Stodgy Tax Services IPO Looks Like What U.S. Investors Want from China Now

Key Takeaways:

• Lichen China has filed for an IPO to raise about $25 million, positioning itself as a potential consolidator in China’s vast, but highly fragmented, tax services market
• Company points out it should be able to avoid many of the recent controversies now dogging U.S.-listed Chinese stocks 

By Doug Young

If controversy on a number of fronts is keeping Chinese firms away from new listings in New York, the latest applicant, a company called Lichen China Ltd. LICN, seems to have found a potent recipe to avoid many of those. The company’s IPO prospectus filed last week is filled with discussion on many of the latest topics that have created trouble for Chinese companies in the U.S., and why Lichen believes it’s above the fray.

The many minefields now dogging most U.S.-listed Chinese companies have tripped up much bigger names, including the likes of the Uber-like DiDi Global DIDI and e-commerce giant JD.com JD, just to name a few.

Based in the southern port city of Xiamen, Lichen, which also uses the name Legend Consulting, is a financial company providing tax services. While that may not sound too sexy, it means the company doesn’t handle any actual money besides the payments it receives from clients. That also means it can avoid the woes faced by China’s many U.S.-listed fintech companies, mostly lenders that once boomed but are now being reined in to guard against ending up with too much bad debt.

Then there’s the data protection issue, which has tripped up the likes of DiDi and employment specialist KanzhunBZ, which are currently undergoing reviews to make sure their U.S. listings don’t pose a national security risk. One could argue that the tax information that Lichen prepares is quite sensitive, and thus could pose a data security risk.

But Lichen points out it shouldn’t need a data security review now required for all companies listing overseas under China’s recently enacted cybersecurity law. That’s because the law only applies to companies with data on 1 million users or more. We “do not anticipate that we will be collecting over 1 million users’ personal information in the foreseeable future,” Lichen points out in the prospectus.

Then there’s the issue of potentially violating the U.S. Holding Foreign Companies Accountable Act (HFCAA), which currently threatens to kick all U.S.-listed companies off Wall Street. Nearly all Chinese companies now listed in the U.S. are in violation of HFCAA because their auditors are forbidden by Chinese law from handing over their audit records for investigations by the U.S. securities regulator. China considers such records as “state secrets,” though it is currently in talks with the U.S. regulator to change that prohibition with an information-sharing agreement.

But regardless of what happens, Lichen points out that it shouldn’t be affected. That’s because the company has most recently used two U.S.-based auditors, Briggs & Veselka Co. and TPS Thayer, which aren’t subject to Chinese law that bans such information sharing. By comparison, most of the other U.S.-listed Chinese companies use China-based units of big global accounting firms like Ernst & Young and Deloitte.

Reflecting its use of U.S.-based auditors, Lichen quotes all its finances in U.S. dollars, though it does all of its business in China and China’s currency, the yuan, has been quite volatile lately. It also appears to be underscoring its more American flavor by filing an S-1 document for its prospectus, which is the form usually used by U.S.-based companies. By comparison, most Chinese firms making U.S. IPOs typically use another form called an F-1.

Small but safe

Now, to what Lichen actually does and how it’s valued compared with some global and domestic peers. We’ll begin with the actual IPO, which seeks to raise a relatively modest $25 million by issuing 6.25 million shares for $4 apiece.

It’s worth noting that Lichen has been working on the deal since last August, when it made its first confidential filing. That means it’s quite possible the deal was delayed, since much of the controversy surrounding U.S.-listed Chinese firms reached a crescendo last July shortly after DiDi’s IPO that earned the company a sharp rebuke by China’s cybersecurity regulator for failing to get the required data security review.

Since then only a handful of Chinese companies have successfully listed in the U.S., and nearly all of those have been smaller IPOs like Lichen’s, typically raising $50 million or less.

Lichen’s business actually looks rather attractive in the current climate, since it’s currently China’s largest tax services provider in an extremely fragmented market. Such services aren’t very controversial, and the high degree of fragmentation means the company could be well positioned to emerge as a future consolidator.

Data cited in the prospectus says Lichen controlled just 0.5% of a China tax services market that was worth 70.1 billion yuan ($10.4 billion) in 2019 and is expected to grow 12.5% annually between 2020 and 2025. Such tax services account for about three-quarters of the company’s total review, which grew 11.8% last year to $34.3 million. Another 10% comes from the company’s newer tax software business, and the remainder comes from its executive training education services business.

The company also looks quite adept at controlling costs, with its operating expenses actually falling 8% from 2020 to 2021. As a result, its profit rose 32% to $8.5 million from $6.4 million in 2020. That kind of growth is a bit slower than what you’d expect from a young tech firm. But it’s certainly not bad for this kind of more traditional company with nearly two decades of history.

Information in the company’s prospectus shows it would have a market value of about $115 million following the listing, which would give it a price-to-earnings (P/E) ratio of 14, based on its profit last year. By comparison, U.S. tax software maker Intuit INTU trades at a much higher P/E of 52. But the more comparable traditional tax services giant H&R Block HRB trades at a far lower ratio of just 8. And most of the China fintechs trade even lower, with P/E ratios of 3 or less.

At the end of the day, Lichen certainly isn’t very sexy but offers strong growth potential and appears to have avoided many of the issues now facing Chinese stocks. That could be exactly what investors want right now, meaning the listing could attract some interest and get a solid valuation if the company and its underwriters can draw enough attention to themselves.