Center.

Though the new policy supports the development of the venture capital fund industry, its effectiveness and operability remain to be seen, insiders said.

"Our company is studying the impacts of the new rules. Early analysis indicate that it is not a major positive catalyst," a partner of a leading equity investment agency based in Beijing told Yicai Global.

"We welcome the CSRC's special support for venture capital funds," said Zhou Kaibing, chairman of Hangzhou Hi-Tech Investment Co. "However, I believe this new policy will only provide moderate support for long-term investment."

Lock-Up Period

He suggested linking lock-up period with even longer investment period. Investors investing in a company for more than 60 months face a nine-month lockup period after the company's listing; investors investing in a company for more than 72 months face a six-month lockup period; investors investing in a company for more than 84 months face a three-month lockup period; investors investing in a company for more than 96 months may face no lockup period at all.

"I wonder if it is possible not to impose lockup period on investors if the company they invest in does not go public for 10 years after their investment. If early-stage, long-term investors are allowed to sell shares at any time after a company lists its shares, its stock prices will not be pushed up too high following its flotation, which is helpful for stabilizing the stock market," Zhou said.

Early Stage SMEs

Yicai Global also noticed that the new rules offer a clear definition of 'early-stage SMEs' and the investment period of venture capital funds.

Early-stage SMEs refer to companies with a history of less than five years, a workforce of fewer than 500 people, and annual sales and total assets of no more than CNY200 million (USD31 million) when venture capital funds made their first investment.

The investment period of venture capital funds starts from the date on which their cumulative investment reaches CNY3 million or half of their total investment.

"I suggest imposing no operating-history restrictions on SMEs. We find that in practice, technologically innovative companies tend to develop slowly in the early phase of growth. For example, it takes a long time for biomedical firms to develop new drugs, and they may remain very small after five years. Obviously, it will be inappropriate to use the 'five-year' standard to identify such SMEs," Zhou said.

Zhou also pointed out that the CNY3 million requirement is too high. Since investors participating in the earliest angel investment rounds usually undertake big risks and contribute a relatively small amount of money, it will be against the intent of policy makers, which is to support long-term investment, if the new policy only applies to investors pumping in at least CNY3 million in angel rounds.

Jiang Yucai, general manager of Shenzhen Guidance Fund Investment Co., also believes that actual situations vary from industry to industry and it will be difficult to implement such standards and supervise their implementation.

"It will be difficult to identify qualified investors in practice. Given China's existing credit environment, fraud is hard to root out. Investors need to hire third-party accounting firms to provide reliable reports since their initial investment," Jiang told Yicai Global.

For any investment institutions, investing in a non-public company for more than five years is a big pay-out, Jiang said. Therefore, it may be better to simplify the standards by using the length of investment when drawing up preferential policies for venture capital funds seeking to exit their investments, whether the companies they back are small or big. That may be more operational and more efficient.