The China Securities Regulatory Commission released on Friday rules for a pilot program allowing companies to issue preferred shares. It opens the way to raise funds and establish a multi-level capital market.

"The trial of preferred shares is a great innovation in the Chinese capital market and plays an important role in deepening reform," said Zhang Xiaojun, a spokesman at CSRC.

Three types of listed companies can publicly issue preferred shares: Shanghai Stock Exchange 50 index members (the largest by market capitalization); companies planning to acquire other listed companies by issuing preferred shares for payment; companies buying back common stock that plan to decrease their registered capital by issuing preferred shares as payment.

Other domestically listed companies can conduct private placements of preferred shares through stock exchanges, as long as they comply with Chinese laws and regulations.

Unlisted domestic companies and Chinese firms listed abroad can apply for private placements of preferred shares to qualified investors with the entity number in one issue limited to 200 or fewer.

Qualified investors in private placements of preferred shares include certain Chinese financial institutions and their financial products, qualified foreign institutional investors, renminbi QFIIs, partnerships and individual investors, among others.

Listed companies are not allowed to issue convertible preferred shares to ensure common equity isn't diluted. The preferred shares of listed commercial banks can be converted to common shares only when trigger events occur.

"It is good for protecting the interests of common-stock shareholders but the costs of issuers should be higher because they have to increase dividends to attract buyers," Hong Hao, managing director and chief strategist at BOCOM International Holdings Co Ltd, said.

Listed companies that can publicly issue preferred shares should be profitable for the past three financial years while others need only ensure that average annual attributable profit over the same period is no less than the annual dividend of preferred shares.

"It is to guarantee the interest of buyers of preferred shares," said a senior manager at one of the four major State-owned commercial banks.

Among other provisions, companies would be allowed to issue such shares in batches after winning regulatory approval for total quotas at one time, according to the CSRC statement.

Zhang said the CSRC will improve and perfect the preferred share mechanisms based on experience from the pilot.

Hong said the new move of preferred shares helps Chinese companies raise funds as economic growth slows and banks will benefit.

Listed commercial banks usually need to raise funds annually to replenish capital. Secondary market refinancing will dilute the common equity, so this is a new way for them to finish the task.

China will gain by building a multi-level capital market and contributing to market-based reform of interest rates, the senior manager at one of the four major State-owned commercial banks said.

He said his bank is following guidance to so it can take part in the preferred share pilot program.

Preferred shares pay fixed dividends and enjoy seniority over common stockholders in the event of bankruptcy. They typically do not trade on the open market, carry no voting rights and do not dilute net profits attributable to shareholders.

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