Nine Years of Greed Around LeEco, and the Reckoning at Last

On April 26, LeEco's stock was suspended from trading again — the 29th time in its nearly nine years as a public company. It may well be the last.

Two and a half years after the crisis broke, LeEco is finally about to be delisted.

From the most valuable stock on the ChiNext board to a company now on its deathbed, its rapid collapse has been visible for most of the way. Yet this company — saddled with 11.9 billion yuan in debt, an annual loss of 5.7 billion yuan, and negative net assets — still has a market capitalization of 6.7 billion yuan, higher than 60% of all A-share listed companies.

What triggered the delisting is that LeEco's net assets no longer meet the required threshold. Under delisting rules, the Shenzhen Stock Exchange will decide by May 22 whether to suspend LeEco's listing status. If it does, the shares held by 257,000 shareholders will be frozen from trading for a year.

If LeEco's audited 2019 financial statements still show liabilities exceeding assets, it will actually be delisted from the A-share market. At that point, investors' LeEco shares could only trade on a market known as the "stock transfer system" (formally, the National Equities Exchange and Quotations, or NEEQ). Since ChiNext stocks can't relist once delisted, the 6.7 billion yuan in LeEco shares that investors hold would become nearly worthless if that happens.

LeEco's only way to stay on the A-share market is to turn its net assets positive within the next year. Profitable companies normally have positive net assets. But given LeEco's current operations, it has almost no chance of doing this on its own.

Nor can it count on Sunac chairman Sun Hongbin. The last time Sun spent money on LeEco was last September, when he paid 770 million yuan for stakes in Le Vision Pictures and Leshi Zhixin, then folded them into Sunac's own asset pool, stripping them out of the listed LeEco entity. Given LeEco's current state, it would probably take several Sun Hongbins to save it.

Counting on Jia Yueting to come home and repay his debts is even more unrealistic. For one thing, he just struck a new partnership with The9 and announced $600 million in financing, all of it earmarked for his new venture, Faraday Future's car-building business — he has no intention of returning to manage LeEco. For another, the courts have frozen and unfrozen his LeEco shares three times over, and with the stock now down to 1.69 yuan, even a judicial auction of those shares would likely leave each creditor with less than a tenth of what they're owed.

LeEco faced doubts from the moment it went public, and inflated revenue and fraudulent related-party transactions dogged it throughout.

In 2015, Liu Shuwei, a professor at the Central University of Finance and Economics famous for exposing the earnings fraud at Lantian Co., wrote an article pointing out that LeEco was subsidizing sales in an unsustainable way, and using promotions like "buy a membership, get a free TV" to book revenue from its non-listed phone and TV sales as service revenue for the listed company.

At the end of 2016, Jia Yueting published an open letter acknowledging the company's financial crisis.

Then in July 2017, Sun Hongbin — six months after investing in LeEco — admitted he had misjudged the scale of its debt. Even counting from that point, LeEco limped on for nearly two more years, dragging in a total of 250,000 investors.

Speculation by institutions and retail investors alike, brokerages and accounting firms that stayed silent on LeEco's problems, and a securities regulator that only opened a formal investigation once LeEco was on the brink of delisting — all these factors combined to produce this outcome. And LeEco is hardly an isolated case on the A-share market.

LeEco's own staff and suppliers saw the cash crunch coming in early 2016 — and no one took it seriously

The outside world didn't fully grasp LeEco's troubles until late 2016, but its suppliers and staff had noticed something was wrong as early as the start of that year. QDaily interviewed some of them in 2017; here is that earlier, more detailed report.

One video-advertising supplier to LeEco originally had a 60-day payment term. By his account, things went smoothly when the partnership began in 2015 — the two sides had agreed on 60 days, but at its fastest LeEco would settle within a couple of weeks. He first sensed LeEco's cash-flow trouble in early 2016, when payments of a few hundred thousand yuan per order started coming late, and almost every time he had to rely on his contact inside LeEco to chase the money down.

To land the LeEco account, he had already given up the industry norm of a 30-50% upfront deposit and accepted its payment terms instead. After more than a year of working together, LeEco had become his biggest client, accounting for over 50% of his revenue. He said there was no way he could just walk away from the business.

People inside LeEco spotted the problem early too. A former LeEco employee who joined in early 2016 to work in brand marketing recalled hearing colleagues speculate about cash problems as soon as she started — after one product launch that year, the company's PR and marketing budget was only a tenth of what it had been before.

Her superiors saw even more. In October 2016, LeEco launched new phones, TVs, VR headsets, bicycles, and a car in the United States, with Jia Yueting himself taking the stage. LeEco's various business units sent several hundred people to the US to prepare for the event — so many from the same company that the US embassy denied visas to some of them. But after that lavish launch, the promised marketing budget never materialized, and the pace of work back home was nothing like it had been before the trip.

One person who interviewed for a logistics position at LeEco TV's central-China operation told us he interviewed in September 2016 and got a verbal offer, pending a month-long approval process. Less than two weeks later, the interviewer called to say the department had been dissolved and he himself had been laid off — there was no need for the candidate to keep waiting.

During this period, some LeEco employees tried to help suppliers they knew get paid faster and told them about the company's cash situation, while others staked their own credibility on the company, promising suppliers that contracts were safe and payments wouldn't be late. Employees who stayed at LeEco were, in effect, gambling with their own careers. A 2017 report by EET-China noted that once LeEco's problems fully surfaced, a good number of employers blacklisted job applicants who had worked there.

Many LeEco employees and suppliers were victims. But it was also their own greed, in varying degrees, and their willingness to abandon their own principles, that — even as they were being deceived — helped push LeEco's problems to snowball.

Sun Hongbin, flush from a winning bet on real estate, arrives and stakes 15 billion yuan on LeEco's survival

LeEco's biggest turning point in the past two years came in early 2017 — though it would later prove to be a drop in the bucket. In January 2017, Sunac chairman Sun Hongbin invested 15 billion yuan in LeEco, betting that its businesses, including TV and video, could deliver outsized returns.

Sun Hongbin has always had nerve. In 1990, while working at Lenovo, he was reported to police, detained by the Haidian district authorities in Beijing, and later sentenced to five years in prison for embezzling 130,000 yuan. After his release, he asked Lenovo founder Liu Chuanzhi for a 500,000-yuan loan and used it to enter real estate — first building Sunco (顺驰) into a company with 10 billion yuan in annual sales before selling it off due to cash problems, then founding what is today Sunac.

The LeEco investment was a risky bottom-fishing bet. Sun himself said at the investment press conference that several Sunac executives, including the CFO, had opposed the deal. In the end, he pushed it through himself, after his team had spent only a month on due diligence, and with barely any negotiation on price. After buying into LeEco, Sun went on to spend roughly 53 billion yuan buying a portfolio of Wanda's hotels and tourism-and-culture real estate.

With the cash in hand, LeEco quickly resumed trading, but after a brief few days of improvement, its share price kept sliding.

At first, Sun stayed publicly optimistic about the investment. Among the views he expressed in public in the first half of 2017: "LeEco, Le Vision Pictures, and Leshi Zhixin's big-screen business will definitely be fine," "LeEco's Super TVs are definitely a good product, and Le Vision Pictures is doing well too," "We can definitely put LeEco and its TV business on solid footing" …

Sunac also went about reforming LeEco methodically. Sun had Liu Shuqing, a senior general manager at Sunac China's risk-control center, appointed to LeEco's board, and, as promised in the earlier investment announcement, parachuted three finance managers into LeEco and its affiliated companies. Even the phone business, which wasn't part of the investment agreement, got a supervisor appointed by Sunac China.

But in April 2017, LeEco's financial report showed that even as its debts due within a year tripled to 5.4 billion yuan, the company still paid out 3.466 billion yuan to Jia Yueting and his sister.

By mid-2017, LeEco — which had gradually been stripping companies affiliated with Jia Yueting's old faction out of the listed entity — released its half-year report: revenue had fallen by half year-on-year to just 5.5 billion yuan, income from advertising, hardware, membership, and TV-series distribution all declined across the board, and the company posted a net loss of 653 million yuan.

Excluding a 2.1-billion-yuan deposit that belonged to TCL, LeEco's cash on hand had shrunk to just 1.1 billion yuan. Over the same period, LeEco's total liabilities reached 19.5 billion yuan. Unless LeEco's fundamentals turned around and fresh capital came in, the company was essentially on the edge of bankruptcy. Against that backdrop, Jia Yueting, who had already flown to the US, pulled out the last 430 million yuan he had lent the company.

At LeEco's shareholder meeting in mid-July, Sun Hongbin told reporters on the spot: "The debt at the listed company matches what we found in due diligence. The real problem is old Jia — he keeps wavering, won't sell what needs selling, won't commit. Just a few days ago, at a shareholders' meeting, he was still saying none of the seven sub-ecosystems can be given up. Goddamn it, at a time like this, and he's still saying none of them can go? If you can just get one of them right, that alone would be a hell of an achievement."

Sun didn't actually blame Jia for pulling his money out. "Jia Yueting is one of the few people in China with real entrepreneurial spirit, and one of the few with real vision. He did fail. But he didn't take the money home — he took back money he himself had lent to the listed company, which is only fair, and we agreed to it. He's still owed money on his end!" Sun said.

In November 2017, Sun Hongbin made another bet.

Sunac lent LeEco 2 billion yuan in working capital, on condition that LeEco pledge assets including Leshi Zhixin and Le Cloud as collateral. Under China's bankruptcy law, secured creditors are paid first. If LeEco defaulted on the loan, Sunac would leapfrog other creditors and shareholders who had moved earlier to freeze LeEco's assets, and take possession of what were, relatively speaking, LeEco's core and most valuable assets.

How much value these assets ultimately created for Sunac is unknown; the losses, on the other hand, are certain. Sunac's annual report, released in March 2018, showed a 16.55-billion-yuan loss on its LeEco investment — 1.5 times its annual net profit. Sun Hongbin also resigned as LeEco's chairman and left its board; Liu Shuqing took over.

This effectively marked Sun's abandonment of LeEco as an asset worth continuing to cultivate. At Sunac's shareholder meeting in March, Sun said of LeEco: "I used to be chairman, so anything I said would have violated the rules. Now that I've stepped down, I can complain right along with the small shareholders," he said. "If you make money, congratulations. If you lose money, that's not on me — don't blame me. I want to complain too. From now on, for every word you throw at me, I'll throw ten back, because I've lost more than you have."

When someone pressed him on what would happen to LeEco, Sun said bluntly, "What can we do? Lend it another 10 billion yuan? Am I an idiot?"

At the end of 2018, Sunac established a new entity, Sunac Culture, built around LeEco Pictures (formerly Le Vision Pictures) and several other tourism-and-culture assets. Sun Hongbin's eldest son, Sun Zheyi, was named the new company's president.

After Sun Hongbin admitted defeat, "national team" funds and institutional investors bought into LeEco for very different reasons

So-called "institutional investors" — brokerages, banks, trusts, and public and private funds — outclass retail investors in both capital and the speed and depth of their access to market information. Yet even after LeEco's crisis broke at the end of 2016, more than 150 funds still held 3.5 billion yuan worth of LeEco shares.

Fund-led institutional investors also waded heavily into speculative trading around LeEco.

The number of institutional investors in LeEco first fell from 150 at the end of 2016 to 39 by the end of September 2017, by which point LeEco's stock had lost 80% of its value. Just three months later, that number jumped to 162; by the end of the first quarter of 2018, it had dropped back down to just five. Somewhere in between, we also found "national team" funds — set up under the direction of China Securities Finance Corp., an entity affiliated with the CSRC — on the list of new institutional shareholders in LeEco.

There was an investment logic behind this. According to research from Founder Securities and East Money Securities, fund companies at the time expected LeEco's stock to hit its daily limit-down for 13 straight trading days, and marked down the valuation of LeEco-related funds accordingly. If LeEco's actual limit-down streak turned out shorter than 13 days, the fund companies would add the excess markdown back — creating exactly the arbitrage opportunity investors were hoping to exploit, with an expected return of around 5%.

The "national team" funds that China Securities Finance Corp. commissioned fund companies to manage bought into LeEco mostly because LeEco was, at the time, still a constituent of the ChiNext index. Since these "national team" funds are passively managed, once they chose to track the ChiNext index, they would buy nearly all of its constituent stocks in bulk, weighted according to the index.

The accounting firms saw nothing wrong with LeEco's books — until LeEco itself started admitting there was a problem

For LeEco's first six annual reports after going public (2010-2015), its accounting firm issued "unqualified opinions" every year — meaning the books were clean, the numbers accurate, and the accounting standards properly applied.

The auditors never questioned the legitimacy or legality of LeEco's tangled web of related-party transactions — not even after Central University of Finance and Economics professor Liu Shuwei published a research report specifically about it.

LeEco's method for adjusting its books wasn't especially sophisticated. Before 2016, LeEco TVs and phones were sold directly by Leshi Zhixin. Afterward, the arrangement changed: Leshi Zhixin would sell to Lepa Marketing at a high price, and Lepa would then discount the products for the actual sale to consumers. In 2016, LeEco's accounts receivable totaled 8.6 billion yuan, more than 40% of it owed by related parties.

Since Lepa Marketing wasn't part of the listed LeEco entity, on paper LeEco — sitting at the upstream, wholesale end — booked the profit, while the losses from discounted downstream sales landed on Lepa Marketing instead.

The annual report numbers reflected this faithfully: the listed portion of LeEco posted a net profit of 550 million yuan, while the non-listed portion lost 700 million yuan. Under Chinese accounting standards, sales between related parties are supposed to be eliminated on consolidation. LeEco didn't do this, and used the gap to manipulate its profit and debt-to-asset ratio.

ShineWing, the accounting firm responsible for auditing LeEco, issued only a relatively mild "unqualified opinion with an emphasis-of-matter paragraph," flagging that investors should pay attention to LeEco's related-party transactions.

Once LeEco began cleaning up its own related-party transactions in 2017, its revenue for January through June that year fell by half year-on-year, income from advertising, hardware, membership, and TV-series distribution all declined, and the company posted a net loss of 653 million yuan.

This kind of thing is common in China.

This February, more than 400 companies revised the profit forecasts they had issued just months earlier into profit-warning notices, with total projected losses reaching as high as 337 billion yuan. Among the most extreme swings: Western Mining went from a forecast profit of 100 million yuan to a loss of 2.063 billion yuan, and Jindun Co. went from a forecast profit of 118 million yuan to a loss of 1.758 billion yuan.

Chen Shaoxia, chief researcher at Shenzhen Zijingang Capital Management, argues that the low cost of breaking the law fails to deter wrongdoing and, to some extent, even encourages listed companies to falsify their accounts. Accounting firms, chasing fees, have abandoned their role as gatekeepers of the stock market — failing to call out companies' financial problems, or even actively helping cover them up.

In 2001, Arthur Andersen — then one of the world's five biggest accounting firms — was convicted by a US court of obstruction of justice over the Enron accounting fraud. It lost its license to practice and shut down entirely. Both companies involved also faced civil liabilities running into the billions of dollars.

Financial fraud on China's A-share market draws far lighter penalties. Shenzhen Baoqianli Electronics, for example, was suspected of financial fraud in a listing restructuring, but in the end the CSRC fined the listed company only 400,000 yuan and fined its chairman, Zhuang Min, the maximum allowed: 600,000 yuan.

Wanjiang Logistics fabricated a combined 9.155 billion yuan in revenue and inflated profits by 490 million yuan across 2012 and 2013. The eventual penalty: a 500,000-yuan fine for the listed company, 300,000 yuan for the person who orchestrated the fraud, and 100,000 yuan for the chairman. By then, the company had already raised over 100 million yuan through its listing.

In June 2018, the CSRC opened investigations into six domestic accounting firms — Lixin, Zhonghua, Ruihua, Beijing Xinghua, Grant Thornton China, and Dahua — mainly over allegations of improper audits tied to securities business such as listings, refinancing, and restructurings. These six firms handled more than half of all domestic IPOs. Half a year later, nearly all of them were back to business as usual.

This April, Kangmei Pharmaceutical announced that its audited annual report had overstated bank deposits by 29.9 billion yuan and overstated revenue by 8.898 billion yuan. Several auditors told us that while other line items might be hard to verify using materials a listed company provides, an error of that scale in bank deposits is one accountants can't easily explain away.

At the same time, China's current accounting standards allow multiple methods for recording the same transaction, giving companies considerable latitude in choosing their accounting policies — and, in practice, giving listed companies room to manipulate profits.

LeEco's accounting treatment of video-licensing costs is one example. We explained it in detail in an earlier report.

In short, most video platforms spend roughly half their revenue each year buying content rights. When booking these costs, the number of years chosen for amortization determines how high or low the annual cost — and therefore the annual profit — appears.

The common practice at Netflix, Youku Tudou, iQiyi, and similar platforms is to amortize at least half the total cost in the first year, since most shows draw the bulk of their attention — and revenue — in the first two years of their life. LeEco, by contrast, amortized costs over ten years regardless of how popular a show was.

So, assuming the same 1-billion-yuan licensing fee and 1 billion yuan in revenue: with a two-year amortization, iQiyi would book 500 million yuan in costs a year and 500 million yuan in profit. LeEco would book only 100 million yuan in costs a year, giving it a first-year profit of 900 million yuan. The gap is enormous.

Even after LeEco admitted it was in crisis, brokerage analysts still wouldn't recommend selling the stock

There's nothing wrong with the intelligence of brokerage analysts. Most come from Tsinghua, Peking University, Fudan, or Jiao Tong; at worst, they graduated from one of China's elite "985" or "211" universities. And compared with other investors, brokerage analysts sit closer to the market and have access to more information — in theory, they should be, on average, the most capable professionals in the stock market.

The late Zhou Jintao, chief economist at CSC Financial, for instance, predicted the 2007 subprime mortgage crisis and put forward a cycle theory forecasting a turning point in Chinese housing prices in 2014.

The same is true of analysts in the US stock market.

In 2018, as US stocks kept setting new highs and Tesla was riding a wave of enthusiasm over the imminent mass production of the Model 3, Goldman Sachs analysts published a report saying Tesla would need to raise more than $10 billion by 2020 to keep operating. They didn't buy Elon Musk's claim that the company wouldn't need to raise money that year and could run on profits alone. This week, Musk admitted the company needs to raise capital and is pushing ahead with a $2-2.3 billion debt offering.

But in China, analysts tend to be the last ones to admit a problem. Data compiled by the financial terminal iFinD show that from 2015 to 2017, 12 brokerages published about 49 research reports on LeEco. Aside from 9 that were neutral or unrated, every single one recommended buying. Even a full year after Jia Yueting admitted there was a problem, not one analyst recommended selling LeEco shares.

In April 2016, for example, Pacific Securities published a report recommending investors increase their LeEco holdings, citing "growth in key video-platform metrics; premium IP accelerating earnings growth." In September 2016, Beijing Gao Hua Securities (Goldman Sachs's China subsidiary) put LeEco on its strong-buy list, arguing that "LeEco is more than China's Netflix: the advantage lies in its ecosystem."

Even after LeEco's problems fully erupted in 2017, some analysts still recommended increasing exposure to the stock. In April 2017, Kaiyuan Securities analyst Li Wenjing wrote that although LeEco's net profit had declined year-on-year, its industry position remained solid, and she projected net profit would double in 2018 — recommending investors add to their holdings.

We emailed a Gao Hua Securities analyst at the end of 2017, trying to ask about the real logic behind the rating. The reply said the firm was no longer researching LeEco, and that company policy prevented the analyst from being interviewed.

On analysts' tendency to issue optimistic investment recommendations, Northeast Securities researchers Zhang Zongxin and Yuan Jun have written that since brokerage income partly comes from equity brokerage business, a "buy" recommendation attracts more potential clients than a "sell" recommendation does, and does more to boost trading volume and commission revenue.

This conflict of interest exists in stock markets worldwide, but it's reinforced on the A-share market by the lack of adequate short-selling mechanisms. A research center under Beijing Jinzheng Hutong Capital found that from 2004 to the present, only 479 sell-rated reports have been issued on A shares, out of roughly 330,000 total research reports — 0.15%. Of those 479, only 25 came from mainland brokerages; the rest came from three offshore firms: BOC International (Hong Kong), UBS Securities, and Gao Hua Securities.

With everyone speculating, the retail investors who make up 99% of the A-share market were no exception

What should investors do when a listed company's founder and chairman publicly admits he's burning through cash too fast and running into cash-flow trouble? A-share investors chose to keep buying. Financial data show that by the end of 2016, the number of LeEco shareholders had grown by 20,000 from the end of the third quarter that year, to roughly 170,100 in total.

Compared with Hong Kong, the US, Europe, and most other stock markets, which are dominated by institutional investors, A shares are defined by an unusually high share of retail investors — close to 99%. Analysis by the investment bank UBS shows that as much as 82% of daily trading on the A-share market is initiated by retail investors, compared with just 23% in Hong Kong.

Retail traders tend to chase trends, trade frequently, favor high risk, and ignore stop-losses. They tend to believe they can buy in right at the bottom, wait for a rebound, then cash out. Examples of this abound on the A-share market. Shenwan Securities compiles an index called the "Earnings Bomb Index," made up of companies that warned of steep 2018 losses, unrecoverable receivables, or major goodwill write-downs. That index has risen more than 30% since this February alone — the second-best monthly performer on the market.

In LeEco's case, once it became clear Jia Yueting wasn't coming home and LeEco executives couldn't deliver on their earlier promises to buy more shares, investors pinned their hopes for a LeEco comeback on Sun Hongbin. Mild audit opinions, institutional reports continuing to talk up a LeEco turnaround, and the entry of "national team" funds all fed that sentiment, which found its fullest expression in early 2018.

In late January 2018, LeEco issued an earnings forecast projecting an 11.6-billion-yuan net loss for 2017. Regulators, citing the need for market stability, verbally instructed financial institutions not to sell large blocks of LeEco stock. Despite repeated risk warnings from both the exchange and LeEco itself, the number of LeEco shareholders reached 336,000 by the end of March 2018 — almost double what it had been at the end of 2017. By our count, from the time Jia Yueting first disclosed LeEco's cash problems to the point its shareholder count doubled, the stock had fallen nearly 90% over that span.

A month later, the auditors, unable to obtain sufficient evidence, issued a "disclaimer of opinion" on LeEco's 2017 annual audit. Under ChiNext delisting rules, two consecutive years of this outcome triggers delisting. Then, in August 2018, LeEco faced its biggest delisting risk yet, when its 2018 half-year report showed negative net assets.

Yet by the end of the first quarter of this year, LeEco — its stock down 95% — still had 250,000 shareholders, nearly 100,000 more than when the crisis broke in 2016. Its institutional investors, meanwhile, were down to just six: three "national team" funds, Sunac, and two asset-management plans that had taken part in a private placement and were locked in for a set holding period.

UBS's research team notes that the herd behavior of retail investors often leads them to buy in during the final stage of a rally, by which point their impact on the market is minimal. Mathematical models further suggest that a wave of retail buying can signal the end of a rally — a potential exit cue for everyone else.

A market that's hard to list on — but just as hard to get delisted from — gives troubled companies room to keep existing

LeEco's operations have kept deteriorating since Jia Yueting left the country. In 2018, its revenue was only 1.58 billion yuan, down 77% year-on-year and less than a tenth of its 2016 total. It now also faces delisting over negative net assets.

Yet the A-share market has built in mechanisms that make delisting hard to trigger. Take ChiNext alone, which claims to have the strictest delisting standards on the whole market:

• Three consecutive years of losses triggers a one-year trading suspension; another loss after that means delisting.
• Negative net assets at year-end triggers a one-year suspension; if net assets are still negative the following year, the company is delisted.
• An auditor's disclaimer of opinion on the annual report triggers a one-year suspension; if the issue isn't resolved the following year, the company is delisted.
• Once delisted from ChiNext, a company cannot relist, and its shell cannot be transferred or sold to another company.

In practice, only one ChiNext company, Xintai Electric, has ever been forcibly delisted by the CSRC, for falsifying listing documents. LeEco is still waiting on the ruling to suspend its trading. As we noted at the start, once suspended, it will have a year to fix its balance sheet and try to resume listing.

Another company found to have falsified its listing documents and inflated profits, Wanfu Biotech, was only suspended from trading in 2013 — and even that was because its restated profit-and-loss statement showed a loss, not a direct penalty for the fraud itself. If it turned a profit the following year, it could resume trading.

What surprised the market afterward wasn't just that Wanfu Biotech really did turn a profit, but how it did so. According to a report in China Business News, Wanfu Biotech used a court ruling in 2014 to transfer its original controlling shareholder's stake to creditor Taoyuan Xianghui Agriculture — effectively sidestepping the CSRC and exchange rule barring ChiNext companies from reverse mergers. It then sold off another subsidiary to a third-party shareholder, booking a 29-million-yuan net profit that cleared the bar for resuming its listing.

Drawing on iFinD data and research from Guotai Junan Securities, Haitong Securities, and others, we found that from 2000 to today, the delisting rate among the more than 3,500 companies that have listed on the A-share market is below 1%. That figure already includes restructurings, trading suspensions, and outright delistings. If you count only companies actually delisted for poor performance, there is, in fact, just the one: Xintai Electric. Even Changsheng Biotech, which the CSRC forcibly delisted last year over a major violation, theoretically still has a path back.

The result is a stock market where the number of listed companies only grows and rarely shrinks. Because listing and delisting are enforced so unevenly, companies with no real operating value that stay on the market command a premium simply for being listed. A report by Guosheng Securities Research Institute shows that, since 2013, private companies looking to skip the cumbersome IPO process have been willing to pay up to 3 billion yuan extra just to buy a listed shell.

By contrast, mature markets like the US, Japan, and Hong Kong see high turnover both ways every year — the number of new listings and delistings runs roughly even, at around 100 to 200 companies annually, with new listings slightly outnumbering delistings. The US has the highest delisting rate of all, at close to 10%.

These markets also have relatively complete investor-compensation mechanisms, so that when a listed company commits fraud, investors don't lose everything. The US, for example, passed the Securities Enforcement Remedies and Penny Stock Reform Act in 1990, which let the SEC pay securities-violation fines directly to investors. After the Enron and Arthur Andersen fraud case, the US passed the Sarbanes-Oxley Act, creating the "Fair Fund" for investors and further strengthening the SEC's role in compensating them.

This part of China's securities law is still underdeveloped. Nearly all of the roughly 10 billion yuan the CSRC collects in fines each year goes straight into the national treasury. China's first case of securities compensation came after the Wanfu Biotech fraud, when its underwriter, Ping An Securities, set up an investor-compensation fund at the CSRC's urging. Ping An Securities paid out the compensation up front, then sought reimbursement from Wanfu Biotech.

In theory, a well-functioning securities market should let the market itself weed out good companies from bad, rather than relying on administrative vetting. The STAR Market, which plans to adopt a registration-based listing system, has been pinned with high hopes on this front. But relaxing listing standards alone isn't enough to make the market price assets correctly and allocate capital efficiently. Otherwise, LeEco wouldn't still be worth 6.7 billion yuan today — an outcome that makes no sense.

Then again, LeEco has already come this far. Whatever happens next, it's hard to say it would be any stranger.

Charts by Feng Xiuxia and Zheng Shuya.

Cover image by Kansir @ Flickr; banner image via Pexels.