This time last year, the Hong Kong legal scene was abuzz with chatter about the big push into the market being made by Kirkland & Ellis. With its recruitment of an eight-partner “dream team” that included capital markets stars Dominic Tsun from Skadden, Arps, Slate, Meagher & Flom and David Zhang from Latham & Watkins, the Chicago firm cast a bold vote of confidence in Hong Kong, which was cruising toward a third year as the world’s top destination for initial public offerings.
One year later, Hong Kong capital markets are in the midst of a downturn that still shows little sign of lifting. The world leader in IPOs for the past three years, Hong Kong currently ranks eighth in 2012 listings, with $1.4 billion raised through June. That compares to $12 billion during the same period last year.
More chagrin than champagne on the first anniversary of Kirkland’s move? Not at all, says partner David Eich, who opened the firm’s Hong Kong office in 2006 and played a major role in last year’s recruitments.
“It has been a very positive year for us, and we are delighted with how it it’s gone,” he says. “The global capital markets have been slow, but we are strongly busy in the [mergers and acquisitions] practice. Our team was assembled with that adaptability in mind.” 
Among its recent high-profile M&A assignments, Kirkland is advising China’s Citic Securities Co. Ltd. on its proposed $1.25 billion acquisition of Hong Kong–based brokerage CLSA Asia Pacific Markets. The firm is also advising Chinese online video company Tudou Holdings Ltd. on a proposed merger with rival Youku Inc., which is being represented by Skadden.
Zhang shares Eich’s confidence, though he allows that there is plenty of uncertainty. “If you ask what is the future direction the market will take, it is anyone’s guess,” he says.
“I have been in Hong Kong since the start of 2000, and this is probably the longest quiet patch [in the Hong Kong equity markets] I have experienced,” says Christopher Betts, a Skadden corporate partner.*
The IPO market, which has been fueled by listings by mainland Chinese companies as well as Western consumer goods companies, has encountered a perfect storm of difficulties since the end of last year. A deflating property bubble has led to lower growth in China, and the lingering Eurozone crisis threatens a further slowdown. At the same time, both investors and regulators have grown increasingly worried about the quality of Chinese company disclosures.
Kirkland was hardly alone in banking on Hong Kong. Several American firms that had previously only practiced U.S. law in Hong Kong launched local law practices in 2010 and 2011 to try to get a piece of the IPO market. Among them was Simpson Thacher & Bartlett, which in April 2011 hired Hong Kong securities experts Christopher Wong and Celia Lam from Freshfields Bruckhaus Deringer and Linklaters, respectively.
“It really turned out to be to the worst possible time to launch a Hong Kong capital markets practice,” says Simpson Hong Kong partner Leiming Chen. Like Eich, though, he says M&A work has kept the new hires busy. In March, Wong advised Hong Kong cooking oil producer Hop Hing Group Holdings Ltd. on its $450 million purchase of Summerfield Profits Ltd., a company that operates fast food outlets in China.
M&A activity has slowed too, though. A recent study by Allen & Overy found that the number of deals in Hong Kong and mainland China dropped significantly in the first half of 2012, compared to the same period last year, though overall value of deals remained about the same thanks to some large transactions like Alibaba Group Holdings Ltd.’s agreement to buy back half of Yahoo Inc.’s 40-percent stake for $7.1 billion and Telefónica S.A.’s $1.4 billion sale of part of its stake in China Unicom.
A common refrain among lawyers in the region is that there are plenty of deals in the pipeline, but very few of these are closing.
“We are busy, but busy running in circles, getting clients ready,” says Gary McLean, head of the Asia corporate practice for Allen & Overy. “But even if there is an open window, it would only be for weeks.”
Betts says that those capital markets transactions that have gone ahead are those in which general market conditions are not as important. “The deals that have actually taken place this year were riddled with cornerstones securing and supported by family and friends,” he says.
Several lawyers said there had been some hope that a strong performance in the year’s most ballyhooed listing might have lifted all boats. But the Nasdaq listing of Facebook Inc. has instead become yet another drag on sentiment.
Still, Zhang thinks that pent-up demand by Chinese companies eager to list will eventually push the market forward. “We are working on a strong IPO pipeline,” he says. “I’ve heard from professionals in the capital markets and banking community that once the U.S. election receives some certainty and the summer break is over, the market will bounce back.”
Jeffrey Mak, securities and corporate partner in the Hong Kong office of DLA Piper, says that aside from general market conditions, increased regulatory scrutiny has also made companies more wary of listing. In Hong Kong the Securities and Futures Commission, headed by former Herbert Smith partner Ashley Alder, has proposed some tough new regulations, including civil and criminal liabilities for sponsors of companies that issue misleading statements in the course of going public.
Such regulations have been introduced in response to a number of cases in which mainland Chinese companies have been found to have overstated financial results or assets. In June, one such company, Hontex International Holdings Co., was ordered to repurchase $133 million in shares from investors.
Similar concerns have been even more prevalent among Chinese companies that have listed in the United States. Nasdaq and New York Stock Exchange IPOs for Chinese companies are the practice specialty of Zhang, Chen, and a number of other Hong Kong partners with U.S. firms, but such listings have been hammered over the past year by fraud allegations. Sino-Forest Corp. filed for bankruptcy in March amid accusations that it had inflated its assets and earnings (the company has denied any wrongdoing). Last week, U.S.–listed Chinese solar panel maker Suntech Power Holdings Co. Ltd. made headlines by announcing that it may not actually have almost $700 million in loan collateral it had previously claimed on its books.
Zhang is confident that the worst is over, though. “There have been some adjustments and accounting issues regarding Chinese issuers, and I have been involved in many of these discussions, but that is also settling down,” he says. “It will calm down soon.”
And if not, Zhang says the firm is ready for that too. “If a company is delisting in the U.S. and needs help with PE sponsors, who are looking for a way to exit, most likely with a Hong Kong IPO, we have the expertise to advise on all their issues, and have been involved in several of these deals,” he says. “It is about having a combination of that expertise. Whatever the flavor of the month—be it [private investment in public equity] deals, Hong Kong IPO, or PE, we have them all.”
Additional reporting by Lionel Mok and Anthony Lin
*Correction, 8/6/2012, 1 pm EDT: An earlier version of this story did not specify that Skadden’s Christopher Betts is discussing the inactivity of the Hong Kong equity markets in general. The seventh paragraph of this story has been revised to clarify his point.