China Investing: Signals and Smokescreens

Global Perspectives

China Investing: Signals and Smokescreens

November 2018
  • China = a driver of global growth and an expanding opportunity set for investors.
  • But there are key differences in how companies are run.
  • This educational series uncovers key considerations for investors.
  • Uses detailed data analysis to uncover red and green flags to help assess opportunities

Introduction: Signals and Smokescreens

This article provides an introduction to the wide-ranging educational series – China investing: Signals and Smokescreens, presenting a snapshot look into China’s growth story, its unique governance structures, and what this could mean for investors.

"Pearls don't just lie on the shoreline; you must dive in the ocean to find them."

Success only comes through greater effort - Chinese proverb

As China transitions from being a “participant” in globalization into a “shaper,” investors are looking to the region for its exciting opportunities. China’s growth story offers strong potential; but investors can be deterred by risks arising from the differences between Chinese corporate governance compared to more established markets.

To help inform investors about risk in China, Janus Henderson presents this wide-ranging educational series – China investing: Signals and Smokescreens. This is based on an in-depth study of China stocks that underwent periods of intense financial stress in recent years. Based on the outcome of whether the stock price collapsed or survived, the study identifies a set of pre-existing signals and common characteristics that can potentially help global investors understand and identify China-specific risks going forward.

Video: An Expert's View on China

China author and businessman Tim Clissold explores the history that has shaped the opportunity-set in China and the current drivers for foreign investment into the region. He also explains why investors should not expect economic evolution in China to follow the path of Western markets and why very different approaches to corporate governance exist.

Rationale and Methodology: Risk, with Chinese Characteristics

The complex and unique structure of Chinese businesses can make understanding the associated risks a difficult task. This article addresses the distinguishing features of Chinese business and explains the rationale and methodology behind Janus Henderson’s latest study on China investing – Signals and Smokescreens.

“Crows first sense a rising wind, ants first sense a flood.”

Those familiar with their surroundings are most likely to foresee danger - Chinese proverb

China investing: module 1 - financial ratios

In the first module of Janus Henderson’s latest study on China investing – Signals and Smokescreens, we look at the importance of contextualizing and cross-checking company financial statements in order to determine their veracity, given the high-growth nature of China’s emerging market. Evidence of any outliers or inconsistencies in financial figures and ratios should act as a strong prompt to look “beyond the numbers” into a given company’s governance and internal controls.

“Even a tower a hundred yards tall, still has foundations on earth.”

Don’t suspend disbelief in extraordinary circumstances; everything should have a basis in reality - Chinese proverb

China investing: module 2 - board oversight

How can investors understand the mindset of the individuals who ultimately control a company and assess the alignment of the interests of all shareholders through good governance? In the second module of the Signals and Smokescreens survey on China investing, we look at consistent key indicators that can help investors assess the real intentions of a company’s controlling shareholders.

“A fox may preach religion, but it still intends to steal chickens.”

Judge intentions by actions, not words - Chinese proverb

China investing: module 3 - Material and Related-Party Transactions

The third module of Janus Henderson’s study on China investing looks at how corporate actions and local structures can be assessed to determine if they are intended to maximize shareholder value or otherwise.

“The first favor is a favor, the second an obligation.”

The ties that bind may be less clear than you think. – Chinese proverb

China investing module 4: external oversight

In the fourth module of Janus Henderson’s study on China investing, we examine the capacity and independence of external auditors that investors should consider when reviewing published financial statements.

“A wise one may check a thousand times, but there’ll still be at least one error.”

No one can be completely free from error. – Chinese proverb

China investing module 5: Stakeholder Relations

In the fifth module of Janus Henderson’s study on China investing, we examine the interplay between the innovative and fast-paced private sector and the protected state-owned sector and how divergent restrictions on these sectors may affect investment decisions.

“For the rise and fall of the nation, every common man has a responsibility.”

Every actor has its own part to play – Chinese proverb

China investing module 6: Variable Interest Entities

In the sixth module of Janus Henderson’s study on China investing, we look at the use of variable interest entity structures in China and how an understanding of the key differences between these structures can help investors accurately assess the associated risks.

“Rules from the capital are very difficult to enforce in the provinces.”

The mountain is high and the emperor is far away. – Chinese proverb