By launching the science and technology innovation board, China aims to create a high quality capital market where the market is granted the power to select the best companies so as to better support China's real economy to transit from focusing on resource input to efficiency, said Liu Qiao, finance professor at Peking University's Guanghua School of Management.

Liu, also dean of Guanghua, made the remarks during an exclusive interview with Caijing Magazine, a leading Chinese-language financial publication. Liu shared his insights into the goals of the board, its pilot registration-based IPO system and related future challenges. The original article was released on April 1.

Q：In what situations was the plan of the sci-tech board first made public? Did it have anything to do with the China-U.S. trade dispute?

A：The time the board was presented did somehow coincide with the trade dispute, but actually it has long been part of our country's plan. We began talking about the Chinese economy switching from high speed to high quality growth long before the trade dispute. It has been the direction for the entire Chinese market, including the capital market.

Over the past 40 years, China's economy has experienced rapid growth backed by investments. Now we need high quality development, which calls for a transition from over-relying on resource input and investments to making efficiency and even consumption as the new growth engines. 

Under these circumstances, the structure of listed companies and the micro-foundation of the Chinese economy need changes. A high quality economy requires a new kind of listed companies that are high-tech, innovative, and able to create values and boost total factor productivity (TFP).

Our A-share market lacks high-tech and innovative companies. Roughly speaking, five of the top ten most valuable companies in the U.S. stock market meet the standards of our sci-tech board, including Apple, Amazon and Facebook. Meanwhile, our top ten A-share companies include seven financial institutions, two energy enterprises and Moutai, China's top liquor brand. Such a structure was compatible with our economic development in the past. However, if they are still China's top listed companies after 20 years, it means our economic micro-foundation and growth mode won't have changed.

It is high time we finish these changes as soon as possible. The sci-tech board offers clear policy guidance and preferences of the sectors of listed companies. That's why people have high hopes for the board when it was presented at such a crucial time.

What's more, our capital market is in urgent need of reforms so as to enhance the quality of listed companies and optimize resource distribution. In order to achieve that, we must reform our IPO system and delisting rules first. To this end, the board's pilot new rules are especially meaningful.

Q: Why choose the sci-tech board to pilot the registration IPO system reform?

A: Our country was really just groping its way as it first created the capital market, only gradually mapping out its strategic plan and development course. Inevitably, there were many problems.

First, the overall quality of the listed companies was lackluster. Return on Invested Capital (ROIC) is an index gauging a company's basic competence and its ability to generate values. My calculations showed that the average ROIC for the companies listed on China's A-share market over the past 20 years was 3 percent, which means one invested one yuan on them only to get three cents in return after tax. This was not a satisfying performance at all.

Meanwhile, their American counterparts achieved an average ROIC of 11.6 percent over the past 40 years based on the same calculations. The gap was huge.

Second, something was wrong in the policy framework. From a quota-based system to an approval system, we focused too much on earnings, revenues and profits, which made it difficult to pinpoint companies that were capable of innovations and breakthroughs in key fields and core technologies.

Nowadays many have realized the importance of reforming the IPO system. It is risky to carry out major reforms in a market of huge volumes, and especially hard to reform the existing part, but the pilot registration-based system targets a newly added one. With the board leading a new market, we can aim higher and look further. It is a good strategy.

Q: Under the registration system, it seems companies can easily go public as long as they meet certain requirements. Does it help making the good companies stand out?

A: The system making it easier to go public is a misunderstanding. In reality, a company has to go through a lot of inquiries in addition to registration and meeting requirements. Such inquiries will focus on a company's future development blueprint, its business and commercial model, corporate governance mechanism, information disclosure, future potential, how much values it can create, among other issues about which the market and investors are concerned. The entire process is transparent so that investors can make their own evaluations based on the large amount of information they get.

Such a process is clear and transparent, and good for companies. It also means companies are less likely to misbehave after going public. It is another reason why the board is hotly anticipated.

Even our main board has not fully solved policy issues such as Information disclosure. How can the sci-tech board do better?

Delisting is the key. No matter how careful and strict the process is, there will always be some slipping through the net. Many companies are good ones upon going public, but its sector might undergo changes. 

Also, the sci-tech board targets growth companies, and failure is always a possibility for them. The biggest problem in our main board is the difficulty of delisting. If, by following strict delisting rules, we are able to filter stocks that are valueless or of lower values than those in other boards, it will be a big success.

This way, the market will be able to pick out high quality companies. Regulatory organs only need to provide an open, just and transparent market environment. In theory, it is a very sound and clear logic structure. However, we still need to feel our way through it for a very long time before achieving that. Strategically, we need to be firm and confident.

Q: High-tech, innovative companies, especially the good ones, usually have no trouble financing. What is the meaning of the sci-tech board to them?

A: Companies seeking to go public don't necessarily lack funds. Besides financing, the other function of the capital market is the effective distribution of resources and price discovery, which enables companies to pool resources, achieve better growth and transformation, and ultimately, improve the micro-foundation for China's economy. 

That's why going public has two meanings: on one hand, it helps people recalibrate their understanding of a company and a sector; on the other, it offers motivations for innovations and startups. That the market's acceptance can be earned through efforts and innovations is also of significant importance. It's never just about financing.

What's more, real prices are determined by millions of investors through their individual trade activities. In an effective market, a company's real value is reflected through the level of acceptance it wins. It will strongly boost innovation, research and development and startups in a certain sector or technology field, which will, in turn, stimulate the real economy and its micro-foundation.

Q: Many people are eager to invest in the board. Some even borrow money to do so. What do you make of this phenomenon?

A: While it is reasonable to some extent, there might be a lot of irrational thinking at play too. People have high hope for the board because it is a more market-oriented capital market. Listing requirements and information disclosure will benefit resource distribution and prevent bad money driving out good, a phenomenon our existing boards are prone to. As a result, high quality listed companies will stand out.

However, it will be a long road before the board reaches that stage, and until then we might encounter some detours and everyone involved are sure to learn a lesson or two. From this perspective, many investors and market participants might be a bit too excited and prone to irrational thoughts. That said, it is understandable since our capital market has been under the weather since 2005 and it needs a way out.

Q: Will inexperienced individual investors have their fortunes "harvested" by institutions and veterans?

A: It happened before, and it might still. In order to prevent the sci-tech board becoming a money-making game for a few, we must first implement a registration system and strict delisting rules, enforce information disclosure and create a fair and just market environment. Second, corporate governance should be conducted well to ensure companies create values. If we fail in these two aspects, the board might become a platform where inexperienced buyers' money is harvested by others in bad faith. If we manage to strictly enforce all the key rules, the board will see a different result. I am optimistic about this.

Many high-tech and innovation companies are not transparent or too highly valued. Will it help straighten them out if they are in the board?

With precise implementation and sound progress, the board should become a market that fully realizes price discovery. It is very hard to accurately value high-tech companies before they go public since related information is scarce. However, after listing, millions of transactions of buyers and sellers will lead to an accurate valuation, and companies that are overly priced might fall on first day of trading.

Consequently, a bubble company might want to take a look at itself in the mirror to see if the sci-tech board suits it. If its bubble is too huge, why get on the board to embarrass itself? It is a form of self-examination. Regulatory departments should refrain from too much intervention. Instead, let investors decide for themselves how much a company is really worth. Let price discovery play its role. Such market regulating will be a breakthrough in the development of China's capital market.

I don't worry about a bubble company going public and seeing their stock drop on the first day. What I worry about is regulatory departments intervening to control prices so that bubbles that should have burst do not.

Q: Many companies are excited about the board, and some local governments are also encouraging companies to join. Is it possible that some unqualified companies will put on false appearances to try to squeeze in?

A: As past experiences from our country's capital market and local governments' behaviors show, these things are bound to happen, and I cannot think of a good way to prevent it.

Regulatory organs, intermediary institutions and market participants should stay clearheaded. It is not the board's goal to boost the entire stock market. It aims to create a high quality market that can better serve China's real economy. We need to send a strong signal of this when reviewing the first batch of applicants. However, it is very difficult since there will always be people willing to take risks for profits.

Q: How should we provide a better guidance via supervision?

A: The early stage is crucial. Try new things discreetly, focus on key factors, keep the pace, do not rush, and pick out some good companies that can set an example.

It's also important to refrain from too much intervention and control concerning prices, and believe in the market's ability to weed out unqualified companies. Regulatory departments' job is to protect a capital market by setting up a fair, just and transparent market environment and enforcing a rigorous delisting system so as to ensure a vigorous trade market.

Q: As for the stock market index, will the board be good news or bad news?

A: It should not be bad news. It makes sense that people say China has a fluid market. The biggest concern for Chinese investors is not a lack of funds but a lack of investment vehicles with reasonable risks and returns.

If the board can pick out some quality companies worthy of investment, investors will have a chance to get good returns. There will be a spillover effect to force other listed companies to improve their businesses and enhance efficiency. It will help boost the stock market.

Fund-wise, China now has some 170 trillion to 180 trillion yuan available for management. In comparison, our A-share market is only worth 50 trillion yuan, and much of it is fixed assets. It's because people have lost confidence in the A-share market. Meanwhile, the real estate market is hot as house prices have been rising over the past 20 years. Now the sci-tech board is coming, and it will change the status quo by drawing money back to the stock market. There will be enough funds.

Q: What is the board's future like?

A: I hope that, in several years, companies trading on the board will be high quality ones that can reflect the new growth engines for China's economy as well as our industrial structure changes. In order to achieve that, we need to allow the market to play the decisive role in distributing resources and making choices.