(Yicai Global) Jan. 25 -- The Chinese government has approved the setup of a proposed new science and technology innovation board in Shanghai.

A central reform commission ratified the new trading venue's foundational documents at a meeting on Jan. 23. President Xi Jinping had said at the first China International Import Expo in November that the Shanghai Stock Exchange would be setting up a board for small and medium-sized companies, along with a pilot registration scheme.

Several large brokerages have already drilled a few companies to apply to list on the Science and Technology Innovation Board, according to financial media reports. CITIC Securities predicts the first batch will go public in the first half of this year. It expects about 150 to list in 2019, raising roughly CNY50 billion (USD7.4 billion) to CNY100 billion.

The exchange aims to plug the gaps in capital market services for tech innovation, stressing this main thrust of future social and economic development, which will significantly alter the terrain of China's capital markets. Regulators will issue a public comment draft on the new market system just after the Central Comprehensively Deepening Reforms Commission approves the initiative, Sinolink Securities predicted. 

The Shanghai Stock Exchange asked brokers to weigh in on the board last week, online news site Jiemian reported. The SSE will require firms to have independent intellectual property rights, main income from technology, mature research and development systems and teams, and a developed business model to list, meeting-goers said.

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Key sectors include artificial intelligence, cloud computing, Big Data, robotics, shipping, high-end rail transit, new energy, new energy vehicles, biomedicine and semiconductors.

Regulators will issue documents on the valuation of listed companies, daily up and down limits, whether the T+0 settlement mechanism of same-day trade and pay will apply and other market concerns.

The board may lower the price-earnings ratio limit, a manager at a large brokerage told China Securities Journal. P/E ratio -- the ratio of stock price per share to earnings per share -- is one of the most common metrics to assess whether share prices are reasonable. 

Chinese regulators do not explicitly limit the P/E ratio of initial public offerings but instead ask IPO companies to use the static average P/E ratio of the most recent month issued by China Securities Index in their sectors as a yardstick. The P/E ratios of businesses seeking IPOs are currently less than 23 times.

The biggest difficulty and challenge in an open pricing mechanism are ensuring the reasonable valuation of new board companies and avoiding pricing them too high and thus falling out of the value investment margin. A high market valuation will be difficult to attain if pricing is too low, whereas overpricing will generate many bubbles in the secondary market, which will undermine financial market stability.

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Some agencies have suggested introducing greenshoe options or building a lead underwriter distribution system.

In security issues, a greenshoe option is an over-allotment option. It takes its name from Green Shoe Manufacturing, which was the first firm to issue this type of option in 1963. It enables underwriters to issue 15 percent more shares (generally no more) than originally planned within 30 days of the offering.

Introduction of these options can iron out the price fluctuations of newly issued shares. Those applying for the option will be have sharp price increases or drops limited within 30 days of listing.

Brokers opinions differ on the design of trading systems. The new board is expected to apply a settlement date of T+1 and price fluctuation limits, and with strict information disclosure for buying and selling shares. Unprofitable listed companies may only trade after attaining profitability, China Securities Daily reported, citing Zhang Yulong, chief analyst of CITIC Securities' strategy department.

The new venue should adopt mature security markets' trading rules, said other analysts who wished to go unnamed, adding implementing T+0 settlement date and no price fluctuation limits will maintain vitality and efficiency and attract potential sci-tech enterprises and entice mature funds to provide financing and investment.

Editor: Ben Armour