Regulators have tightly restricted new public share sales since mid-2015, blaming them for draining cash from the rest of the share market while the country's main bourses nosedived, but that pushed more firms into more loosely regulated private placements to raise funds.

The private placement market jumped fivefold from 2013 to 1.18 trillion yuan ($172 billion) in 2016, dwarfing the market for initial public offerings (IPO), which raised just 147.6 billion yuan last year.

But since the end of last year, the China Securities Regulatory Commission (CSRC) has been tightening its approval process for private placements, challenging the deal prices and the purposes of the cash being raised.

Wu Kan, head of equity trading at Shanshan Finance, said the private placement market had become a "black box" for speculative acquisitions, money misuse and even criminality as some investors colluded with listed companies to inflate share valuations.

Market participants think a change in rules is imminent and the pendulum will swing back towards initial public offerings (IPOs) and other public fundraising.

"Fundraising via private placement will likely shrink quite drastically this year due to tighter regulation, but the number of IPOs will increase," said Wu, whose firm has invested in privately placed shares. Such deals have been popular with issuers and investors, with long lock-up periods in exchange for big discounts, but on Jan. 20, the CSRC expressed its discomfort with companies using the funds for backdoor listings, to invest in unrelated industries or contrive restructurings of no obvious commercial benefit.

“The biggest problem is that some listed companies raise funds excessively. Their funding structure is irrational, and they use the proceeds too much at will, and in an inefficient manner," CSRC spokesman Zhang Xiaojun said.

The deals have on occasion masked market manipulation.

Last month Chinese hedge fund manager Xu Xiang was jailed for 5-1/2 years for colluding with 13 listed companies in driving up their share prices, and profiting from non-public information, having taken part in private placements made by several of the named companies.

TIDE TURNING

The CSRC has admitted that the decade-old rules for private placements are ripe for revision and wants to encourage alternative capital raising routes.

"CSRC will develop the market for convertible bonds and preferred shares, to curb excessive fundraising by listed firms," Zhang said.

One of its concerns is that companies are channelling cash into high-yielding wealth management products via the shadow-banking industry, an opaque avenue for risky lending that is difficult for regulators to monitor and assess.

Last year, 767 listed companies spent a combined 726.8 billion yuan buying wealth management products, the official Securities Times reported.

The private placement tide already appears to be going out.

In the first nine months of 2016, it took typically a month or two to get the CSRC's go-ahead for a private placement, but that had stretched to more than four months in some cases by the last quarter of 2016, according to investment bankers.

In late October, property developer Shanghai Shimao Co (>> ShangHai ShiMao Co., Ltd) said its 6.7 billion private placement plan to fund acquisitions had been rejected by CSRC.

And some companies have pulled back after regulatory pushback; in August Wanda Cinema Line Co. (>> Wanda Cinema Line Co Ltd) scrapped a plan to raise up to 8 billion yuan to buy an affiliate when the Shenzhen Stock Exchange queried the target's lofty valuation and asked what measures it had taken against a possible write-off in its goodwill.

Several companies have also voluntarily cut the size of their placements, including loss-making Caihong Display Devices Co (>> Caihong Display Devices Co Ltd), which said on Jan. 23, after communication with regulators, that it was adjusting its fundraising target down to 19.2 billion yuan from its original 23 billion.

Meanwhile, CSRC is speeding up IPO approvals.

Pricewaterhouse Coopers expects the IPO market to rise as much as 50 percent to 250 billion yuan in 2017. Some investors welcome the tighter regulations on private placement, saying that inefficient projects will be weeded out. "It benefits investors with a focus on fundamentals," said Luan Xiaoming, fund manager at Hotland Innovation Asset Management Co. ($1 = 6.8574 Chinese yuan renminbi)

(Editing by Vidya Ranganathan and Will Waterman)

By Samuel Shen and John Ruwitch