Zhihu in Quest to Be First Internet Firm with U.S., Hong Kong Primary Listings

Key takeaways:

• Zhihu will make a second primary listing in Hong Kong alongside its current U.S. listing, aiming to ease U.S. regulatory pressure and reach more Chinese investors
• Lukewarm interest in the new Hong Kong offering suggests investors are concerned about the company’s growing losses

By Jony Ho

Another Chinese company is jumping on the dual-listing bandwagon to Hong Kong, this time by online Q&A platform Zhihu Inc. ZH, often called the Quora of China. But this dual listing is a bit different from the many that have come before, and if it succeeds Zhihu will be become China’s first internet company with primary listings in both the U.S. and Hong Kong.

Zhihu’s listing application was approved after a successful hearing in Hong Kong last Friday, paving the way for it to make a primary listing IPO. All of China’s U.S.-listed internet companies to float shares in Hong Kong so far have done so through secondary listings – a simpler process than what Zhihu is trying, but also one with some added drawbacks.

Despite periods that can sometimes stretch for months between the regulatory green light and an actual share offering, Zhihu is determined to strike while the iron is hot. It uploaded its IPO prospectus on Monday and started to accept public subscriptions for its shares the same day.  

Zhihu has a weighted voting rights (WVR) structure and plans to offer 26 million Class-A shares, all being sold by early investors. Some 10% of the shares are earmarked for the public portion of the IPO at a price up to HK$51.80 ($6.64), with shares being sold in lots of 100 costing HK$5,232. The deal will value the company at HK$16.4 billion.

Zhihu’s dual primary listing means its listings in the U.S. and Hong Kong will have equal status, unlike existing dual listings by names like Alibaba BABA and Baidu BIDU, where the U.S. is primary and Hong Kong is secondary.

A primary listing is subject to more stringent regulatory requirements, while a secondary one has a lower bar and can enjoy exemption from certain requirements. That means companies like Zhihu need to meet the same requirements as a traditional IPO. Despite losing money for the last three years – something that would ordinarily disqualify a company from listing in Hong Kong – Zhihu is being allowed to make a Hong Kong IPO under an exemption that lets such listings proceed if the company passes tests for market capitalization, revenue and cash flow, and comes from the up-and-coming new economy Internet sector.

Regulatory squeezes in U.S., China

Under such a dual listing, Zhihu’s shares in the U.S. and Hong Kong cannot be traded across the two markets, which could lead to widely differing valuations. But the Hong Kong-listed shares can be purchased by mainland Chinese investors via the Shanghai-Hong Kong Stock Connect and Shenzhen-Hong Kong Stock Connect programs – something not allowed for companies like Alibaba BABA 9988.HK)) with secondary listings.

At the same time, the U.S. Securities and Exchange Commission (SEC) is enforcing a law that could see it delist Chinese companies unless it reaches an information-sharing agreement with China’s securities regulator. That has prompted many U.S.-listed Chinese companies to float shares in Hong Kong as insurance. Some companies like Nio NIO have already made dual primary listings, and internet company Bilibili BILI 9626.HK)) is trying to convert its current secondary listing status in Hong Kong to a dual primary listing.

But even if a dual primary listing in Hong Kong earns it some respite from U.S. pressure, Zhihu will still face regulatory risks in its home China market. The Beijing branch of the Cyberspace Administration of China summoned company officials to its office in December after Zhihu repeatedly allowed unspecified “illegal” material on its site. Zhihu escaped without a fine or more serious penalty, but still needs to be on the lookout to avoid such conflicts.

Established in 2010, Zhihu runs a series of online content communities in China. It started to offer advertising services in 2016 and generated 1.16 billion yuan ($182 million) from that part of its business last year, its largest source of revenue. In 2019 it transitioned to a “three revenue engines” model and also unveiled a paid membership plan giving subscribers access to exclusive knowledge services and community functions. By the end of last December, it had 5.08 million monthly subscribing members and revenue from that business had soared from 88 million yuan in 2019 to 668 million yuan last year.

The company has also expanded its professional training and e-commerce activities, driving its revenue from content-commerce solutions from 640,000 yuan in 2019 to 970 million yuan last year. With the addition of those two new business areas, the company reported revenue of 2.96 billion yuan last year, with an average annual growth rate of 110% since 2019.

In search of profits

All these efforts are part of Zhihu founder Zhou Yuan’s quest to “turn good content into good income.” But the company is still in the red because its fast-rising revenues have been more than offset by faster-rising operating costs.

Last year, its marketing expenses soared to 1.63 billion yuan, equivalent to half of its revenue, as it spent heavily to enhance its brand profile and add users. Its costs for providing cloud services and expanding its content ecosystem have also grown as its user base expands, with R&D and administrative costs rising by 88% and 133%, respectively, last year. The bottom line was that the company’s net loss ballooned by 150% last year to 1.3 billion yuan.

As it continues to lose big money, Zhihu has had to contend with net cash outflows for the past three years. By the end of last year, it had 2.16 billion yuan in cash and cash equivalents, and has warned of more outflows in the future. Given that the new Hong Kong IPO will only help current shareholders cash out without raising new funds for Zhihu itself, investors may be concerned about the company’s dwindling cash.

Zhihu went public in the U.S. last March at an offering price of $9.50. But its shares fell as low as $1.39 as the threat of a forced U.S. delisting loomed. Its U.S. shares tumbled by 12.9% on Monday after it launched its Hong Kong IPO to end at $2.23. Bilibili and Kuaishou (1024.HK) are two unprofitable companies with similar businesses that can be used for comparison. Their price-to-sales (P/S) ratios now stand at 3.2 times and 2.89 times, respectively, higher than Zhihu’s 2.64 times, showing investors are less enthusiastic about the company.

That wariness is reflected in the tepid reception for the public portion of Zhihu’s Hong Kong IPO. A tally of the data from eight major brokerages show that it ultimately received financed subscriptions worth HK$63 million, or less than half of the funding it hopes to raise through the public portion of the offering.

It seems that Zhihu’s losing streak will continue for some time to come. In the meantime, even a Q&A specialist like Zhihu can’t answer the question of when it will become profitable, and how long its current cash pile might last before it needs to raise new funds.