Alibaba had one of the biggest IPOs in history back in 2014, and it’s still the largest to date. Which makes sense, it was a giant company which was never available to the public. But it also doesn’t make sense, because you can’t actually own Alibaba shares unless you’re Chinese. So what is going on here?

China’s Restrictions on Foreign Investors

China prohibits or restricts foreign investments in some sectors. Which means that if you’re not Chinese you can’t own any shares in companies in those sectors. One of those sectors is the e-commerce, which happens to be where Alibaba is. And Alibaba wasn’t the only one in this, lots of Chinese companies are prevented by law from accepting foreign investments.

Enter, VIE!

Where there is a will there is a way, and where there is a law there is a loophole. In this case the loophole is called Variable Interest Entity (VIE). A VIE is a term used in accounting, and I’m definitely not the best person to explain that. However, I’ll just give the important points which matter to us. The first point is that, in contrast to regular equity ownership, owning shares in a VIE gives you no voting rights regardless of how much you own of it. However, the VIE has a contractual agreement with the actual company giving it a percentage of its profit. And the second point is that a VIE is essentially a shell company.

Chinese Companies and VIEs

To get around those limitations imposed by the Chinese government, Chinese companies resort to having VIEs outside of China. Those companies are the ones which actually get traded on foregin stock exchanges and are open to foregin investors. On the NYSE, BABA (Alibaba symbol) actually refers to Alibaba Group Holding Limited, which is registered in Cayman Islands.

What is the Problem?

While everything seems fine for now, the problem is the lack of certainity in what China thinks of that kind of contracts which goes around its restrictive laws. The concensus is that China isn’t going to do anything to hinder Alibaba’s growth as one of its biggest companies, but that might change any time.