By Samuel Shen and John Ruwitch
SHANGHAI (Reuters) - China's start-up board ChiNext is staring at its worst weekly loss in 21 months, with a profusion of once-acquisitive companies issuing profit warnings as they bite the bullet after overpaying for their purchases.
The over 6 percent loss in ChiNext this week brings the gauge close to a three-year-low, as a growing list of small-caps, such as outdoor products maker Toread and Hunan China Sun Pharmaceutical Machinery Co flagged losses or sharp profit falls due to goodwill impairment.
Goodwill - intangible asset that arises when one company acquires another for a premium value - has exploded following China's mergers & acquisition (M&A) boom in 2013-2015.
The painful adjustment comes as Beijing took measures to restrict reckless expansion and tighten liquidity taps, prompting companies to acknowledge they overpaid.
Pan Jiang, CEO of money manager Shanghai V-invest Co, sees the roughly $160 billion worth of goodwill sitting on the books of China's listed companies as "the sword of Damocles" that will haunt investors for years to come, especially among small-caps whose growth was heavily reliant on M&As.
"Organic growth of these companies don't support their lofty valuations. Only when the (M&A) tide goes out do you discover who has been swimming naked," Pan said.
"The intangible assets on these companies' books are landmines. Once they explode, damage can be stunning."
Moreover, despite the ChiNext's nearly 60 percent slump from its 2015 peak, "risk has not yet been fully exposed," Pan said.
In the searing selloff this week, Toread was among the firms that took a battering with its stock price dramatically sliced by over 15 percent.
In its preliminary earnings statement, the company said it had swung to a loss in 2017, after writing off over 200 million yuan worth of assets including goodwill.
Intangible asset write-downs also contributed to an expected loss of 11.6 billion yuan flagged by Leshi Internet, the struggling Chinese video-streaming firm which was once seen as a ChiNext bellwether.
Other companies which disclosed goodwill impairment this week include Sumavision Technologies, Hybio Pharmaceutical and All Winner Technology, and the list is expected to grow as China heads into the earnings season.
"Goodwill was created on the basis of many assumptions," said Lin Xiaofan, Shanghai-based partner at accounting firm PwC.
"As time goes by, whether those assumptions still stand, is a big question mark."