By Samuel Shen and Julie Zhu
HONG KONG (Reuters) - When Charles Li, chief executive of the Hong Kong Exchange, last year announced plans to help the next wave of Chinese tech giants go public in the city, bankers celebrated.
At last, they felt, Hong Kong could compete against New York, its fiercest rival for initial public offerings, by starting to offer tech founders the weighted voting rights common in the United States they were demanding.
But in the past month a new rival has gatecrashed Hong Kong's hoped-for IPO party: China itself. On March 30, China's securities regulator announced its own pilot scheme to encourage the very same group of companies to list in Shanghai and Shenzhen.
Beijing is also targeting the likes of Baidu (O:BIDU), Alibaba Group (N:BABA), and JD.com (O:JD) by allowing them to list at home via secondary listings - business that has also been high on Hong Kong's agenda.
At the heart of the three-way tussle lies an estimated $500 billion worth of Chinese tech firms expected to seek listings in the coming years - representing the biggest potential pool of IPO fees in the world outside the US tech sector.
For China, the hope is to see more of its tech companies list at home, where domestic investors can benefit from any success.
"China is encouraging innovation, but if all successful innovative companies rush overseas for listings, it would be embarrassing," said Ronald Shuang, chairman of Balloch Group, a China-focused investment bank and private equity firm.
Last week the Baidu-backed iQiyi (O:IQ) became the latest group to list in New York, raising $2.25 billion (£1.6 billion) in the biggest international Chinese tech listing since Alibaba.
Both Xiaomi, the smartphone and appliances maker, and Meituan-Dianping, China's largest provider of on-demand online services, are planning to float in Hong Kong this year, with Xiaomi seeking a valuation of up to $100 billion.
As Beijing steps up its efforts to attract Chinese tech companies, Hong Kong - which is expected to implement the weighted voting rights in the second quarter, reversing a long-standing one-share-one-vote principle - is playing down the competition.
"There is no doubt that many firms will actively consider listing in the mainland, but we expect a strong pipeline of firms interested in Hong Kong as well," Li, the head of Hong Kong Exchanges and Clearing (HK:0388), told a panel of the city's Legislative Council members on April 3.
He added: "Competition is always a factor, but the mainland and Hong Kong capital markets have some fundamental differences that do not make us direct competitors."
How far China will crash Hong Kong's planned tech party depends, say bankers, on how it implements its rules for Chinese depositary receipts (CDRs) - which would allow investors in China to buy securities of companies already listed overseas.
CDRs are expected to trade in yuan, potentially creating an arbitrage opportunity with the dollar-denominated American Depositary Receipts or Hong Kong dollar-denominated shares they will be based on. Beijing is still in discussion with regulators, bourses and bankers on the issue.
Different trading mechanisms also present other issues. China has a 10 percent daily trading limit, up or down, on mainland stocks, which most expect would apply to CDRs.
"If Alibaba rises or falls more than 10 percent in the US in an extreme situation, but in China, existing rules cap its move," said Wu Beihong, an investor who buys stocks in both China and overseas. "How do you solve this issue?"
Another question is how much tech champions would be expected to list at home, and how those shares would be sold.
If China's biggest four internet groups - Tencent, Alibaba, Baidu and JD.com - were to sell 5 percent of their existing shares in the mainland, that would drain $55 billion from the market, equivalent to a fifth of all the funds raised in the onshore market in 2017, according to UBS analysts.
That could hit the pipeline of mainland IPO candidates hard - or prompt a sell-off in smaller shares if investors wanted to raise cash for the returning giants.
The sales might also prove difficult to execute. Last month, Naspers, the one-third owner of Tencent, sold a 2 percent stake in the tech giant, raising $9.8 billion in Asia's largest-ever block sale and dwarfing any single sale in the mainland.
"Do Shanghai or Shenzhen have the expertise to sell $10 billion in Tencent or Alibaba?" asked one Hong Kong official who requested anonymity. "That is a big ask."
The irony of potentially selling and trading shares in China based on offshore listings of Chinese companies domiciled outside the mainland - which they have to be to list overseas - is not lost on investors and bankers.
They are however already well versed in a universe of Chinese securities that includes several distinct onshore and offshore groups, including H-shares, A-shares, B-shares, red-chips and US ADRs among them, which already often trade at different valuations.
"Prices of the same company are different in Hong and China, and that's because regulations and rules in the two markets are different, and that difference may persist for a long time," said Tai Hui, chief market strategist for Asia Pacific at J.P. Morgan Asset Management. "So investors need risk-management when trading - and to understand the logic behind the price gaps."