Regulators started a two-year clock Thursday to force China-based companies to comply with U.S. trading rules — leading three biotech stocks to crumble.
BeiGene, Zai Lab and Hutchmed landed on a Securities and Exchange Commission's list as being out of compliance with auditing rules. Their audits must be inspected by the Public Company Accounting Oversight Board before March 2024 or face delisting in the U.S. The list also includes Yum China and ACM Research.
These five companies are just the first of many China-based companies the SEC will call out for noncompliance with auditing rules, says Brad Loncar, who provides the indexes for two exchange traded funds focused on biotech stocks, including the Loncar China BioPharma ETF. The reason? They comprise the only five China-based companies to have filed their 2021 annual reports, he said.
"Every (China-based) company is going to get on this list when they file their annual report," he told Investor's Business Daily. "It's a wake-up call that this is an issue that's going to play out over the next couple of years."
All three biotech stocks hit the skids early Thursday. On today's stock market, Zai Lab stock tumbled 9% to 35.50. BeiGene shares toppled 5.9% to 184. Hutchmed shares lost 6.5% and ended the regular session at 18.48. The KraneShares CSI China Internet ETF fell 9.8% to 26.66.
China Biotech Stocks, Others Tumble
Under current law, all publicly traded companies must allow the Public Company Accounting Oversight Board to inspect their audits. But some countries, including China, haven't allowed the agency to look at their companies' finances.
In December 2020, the Holding Foreign Companies Accountable Act became law. It states these companies must allow the U.S. inspection or face delisting. In addition to the dive for the three biotech stocks, Yum China stock skidded 10.9% to 44.36 and ACM Research shares collapsed 22.1%, ending the regular session at 63.80.
"Theoretically, there's nothing surprising or unknown about this," Loncar said. "These companies, because they filed their annual reports, are being triggered on this list as being noncompliant. Now, they have work to do."
They will have to allow those inspections to take place before filing their 2023 annual reports — giving them until March 2024 to resolve the issue. Loncar says there's a moderate to high chance the biotech stocks will follow through with the U.S. requirements, though it will largely depend on what China's government allows.
Companies Plan Their Next Steps
Early Thursday, Zai Lab and BeiGene were among the deepest in the red among biotech stocks.
Representatives of Zai Lab and BeiGene say they are working to become compliant.
"What we saw today was an administrative step: The SEC is beginning to identify companies that do not currently have auditors inspected by the PCAOB, after filing of annual financial statements," BeiGene spokeswoman Emily Collins said in an email to IBD.
She said BeiGene is currently evaluating and designing additional processes and changes to reach a solution before the deadline.
Similarly, Zai Lab spokeswoman Danielle Halstrom says the company is evaluating its processes. It plans to work with an independent public accounting firm to satisfy the inspection requirement. The SEC will only delist companies that have been out of compliance for three years.
"Nothing about our provisional identification (by the SEC) changes our belief in this regard," she said in an email to IBD.
Representatives of Hutchmed didn't immediately return a request for comment.
China Plans 'Regulatory Cooperation'
In a written statement, the China Securities Regulatory Commission noted this is a normal step to strengthen companies' financial information. But it opposed "politicizing securities supervision."
"We have always adhered to the spirit of openness and cooperation, and are willing to solve the problem of inspections and investigations of relevant firms by the U.S. regulatory authorities through regulatory cooperation, which is also in line with international practices," the agency said.
Follow Allison Gatlin on Twitter at @IBD_AGatlin.
