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Peter Parks - AFP.
Executives of GEM - listed reveal losses of $24.8 million.

World's Worst Bourse?
Hong Kong's GEM stock exchange needs credibility

It's Still Early Days: Testing time for Asia's tech offerings

It has been operating for barely a year, but Hong Kong's Growth Enterprise Market (GEM) has already acquired a superlative title - as the world's worst performing stock exchange. Created in March, the 42-stock GEM Index had fallen 56% by Aug. 2. "It's the worst in the world," says Andrew To, head of research at Tai Fook Securities in Hong Kong. "No other major stock exchange index has dropped as much. I don't know about Africa or Russia, but all the major ones fared better than GEM."

South Korea's Kosdaq has cooled too (see chart), but GEM is on a worse spiral. What has gone wrong? Like Asia's other technology-laden exchanges, GEM has been hit by sell-offs as investors grew worried over the dizzying valuations given to unprofitable start-ups. Critics blame the uneven quality of the 42 companies trading on it. Only a handful are making money. Seven are big-spending Internet content companies, the most well-known being billionaire Li Ka-shing's At least 15 others are in Internet-related software, systems integration and infrastructure. The perception is that many managed to get listed because GEM's requirements were not as stringent as those of other tech-oriented exchanges. Some favored companies were even awarded additional breaks.

Not true, says Henry Law, spokesman for the Hong Kong Exchanges and Clearing company. "The waivers we granted have no negative impact on investor protection." As for the index, "that is not our business. All we are doing is provide a platform for fund-raising. We have no control over company performance." Says GEM chairman Lo Ka-shui: "Although the amount of money companies can raise is small, they can still raise capital." Indeed, GEM has received 40 new applications for an initial public offering (IPO). But the 16 companies that have received approval may not list soon. One recent GEM offering, telecom solutions provider Neolink Cyber Technology, was undersubscribed, forcing co-sponsor China Everbright Securities to take up 55 million unsold shares.

But surely it is the exchange's business to bring to market only well-managed companies with good potentials? Well, not exactly. GEM's buyer-beware rules allow firms with an operating history of just two years and mountains of losses to seek public funding — so long as these blemishes are disclosed to investors. Thus you have recently listed Internet content provider warning potential shareholders that the company may never make a profit. "GEM was initially stringent with its listing rules, but then it decided to suspend many of them," says Eric Levin, managing director of global investment firm Carlyle Group. "GEM is now seen as a petty market. It has no credibility and no international appeal for IPOs."

David Webb is a former equities analyst who runs a Hong Kong-based website that blows the whistle on company misbehavior. "GEM is supposed to have lower hurdles so that young companies can get funding," he says. "But we already have a sophisticated venture-capital market here." Webb believes that the buyer-beware model is not appropriate for Hong Kong. "You cannot just say laissez faire," he argues. "It's like saying that heroin ruins your life — and then you let people buy it." Nasdaq can take this approach because the U.S. has strong securities laws. In Hong Kong, Webb says, "you have to draw a line — GEM being a capital market on one side and a protector of the public from its own stupidity on the other."

The exchange must also do a better job of winning the market's trust. "GEM is dismal not just in terms of the index, but also in terms of integrity," says Voon San Lai, a technology analyst at GK Goh Securities in Hong Kong. GEM's listing committee granted waivers to a number of companies. was particularly favored, prompting accusations that influential tycoon Li Ka-shing was being given special treatment. Although just six months old and therefore ineligible under the two-year rule, was allowed to list in March. Its management also won permission to increase the share options it can grant from 10% of total shares to 50%, and to let major shareholders sell their holdings in six months, instead of two years.

Largely because of Li's reputation, investors snapped up's IPO anyway — it was 669 times oversubscribed. Priced at HK$1.78, the stock leaped 335% to HK$7.75 on the first trading day. On Aug. 2, closed at HK$5. Earlier, the company announced plans to lay off 80 employees, 16% of its workforce, and revealed a loss of $24.8 million on turnover of just $771,000 in the first half of the year. A few GEM firms reported earnings — $2 million for Timeless Software, for example, for the April-to-June period, up 444%. But their share prices fell along with the money-losers.

Every GEM company is being tarred by the same brush. "It would take a [stubborn] individual to invest in GEM," says Vincent Koo, director and chief investment officer at Polaris Asset Management in Hong Kong. But others are guardedly optimistic. "GEM's small trading volume is a problem," says Gu Chujun, CEO of chemicals company Greencool Technology, one of the few profitable GEM firms. "But between Nasdaq and GEM, we'd still opt for the latter because we are based in Asia and we need an Asian listing. We do recognize that it would take a while for GEM to mature." Time is ticking.

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