Ipo hk 2015 english

IPO HANDBOOK FOR HONG KONG 2015

With a foreword by David Graham, Chief Regulatory Officer and Head of Listing, HKEx


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4 IPO HANDBOOK FOR HONG KONG 2015

FOREWORD

FOREWORD

Introduction

Hong Kong has long had an enviable reputation as a major international financial centre, with the Stock Exchange of Hong Kong (SEHK), a wholly-owned subsidiary of Hong Kong Exchanges and Clearing, one of the more popular venues for international capital raisings. The SEHK’s broad competitiveness is reflected by various international ranking reports. In terms of size, the aggregate market capitalisation of companies listed on the SEHK is the second largest in Asia, and the sixth largest in the world, at more than US$3.3 trillion as at the end of November 2014. In terms of capital raising activity – IPOs and secondary offers – Hong Kong is Asia’s most active market with more than US$94.0 billion total funds raised in the year to November 2014.

The Stock Exchange of Hong Kong:

As at 30 November 2014 Global Rank Asia Rank

Total market capitalisation US$ 3.3 trillion 6 2

Turnover US$ 1.4 trillion 9 4

Total funds raised US$ 94.0 billion 2 1

Total IPO funds raised US$ 18.2 billion 4 1

Number of newly listed companies 105 5 2

The companies listed on the SEHK represent a wide spectrum of industries. Companies from the financial industry continue to lead market capitalisation by sector, reflecting their traditional dominance of Hong Kong’s markets. It is followed by the property and consumer goods sectors. Of the newly listed companies in 2014 up to 30 November 2014, 32% are in the consumer goods sector, 16% in the property sector, and 13% and 11% in the consumer services and IT sectors respectively.

By David GrahamChief Regulatory Officer and Head of Listing

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FOREWORD

Market capitalisation of Main Board and GEM Board listed companies by sector as of 30 November 2014:

ConsumerGoods11%Energy

5%

Financial28%

Industrial4%

IT7%

Materials2%

Property14%

Conglomerates4%

ConsumerServices

9%

6% Telecoms10%

Mainland enterprises have played a critical role in development of the SEHK. As at the end of November 2014, H share, red chip and Mainland private enterprises accounted for 59% of the market capitalisation and 74% of the equity turnover value of all listed companies on SEHK. Hong Kong also attracts overseas companies with an Asian nexus, so that they can gain access to investors and capital funding in China and other Asian countries. The Shanghai-Hong Kong Stock Connect programme further promotes and strengthens the connection between Hong Kong and the Mainland capital markets by facilitating access to the Mainland investors.

Companies choose Hong Kong as a listing venue for many reasons, including among other things, strong corporate governance rules and practices, a reliable, transparent and fair regulatory and legal system and free flow of capital with no capital flow restrictions.

Making an application for listing on the SEHK

The Listing Rules of the SEHK set out detailed eligibility requirements which a new applicant must fulfill. These include a minimum track record period, profit, revenue and market capitalisation requirements, management and ownership continuity, sufficient spread of shareholders and financial, management and operational independence. The character, experience, integrity and competence of the proposed directors are also assessed to ensure that they are suitable to be directors of a listed company. The eligibility requirements of a GEM new applicant are modified to reflect the GEM board as a stepping stone towards a Main Board listing. The entire listing process, from submission of the listing application to commencement in dealings in listed shares, typically takes between two and five months. The initial and annual listing fees payable to the Exchange are also set out in the Listing Rules, and are calculated based on the monetary value and nominal value of equity securities of the company to be listed or already listed.

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FOREWORD

Unique features of the Hong Kong listing process

Dual filing system

The statutory regulator in Hong Kong is the Securities and Futures Commission (the SFC). Under a Memorandum of Understanding between the SFC and the SEHK dated 28 January 2003, the SEHK is responsible for the day-to-day administration of all listing related matters while the SFC supervises and monitors the SEHK in its listing-related functions and responsibilities. As such, disclosure documents are required to be filed with both the SEHK and the SFC under the Listing Rules. SEHK remains the frontline regulator and the primary point of contact for listed companies. The SFC may exercise its statutory powers to investigate persons who knowingly or recklessly provide false or misleading information in its statutory filing with the SFC under this arrangement. Where appropriate, it may prosecute offenders.

Listing Committee

While the Listing Department of the SEHK is responsible for vetting IPO applications to ensure compliance with the listing rules, approval of listing applications has been delegated by the Board of SEHK to the Listing Committee and/or its delegates.

The Listing Committee comprises at least 27 independent members and the HKEx Chief Executive who is an ex-officio member. They are drawn from a diverse group including at least eight individuals who the Listing Nominating Committee considers will represent the interests of investors and 19 individuals who the Listing Nominating Committee considers will be a suitable balance of representatives of listed issuers and market practitioners including lawyers, accountants, corporate finance advisers and Exchange Participants or officers of Exchange Participants. The Listing Committee plays an important role in the Hong Kong listing regime, as it shares its collective expertise and insight on companies, industries and evolving market practice in the capital markets.

Suitability for listing

In addition to meeting the eligibility requirements under the Listing Rules, the listing applicant must also satisfy the Listing Department, the Listing Committee and the SFC that it is suitable for listing. Suitability refers to the nature of the business and/or industry, sustainability of the business, reliance on a parent company and suitability of directors, among other things.

For example, deteriorating financial performance after the track record period may be a strong indicator of a fundamental deterioration of commercial or operational viability of a listing applicant even if it satisfies the financial requirements during the track record period. This may raise concerns on the sustainability of the business and thereby its suitability for listing.1

Initiatives to maintain Hong Kong’s status as a premium international listing venue

Notwithstanding the numerous strengths of the Hong Kong market and the success enjoyed in the past decade, SEHK monitors international developments and regularly reviews its policies, rules and practices to ensure that they are up-to-date and reflect international best practices. In the past two years, SEHK has undertaken the following initiatives to maintain Hong Kong’s status as a premium international listing venue.

1 In December 2013, the Listing Department issued a guidance letter HKEx-GL68-13 which sets out various factors that the SEHK would consider when assessing whether an applicant and its business are suitable for listing.

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FOREWORD

Weighted voting rights concept paper

In August 2014, SEHK launched a concept paper on weighted voting rights. The purpose of the concept paper was to seek views on whether, in concept, governance structures that give certain persons voting power or other related rights disproportionate to their shareholding should be permissible for companies currently listed, or seeking to list, on SEHK. The concept paper aimed to promote an informed, focused and coherent discussion on the topic, and was intended to be a neutral, factual and analytical presentation of the issues and considerations relevant to weighted voting rights structures.

The issues considered in the concept paper included the fair and equal treatment of shareholders as a general principle of the Listing Rules, the current position under Hong Kong company law and the Listing Rules, the competitiveness of Hong Kong as a leading venue for the listing of shares, a detailed review of practices in 14 overseas jurisdictions including where other weighted voting rights structures are in use, an in-depth review of academic literature on the impact of dual-class share structures, and other additional considerations such as limiting weighted voting rights structures to new listing applicants or companies from specific industry sectors.

It should be stressed that the SEHK has formed no view for or against weighted voting rights structures. The purpose of the concept paper was to elicit comments and views from a broad cross-section of the market community so that the SEHK can make a balanced decision on the future direction of weighted voting rights structures in the best interests of the market overall.

New sponsor regime

The role of sponsors is unique – they are the lead advisors to prospective listing applicants on the Listing Rules and guide listing applicants through the listing application process. They are also responsible for performing thorough due diligence of the listing applicants to ensure that listing documents include all information required by investors to make an informed assessment of the activities, assets and liabilities, financial position, management and prospects of listing applicants, and of their profits and losses. In this regard, the market relies on sponsors to act as key gatekeepers of market quality.

Following a public consultation by the SFC on the regulation of sponsors, two key changes were made to the Listing Rules. The new sponsor regime became effective on 1 October 2013. First, sponsor’s responsibilities have been enhanced in conjunction with changes made to the SFC’s Corporate Finance Adviser Code of Conduct. A new requirement that not less than two months must lapse between a sponsor’s appointment and the listing application submission gives sponsors a statutory minimum amount of time to conduct due diligence. Second, the initial proof of the listing document (i.e., the application proof), must be substantially complete when submitted. If an application proof is not substantially complete, it will be returned by SEHK and the names of the listing applicant and sponsor will be published on SEHK’s website. An eight week moratorium is also imposed during which the listing applicant may not refile its listing application applies.

The objective of the new sponsor regime was to encourage listing applicants to better cooperate with sponsors to submit high quality application proofs, with a consequent reduction in the vetting period and the number of regulatory comments. The SEHK has made good progress towards achieving this objective and no major issues were encountered. In the 12 months since the implementation of the new sponsor regime, the average vetting time of listing applications by SEHK decreased 45% compared to the previous 12 months. The average number of regulatory comments issued per application also decreased 54% over the same period.

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FOREWORD

Joint Policy Statement regarding listing of overseas companies

To preserve high standards of regulation, enforcement and corporate governance, the Listing Rules require overseas listing applicants to demonstrate that their jurisdictions of incorporation have shareholder protection standards at least equivalent to those of Hong Kong. To ensure overseas companies understand the requirements of the Listing Rules as applicable to them, a Joint Policy Statement (JPS) was issued by the SFC and SEHK in March 2007 to set out a roadmap for overseas listing applicants and their advisers to refer to regarding key protection standards which was replaced by a new JPS in September 2013 (revised JPS).

The objective of the revised JPS was to promote transparency in the listing process and provide regulatory certainty for overseas companies seeking either primary or secondary listings in Hong Kong.

As at the end of November 2014, in addition to the recognised overseas jurisdictions of the People’s Republic of China, the Cayman Islands and Bermuda, the SEHK has approved 21 jurisdictions as acceptable jurisdictions of an overseas listing applicant’s place of incorporation. For each of these jurisdictions, a country guide has been published which provides guidelines on listing applications from overseas issuers incorporated in those jurisdictions.

Review of the Corporate Governance Code

Following a public consultation in 2011, substantive changes were made to the Corporate Governance Code. The principal aim of the changes was to encourage better accountability of listed companies and directors. In June 2014, the SEHK proposed further updates to the Corporate Governance Code in relation to risk management and internal controls by the publication of a consultation paper. These proposed changes are intended to:

emphasise that internal controls are an integrated part of risk management;

enhance accountability of the board, board committees and management by clearly defining their roles and responsibilities in risk management and internal controls;

improve transparency of the listed company’s risk management and internal controls by requiring annual disclosures in the listed company’s Corporate Governance Report; and

strengthen oversight of the risk management and internal control systems by stating that listed companies should have an internal audit function.

The consultation period closed at the end of August and SEHK will announce results to the market in due course.

Chapter on Connected Transactions of the Listing Rules

Connected transactions entered into by a listed issuer or its subsidiaries are regulated under the Listing Rules to ensure that the interests of shareholders as a whole are taken into account by the listed issuer. The primary requirement is that, subject to certain exceptions, connected transactions should be disclosed to the market and subject to approval of independent shareholders. In addition, independent shareholders should be entitled to the views and advice of the independent directors and the independent financial advisers.

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FOREWORD

Following a public consultation held in 2013, the chapter on connected transactions of the Listing Rules was rewritten and came into effect on 1 July 2014. One of the objectives of the rewrite was to simplify and improve the clarity of the chapter, for example through the use of plain language and the increased use of structure charts and diagrams to explain the relevant requirements. Another objective of the rewrite was to ease the compliance demands on listed issuers, while maintaining the same level of investor protection.

Chapter on Mineral Companies of the Listing Rules

To ensure that the Listing Rules reflect up-to-date market best practices and to provide investors with material, relevant and reliable information, the new Listing Rules on mineral companies came into effect in June 2010 which require, among other things, all mineral companies and listed issuers that make statements on mineral or petroleum reserves and resources to update those statements once a year in their annual reports. In November 2012, the Listing Committee considered a review report on the operation of the new Listing Rules and whether any refinement was necessary. The review did not identify any material issues, and indicated that the quality of listing applicants’ reporting and disclosure on mineral and petroleum assets generally improved.

Conclusion

We are committed to performing our public duty to ensure orderly and fair markets and that risks are managed prudently, consistent with the public interest and, in particular, the interests of the investing public. The SEHK is able to offer a transparent and well-regulated market for companies of all types and sizes to list their shares. Investors can also participate in the growth of both local and overseas companies listed on the SEHK in the confident knowledge that they are investing in a market that meets international standards.

C O N T A C T

Hong Kong Exchanges and Clearing Limited12/F One International Finance Centre, 1 Harbour View Street, Central, Hong KongTel: (852) 2522 1122Fax: (852) 2295 3106Website: www.hkex.com.hk

David GrahamChief Regulatory Officer and Head of ListingEmail: [email protected]

ACKNOWLEDGMENTS IPO Handbook for Hong Kong 2015 was an exciting project to complete. I owe a debt of gratitude to many individuals and supporting organizations which helped us with this handbook. First, we would like to thank Mr David Graham for writing the foreword to this handbook. Mr Graham’s foreword provides a helpful review of the key initiatives and changes to the listing regime in Hong Kong which will be very useful to listing applicants as they commence their listing journey in Hong Kong.

Compiling a handbook as wide ranging and in-depth took a lot of effort on behalf of 24 authors and editorial board and nonetheless proved to be a challenge for us. We built friendly bridges along the way. I am grateful to authors who supplied their chapters on their own expertise and whose professional knowledge and experience are reflected.

My heartfelt thanks also go to all the International and local professional associations in Asia, Mainland China and Hong Kong for their generous cooperation and support in the distribution of this handbook. They are:-

1. The International Compliance Association;

2. Inter-Pacific Bar Associations (IPBA);

3. International Association of CFOs & Corporate Treasurers (IACCT);

4. China Enterprises Reputation & Credibility Associations (Overseas);

5. China Association for Public Companies (CAPCO);

6. Zhong Guan Cun Listed Company Association;

7. Shenzhen Stock Exchange;

8. Shenzhen Entrepreneurs Associations;

9. The Hong Kong Chinese Enterprises Association;

10. Hong Kong Institute of Directors (HKIOD);

11. Hong Kong Institute of Chartered Secretaries (HKICS);

12. Hong Kong Institute of Certified Public Accountants(HKICPA);

13. Association of Chartered Certified Accountants (ACCA);

14. Hong Kong Corporate Counsel Associations (HKCCA);

15. Council of Public Relations Firms (CPRFHK);

16. Hong Kong Investor Relations Associations (HKIRA)

Last but not the least, my heartfelt thanks also go to all the contributors including sponsors and advertisers for their financial support so that we can give birth to this project.

Claris Tam

Project Manager

TABLE OF CONTENT

Foreword ..................................................................................................................... 4

Acknowledgement ..................................................................................................... 10

Preparation Section

Chapter 1: Thinking of IPO and the Pre-IPO Preparation ........................................ 15

Appoint Professional Parties

The Role of Reporting Accountants .................................................................... 22

The Role of an Independent Industry Research Company ................................ 30

The Need for Valuation ........................................................................................ 35

Considering a Trust in Pre-IPO Planning ............................................................ 45

Strategic Investors and Pre-IPO Investment During the Pre-IPO Preparation Stage .................................................................................. 49

Application Section

Chapter 2: Overview of the Hong Kong IPO Process ............................................... 55


Why choose a financial printer? ........................................................................... 67

How a Virtual Data Room (VDR) Supports the IPO Process ............................. 70

Directors’ and Officers’ Liability Insurance: What Is It and Why Is It Important to the Listed Companies in Hong Kong ............................. 75

The Objectives of Stock Incentive Compensation ............................................... 80

Selecting Your Due Diligence Service Provider ................................................... 85

How to Pick the Right Sponsors and Underwriters ............................................ 89

Marketing the Deals Section

Chapter 3: Marketing, Pricing and Stabilization ...................................................... 95


The Role Played by a Receiving Bank in a Successfully Completed IPO .......... 104

TABLE OF CONTENTSpecific Listings Section

Chapter 4: Specific Listing Issues .............................................................................. 109

Chapter 5: Specific Listing Methods ......................................................................... 128

Chapter 6: Choosing Your Offshore Listing Vehicle – Key Factors to Consider ...... 136

Tax Considerations Section

Chapter 7: Tax Considerations in an IPO ................................................................... 147


Selecting Your Tax Advisor ................................................................................... 155

Investor Relations Section

Chapter 8: How to Market and Navigate a Successful IPO ..................................... 159


Online Investor Relations: Effective and Efficient Communication with the Financial Community ............................................................................. 166

Post-Listings Section

Chapter 9: Corporate Governance for Listed Company with the Latest Corporate Governance Code Update ...................................................... 175


The Role of Company Secretary .......................................................................... 185

ESG Report – A Document to Convey an Organisation’s Sustainability Commitment ................................................................................. 189

Chapter 10: Listed Company Compliance Issues ..................................................... 197


Selecting Your Compliance Officer ...................................................................... 209

Chapter 11: Corporate Finance Strategies Post-IPO................................................. 212

Biography ................................................................................................................... 220

PREPARATIONSECTION

www.bdo.com.hk

A DELIGHTFUL PROSPECT

BDO Limited has extensive experience in assisting Hong Kong and Mainland China enterprises in going public, as well as in other corporate exercises in Hong Kong, Singapore, the UK and Canada.

BDO Limited, a Hong Kong limited company, is a member of BDO International Limited, a UK company limited by guarantee, and forms part of the international BDO network of independent member firms. BDO is the brand name for the BDO network and for each of the BDO Member Firms.


MAIN CHAPTER

1. Benefits of Listing

1.1 Fundraising during the IPO process

Fundraising during the IPO process will certainly facilitate a company’s expansion of existing business and, at a later stage acquisition and development of new business.

There are many reasons to motivate a company to list, including enhancing the corporate image and reputation, gaining public recognition, and the most directly measurable benefit is to raise funds. The funds obtained from an IPO will be regarded as the long term capital of the company, which will strengthen the capital structure of the company and finance its long term growth. A strong capital structure is of vital importance for a company, especially for those companies which are capital intensive in nature and those companies that need long term capital to finance their rapid growth.

After a company goes public, they may find that there are more options for procuring funds to finance its strategic development and to expand its business, such as placing new shares or arranging for rights issue. To finance the acquisition of new business, it is also common for a listed company to issue new shares or other financial instruments as the consideration to the vendors.

1.2 Improving corporate governance with an enhanced financial reporting process and internal controls

During the pre-IPO process, a company will endeavour to provide accurate financial information in an efficient manner for the vetting process by the regulators. Some of the management of private entities may consider their financial reporting process as one that merely serves the purpose of meeting statutory requirements. It is also common for management of private entities to not put emphasis on internal controls about the financial reporting process. However, in order to cope with the stringent timeline for providing accurate financial information for the IPO purpose, a company will have to enhance the quality and efficiency of its financial reporting process and also the internal control over these aspects. The sophistication of a company’s financial information inherently will increase as the business expands. The enhanced financial reporting process and internal controls will undoubtedly provide accurate and timely financial information for the management in making business decisions.

1.3 A more flexible staff remuneration package

Keeping the top talent loyal to a company and motivating them to work positively are always the keys to success for a company. During the pre-IPO stage and after listing, a company may have a more flexible employee remuneration package to offer by launching share option schemes. Employee share option schemes are widely applied by public companies as a tool to recognize the contribution of employees and directors of the company and to share the success of the company with them. By setting various vesting conditions, such as fulfilment

CHAPTER 1

Thinking of IPO and the Pre-IPO Preparation

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of a certain amount of years of service or performance-targets, employee share option schemes will also

effectively motivate staff loyalty and commitment.

2. The Other Side of the Coin

2.1 Financial transparency results in more competition from competitors and raises awareness by other stakeholders

The financial information of a private company is always regarded as highly confidential information that the management is not willing to share with the public, especially its competitors. After going public, corporate transparency will have to increase. As required by the Listing Rules, all listed companies (including those listed on the Main Board and GEM Board) are required to publish its financial results on the web site of the Hong Kong Exchanges and Clearing Limited (“HKEx”). In addition, under the current requirement, the financial transparency of IPO applicants will also be increased. From 1 April 2014 onwards, application proofs of the prospectus will be published on the web site of the HKEx when a listing applicant files its listing application. As such, the historical financial information of a listing applicant will be made available for inspection by the public. By increasing the financial transparency, a listed company will gain recognition from institutional and public investors. However, unavoidably, a listed company will also face keen competition from other market

participants by publishing its financial information to the public.

2.2 Publication of financial results comes with a tightened timeframe for financial reporting

The timeline for private companies in respect to financial reporting is relatively more flexible. The financial statements of private companies are usually prepared by the management annually for an independent audit. For entities incorporated outside Hong Kong, the laws and regulations as imposed by the local jurisdictions may even exempt certain companies from the audit requirements altogether. However, pursuant to the requirements under the Listing Rules, listed companies are required to publish their financial results regularly. For those companies listed on the Main Board, the reporting deadline for publishing their interim and annual results announcements is two and three months after the period ends, respectively. For those companies listed on the GEM Board, the reporting deadline for publishing their quarterly and interim results announcements is 45 days after the period ends, and the reporting deadline for publishing their annual results announcements is three months after the period ends. In order to cope with the tightened reporting deadline, listed companies should maintain an efficient financial reporting system.

2.3 Greater compliance and disclosure requirements

Challenges remain even after a company goes public. Post listing, there are more rules for a company to comply with. All listed companies shall strictly comply with obligations as set out in the Listing Rules. Among others, listed companies are obligated to immediately disclose the information which is considered as price-sensitive.

It is not uncommon for a private entity to enter into transactions of various nature with their connect persons. The Listing Rules contain certain safeguards against listed issuers’ directors, chief executives and substantial shareholders taking advantage of their positions when a listed company enters into transactions with its connected persons. For a listed company, all transactions with connected persons shall fully comply with the requirements under the Listing Rules, and be approved by independent shareholders as necessary.

In addition, for all transactions that constitute a “notifiable transaction” as defined under the Listing Rules (see Main Board Listing Rule Chapter 14 and GEM Board Listing Rule Chapter 19), a listed company must comply

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with the notification, publication and shareholders’ approval requirements as appropriate, depending on the size and nature of the transactions to be entered into. For notifiable transactions that require shareholders’ approval, a listed company shall prepare a circular for distribution to its shareholders. The contents of the circular will also be subject to the vetting procedures by the HKEx.

3. Group Reorganisation

3.1 Determining the right group structure for listing

Group reorganisation is a common exercise for an entity seeking listing. Streamlining the group entity to carry out the core business of the listing group is one possible reason.

Before going public, a private entity’s owners may run their businesses using different entities, but according to law these entities are not connected. In other words, these entities are under the common control of an individual or a group of individuals. For the purpose of an IPO, these entities will be structured into a legal group. Group reorganisation in this situation is unavoidable; otherwise, it may not meet the qualifications for listing. For example, it may not have a sufficient profit nor a long enough trading record period. Sometimes new listing applicants will redefine the principal activities of the entities in the listing group when they prepare for their listing application. As a result, identified assets and liabilities are transferred between the group entities.

Appendix 3 of Auditing Guideline Statement 3.340 issued by the Hong Kong Institute of Certified Public Accountants (HKICPA) illustrates some of the types of adjustments which may be made to previously reported figures for the purpose of the financial information arising as a result of changes in the group structure.

3.2 Ownership continuity (common control combinations) and management continuity

A group structure is such a critical decision that the listing applicant’s management, sponsors, legal advisors and reporting accountants must work together to ensure all aspects have been considered. For example, the ownership and management continuity requirement must be satisfied under the Listing Rules, and the desired reorganisation steps must be legally practical. Determining the appropriate accounting for a group reorganisation can be a complex accounting issue. It would be advisable to involve the reporting accountants early, once the core business of the listing group is determined. Under the Listing Rules, an Main Board IPO applicant must have a trading record of at least three financial years (GEM Board: two financial years) with management continuity during the track record period; and ownership continuity and control for at least the most recent audited financial year.

To highlight how different accounting treatments would affect the views given by the financial information, consider the following example: where a group reorganisation is determined to be a business combination under common control, the entities combined would be regarded as in the same group as of the date a common control is established. The results and assets and liabilities of the entities now combined would be included in the financial information as if the current group structure were always in existence. On the other hand, if no common control can be proven and the group reorganisation is a business combination as defined in Hong Kong Financial Reporting Standard (HKFRS) 3 - Business Combinations, the results and assets and liabilities of the entities legally become group entities, and will be consolidated into the financial information since the parent and subsidiary relationship is established. Often the date when the legal group structure is formed is not long before the IPO application, and therefore results of the entities legally joining the listing group would only be included in the trading record period results for a short period of time before the listing application.

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3.3 Competing business

In designing the proper group structure for an IPO, a listing applicant is recommended to take into account whether any businesses excluding those in the proposed listing group would constitute competitive businesses, and as a result adversely affect its chance of being considered as suitable for listing.

Under the Listing Rules, where a listing applicant has a controlling shareholder with an interest in a business apart from the listing applicant’s business which competes or is likely to compete, the directors of the listing applicant shall, in the performance of their duties as directors, avoid actual and potential conflicts of interest and duty. Competing businesses of directors and controlling shareholders are allowable when and only when full disclosures have been made at the time of listing and on an on-going basis.

4. Financial Information

4.1 Determining track record period

In respect to an application for new listing on the Main Board of the HKEx, the financial information should cover each of the three financial years immediately preceding the issue of the prospectus. Under GEM Listing Rule 11.10, the financial information must cover at least the two preceding financial years.

The HKEx, in some circumstances, may consider accepting a shorter period. In any case, the latest financial period reported on by the reporting accountants must not have ended more than six months before the date of the prospectus. Due to this requirement, in some cases, an interim period is added to the financial information. Generally this additional interim period is referred to as the “stub period”. The reporting accountants’ true and fair opinion covers also the financial information of the stub period. In respect to comparatives in the stub period, the reporting accountants are required to perform a review on them.

Subject to certain conditions, HKEX accepts early filing of listing applications in which case the financial information would cover a shorter trading record period. (Note: Financial information that covers only a part of the track record period is only permitted in an Application Proof that is filed early. Financial information for the complete track record period is still required for the final prospectus.) For example, an applicant for new listing on the Main Board of the HKEx may present financial information covering two years and nine months in the Application Proof. Financial information of the nine-month stub period, including the comparatives, has to at least be reviewed by reporting accountants according to Hong Kong Standard on Review Engagements 2410 “Review of Interim financial information Performed by the Independent Auditor of the Entity”. For the HKEx to accept an early filing, the HKEx requires a sponsor’s confirmation that it is beyond reasonable doubt that the applicant will satisfy the Main Board Listing Rule 8.05/GEM Listing Rule 11.12A and other financial standard requirements.

The early filing application has to be filed after the trading record period of the listing applicant, and the listing applicant has to file the updated financial information covering the full trading record period as soon as practicable. Further, the reporting accountants would have to perform work on the updated financial information to support their opinion on the historical financial information of the trading record period as a whole.

4.2 Applicable accounting standards

The Rules Governing the Listing of Securities on The Stock Exchange of Hong Kong Limited (the Main Board Listing Rules) and The Rules Governing the Listing of Securities on the Growth Enterprise Market of The Stock Exchange of Hong Kong Limited (the GEM Listing Rules) generally have similar requirements on the form and contents of the financial information in an accountant’s report. The financial information can be prepared

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in accordance with either Hong Kong Financial Reporting Standards or International Financial Reporting Standards (or China Accounting Standards for Business Enterprises CASBE in the case of a PRC issuer that has adopted CASBE for the preparation of its annual financial statements).

In brief, the Listing Rules require, as a minimum, the following elements:

statements of financial position as at the end of each of the periods reported on

statements of comprehensive income, cash flows and changes in equity in respect to each of the periods reported on

specific details concerning the financial information as set out in Main Board Listing Rule 4.04 & 4.05 and Appendix 16, or GEM Listing Rule 7.03 & 7.04

The Hong Kong Financial Reporting Standards (HKFRS), International Financial Reporting Standards (IFRS) must be prepared according to best practice, which is at least that required in the accounts of a company under the Hong Kong Companies Ordinance and the adopted financial reporting framework.

The HKEx also reserves the right to require a new applicant to provide more information, or vary the requirements for information to be disclosed according to what the HKEx considers necessary.

Directors of a listing applicant are responsible for ensuring the financial information is prepared in conformity with the above requirements. The reporting accountants are responsible to obtain sufficient relevant and reliable evidence to enable them to form an opinion on the financial information.

4.3 Practical issues when converting the current accounting standard into applicable accounting standards

For many of the listing applicants, for example, enterprises incorporated in the PRC, those entities in their listing group may not have been reporting under HKFRS or IFRS before the listing application. Making the transition to these financial reporting frameworks may be a hurdle to these listing applicants. Set out below are some common issues relating to financial reporting encountered by listing applicants.

Fair value assessment

Under various standards under HKFRS/IFRS, certain accounting items, such as financial instruments (including both assets and liabilities), investment properties, share based payments, etc., are subject to a fair value assessment. For those entities that have not been reporting under HKFRS or IFRS before the listing application, applying HKFRS or IFRS may have a substantial impact to their results and financial positions when transforming the recognition of certain accounting items into fair values. For group structuring during the IPO process that constitutes a business combination under HKFRS 3, the acquirer shall also measure the identifiable assets acquired and the liabilities assumed at their acquisition-date fair values.

Related party transactions

Under Hong Kong Accounting Standards/International Accounting Standards (“HKAS/IAS”) 24, if the reporting entity has related party transactions during the reporting period, it is required to disclose the nature of this related party relationship, information about those transactions and outstanding balances. In PRC enterprises, the controlling shareholders are frequently individuals who also own other businesses not included in the listing groups. It should be noted that transactions between entities controlled by the same shareholders that are included in and outside of the listing group during the trading record period (which is three years before listing on the Main Board, and two years for the GEM) will fall within HKAS/IAS 24.

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The definition of a related party includes close family members of the owners. Since transactions between the listing group and the entities controlled by close family members of the owners of the listing group are classified under HKAS/IAS 24 as related party transactions, the volume of related party transactions in PRC entities is anticipated to be higher than the average reported by other entities. A systematic approach to identifying related parties would bring some relief to this burden. Until the time when the entities and businesses that will comprise the listing group is finalised, the identity of the related parties and their transactions with the listing group are subject to change.

Recognition of impairment on financial instruments (including receivables) and other assets

Generally when the future economic benefits associated with an asset falls below its carrying amount, the asset is impaired. The assessment of any impairment and the estimation of the amount of impairment should be determined based on the facts and circumstances existing at the end of each period reported on. Listing applicants reporting under their local financial reporting frameworks may not have been required to recognise impairment losses. When they adopt HKFRS/IFRS, they must be cautious not to perform the assessment with hindsight. Sometimes their existing books and records do not have the necessary information to support this assessment. It is advisable for listing applicants to begin the assessment early and seek advice from their reporting accountants.

Additional disclosure of financial information

Before going public, the disclosures of financial information for private entities either incorporated in Hong Kong or outside Hong Kong, are relatively relax. For an IPO applicant and listed company, they are subject to additional minimum disclosure requirements under Listing Rules and HKFRS/IFRS, e.g. basic and diluted earnings per share, segment information, remuneration to directors (by name), five highest paid individuals and senior management, ageing analysis of trade receivables and trade payable.

Among their procedures, the reporting accountants must review the accounting policies the listing applicant has adopted and ensure these accounting policies are appropriately and consistently applied, and that the financial information is presented on a consistent and comparable basis. To achieve this, the reporting accountants may need to adjust figures previously reported in the financial statements on which the preparation of financial information is based:

to the extent practicable, the financial information is stated on the basis of accounting policies adopted in the last financial period reported on;

if there has been a change in the group structure in the period reported on (for example, the acquisition or disposal of a subsidiary or business, or a reorganisation of the group) it may sometimes be appropriate to make adjustments so that the effects of the change on the results of the group and its state of affairs do not distort the financial information; and

adjustments to make the financial information in all other respects properly comparable, e.g. correction of material accounting errors in the financial statements of the period reported on.

Where adjustments are made, under the Main Board Listing Rule 4.15 and GEM Listing Rule 7.19, the reporting accountants are required to prepare a statement showing each adjustment made, the reasons for them, and include sufficient details so the figures in the audited financial statements can be reconciled with those in the accountants’ report. This statement is commonly referred to as the statement of adjustment, and is available for public inspection. In the accountants’ report, the reporting accountants should state all the adjustments that were considered necessary have been made, or that no adjustments were necessary.

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In addition, where the auditor’s opinion on the underlying financial statements of the listing applicant and/or its subsidiaries was qualified and the reporting accountants conclude that, for the purpose of the accountants’ report, the previous qualified audit opinion need not be repeated, the reporting accountants should indicate in the accountants’ report how the matter was resolved.

4.4 Allocation of listing expenses

During the IPO process, different types of expenses will be incurred, including but not limited to fees to a sponsor, company and sponsor’s legal advisers, reporting accountants, internal control consultant, tax and other industry experts, valuers, financial printers, share registrars, receiving banks, listing fees and underwriting fees. It is always a question on how to account for these expenses. It is a complicated question, and the management should exercise their professional judgement in allocating the IPO expenses into expense or equity. A guidance material written by the Hong Kong Institute of Certified Public Accountants in the June 2014 issue of the A Plus magazine titled “Accounting for transaction costs incurred in initial public offerings” provides a very good illustration for how to account for IPO expenses.

C O N T A C T

BDO Limited25th Floor, Wing On Centre, 111 Connaught Road Central,Hong KongTel: (852) 2218 8288Fax: (852) 2815 2239Email: [email protected]: www.bdo.com.hk

Franki LuiDirector, Assurance services

APPOINT PROFESSIONAL PARTIES


Requirement under Listing Rules

The Hong Kong Exchanges and Clearing Limited (“HKEx”) requires a new listing applicant to include an accountants’ report in its prospectus. Among other matters, the accountants’ report must provide the listing applicant’s historical financial information during the trading record period. Where the listing applicant includes pro forma financial information and/or a profit forecasts in its prospectus, it must engage an independent accountant (usually the reporting accountants) to report on the information. Their reports are included in the prospectus.

As a general practice, listing applicants also engage reporting accountants to review and report on other matters to be included in the prospectus, such as the indebtedness of the listing group.

Qualification

A reporting accountant should be qualified under the Professional Accountants Ordinance for appointment as an auditor of a company. Moreover, a reporting accountant must be independent both of the listing applicant and of any other company concerned to the same extent as that required of an auditor under the Hong Kong Companies Ordinance and in accordance with the requirements on independence issued by the Hong Kong Institute of Certified Public Accountants (“HKICPA”).

The Third Schedule of the Hong Kong Companies Ordinance (“Third Schedule”) uses the terms “auditors” and “accountants” in respect to different reports to be issued by professional accountants. There has been confusion as to the meaning of these terms. Paragraph 3 of Auditing Guideline (“AG”) 3.340 interprets that the report by the “reporting accountants” under Chapter 4 of Main Board Listing Rules and Chapter 7 of GEM Listing Rules will normally be made by the statutory auditors of the listing applicant.

Though the HKEx does not have vetting procedures or requirements for professional accountants acting as reporting accountants, the HKEx has stringent quality control measures on the competency and quality of reporting accountants. The purpose of which is to protect the interests of the public when they refer to the information reported on by the reporting accountants to make their investment decisions. One of the factors the HKEx will consider is the accountant’s prior experience with IPOs.

Regulations aside, reporting accountants can be a key ingredient for making a successful IPO application as they can assist applicants to resolve practical problems throughout the whole application process.

The Role of Reporting Accountants



Involvement in the Preparation of the Prospectus

The general public may have the impression that a new listing applicant must have reporting accountants in their IPO working team simply because of regulatory requirements. In fact, reporting accountants can contribute significant value to the success of an IPO application. Well before an entity confirms its IPO plan, it would need an independent accountant to advise on financial reporting-related issues. For instance, the involvement of reporting accountants in the design of a group structure can help avoid unpleasant surprises. Take for example the fact that most People’s Republic of China (“PRC”) enterprises tend not to maintain their books and records according to the Hong Kong Financial Reporting Standards (“HKFRS”), International Financial Reporting Standards (“IFRS”) or the China Accounting Standards for Business Enterprises (“CASBE”). A transition from their local accounting standards to these standards may be too demanding for these enterprises if they do not have assistance from their reporting accountants. Reporting accountants with a sufficient track record of successful IPOs can generally help listing applicants work out a viable timetable and provide valuable advice on regulatory requirements in their areas of expertise.

The primary responsibility of a reporting accountant in a new listing application is to report on the financial or non-financial information, either historical or forecast, to be included in a prospectus. Some of these reports are set out in the prospectus whereas others are not.

The following table summarises the various information/disclosures wherein the Listing Rules require the involvement of reporting accountants as the listing application progresses:

The HKEx requires the information in the draft prospectus submitted together with a listing application, the Application Proof, to be substantially complete except in relation to information that by its nature can only be finalised and incorporated at a later date.



Deliverables

Deliverables include the accountants’ reports for track record period financial information and pro forma financial information, comfort letters for working capital sufficiency, indebtedness, profit forecast and other matters.

Accountants’ report

The role of a reporting accountant is to give an opinion on the financial information as to whether or not it gives a true and fair view of the results and cash flows for each of the periods reported on, and the financial position as at the end of each of the periods reported on.

There are primarily three sources of requirements governing the form and contents of the accountants’ report. They include the following:

The Rules Governing the Listing of Securities on The Stock Exchange of Hong Kong Limited (the Main Board Listing Rules), or The Rules Governing the Listing of Securities on the Growth Enterprise Market of The Stock Exchange of Hong Kong Limited (the GEM Listing Rules);

The Third Schedule of the Hong Kong Companies Ordinance (Cap. 32) ‘Matters to be Specified in Prospectus and Reports to be Set Out therein’; and

Auditing Guideline 3.340 (“AG 3.340”) ‘Prospectuses and The Reporting Accountant’ issued by the HKICPA

Any prospectus offering for subscription or purchase shares in a company should follow the relevant provisions in the Hong Kong Companies Ordinance. Particular requirements for the accountants’ report are dealt with in the Third Schedule. These provisions are applicable to all companies whether incorporated in Hong Kong or not. Requirements in the Third Schedule are generally covered by the Listing Rules. Where the Third Schedule and the Listing Rules have similar requirements on a matter included in a prospectus, this chapter would mention the Listing Rules only on that requirement.

Details in respect to determination of track record period for financial information and applicable accounting standards are discussed in the aforementioned main chapter.

To ensure the financial information in the accountants’ report included in the Application Proof is substantially completed, the HKEx requires a signed copy of the accountants’ reports when the Application Proof is submitted. Where the accountants’ report is not yet signed, the reporting accountants have to provide a confirmation to the listing applicant that no significant adjustment is expected to be made to the draft accountants’ reports subject to completion of certain outstanding procedures as specified in the HKEx Guidance Letter - HKEx-GL58-13. A copy of the confirmation is made to the sponsor, the HKEx and the Securities and Futures Commission.

Pro forma financial information

Where a listing applicant includes pro forma financial information in the prospectus, whether the pro forma financial information is required by the Listing Rules or not, its preparation and presentation should comply with Main Board Listing Rule 4.29 or GEM Listing Rule 7.31. The listing applicant must engage its auditors or reporting accountants to report on the pro forma financial information according to the Main Board Listing Rule 4.29(7) or GEM Listing Rule 7.31(7). The report on pro forma financial information is set out in the prospectus.



With all new listings, an applicant should include in its prospectus a statement about the net tangible asset backing for each class of security for which a listing is being sought. This statement should be prepared taking the new shares to be issued into account as detailed in the prospectus, and is regarded as pro forma financial information.

The statement of net tangible assets is included in a prospectus to provide users with information about the listing of the applicant’s shares on the HKEx (and the new shares to be issued, if applicable) by showing how it might have affected the financial information of the listing applicant if the transaction had been undertaken at the end of the trading record period (or the stub period, if applicable).

Compilation of pro forma financial information is the responsibility of the directors of the listing applicant. The HKICPA has published Accounting Guideline 7 (AG 7) ‘Preparation of Pro Forma financial information for Inclusion in Investment Circulars’, to provide guidance on preparing and presenting pro forma financial information under the Listing Rules. AG 7 also contains guidance on judging whether pro forma financial information is misleading.

The role of reporting accountants is to plan and perform their work in accordance with the Hong Kong Standard on Assurance Engagements (HKSAE) 3420 ‘Assurance Engagements to Report on the Compilation of Pro Forma financial information Included in a Prospectus’ issued by the HKICPA. The purpose of which is to obtain sufficient evidence to provide reasonable assurance that:

the pro forma financial information has been properly compiled by the directors of the listing applicant;

such basis is consistent with the accounting policies of the listing applicant; and

the adjustments are appropriate for the purposes of the pro forma financial information as disclosed pursuant to the Listing Rules

The work of a reporting accountant primarily consists of comparing the unadjusted financial information with the source documents. In addition, it encompasses considering the evidence supporting the adjustments made by the directors and making enquiries of the directors regarding the process by which they have prepared the pro forma financial information.

When the Application Proof is submitted, the reporting accountants also have to state in the confirmation that no significant adjustment is expected to be made to the accountants’ report on pro forma financial information.

Profit forecasts

The Listing Rules require the profit and cash flow forecasts memorandum to be submitted together with the listing application. However, the Listing Rules and the Third Schedule do not have requirements for a profit forecast to be included in a prospectus. Listing applicants may wish to do so voluntarily. In this regard, listing applicants should be cautious about the meaning of profit forecast under the Listing Rules. In cases where information in a prospectus is considered as a profit forecast, the listing applicant should engage reporting accountants to review and report on this forecast.

When preparing a listing document, a “profit forecast” means any forecast of profits or losses, however it is expressed, and includes any statement which explicitly or implicitly quantifies the anticipated level of future profits or losses. This is the case whether made expressly or by referring to previous profits or losses or any other benchmark or point of reference. It also includes any estimate of profits or losses for an expired financial period that has not yet been audited or published. Any valuation of assets (other than land and buildings) or



businesses acquired by an issuer based on discounted cash flows or projections of profits, earnings or cash flows will also be regarded as a profit forecast.

Where a profit forecast appears in any listing document, it must be clear, unambiguous and presented in an explicit manner. Further, the principal assumptions, including commercial assumptions, upon which it is based must be stated. A profit forecast must also be prepared in a way that is consistent with the accounting policies normally adopted by the listing applicant. Main Board Listing Rule 11.19 and GEM Listing Rule 14.31 contain additional rules on making the assumptions.

Directors of listing applicants are wholly responsible for the assumptions used in profit forecasts and the preparation and presentation of profit forecasts. Reporting accountants are engaged to review and report on the accounting policies and calculations for the forecast. Their report on the profit forecast must be set out. Although it is not the responsibility of reporting accountants to report on the assumptions used in a profit forecast, reporting accountants following Auditing Guideline 3.341 ‘Accountants’ Report on Profit Forecasts’ issued by the HKICPA, are required to include an appropriate comment in their report should the assumptions adopted by the listing applicant appear to them to be unrealistic. Also, they must do the same if there are any assumptions omitted but appear to the reporting accountants to be important.

The HKEx also requires reporting accountants to state in the confirmation that no significant adjustment is expected to be made to the accountants’ report on profit forecasts included in the Application Proof.

Statement of indebtedness and other liquidity disclosure

In the prospectus, there must be a statement disclosing the details of the listing group’s loan capital, borrowings, mortgages or charges, indebtedness and contingent liabilities or guarantees (“Statement of Indebtedness”), as at the most recent practicable date. Alternatively, an appropriate negative statement may be provided (Paragraph 32 of Part A Appendix 1 to the Main Board Listing Rules/GEM Listing Rules).

The Listing Rules also require a prospectus to include a commentary on the listing applicant’s liquidity, financial resources and capital structure (“Other Liquidity Disclosure”) as at the most recent practicable date (Paragraph 32 (5) of Part A Appendix 1 to the Main Board Listing Rules/GEM Listing Rules). As specified in the HKEx Guidance Letter HKEx38-12, the most recent practicable date for the Statement of Indebtedness and Other Liquidity Disclosure in the Application Proof is a date no more than two calendar months before the date of the Application Proof. The information in the Statement of Indebtedness and Other Liquidity Disclosure have to be updated to a date no more than two calendar months before the date of the final prospectus.

It is the responsibility of the directors of the listing applicants to prepare the Statement of Indebtedness and Other Liquidity Disclosure. Though not required by the Listing Rules, the reporting accountants are usually engaged to report on the statement and disclosures. Note that this engagement is not an audit, and the procedures taken by the reporting accountants cannot necessarily reveal all significant matters concerning these disclosures. Given that the date at which the borrowings and indebtedness are stated and Other Liquidity Disclosure is made is usually not the end of an accounting period, the reporting accountants unavoidably would need to place reliance on representations from the directors of the listing applicants as to the completeness of the amounts shown in the statement.

Where the reporting accountants are engaged, the report from the reporting accountants to the directors of the listing applicants (and the sponsors) is a private letter and usually is issued at the time when the final proof of the prospectus is ready. Depending on the practice of the sponsors, reporting accountants may be



requested to provide an additional report on the Statement of Indebtedness and Other Liquidity Disclosure included in the Application Proof.

Working capital sufficiency statement

The Listing Rules require the directors of listing applicants to state in the prospectus that, in their opinion, the listing applicant’s working capital is sufficient for the group’s requirements for at least 12 months from the date of publication of the prospectus. If this is not possible, the directors must state how the company proposes to provide the additional working capital considered by the directors as necessary (“Directors’ Statement”). To fulfil this requirement, the directors would prepare a cash flow forecast with the underlying assumptions recorded in the board minutes.

Before a prospectus is bulk-printed, the sponsors are required by Main Board Listing Rule 8.21A or GEM Listing Rule 12.23A (1) to confirm to the HKEx in writing that they are satisfied that (i) the directors’ opinion on the adequacy of working capital is given after due and careful enquiry by the listing applicant; and (ii) that the persons or institutions providing finance have stated in writing that the relevant financing facilities exist.

As required by the HKEx, the sponsors’ confirmation should be based on the sponsors’ own due diligence work, the listing applicant’s confirmation on the Directors’ Statement and the reporting accountants’ confirmation to the listing applicant. The Listing Rules are not specific as to the matters that the reporting accountants have to cover in their confirmation. To provide comfort in respect of sponsors’ confirmation, the reporting accountants are engaged to review the assumptions adopted by the directors, compare the cash flows in the forecast with the facilities and resources available to the listing group and check arithmetical accuracy of the forecast. The confirmation from the reporting accountants is addressed to the listing applicant and copied to the sponsors, the HKEx and the SFC.

Comfort letter on other matters

In addition to the comfort letters on the statement of indebtedness, other liquidity disclosure and working capital sufficiency statement, reporting accountants may also be requested by sponsors to assist them to perform a due diligence investigation. They may also be asked to perform procedures to provide comfort in respect of the integrity of certain information included in the prospectus, such as other financial information and subsequent changes in the historical financial information. This represents a separate engagement by the sponsors and is outside the scope of the Listing Rules requirements.

The sponsors determine which information requires a level of comfort, the procedures that will provide the required degree of comfort on that information and when the comfort letter has to be ready. The reporting accountants would accept such engagements provided that they possess adequate knowledge of the subject matter.

In respect to financial information, the nature of work is to perform procedures as agreed with the sponsors and reporting the factual findings to the sponsors in accordance with Hong Kong Standard on Related Services 4400 ‘Engagements to Perform Agreed-Upon Procedures Regarding Financial Information’ issued by the HKICPA. They must do so without giving any assurance on the matters reported on.

In respect to subsequent changes in historical financial information, it is customary for reporting accountants to provide limited assurance in accordance with HKSAE 3000 ‘Assurance Engagements Other Than Audits or Reviews of Historical Financial Information’. It is the responsibility of the sponsors to determine what kind of procedures are appropriate, and the work performed by the reporting accountants do not release the sponsors



from their responsibilities under the Listing Rules. The reporting accountants will report to the sponsors in a private letter not available to the public.

Consent letter

The reporting accountants must have given and not withdrawn their consent to the issue of the prospectus with their reports in the form and context in which they are included. A statement to this effect must be made in the prospectus.

Paragraph 60 of AG 3.340 provides a comprehensive summary of the matters that the reporting accountants should pay attention to before they sign off on their consent letters. The relevant paragraph is reproduced below:

“Financial and other information is contained throughout a prospectus and not only in the accountant’s report. Whilst the reporting responsibility of the reporting accountant does not extend beyond his own report, he should consider the document as a whole. He should be satisfied that nothing contained within the prospectus as a whole is inconsistent with the information in his report, and that all relevant matters which have come to his attention have been properly reflected. In particular he should take steps to make himself aware of all the principal issues arising during the drafting of the prospectus. He should give consent to the publication of the prospectus containing his report only if he is satisfied with the form and context in which his report appears in the published document.”

C O N T A C T

BDO Limited25th Floor, Wing On Centre, 111 Connaught Road Central,Hong KongTel: (852) 2218 8288Fax: (852) 2815 2239Email: [email protected]: www.bdo.com.hk

Franki LuiDirector, Assurance services



The Role of an Independent Industry Research Company

(By Paul Schulte of Schulte Research)

Independent Research in Asia is New and Fast Growing

While there are thousands of independent analysts in the United States, independent research in Asia is fairly new. There are now a few dozen independent research companies operating in Hong Kong as one of two basic kinds of firms. The first type typically focuses on macro funds, and covers strategy, economics, foreign exchange, interest rates and commodity research. The second type specialises in specific industry research, which currently covers many sectors in Asia including banking, telecommunications, IT, utilities, real estate and credit research.

There are several independent research companies which specifically cover China, and are based in both Hong Kong and China. These independent analysts have a cache, since they have gone out on their own and seek direct payment from the client for research provided. The largest among these are firms such as GaveKal and Asianomics. Others include companies like Trusted Sources, which covers several sectors.

4 Areas of Research

Independent industry research can be separated into four general areas:

1. Stock coverage. This represents a wide coverage of stocks in metals, internet, energy, telecommunications, banking, consumer business and gaming.

2. Macro. This encompasses macro-economics, strategy, technical and thematics.

3. Special Situations. This includes custom products, bespoke research, statistics, and also looks at ethical issues like the environment, ‘sin’ stocks, etc.

4. Intelligence. A rapidly growing industry in Asia is compliance, which embraces both investigatory and due diligence. This type of research can be especially helpful for a company seeking an IPO to help gain further credibility in the process.

Analysts have influence in their particular areas of expertise, and tend to be well compensated for their views. However, investment banks are affected by a number of factors including regulations, compliance requirements and capital constraints, and consequently are seeing falling margins. As a further result there have been significant cuts in this area of research, impacting the quality of analysts. In more dire cases, at a time when firms who are considering an IPO should include independent analysts in the process, the budget for research has been cut altogether.



The Value Add of Independent Research

In addition to a reduction in budget by investment banks, analysts are also experiencing a decline in business because investors may not understand the value that an analyst can add to the IPO process. There is a misconception by many investors that analysts produce research reports that are nothing more than a regurgitation of information already provided to them by the company, lacking any further insight.

In truth, an independent analyst can offer differentiated research, which can help generate information that can be used to engender added investor excitement. As a further benefit, a seasoned analyst who has the ear of a senior portfolio manager, usually the decision maker, can lend her credible reputation to help sway a deal. This is particularly true of the CIOs of hedge funds and sovereign wealth funds. The analyst, using her influence with a CIO, may also serve to assist in the process of soft-sounding for pricing an IPO.

Independent Analysts are Licensed and Seasoned

An independent analyst who discusses stock recommendations must be registered with the Securities and Futures Commission (“SFC”). Accordingly, an analyst is held accountable for his conduct, as well as for using responsible language. Consequently, he is bound by applicable regulations and ethical considerations in his analysis, criticism and commentary on any company during the IPO process.

The Upside and the Added Roles of the Analyst

There is nothing but upside for a company seeking an IPO to use independent research, especially in light of the rapid improvement of the quality of research and the increasing sophistication of ways in which people are able to confirm data points. There are three reasons why a company seeking an IPO should invite independent research into the process: 1) an added level of professionalism and the potential for very high quality coverage of the stock, which could aid liquidity; 2) an extra layer of comfort for fund managers in their decision to take up the IPO; and 3) a report with diverse research, which can help since the process tends to produce several reports from different consultants that tend to reach the same conclusions. There is another important phenomenon occurring which plays into the strengths of independent research. Many corporations are now choosing to take their investment banking needs in-house and are bypassing the bank. As this happens, more outside independent entities will become involved in the process of assessing a company in preparation for the IPO. Therefore, independent research will take on a unique role similar to other companies like Poseidon, Kroll, Muddy Waters and others who are paid by funds to investigate the efficacy of the claims of the company as it prepares to tell its story to the public.

In addition to providing the research, there is an added role to be played by the independent research analyst. Given that many analysts have many years of experience both on the buy side and sell side as well as maintain close relationships with many senior portfolio managers, they have much wisdom to offer to a company in a consultancy role with regard to pricing, story-telling, pitching of the corporate structure and other important considerations. This is simply not within the purview of the investment bank any longer.

Furthermore, licensed independent research analysts are ideal to attend the IPO research day along with the other analysts as often, their resources are superior, and their knowledge of the industry is well ahead that of



the average analyst. Given the breadth and depth of knowledge available on the internet, a corporation which is preparing for an IPO should assume that all of the important elements of a company’s history and financials will become known. Having a solid independent analyst on the inside of the process on day one can only produce a better narrative for the IPO roadshow.

In the post-IPO process, companies should always pay attention to requests for meetings and access from independent analysts. Often, their opinions and research have a powerful impact on a stock price, in both directions, and can help to articulate a ‘difficult to tell’ narrative of a company to a skeptical audience. Independent analysts should always be invited to corporate announcements, and should be kept in the loop on developments. These analysts are senior, seasoned and often have the ear of those who pull the levers inside large fund management organizations. Furthermore, these analysts can form a positive feedback loop to the management of listed companies by offering advice, counsel and recommendations from senior fund managers globally.

Vetting Considerations

Ideally, the research should not be vetted by the investment bank which is the lead underwriter, but this does not usually occur. The investment banks may consider it a legal obligation to make sure that all of the analysts who are affiliated with the syndicate – officially or unofficially – have produced research which will not create legal problems for the underwriter. Some independent analysts may find this spurious, but this is a reality that needs to be taken into consideration. There are some independent analysts who simply want no part of the “indoctrination” of the IPO process, and will choose to do their own completely independent investigation without any supporting documentation from the syndicate. This is a reasonable choice, but it creates a lot of extra work. Having the main body of the accounting numbers and a good gist of the narrative is the starting point of any good analysis of a company.

The Future of Independent Research in Asia

In conclusion, a newly listed company should realize that independent research is a rapidly growing phenomenon in Asia which will double in size over the next few years. Independent research will inevitably grow as investment banks are confronted by three trends. First, more stringent capital rules will make the equity business more expensive and will cause some banks to exit. Second, electronic trading and financial technology will shrink margins in the equity business and force out more players. Third, new rules are being enacted not only to prevent analyst compensation from being tied to banking deals, but also to prevent analysts from being tied to corporate access.

Furthermore, a tangled web of legal and compliance issues often prevents sell side analysts from saying anything that could ‘move the dial’ in terms of a stock price. Independent analysts are not hamstrung by these issues. Freedom from many of the capital, legal and regulatory issues offers greater leeway to express opinions and create a more robust research product than could be created by sell side analysts. Sell side analysts tend to be poorly paid, highly regulated and constrained in the way they interact with management, in what they can write, in how they are compensated and in how they can make a meaningful impact on a stock price.



Independent research is a new industry whose time has come in Asia existing without the aforementioned constraints. Independent analysts do not live inside investment banks which are under profoundly heavy scrutiny by legal departments and by regulators after years of misbehaviour, and they are not forced to increase fees to clients to cover onerous legal obligations. Independent research is here to stay. It is cheaper, more experienced, more trusted and is gaining momentum.

Schulte Research801 Kinwick Center, 32 Hollywood Road, Central, Hong Kong.Tel: (852) 2534 7417Website: www.schulte-research.com

Paul SchulteFounder/EditorEmail: [email protected]

C O N T A C T



The Need for Valuation

1. Valuation in various stages of IPO process

1.1 Pre-IPO Valuation Consideration

Prior to listing, a company may consider undergoing restructuring activities so as to reorganise its operations, subsidiaries and associates into a more listing suitable structure of groups and entities. Assets and liabilities will be transferred in and out of the various groups and entities. Such merger, acquisition or disposal transactions will require the company to implement careful accounting treatments and valuation considerations for its successful listing, as well as long-term growth.

In addition, company may need capital for equipment or investment to expand its operation and business. The funding sources can be from angel funds, private equities, hedge funds or investment banks along the path towards listing. In return, those investors looking for a high return with listing as one of their exiting vehicles for their investment into the company. The investment can be structured as either straightforward equity financing in the ordinary shares, and debt financing in interest loan or bond, or more complex structures such as instruments with convertible and call-back features. As each of the financial instruments may have different impacts, valuation exercises are required to make better assessment of the financial positions of the various financing choices.

1.2 IPO Valuation Consideration

When a company decides to float its shares by undergoing the listing procedures, it needs to consider the obligations to be fulfilled in the exercise. Amongst the various prerequisite requirements set out by the Hong Kong Exchange (HKEx), one of the major concerned activities is whether valuation of properties amongst its assets portfolio is required to be accomplished and included in the prospectus.

For either Main Board or GEM Board listing, the basic criteria in determining whether property valuation is required is largely revealed, under the definition from the Rules and Guidance on Listing Matters issued by HKEx, regarding whether the company’s property activity is “holding (directly or indirectly) and/or development of properties for letting or retention as investments, or the purchase or development of properties for subsequent sale, or for subsequent letting or retention as investments. It does not include holding of properties for own use.” According to the Rules and Guidance, property means “land and/or buildings (completed or construction in progress). Building includes fittings and fixtures,” whereas “equipment and machinery used for production should be excluded.”



2. IPO Valuation Subjects

2.1 Business Combinations

Company restructuring may lead to a business combination transaction of which the acquirer obtains control of one or more businesses (acquires) with integrated set of activities and assets for the purpose of producing outputs and returns. The purchase method is used to account for the cost of a business combination as the aggregate of the fair values of assets acquired, liabilities assumed, and equity instrument issued in exchange for control of the acquiree at the acquisition date. Applying such a method involves the following steps:

1. Identify the acquirer

2. Determine the acquisition date

3. Identify and measure intangible asset or contingent liability at fair value

4. Recognise and measure goodwill.

2.1.1 Intangible Assets Identification & Treatment

Intangible assets are most often the key drivers behind an acquirer making acquisition consideration in excess of the net asset value of the acquiree. Hence, it is important to identify and measure the fair value of intangible assets so that they are accurately accounted for their future benefits.

Intangible assets are identifiable non-monetary assets without physical substance. For example, brand names, patents, licenses, customer relationships, and distribution rights are some common intangible assets. They can be valued by adopting the following methodologies:

Mark to Market – Determine the fair value of the intangible asset by referencing the current market price of the intangible asset

Mark to Model – Determine the fair value of the intangible asset by referencing the future economic benefit of the intangible asset.

The remaining life of the intangible assets must also be determined properly as it has a profound impact on the accounting treatment and in turn the earnings of subsequent years. The different treatments and accounting effects are as follows:

Lifetime Subsequent Treatment Accounting Effect

Fixed Amortization Annual amortization is determined;

No big surprise on impairment loss

Indefinite Impairment test (Annually or more frequent)

No Annual amortization effect;

Possible big impairment loss

2.1.2 Contingent Liabilities Identification & Treatment

Contingent liability is a possible obligation that arises from past events and whose existence will be confirmed only by the occurrence or non-occurrence of one or more uncertain future events not wholly within the control of the entity. For example, a financial guarantee contract and customer contract with penalty clause. The contingent liability has the following characteristics:



a present obligation has arisen as a result of a past event

the payment is probable

the payment amount can be estimated reliably.

2.1.3 Goodwill Recognition & Treatment

Goodwill is an intangible asset that can only be recognised during a business combination transaction as the excess of the total consideration over the aggregate of all the identifiable tangible and intangible assets.

Goodwill has indefinite lifetime and it is subject to annual (or more frequent) impairment test. While goodwill is not accounted for annual amortisation, it is possible to have impairment loss affecting the earnings significantly. Hence, the identification and assessment of the intangible assets and liabilities should be considered due diligently early in the business combination process.

The table below summarises the accounting treatments for the various account items during business combination.

Fair

Valuation?

Consideration & Treatment Description

Current Asset

Cash No adjustment

Short Term Receivables No adjustment

Long Term Receivables Present value of the amounts to be received, less allowances for

uncollectibility and collection costs.

Inventories

Finished Goods Selling price less the sum of (1) cost of disposal and (2) a reasonable

profit allowance for the selling effort

Work in Progress Selling prices less the sum of (1) cost to complete, (2) cost of

disposal and (3) a reasonable profit allowance.

Raw Material Current Replacement costs

Non-Current Asset

Financial Instrucments Market Value (Mark-to-Market/Mark-to-Model)

Fixed Assets

Land & Building Market Value (Determined by appraisal)

Plant & Machinery Market Value (Determined by appraisal)

Intangible Assets Market Value (Mark-to-Market/Mark-to-Model)

Goodwill Different between Acquisition Cost and Fair value of the business

Current Liabilities

Short Term Loan No adjustment

Long-Term Liabilities

Long Term Loan Present value of amounts to be disbursed in settling the liabilities

Financial Instrucments Market Value (Mark-to-Market/Mark-to-Model)

Account Item Accounting Treatment

2.2 Financial Instruments

A company may issue financial instruments to raise capital for funding needs, or as incentives to its key personnel, shareholders, associates or contractors to contribute to future benefits. On the other hand, a company may also hold financial instruments issued by other companies for investment purposes.



2.2.1 Convertible Instruments

A convertible instrument will be accounted with the following considerations:

effects on Equity and Liability portions

different treatments–

i. between an issuer and holder ii. at the initial recognition and subsequent reporting periods.

For financial instrument issuer, the treatments are summarised as follows:

Balance Sheet Income Statement Cash Flow Statement

Initial Recognition

Assess the Liability Component as fair value;

Equity Component is the difference of the Transaction Cost and the Liability Component

No net profit and loss effect

Increase cash flow from financing

Revaluation Assess the Liability Component as fair value;

Assess the Equity Component as fair value.

Profit and loss effect No Effect

For financial instrument holder, the treatments are summarised as follows:

Balance Sheet Income Statement Cash Flow Statement

Initial Recognition

Transaction Costs No net profit and loss effect

Net cash outflow

Revaluation Assess the Liability Component as fair value;

Assess the Equity Component as fair value.

Profit and loss effect No Effect

2.2.2 Stock Options

It is a common practice, as well as a useful vehicle, for a company to issue stock options to its directors, employees, or contractors to recognise their achievement and to encourage their further contributions. For a listed company, the terms of its share option scheme are governed by Chapter 17 of the Hong Kong Listing Rules.

Pursuant to Note (1) to Rule 17.03(9) of the Hong Kong Listing Rules, the basis of determination of the exercise price is as follows:



“The exercise price must be at least the higher of:

(i) the closing price of the securities as stated in the Exchange’s daily quotations sheet on the date of grant, which must be a business day; and

(ii) the average closing price of the securities as stated in the Exchange’s daily quotations sheets for the five business days immediately preceding the date of grant.

For the purpose of calculating the exercise price where an issuer has been listed for less than five business days, the new issue price shall be used as the closing price for any business day falling within the period before listing.”

When share options are being issued, in addition to the consideration of the human capital aspect of providing incentives, a company should be aware of the impact of the terms of the share option scheme to its financial position. The valuation of the share option should be performed to assess and analyse the potential financial impacts and accounting treatments prior to issuance of share option. The following are items to be considered:

Term Item Valuation/Impact Description

Exercise Price The higher the exercise price relative to the stock spot price, the lower the option value

Maturity The longer the maturity, the higher the option value

Vesting Period The duration of the vesting period has two different impacts:

i. the longer the vesting period, the higher the overall option value; however,

ii. instead of having the option cost to be recognized at the issuance date, the overall cost will be amortized over the vesting period, and hence, mitigating the financial burden all at once at the initial financial reporting year

2.3 Property

As mentioned above, a company may possess properties and the associated property activities are determining factors on whether valuation is required.

The following is a summary to determine whether a property valuation is required by the company in the IPO exercise:

Company’s property interests forms part of property activities /

Property interests forms part of property activities <1% carrying amount of its total assets

The total carrying amount of property interests not valued >10% of its total assets

or

Company’s property interest for non-property activities /

Carrying amount of a property interest ≥15% carrying amount of its total assets

Single property interests has a carrying amount ≥15% carrying amount of its total assets

Notes: Valuation required Valuation not required



In accordance with the Rules and Guidance, carrying amount means “an asset is recognised in the most recent audited consolidated balance sheet of the group as disclosed in the listing document after deducting any accumulated depreciation (amortisation) and accumulated impairment losses.” Whereas total assets means “the total fixed assets, including intangible assets, plus the total current and non-current assets, as shown in the latest audited consolidated financial statements in the accountant’s report in the listing document.”

3. Valuation Practice

3.1 Valuation report elements

3.1.1 Elements in Valuation Report

A valuation report generally contains the following elements:

Date of Valuation

Purpose and Definition of the Valuation Task

Description of the Valuation Subjects

Background Information:

– Economic & Industry Outlook – Company Overview

Applicable Standards

Selection and Application of Valuation Approaches

Risk Analysis

Financial Condition and Analysis

Opinion of Values.

3.1.2 Property Valuation Methodology

The aim of valuation for IPO is to appraise the market value for those properties whereas assessment is required corresponding to the Rules and Guidance. It is broadly accepted that the comparison method or the market approach is the best method given the valuation figures is largely substantiated by market transactions evidence.

Having said that, when comparables are unavailable or insufficient to sustain the market approach, there are alternative notional techniques, namely the investment method / income approach, profits method, discounted cash flow approach (DCF) or the residual method to assess the market value of properties. Another means is the contractor’s method or cost approach when buildings and structures have to be valued while market transactions for these kinds of properties are virtually not exist.

Yet, particular due care has to be addressed in valuing properties based on either income or profit or residual method. HKEx requires valuers to further reveal the rationales in the valuation reports when either approach were adopted in particular for developing property markets where properties have been valued on open market basis, but indeed is not referencing to market transactions evidence. As far as the residual method is concerned, valuers have to disclose the rationale and assumptions with titles evidences or even accepted legal opinion in supporting the permitted or hypothetical development scale, the gross development value with comparables to demonstrate the calculation as well as market evidence for the cost and outgoings, interest,



developer’s profit, etc. As for the investment or profits method as well as DCF approach, valuers should also state the assumptions for the adoption of the method and if any other indirect market evidence were adopted in the valuation.

Summary of Valuation Methods

Comparative Method / Market Approach

compare the subject property with sale or rental transactions of similar properties on a like-with-like basis (comparables)

apply the comparable market transactions as indicator

formulate realistic adjustments regarding time, location, building age, size, design, quality, plot ratio and other relevant factors

Investment Method /

Income Approach

determine the future actual rents the property will produce

capitalize the future rent at the current discount rent over the remaining tenure of the property

construct appropriate adjustments or deductions for factors like rent-free period, vacancy voids, non-recoverable expense

Profits Method ascertain subject property’s historical operating profits and performance

make allowance for outgoings in arriving the net operating profit and any unusual revenues or expense

capitalize the realized profit with a realistic rate

Discounted Cash Flow Approach

analyze the historical operating data and make assumptions about future market condition

anticipate the future income stream receivable and outgoings for a term

capitalize the net income flow into present value at an appropriate discount rate

Residual Method ascertain the development proposal, work out the gross development value of a property upon completion

deduct the cost of development including construction cost, professional fee, interest payment, developer’s profit and other factors

take into account the time for completion and reflect it on the residual value of the property by adopting an adjusted market interest rate to replicate the risk as discount factor

Contractor’s Method /Cost Approach

consider the cost to reproduce or replace in new condition of the subject property

make reference to the current construction costs for similar buildings and structures in the locality

deduct the allowance for accrued depreciation or obsolescence from physical, functional or economic causes



3.2 Property Valuation Workflow

Carrying out a property valuation will normally comprise the following procedure:

o confi cl fin of ;

Appointment

in all in y

in la on Preparation

k inon ;

Inspection

in in onal ;

io ;

Drafting

onal ion;

Review

of IPfin ion; Valuation Date

o fin io gal Opinion (for loping prop

o

Completion



3.3 Independence of valuer

In order to maintain impartiality and independence of valuers, HKEx requires valuation be prepared by an independent qualified valuer which is summarised as:

Definition of independent and qualified valuer

A valuer is not independence if:

Valuer Role Employed by

Individual Officer/ Servant/ Proposed Director Issuer/Issuer’s subsidiary or holding company/subsidiary of the issuer’s holding company or any associated company

Firm or Company

Issuer’s subsidiary or holding company/subsidiary of the issuer’s holding company/partners, directors or officers of the Firm is an officer or servant or proposed director

Properties Qualification

A valuer is a qualified valuer only if they are authorised to value:

Inside HK Fellow or associate member of The Royal Institution of Chartered Surveyors (Hong Kong Branch) or The Hong Kong Institution of Surveyors

Outside HK With appropriate professional qualification and experience of valuing properties in the same location and category

C O N T A C T

Mr. Paul WuPrincipalEmail: [email protected]

Mr. Stephen YeungPrincipalEmail: [email protected]

Ascent Partners Group Limited21/F, Hong Kong Trade Centre, 161-167 Des Voeux Road Central, Hong KongTel: (852) 3679 3890Fax: (852) 3579 0884Website: www.ascent-partners.com



Considering a Trust in Pre-IPO Planning

Listing is not only an important event for the company being listed, but also for the major shareholders. So why do people have a tendency to focus only on planning for the company but not for the shareholders?

As part of the IPO process, not many people (including the shareholders themselves) think about whether the shareholders should also be undertaking some sort of pre-IPO planning, such as putting their shares of the company into a trust before the listing.

There are a number of reasons why shareholders do not do any pre-IPO planning. One reason is because they do not know they need to do something about it or fully appreciate the benefits of it. Another reason is they themselves get caught up with everything that needs to be done by the company, and they forget about themselves. For some, they choose not to do any planning because they feel there are no tax advantages to doing the planning since Hong Kong no longer has estate duty, does not have capital gains tax, the tax rates are relatively low and only Hong Kong sourced income and profits are taxed. There are, however, other advantages in setting up a trust and transferring their shares in the company to a trust before the listing.

Advantages

Advantages for setting up a trust and transferring the shares in a company to a trust, include the following:

1. Continuity

Trusts provide continuity of ownership because unlike people, trusts do not die and can potentially endure forever depending on what law governs the trust. Since trusts do not die, the assets held by the trusts will not get tied up in probate. Trusts also do not get divorced, so this minimises the risk of the IPO being derailed due to a messy divorce by a major shareholder.

2. Succession Planning

Different people have different ideas about how they want to pass on their wealth and provide for their families.

Putting the shares in the company into a trust and naming their family members as the beneficiaries of the trust allows the family members who want to be involved in the running of the company to do so by, for example, sitting on the board of directors. Those who do not want to be involved can still receive a share of the profits, without having to own the shares, through distributions from the trust.



3. Preventing Segregation

One issue some companies face is segregation of ownership after a few generations. For example, the majority of the shares often start off being owned by one person, but the shares get divided up amongst the children and then further divided up again amongst the grandchildren. Thus, when it gets to the third or fourth generation, each family member may end up only owning a small percentage of the company, and there is no one person who has any real control over the company, resulting in a lack of leadership for the business.

Trusts can help prevent this segregation of ownership because the shares are held by the trusts and not divided up.

4. Confidentiality

Where the trust is a substantial owner of shares in a listed company, like all other substantial shareholders, it is necessary for the trustee of the trust as the legal owner to disclose its shareholding. In addition to disclosing who the trustee is and the existence of the trust, it is necessary to disclose the name of the settlor. However, where the trust is a discretionary trust, it is not usually necessary to disclose the names of the beneficiaries, thus a trust can maintain a certain amount of confidentiality.

5. Tax Advantages

Just because there are no tax advantages from a Hong Kong tax perspective, this does not mean there are no tax advantages when it comes to other jurisdictions. For example, if the settlor or the beneficiaries are tax residents in high tax jurisdictions, then there may very well be tax advantages to putting the shares into a trust before the IPO when the value of the shares are still low.

Factors to Consider

When it comes to using a trust as part of the pre-IPO planning process, there are a number of factors which will need to be taken into consideration. These include the following:

1. Selecting Trustees

One important aspect of setting up a pre-IPO trust is choosing the right trustee. Most big international banks provide trusteeship services. Apart from using banks, there is also the option of using independent trust companies (these are companies not owned by banks). Each has its advantages and disadvantages. Some people choose banks over independent trust companies because they think banks are less likely to run off with their money and close down. However, after the 2008 financial crisis, some people have lost faith in banks and as a result will prefer to go with independent trust companies.

Regardless of who is appointed to act as the trustee, it is important to ensure that the trustee knows what they are doing and possess the necessary expertise to deal with the disclosure of interest requirements for listed companies. This is because the trustee, as the legal owner of the shares, will have to disclose their interests in the shares of the listed company.

There are also other considerations which need to be taken into account when choosing a trustee such as: whether or not the settlor gets along with and can work cogently with the trustee (which is something, surprisingly, some people overlook), stability of the trustee (such as whether there is a high turnover in their employees and the ownership of the trustee company), fees charged by the trustee (it is important to not



choose a trustee purely based on how low their fees are), level of expertise (always a bad idea to choose a trustee who does not know what they are doing), assets the trustee is willing to hold in trust (some trustees are only willing to hold financial assets and will not, for example, hold an apartment or operating business in trust) and whether the trustee will require the settlor to maintain a private banking account with a minimum amount where the trustee is a bank.

2. Objectives for Setting up the Trust

It is also important to consider the objectives the settlor is trying to achieve when setting up the trust. For example, is the trust being set up purely to facilitate the listing and for holding the shares in the listed company or are there other objectives as well, such as succession planning and tax reasons? The trust structure needs to be designed with these objectives in mind.

3. Tax Implications

As mentioned above, from a Hong Kong perspective, tax is not usually a driving factor when it comes to setting up a trust, but tax may be a factor if the settlor or beneficiaries are residents in high tax jurisdictions. Therefore, it is important to ensure that the trust is not going to create adverse tax implications.

4. Regulatory Issues

Apart from considering whether the creation of the trust and transfer of assets to the trust are going to create any adverse tax implications, it is also necessary to consider whether there are any laws or regulations restricting the shares in the listed company being held by a trust and whether there are any reporting obligations.

These are just a few of the factors which need to be considered. Apart from these, there are a number of other factors which also need to be considered after a person has decided to use a trust to hold the shares, such as what type of trust to use. It is, therefore, always important to ensure that proper advice is obtained to avoid wasting money on a trust structure that does not achieve the objectives of the settlor, or worse, create adverse tax implications.

C O N T A C T

Silvia OnRegistered Foreign Lawyer, Private WealthEmail: [email protected]

Stephenson Harwood18th floor, United Centre, 95 Queensway, Hong KongTel: (852) 2868 0789Fax: (852) 2868 1504Website: www.shlegal.com/home

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Strategic Investors and Pre-IPO Investment During the Pre-IPO Preparation Stage

Introduction

A company preparing to list will often seek outside investment prior to the listing for a variety of reasons, including to fund any pre-IPO restructuring or for general growth pending the listing. In addition, a company might seek strategic investors to help build investor confidence in the company through having high profile or large institutional investors on board.

Investments can be made prior to the formal IPO process commencing as pre-IPO investments. Alternatively, investors may commit to take up a guaranteed allocation of shares in an IPO as cornerstone investors.

Structuring Pre-IPO Investments

Careful consideration is required of the terms of any pre-IPO investment. The following key points are applicable:

Fairness to IPO investors – The Listing Rules require the issue and marketing of securities to be conducted in a fair and orderly manner, and require that all holders of listed securities be treated fairly and equally. Preferential investment terms granted to a pre-IPO investor which extend beyond the listing would be contrary to that principle, and may impact the company’s suitability for listing. It is, therefore, critical to structure pre-IPO investments properly from the outset to avoid any problems or delays during the listing process.

Form of investment – Pre-IPO investments may take different forms. Investors may wish to subscribe for securities which offer a greater degree of protection than ordinary shares. Convertible bonds or other convertible securities are commonly used as they can be converted into ordinary shares on the date of the IPO (or later) or redeemed for cash in certain situations. This gives the investor priority in liquidation over ordinary shareholders without limiting the potential upside associated with an equity investment.

Avoiding the substantial shareholder threshold – Typically, pre-IPO investors will acquire less than 10% of the company to avoid being treated as a substantial shareholder on listing. As a substantial shareholder, the investor would not constitute part of the “public” for the purposes of calculating the minimum public float. Additionally, any on-going business dealings between the investor and the company would need to comply with the connected transaction regime in Chapter 14A of the Listing Rules.

Lock-up arrangements – Pre-IPO investors are normally required to enter into lock-up arrangements with the underwriters in respect of their pre-IPO shares for a period of six months or more. These shares are counted as part of the public float provided the investor is a member of the public under the Listing Rules.

Limitations for PRC companies – The convertibility into H shares or any other form of publicly traded shares upon the listing of a company must be considered for PRC companies and will require the specific



approval of the relevant PRC authorities. Pre-IPO shares may also be subject to non-disposal restrictions under PRC laws.

Prospectus disclosure – Pre-IPO investments must be fully disclosed in a prospectus. Disclosure requirements include providing details of the investor, including the name, beneficial owner, background, relationship with the company and strategic benefits. The disclosure must also include the date of investment; consideration paid, including cost per share and the discount to the IPO price; use of proceeds; investor’s shareholding upon listing and any special rights granted. Lastly, the prospectus must also disclose whether the shares are subject to lock-up arrangements and count as part of the public float. Given their complexity, additional disclosures are required for convertible instruments.

Timing Restrictions on pre-IPO Investments

The Hong Kong Exchanges and Clearing Limited (“HKEx”) has provided guidance as to its expectations on timing for pre-IPO investments. The guidance sets out dates by which pre-IPO investments must generally be completed. Completed, for these purposes, is defined as the date upon which the funds are irrevocably settled and received by a company. Pre-IPO investments must, except in very exceptional circumstances, be completed either:

a) at least 28 clear days before the date of the first submission of the first listing application form; or

b) 180 clear days before the first day of trading of a company’s securities.

In calculating the clear days, the listing application filing date, the first trading day and the date of completion of investment must be excluded.

If a pre-IPO investment does not comply with the guidance, the company would be expected to delay the listing date or unwind the pre-IPO investment. It is, therefore, important when considering pre-IPO investments to ensure that the funding of the investment is completed sufficiently in advance of the expected date for filing the listing application.

Restrictions on Special Rights that may be Offered to Pre-IPO Investors

Pre-IPO investors may seek special rights to protect their investment. The general principle of even treatment for shareholders mentioned above, however, restricts a company’s ability to offer special rights or rights which do not extend to all other shareholders, unless such rights fall away on listing. The HKEx has issued guidance as to which special rights would be allowed to survive listing:

Price adjustment – Price adjustment provisions, such as a guaranteed discount to the IPO share price or an adjustment linked to the market capitalisation, are not permitted.

Put or exit options – Put or exit options, where the investor has the right to put back its shares to the company or to its controlling shareholder, are not permitted unless the exercise right is limited to circumstances where the listing does not take place.

Director nomination rights – The right to nominate a director following listing is not permitted. However, directors appointed by an investor prior to listing may remain in office, subject to retirement by rotation and reappointment in accordance with the company’s constitutional documents.

Veto rights and prior consent rights for certain corporate actions – Veto rights over major corporate actions are not permitted to remain after listing. Prior consent rights should also be removed before listing



unless the terms are not egregious and do not contravene the principles of fairness in the Listing Rules to the disadvantage of other shareholders.

Anti-dilution rights - Anti-dilution rights should fall away on listing. Before listing, anti-dilution rights exercisable at the time of listing are allowed provided the subscription is at the IPO price and full disclosure is included in the prospectus and allotment results announcement.

Profit guarantee – Any profit guarantee where a pre-IPO investor is entitled to compensation if the company’s profit does not meet a certain level is not permitted if it is settled by the company or the compensation is linked to the market price or market capitalisation. However, if the compensation is settled by a shareholder, this would be permitted, provided again that the consideration is not linked to the market price or market capitalisation of the shares.

Negative pledges – Negative pledges are generally not permitted except if they are widely accepted provisions in loan agreements, are not egregious and do not contravene the principles of fairness in the Listing Rules.

Exclusivity rights and no more favourable terms – Any terms which, for example, restrict the issue of shares to a competitor of the investor or on preferential terms to those granted to the investor are not permitted to survive listing. An exception exists where such terms are structured with a “fiduciary out”, which would enable directors to ignore the right if appropriate in exercising their fiduciary duties.

Information rights – A right granting an investor access to information concerning the company can only survive after listing if the information is made available to the public at the same time.

Representation rights in senior management – The right of an investor to nominate senior management or committee representatives is permitted, provided that the right is subject to the agreement of the board, exercising its fiduciary duties.

Right of first refusal and tag-along rights – Where these rights are granted by the controlling shareholder, they are permitted to survive after listing.

The HKEx has also issued specific guidance dealing with convertible instruments, including convertible or exchangeable bonds. The guidance covers the following:

Conversion price and conversion price reset – This should be either a fixed dollar amount or the IPO price, rather than any guaranteed discount to the IPO price or any linkage to the market capitalisation of the shares.

Partial conversions – Partial conversions will only be permitted if all atypical rights are terminated after listing.

Redemptions and early repayments – These are permitted at a price where the holder would receive a fixed internal rate of return on the principal amount being redeemed with the same rate applying at maturity.

General Principles Applying to Cornerstone Investments

Placings to cornerstone investors are carried out on a preferential basis, providing a guaranteed allocation of shares to these investors, irrespective of the final offer price. They are generally permitted provided the general principles set out below are complied with.



Price – The placing must be at the IPO price.

Lock-up – The IPO shares placed must be subject to a lock-up period, generally for at least six months following the listing.

Independence – Cornerstone investors must not have any board representation and must be independent of the company, its connected persons and their respective associates.

Disclosure – Details of the placing arrangement, including the identity and background of the investors, must be disclosed in the listing document.

Other benefits – No direct or indirect benefits may be offered to cornerstone investors other than a guaranteed allocation at the IPO price.

C O N T A C T

Matt EmsleyPartner, Corporate, Hong KongEmail: [email protected]

Herbert Smith Freehills23rd Floor Gloucester Tower, 15 Queen’s Road Central, Hong KongTel: (852) 2845 6639Fax: (852) 2845 9099Website: www.herbertsmithfreehills.com

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China Law & Practice

CHINA FIRM OF 2013


MAIN CHAPTER

CHAPTER 2

Overview of the Hong Kong IPO Process

1. Introduction

Hong Kong’s stock market was the sixth largest globally and the second largest in Asia in terms of market capitalisation as at the end of May 2014. It is one of the most active markets for initial public offering ( “IPO”) in the world. Hong Kong is a destination of choice for listing as it is the gateway between Mainland China and the rest of the world. The Stock Exchange of Hong Kong Limited (the “HKSE”) allows businesses from the People’s Republic of China ( “PRC”) to access capital from investors from all over the world. Meanwhile, it also allows international investors to invest in PRC businesses. This position is further strengthened by the launch of the Pilot Programme ( “Shanghai-Hong Kong Stock Connect”) for the establishment of mutual stock market access between Mainland China and Hong Kong on November 17, 2014. Together with the new regulatory regime for IPO sponsors which aims to streamline the IPO process, Hong Kong will continue to attract companies in the PRC and around the world to list their shares on the HKSE.

This guide aims to provide companies, sponsors and their advisers with a general overview of the IPO process in Hong Kong, taking into account the changes to the regulatory regime for IPO sponsors, which came into effect on October 1, 2013.

2. Methods of Listing

2.1 Listing Methods

Securities may be listed on the HKSE in the following ways:

Offer for subscription – an offer to the public by, or on behalf of, an issuer of its own securities for subscription.

Offer for sale – an offer to the public by, or on behalf of, the holders of allottees of securities already in issue or agreed to be subscribed.

Placing – the obtaining of subscriptions for, or sale of securities by, an issuer or intermediary primarily from or to persons selected or approved by the issuer or the intermediary. The HKSE may permit a new applicant to be listed by way of placing if there is significant public demand for the securities.

Listing by introduction – an application for listing of securities already in issue where no marketing arrangements are required. Introduction is typically used when the securities for which listing is sought are already listed on another stock exchange.

MAIN CHAPTER


MAIN CHAPTER

2.2 Listing on the Main Board and GEM Board

Once a decision is made to list in Hong Kong, a company must then consider if it can satisfy the HKSE’s listing requirements. It must satisfy, among other things, one of the three financial “tests” set out under the Rules Governing the Listing of Securities on the HKSE ( “Listing Rules”) to be eligible for listing on the Main Board of the HKSE (“Main Board”). If a company cannot meet the listing requirements for listing on the Main Board, it may still seek to list on the Growth Enterprise Market (“GEM”), which is an alternative stock market operated by the HKSE aimed at enterprises that have growth potential which are not necessarily able to meet the listing requirements for listing on the Main Board. A GEM listed company may apply for transfer of its listing to the Main Board at a later stage, once the Main Board listing requirements are met.

2.3 Primary and Secondary Listings

Hong Kong, PRC and overseas issuers from an acceptable jurisdiction (further discussed below) may apply for primary listing on the HKSE. Primary listed issuers may trade all their listed securities on the HKSE and are required to comply fully with the Listing Rules, unless specifically waived.

Secondary listed issuers’ securities are primarily listed on another stock exchange(s). Secondary listing is available to overseas issuers, excluding PRC issuers, seeking a Main Board listing and having sufficient connections with a foreign market(s). In practice, secondary listed issuers are granted more Listing Rule waivers, taking into account the fact that trading of their securities is predominantly overseas and listing is primarily on a foreign stock exchange(s) that has acceptable shareholder protection standards.

3. Specific Listing Issues

3.1 Listing Sought by Overseas Incorporated Companies and PRC Businesses

The Listing Rules do not prohibit the listing of companies incorporated other than in an acceptable jurisdiction but will assess suitability on a case-by-case basis.

In addition to the four jurisdictions recognised under the Listing Rules (i.e. Hong Kong, the PRC, Bermuda and the Cayman Islands), the HKSE has so far accepted 21 jurisdictions as suitable for listing in Hong Kong.1

PRC businesses may seek listing in Hong Kong, either by way of an H-Share structure or a Red-Chip structure. An H-Share structure involves a PRC incorporated company issuing overseas listed shares (also known as H-shares) that are listed on the HKSE. Red-Chip structure involves a company incorporated outside of the PRC with all its shares listed on the HKSE. An H-share listing applicant is typically required to submit a copy of the approval issued by the China Securities Regulatory Commission before submission of its listing application to the HKSE.

3.2 H- and A-shares Dual Listings

There are three major types of dual listings undertaken by PRC companies on the HKSE and on the domestic Chinese stock exchange: (i) simultaneous A- and H-shares listings; (ii) listing A-shares first then H-shares; and (iii) listing H-shares first then A-shares. Dual listings allow issuers to access a wider source of capital, broaden shareholder base and increased liquidity. Dual listings are generally more complicated and time-consuming

1 Listing of Acceptable Overseas Jurisdictions (Last update July 14, 2014), is available at www.hkex.com.hk/eng/rulesreg/listrules/listsptop/listoc/list_of_aoj.htm

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than other types of listings in Hong Kong. However, with the introduction of the Shanghai-Hong Kong Stock Connect on November 17, 2014, it remains to be seen whether it is still worthwhile for PRC business to seek dual listings to achieve the desired effect.

3.3 Share Option Schemes

Share Option Schemes are often put in place to attract and retain key employees.

3.3.1 Pre-IPO Share Option Schemes

A share option scheme created before the IPO does not need to comply with the Listing Rules but will be generally structured to comply with such to the extent possible. If a Pre-IPO share option scheme does not comply with the Listing Rules, options granted before the listing will remain valid (subject to approval for listing of the underlying shares), but no further option maybe granted under the scheme after listing. The listing applicant is required to disclose in the prospectus full details of all outstanding options, as well as the grantees, and the potential dilution effect and impact on earnings per share upon exercise of the options.

3.3.2 Post-IPO Share Option Schemes

Post-IPO schemes must comply with the Listing Rules, including the number of shares to be issued, entitlement per participant, exercise price and exercise period etc.

4. Illustrative IPO Timeline

An indicative IPO timeline, setting out the main stages in an IPO process for a listing applicant seeking to list on the Main Board, is set out below for illustrative purposes. The actual duration and steps to be taken in an IPO will depend on the specific offering structure, complexity and issues involved, as well as parties’ response time. The main stages in an IPO process will be discussed in more detail below.

Actions Required Estimated days before listing

Planning for the IPO

(1) Pre-IPO Diagnosis

Seeking advice on listing requirements and steps to be taken

Consult with professional parties including legal advisers, accountants and/ or sponsor(s) to identify issues to be resolved before IPO

365+

(2) Pre-IPO Reorganisation

Reorganise group into suitable listing structure

365+

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(3) Pre-IPO Investments2

Introducing strategic/ equity investor(s)

Seek advice from professional parties on pre-IPO investment requirements

Negotiate terms of pre-IPO investments

180+

(4) Kick-off and appointment of professional parties

Confirm engagement of all professional parties

Engagement of sponsor(s) and notification of sponsor(s)’ engagement to HKSE (at least 2 months before submission of listing application to HKSE (also known as A1 submission)

Circulate memorandum on publicity restrictions to all parties

Sponsor(s) to prepare a tentative listing timetable

180+

(5) Sponsor(s)’ Due Diligence

Sponsor(s), together with other professional parties, to conduct reasonable inquires on the listing group until it is satisfied that the listing group is suitable for listing

180+

(6) Preparation of Prospectus

All parties to attend drafting meetings to prepare the prospectus

180+

(7) Verification

Sponsor(s)’ counsel to conduct verification on the prospectus

180+

Submission of Listing Application and Vetting Process

(8) A1 submission and publication of draft prospectus

Sponsor(s) to submit a listing application including a substantially completed draft of the prospectus ( “Application Proof”) to the HKSE on behalf of the listing applicant

The Application Proof will be published on the HKSE website at the same time when the listing application is made

90+

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(9) Vetting Process

First round of comments (to be issued within 10 business days from receipt of the listing application)

Second round of comments (to be issued within 10 business days from receipt of replies of the first round of comments)

75+

(10) Listing Hearing

The listing applicant and the sponsor(s) may need to attend the hearing to answer any questions which the Listing Committee (“Listing Committee”) may have

23+

(11) Post Hearing

All parties continue to address any queries from the Listing Committee

Convene long board meeting to approve, among other things, the listing and relevant documents

Publish Post Hearing Information Pack ( “PHIP”) on HKSE website

Issue pre-deal research and distribute preliminary offering circular during road-show

22+

(12) Bulk-print of Prospectus

Sponsor(s) to conduct pre-bulk print follow-up due diligence

All parties to finalise prospectus

15+

(13) Prospectus Registration

Execution of the Hong Kong underwriting agreement

Register prospectus with the Companies Registry together with relevant documents

Completion of Central Clearing and Settlement System admission application

12+

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(14) Before Dealing Commences

Hong Kong Public Offer Tranche

Issue and post prospectus on the HKSE website

Hong Kong public offer opens and closes

International Placing Tranche

Execution of the international underwriting agreement

Agree on the IPO price and execution of price determination agreement

Issue final offering circular

11+

7+

Listing

Dealing commences on the HKSE 0

Post Listing

Exercise of over-allotment option

Price stabilisation

Initial disclosure of interest

Sponsor(s) to submit a transaction team list and report chart to the Securities and Futures Commission ( “SFC”) (within two weeks after the first day of dealing)

On-going compliance

2

5. Planning for the IPO

5.1 Pre-IPO Diagnosis

Going public is a major decision and milestone for any company. When considering an IPO, a company should carefully evaluate both the benefits and burdens of becoming and maintaining itself as a public company. A company may also wish to evaluate alternatives to achieve capital raising, liquidity or other goals such as private sale, merger or corporate partnering. Legal advisers, together with accountants and sponsor(s), could provide advice on the different alternatives, listing requirements, the HKSE’s approval procedures and pre-IPO diagnosis against the business seeking for listing. With the assistance of professional parties, an action plan

2 Guidance on Pre-IPO Investment issued by HKEx - HKEx-GL43-12 (October 2012)(Updated in July 2013) – https://www.hkex.com.hk/eng/rules-reg/listrules/listguid/iporq/Documents/gl43-12.pdf and HKEx-GL44-12 (October 2012) – http://www.hkex.com.hk/eng/rulesreg/listrules/listguid/iporq/Documents/gl44-12.pdf

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can be derived more accurately, which would facilitate project management and cost control. Material issues can be identified in advance and dealt with before proceeding with the IPO.

5.2 Pre-IPO Reorganisation

Pre-IPO reorganisation may be necessary to organise the listing group into a suitable listing structure. Assets and businesses may have to be consolidated and transferred to the listing group to meet listing requirements. Pre-IPO restructuring requires careful consideration of various aspects, including legal, tax and accounting implications, as well as requirements under the Listing Rules. Legal advisers, accountants and sponsor(s) should be consulted to ensure all aspects have been considered. Further, various approvals and confirmations from PRC regulators and bureaus may be required for a successful restructuring of PRC business for the IPO. PRC counsel should be engaged to identify and deal with any PRC regulatory issues in advance in order to minimise impact on the timing of the IPO.

5.3 Pre-IPO Investments

Companies may require funding and/or invite strategic investors to enhance public interests in its offering before listing. The HKSE requires pre-IPO investments to be completed either: (a) at least 28 clear days before the date of the first submission of the first listing application form; or (b) 180 clear days before the first day of trading of the applicant’s securities, except in very exceptional circumstances. Pre-IPO investments are considered completed when the funds are irrevocably settled and received by the applicant (see also footnote 2).

5.4 Engagement of Sponsor(s)

The new sponsor regime contains a number of provisions in relation to the engagement of sponsor(s). To ensure that sponsor(s) have sufficient time to complete its work, a sponsor (or if more than one sponsor, the last sponsor) must be formally engaged at least two months before the submission of the listing application and notify HKSE of such appointment. Sponsor(s) are also required to include a number of provisions in their terms of engagement to help meet its obligations, including obligation on the listing applicant and its directors to assist the sponsor(s) in due diligence work and enabling the sponsor(s) to obtain access to all relevant records in connection with the listing application. The sponsor(s) must also notify the HKSE as soon as practicable if it ceases to act and the reasons for ceasing to act irrespective of whether the listing application is filed.

The new rules also require a separate sponsor fee to be specified in a sponsor(s)’ terms of engagement, based solely on its sponsor role (unrelated to other services such as book building or underwriting), and not contingent on the success or the final size of the offering. Any staged payments must be proportional to the amount of work done up to that stage. This is a significant departure from previous market practice, as sponsor(s) were usually compensated by way of the underwriting commission paid for a successful listing, instead of a separate sponsor fee.

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5.5 Due Diligence

Sponsor(s) are required to conduct reasonable due diligence on the listing applicant, in order to enable them to carry out their duties and make the relevant declarations prescribed by the Code of Conduct for Persons Licensed by or Registered with the SFC ( “Code of Conduct”) and the Listing Rules. Paragraph 17 of the revised Code of Conduct consolidates and centralises key obligations of sponsor(s) under the new regime, some of which are fleshed out in the Listing Rules.

Under the new regime, sponsor(s) have the duty to take reasonable due diligence steps in respect of a listing application and to complete all reasonable due diligence on a listing applicant by the time of submitting the Form A1. Sponsor(s), after performing all reasonable due diligence, should ensure that all material information as a result of this due diligence has been included in the draft prospectus and that the draft prospectus is substantially complete save for matters that by their nature can only be dealt with at a later date.

Sponsor(s) must confirm, having made reasonable due diligence, it has no reasonable grounds to believe and do not believe that contents of the entire prospectus (expert and non-expert sections) is untrue, misleading or contain material omission. Sponsor(s) must examine all information with professional skepticism, instead of relying on management representations or experts’ reports.

In response to the new requirements, the sponsor community, with the assistance of a number of law firms, assembled a detailed set of sponsor due diligence guidelines for Hong Kong IPOs, which are intended to assist sponsors and their advisers to meet what the SFC and HKSE expect of a sponsor. The guidelines, available online at www.duediligenceguidelines.com, are not formally acknowledged by the regulators, but they do provide a useful reference to sponsor(s) conducting due diligence under the new regime.

The HKSE expects sponsor(s) to document its due diligence planning and significant deviations from their plan. Under the new regime, sponsor(s) are required to keep complete records including transaction team information, due diligence plans and related materials for at least 7 years after completion or termination of assignment.

5.6 The Prospectus

5.6.1 Drafting of the Prospectus

A prospectus is the principal marketing document in a Hong Kong IPO. It is ordinarily prepared by the listing applicant and its sponsor(s), with the assistance of their legal counsel, in accordance with the requirements of the Listing Rules, the Companies Ordinance and the Companies (Winding Up and Miscellaneous Provisions) Ordinance (collectively the “CO”) and the Securities and Futures Ordinance (“SFO”). Other professional parties and experts will also contribute to the contents of the prospectus, for instance, reporting accountants and property valuers. The prospectus must contain all information necessary to enable investors to make an informed assessment of the listing applicant’s assets and liabilities, business, financial position, management and prospects. A large number of amendments introduced by the new regime for IPO sponsors are, in effect, enhanced prospectus disclosure requirements.3 Failure to comply may render the Application Proof substantially incomplete, which may result in the listing application being returned (see below).

5.6.2 Verification and Prospectus Liability

The sponsor(s) should carry out verification of the draft prospectus in order to ensure that all statements are true and accurate. This process is designed to protect all relevant parties, inter alia, issuers, their directors and arguably the sponsor(s) (see below) from potential liability for the prospectus contents.

3 New guidance letter GL56-13 prescribed a list of information to be disclosed in the Application Proof for the document to be considered substan-tially complete

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Liability for the contents of a prospectus is governed under the CO, SFO, common law and other legislation. Both the CO and SFO provide for civil and criminal liabilities for false or misleading statements in the prospectuses.

The SFC is of the view that prospectus liability already extends to sponsor(s) under the existing legislation. In the initial consultation conclusions issued on December 12, 2012, the SFC concluded it was appropriate to state clearly that sponsor(s) have civil and criminal liability for prospectuses by amending legislation. However, in its supplemental conclusions issued on August 22, 2014, the SFC reaffirmed its view that sponsor(s) were already liable under existing legislation and hence the proposed legislative amendments need not be pursued as they would serve no purpose.

Although there were diverging views and a lack of case-law on the issue of whether the existing statutory provisions apply to sponsor(s), it should be noted that the SFC has made clear in its supplemental conclusions that it will have no hesitation in relying on the existing criminal provisions when considering whether to pursue criminal action against sponsor(s) in appropriate cases.

6. Listing Application and Vetting Process

6.1 Submission of Form A1 and publication of draft prospectus

The listing application (also known as Form A1 for Main Board listing application and Form 5A for GEM listing application) is to be submitted with, among other things, a substantially complete draft prospectus (including an Application Proof for vetting in English, and an Application Proof for publication in English and Chinese), sponsor(s)’ undertaking and statement of independence. The new requirements are imposed with a view to shorten the listing timetable by encouraging the submission of a quality first draft prospectus. The Application Proof for publication will be made publicly available on the HKSE website at the time of submission. The Application Proof for publication and the Application Proof for vetting are basically the same except redactions and warnings are required or allowed to prevent the document constituting a prospectus under Hong Kong law. If the Application Proof is returned by the HKSE as not being substantially complete, the HKSE will disclose the applicant’s name, the sponsor(s)’ name(s) and the return date on the HKSE news website when all related review procedures on the decision to return the application have been completed or the time for invoking them has lapsed. There is an eight-week cooling-off period before a returned listing application can be resubmitted.

6.2 Vetting Process

The HKSE’s purpose in reviewing the draft prospectus is to assess and consider the eligibility and suitability of the applicants for listing and to ensure adequate disclosure has been made in the prospectus, not to determine merits of the offering.

The SFC has committed to work with the HKSE to streamline the commenting process. They plan to focus on high-level issues only, such as public interest. Both the HKSE and SFC have pledged to steer way from making verbal and drafting comments and will work together to avoid duplication of comments.

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The HKSE has no anticipated timeline, the vetting time will depend on a case-by-case basis, including the speed at which the sponsor responds to the comments raised by HKSE. in a normal case, there will be two rounds of comments and an interval of about 40 business days between the date of formal filing of the listing application (on the basis that it has not been struck out by the Listing Division) and presentation for the Listing Committee’s consideration.

6.3 Listing Hearing

When the Listing Division considers an application is ready to proceed to the hearing by the Listing Committee of the HKSE, it will send a “notice of hearing” letter to the sponsor(s). The sponsor(s) and the applicant must then submit relevant documents promptly in compliance with the Listing Rules. The applicant and the sponsor(s) may need to attend the hearing to answer any questions which the Listing Committee may have. It is important that the principal and/or management of sponsor(s) and the applicant be involved and updated regularly on key decisions. They should also familiarise themselves with the prospectus, due diligence plan and results in preparation for the Listing hearing.

7. Post Hearing

7.1 PHIP

After the Listing Committee hearing, all parties will continue to address any queries from the Listing Committee.

A long board meeting (a board meeting approving, among other things, the IPO and related matters) should be convened to approve the listing and relevant documents. The PHIP, a near final draft of the prospectus, is required to be published in English and Chinese when, after the Listing Committee hearing, the regulators’ material comments have (in the opinion of the listing applicants’ directors) been satisfactorily addressed and not later than the earlier of distribution of the preliminary offering circular, commencement of book-building and any overseas publication of similar information (if the applicant has scheduled a listing on an overseas exchange at or around the time as the Hong Kong listing). Issuance of pre-deal research and distribution of preliminary offering circular during roadshow will follow.

7.2 Bulk-Print of Prospectus and Registration

Upon receiving the approval in principle from the Listing Committee, parties will finalise the prospectus. Bulk-printing of the prospectus will commence upon receiving final approval of the listing application and signing-off of the prospectus. A copy of the prospectus is required to be registered at the Companies Registry before publication.

7.3 Underwriting Agreements

In the case of IPO for subscription, all the subscription of shares must be fully underwritten, which normally includes both a placing tranche and a public subscription tranche. A minimum of 10% of the shares offered in the IPO should be allocated initially to a public tranche. The allocation will be adjusted in accordance with a clawback mechanism required by the HKSE. The issuer will usually enter into two agreements in relation to these arrangements: (1) the Hong Kong Undertaking Agreement; and (2) the International Underwriting Agreement.

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7.3.1 Hong Kong Underwriting Agreement

The Hong Kong underwriting agreement is usually concluded before the prospectus is issued and is one of the material contracts required to be registered with the Companies Registry and made available for public inspection. In this agreement, the issuer agrees to offer shares for subscription by the Hong Kong public (subject to certain conditions), and the underwriters severally agree to subscribe, or obtain subscribers for, their respective proportions of shares not bought up in the public offer (subject to certain conditions precedent). In return, the underwriters are paid a commission by the issuer. Apart from these core terms, the agreement also includes descriptions of clawback arrangements, reallocation and stabilisation, arrangement for delivery of shares payment of IPO proceeds to the company and lockup provisions etc.

7.3.2 International Underwriting Agreement

For placement to investors other than the Hong Kong public, the issuer and underwriters will enter into an international underwriting agreement, usually after the issue of the prospectus, together with the price determination agreement. In the international underwriting agreement, the international underwriters severally agree to subscribe, or obtain subscribers for, their respective proportions of shares in the international offering (subject to certain conditions, such as the successful registration of the prospectus and the HKSE’s approval of the listing). The price determination agreement is an agreement to agree on the IPO price and will be entered into on or around the same time as the execution of the international underwriting agreement.

7.4 Submission of Sponsor(s) Team Structure Chart

Upon completion of a listing transaction, sponsor(s) should submit to the SFC, within 2 weeks after the first day of dealings, its team structure chart in respect of that listing transaction. The chart should show the reporting line of each of the licensed or registered staff within the team together with their respective names, business titles and responsibilities, including in advising the listing applicant on compliance with the Code of Conduct and the Listing Rules and the performance of due diligence.

Disclaimer: This publication is intended merely to highlight issues and does not necessarily deal with every important topic or cover every aspect of the topics which it deals. It is not designed to provide legal or other advice.

C O N T A C TC O N T A C T

Arnold PangPartnerEmail: [email protected]

Fangda Partners in association with Peter Yuen & Associates30/F., One Exchange Square, 8 Connaught Place,Central, Hong KongTel: (852) 3976 8888Fax: (852) 2110 4285Website: www.fangdalaw.com



Why choose a financial printer?

The floating of a company can be a lengthy process that involves multiple steps and months of work. An Initial Public Offering (IPO) is exactly the first step taken by private corporations aspiring to expand their company and raise capital. After the first few steps, which include due-diligence or documentation, a company would look to find a financial printer that has wide experience in handling IPOs with successful companies. This is when a company first connects with a salesperson that can fully comprehend their goals and objectives. Discussions are then entered into which marks the start of a long-term relationship between the financial printer and the company.

What are the processes that a financial printer has to go through in order to deliver an excellent IPO for its clients? For starters, a financial printer has to sign a confidentiality agreement with the company in view of the massive amount of data that has to be translated, typeset and proofread. The sensitive information could be very valuable to competitors, so it is vital that it doesn’t get into the wrong hands. With trust, work can be done smoothly, which is why a financial printer like ours places such significance on trust.

In the following months there is a very hectic work schedule. Working parties often have to stay at the financial printer’s office for hours, even days. This is why it is essential for a financial printer to have all the facilities required to make the clients feel relax and comfortable at home. Having conference rooms for meetings or presentations are also crucial for a financial printer. From having lounges with great ambient lighting to leisure facilities, everything is done to help clients to maintain their focus without being distracted. In addition, the location of a financial printer can determine how efficient all the processes are, which is why most financial printers, including ours, are located at central business districts such as Central with great proximity to the HKEx and Securities and Future Commission. This makes potentially lengthy stays at the office much more convenient.

As the HKEx requires a company to provide and submit documents at various stages of the IPO process, the financial printer that has all the prospectus drafts can make last-minute filing to the HKEx, which eliminates the need for companies to go through the trouble of submitting by themselves.

An excellent project management team can more often than not lead to faster and smoother IPOs. Our project management team will be available 24/7/365 and always ready to serve its clients with flexibility, whether it is to make sudden amendments or adding important contents. The team is there to ensure that the flow of information between departments is seamless and precise. The team would also keep clients up-to-date with deadlines and production schedules. The project management team will handle the whole documentation process, from initial typesetting, managing regulatory submissions to HKEx, handling schedules for translation drafts, managing roadshow deliveries, etc. This is what makes a financial printer like us, EDICO, unique as we have such a comprehensive system and unique team of professionals that can cater to every need.

In Hong Kong, where financial documents generally have to be prepared in Chinese and English, a financial printer that has both in-house and out-sourced translators can efficiently make changes and provide



personalised translation services for clients. An in-house translation team can often get the task done efficiently as they are already aware of the background of the listing candidate by working closely with other departments. On the other hand, working with multiple translation houses can increase translation flexibility as all translation houses have their own areas of speciality. EDICO takes advantage of this and utilises the services of several specialist translation houses.

The composition team has a unique Desktop Publishing System used for typesetting in accordance with the HKEx requirements. It also facilitates black lining for filing purposes since the HKEx always requires black lining to show changes or for global search and changes, which makes the system much more efficient.

Proofreaders have an essential role in the team, for instance finding crucial errors, which in turn can shorten the turnaround time and lead to a more efficient overall typesetting process.

The design team plays a small but crucial part in an IPO, which is designing an IPO cover and it also has an important role after the listing when it comes to designing financial reports. The EDICO Creative & Graphic team understands the needs and requirements of clients, and this is very important as the team will be working with clients even after the listing. This is why we are often sought out for our outstanding designers.

A unique factor that most successful financial printers have is placing an emphasis on due diligence. A financial printer should be able to offer Virtual Data Room services for a company to carry out pre-IPO due diligence process. A VDR is a highly secure online platform that allows users to manage and share confidential information and documents. It ensures minimal paper and transportation are required since everything is shared virtually and efficiently.

One of the hurdles a company has to overcome is finding a financial printer that provides services without unexpected or hidden costs. A well-established financial printer like ours with all the amenities and traits mentioned above should have a reputation for offering the best bang for the buck. Price sensitivity is a good trait in a financial printer, since so many processes are involved.

All in all, a financial printer is the key partner for listing candidates as all the processes of creating a prospectus are handled with utmost care and confidentiality. It is important for companies to choose a financial printer wisely as the choice may very well be what leads them to success, which is what you can get when you call on EDICO’s professional services.

C O N T A C T

EDICO Financial Press Services Limited8/F., Wheelock House, 20 Pedder Street, Central, Hong Kong.Tel: (852) 2110 2233Fax: (852) 2110 1799Website: www.edico.com.hk

EDICO Financial Press Services LimitedCorporate Services TeamEmail: [email protected]

IPO services all under one roofMerrill Corporation provides a range of premier services to support the IPO life cycle, including virtual data rooms, financial print and translation services.

Merrill DataSite is the premier virtual data room, offering superior due diligence and document management services. We provide a highly secure, fully searchable and indexed online workspace that enables parties to access information around the clock, for fast and efficient project close. We also offer 24/7/365 support from dedicated project managers who speak 14 languages including Mandarin.

Merrill Corporation’s financial print team, Merrill IFN has completed over 400 Hong Kong IPOs over the last 20 years. We have market-leading experience in typesetting, proofing, printing and distribution of multi-language documents. With the biggest on-site typesetting and financial translation teams in Hong Kong, we are able to manage the largest of documents within a timeframe required by the clients.

Our premier IPO services can help you expertly manage transactions, all under one roof.

[email protected]

Merrill Corporation

VDR andfinancial print all underone roof



An IPO is an exciting and significant milestone for any company. Going public lets you showcase the strength of your management team, share past and projected performance and present your organisation’s strategic growth plan.

To ensure a smooth listing process, and to gain the interest, trust and investment from large buy side institutions, the most successful companies will spend an extraordinary amount of time and effort preparing documentation and due diligence packs for their potential investors.

In most IPOs, tens of thousands of pages of information will need to be reviewed, organised and updated by a team of lawyers, accountants, sponsors, financial partners and others. This must all be gathered and reviewed long before a company can file with the Hong Kong Exchanges and Clearing Limited (“HKEx”).

To expedite this process, it is best practice for companies to use a secure virtual data room (VDR) to ensure that they prepare, manage and maintain full control during the information exchange process.

What is a VDR?

A VDR is an online information sharing, retrieval and review platform, built specifically for complex financial transactions and due diligence.

A VDR allows companies to upload their investment pack and all required documents to a highly secure, controlled data hosting facility, and then present that information to interested parties and designated potential investors anywhere in the world.

A VDR also provides numerous features designed to help companies more efficiently manage the due diligence process, particularly for IPOs and M&A transactions.

Key benefits of a VDR include:

Unrivalled security. Using a VDR ensures you maintain complete control over who views your confidential documentation. Access to view/print and download can be switched on or off easily at a group or individual level.

Transaction support. Premier VDR providers will support you throughout a transaction with 24/7 service. A team of project managers, with experience in thousands of transactions, can help structure your index, present information, invite users, control security and carefully track usage.

An intuitive user experience. VDRs are designed specifically for IPOs and M&A, ensuring a seamless user experience. This also extends to the investor interface. After security checks, potential investors gain access to information, search and audit tools they need to make an investment decision quickly.

How a Virtual Data Room (VDR) Supports the IPO Process



How Does a VDR Benefit the IPO Process?

At Merrill DataSite, we have worked on hundreds of IPOs, including many of the largest in recent history. In our experience, the most successful IPOs start the planning process very early. This lets management teams craft a compelling story and present their business in the best light to create a positive response from potential shareholders.

The IPO team must review, troubleshoot and identify any missing information that could delay or derail their listing. Legacy financial reporting data must be audited to make sure record-keeping meets regulations. Accounting discrepancies or missing documentation must be found and addressed. The business’ organisational structure must also be refined to meet the HKEx requirements.

A VDR offers numerous additional benefits, even after a company has submitted its initial prospectus. As regulators request additional information and clarification, storing all documents in one easy-to-access central site makes it simpler to gather information, which helps avoid delays.

After a company goes public, costs and regulatory requirements will only increase. The structure of a VDR helps companies efficiently pull reports, compile statistics, document compliance and meet all necessary regulatory requirements in a timely manner.

Why Choose a VDR Over Other Document-Sharing products?

A number of recent high-profile cases have exposed serious security vulnerabilities with information shared or stored in generic document-sharing products, which are intrinsically less secure. They also fail the test for complex or highly secure business transactions, e.g. IPO deals.

With a best-in-class VDR, all data and information is stored and hosted according to the highest level of security. Only those individuals to whom a company grants access may view information in the VDR, and files cannot be downloaded or printed without permission. Moreover, any activity carried out in the VDR is tracked and auditable. This security is critical to prevent information from being intercepted by unscrupulous third parties who could compromise the IPO process.

High quality VDRs provide reports that show when a document is accessed, updated or modified. This gives management teams key intelligence to track what has been done, by whom and when, which is useful information when understanding who is interested in a transaction, preparing for questions and throughout negotiations. Security protocols can also be quickly set and easily revised to allow or prevent any user, such as a competitor, from accessing confidential information.

Perhaps most importantly, a VDR improves the due diligence process by providing exceptional search capabilities, down to specific words at the page level. This speeds up due diligence, which is crucial when a company needs to meet specific timing goals.

How Do I Choose the Right VDR Provider?

Ask the following questions to ensure your VDR provider meets the highest levels of security, professional service and expertise.

1. Experience. How long have you provided VDR services? (Look for a provider with extensive experience serving the financial markets.)

2. Special Financial Expertise. How many financial transactions have you handled? (Choose a VDR provider who has handled multiple, complex financial transactions, including IPOs.)



3. Security. Do you maintain ISO 27001 accreditation? (This is the highest level of cross-border security available for storing and hosting data.)

4. In-house hosting and management. Do you outsource any part of the data hosting or management process? (Some providers outsource uploading, hosting or data management to third parties, which can put your highly confidential data at risk.)

5. Project management support. When and how are your project managers available to answer questions? (Look for individual project management support that will be available whenever you need it, 24/7/365)

6. Language capability. What languages do your project managers speak? (Be sure your VDR provider offers native language speakers who speak Mandarin and other languages fluently so that they can assist every member of your team.)

7. Due diligence tools. How is the Q&A process handled within your VDR? (Look for functions, such as categorising and grouping questions from users, as well as being able to supply answers with links to documents for easy reference.) What special features do you offer that can expedite the IPO-preparation process? (Look for tools such as comprehensive site-wide search on key words or topics down to a specific page and auditing capabilities to track user activity.)

8. Integrated services. Do you offer any other services that could benefit us during the IPO process? (Look for a VDR provider with ties to transaction expertise, such as financial printing and distribution, as well as translation capabilities.)

About Merrill CorporationMerrill Corporation, a provider of premier virtual data rooms and financial printing services, offers an integrated suite of superior document management services for companies involved in complex financial transactions, such as IPOs and M&A.

Merrill DataSite is the premier virtual data room, offering superior due diligence and document management services throughout the IPO life cycle. We provide a highly secure, fully searchable and indexed online workspace that enables parties to access information around the clock for fast and efficient project close. We also offer 24/7/365 support from dedicated project managers who speak 14 languages, including Mandarin.

Merrill Corporation’s financial print team, Merrill IFN has completed over 400 Hong Kong IPOs over the last 20 years. We have market-leading experience in typesetting, proofing, printing and distribution of multi-language documents. With the biggest on-site typesetting and financial translation teams in Hong Kong, we are able to manage the largest of documents within a timeframe required by the clients.

To learn more about how Merrill Corporation, our VDR and financial printing expertise can transform your next IPO, contact us today at [email protected].

C O N T A C T

David HaynesDirector, Asia PacificEmail: [email protected]

Merrill Corporation5th Floor, World-Wide House, 19 Des Voeux Road, Central, Hong KongTel: (852) 2536 2288Fax: (852) 2522 8922Websites: www.merrillcorp.com

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Directors’ and Officers’ Liability Insurance: What Is It and Why Is It Important to the Listed Companies in Hong Kong

Potential risk exposures arising out of an IPO

Raising capital through a stock exchange listing provides a company and its shareholders with significant opportunities. However, the liabilities imposed on the listed company’s directors and officers in such a transaction can be onerous. The heightened exposure to risks from various sources during the IPO process amplifies the need for adequate directors’ and officers’ (D&O) liability insurance protection when a company is considering an IPO.

Recent legal and regulatory reform in Hong Kong has significantly increased the risks and liabilities faced by company directors and officers in this jurisdiction. Corporate governance reform has resulted in greater scrutiny on board performance, board practices and accountability of directors and officers.

Directors and officers may be personally liable to any party who has an interest in the company, and they can be sued in their individual names.

A breach of duty exposes the individual director’s or officer’s personal assets (and even assets in their spouse’s names) to claims that, when combined with the doctrine of joint and several liability amongst the board members, could mean paying out these assets for the liability of the entire board.

What is directors’ and officers’ liability insurance?

D&O liability insurance is coverage designed to address the personal liability that company directors, officers and other members of a corporate board can incur for their acts and/or decisions arising from their duties, which may or may not be indemnifiable by the corporation.

Who does the directors’ & officers’ liability insurance protect?

The policy protects the directors and officers of the parent company and its subsidiaries.

A D&O liability insurance policy will usually protect:

all past and present directors and officers and those appointed during the currency of the policy.

the company when it reimburses its directors and officers.



Why buy directors’ and officers’ liability insurance?

Claims from employees, clients, stockholders, creditors or liquidators may be made against any company and against the directors and officers of a company. Since a director or officer can be held responsible for acts of the company, most directors and officers will want to be covered rather than risk their personal assets. A major benefit of having a D&O liability insurance policy is to protect directors and officers from litigation and provide a legal defence should such litigation that may arise in the conduct of their duties. Protection of directors and officers by purchasing appropriate insurance coverage is also in compliance (but not mandatory) with the Hong Kong Stock Exchange’s Listing Rules. What is appropriate insurance cover depends heavily upon the nature of the issuer’s business.

Board of directors should not risk their personal assets to serve as a corporate director or officer without D&O liability insurance coverage.

What does directors’ and officers’ liability insurance cover?

Defence costs, damages, judgments, settlements, civil fines and penalties resulting from a claim arising out of actual or alleged acts, errors, omissions, misstatements, neglect, or breaches of duty committed or allegedly committed by a director or officer are covered with D&O liability insurance.

Key Protection provided by a D&O policy includes the following key extensions:

i) Worldwide Coverage – covers wrongful acts committed, claims made and investigations commenced anywhere in the world.

ii) Advancement of Defence Costs – extends to provide coverage for defence costs prior to the final settlement of the claim. Allegations of wrongful acts or threats of litigation may lack merit or reasonable grounds for success. Whether or not the director or officer is ultimately held liable for allegations of wrongdoing, such actions require legal defence. By virtue of this extension, the policy advances defence costs subject to the policy terms and conditions. If, ultimately, defence costs are advanced for a matter not covered by the insurance, then such a need is to be repaid to the insurer.

iii) Investigation Costs – can be incurred by a director or officer arising from a need to prepare for, attending or providing documents, with respect to an investigation by a regulatory body. An investigation generally is defined to mean an official investigation, examination or inquiry in relation to the affairs of the company at which the attendance of its director or officer is required.

A D&O policy is also designed to provide automatic coverage to directors and officers for liabilities which may arise out of the following:

a) Acquisition of a New Subsidiary – a D&O liability insurance can automatically cover directors and officers of new subsidiaries subject to certain parameters.

b) Offering of Securities – provides coverage to directors and officers of a company for claims arising out of an offering or placement of its securities subject to certain parameters.

c) Merger or Acquisition – specific policy features provide discovery period or run-off coverage for directors and officers up to six years or the relevant statute of limitations, should the company be majority sold to, or merged with another entity..



What are the Roles of Brokers?

Because D&O liability insurance is a sophisticated and somewhat complex insurance product, only certain insurance brokers have an expertise and comfort level in providing advice to clients and placing the business.

How do you select an insurer?

There are several factors to consider such as:

Evaluate the policy form, including the declarations, all endorsements, and the proposal form.

Evaluate the financial strength and integrity of the insurer. You insurance broker should have objective data on these.

Evaluate the insurer’s underwriting and claims-handling abilities in the D&O area. You can get this information from your insurance broker.

Evaluate the premium level in relation to the limits of liability offered and applicable deductions or retentions. Price should not be a key factor in the purchasing decision in the D&O area when one considers the potential exposures to the management of a corporation.

Some additional tips on purchasing directors’ and officers’ liability insurance:

Allow sufficient time before the IPO for an underwriting review by insurers.

Select an insurance broker/advisor with this specialised knowledge and experience working with IPO risk and cover.

Be aware of claim scenario involving an IPO or listed companies. An experienced insurance broker can advise you on these areas.

Work with your insurance broker to determine an appropriate level of cover (policy limit). An experienced broker can provide benchmarking data and advice on this.

Coverage and pricing terms are negotiable. Work with your insurance broker to arrange a suitable policy for your company.

Respond to the underwriter’s questions (through your insurance broker) promptly.

Complete insurer proposal form and provide all requested information. Do not view the application process as a burdensome paperwork requirement, but as an important process for this protection. Be accurate and truthful in answering questions on the application (including any prior claim or circumstance). Misstatements may cause the policy to be void.

Make certain that any prior incidents that might potentially give rise to a claim are reported on your application to a new carrier as well as to your existing carrier. Claims stemming from known incidents will be excluded under your new policy.



Conclusion – Why the Directors’ & Officers’ Liability Insurance Is Important?

Directors and officers can incur personal liability for breach of duty and personal (as opposed to corporate) liability is unlimited. Hence, their personal assets are at risk.

Defence costs can be very significant.

Breach of duty may have civil and criminal consequences.

Lack of knowledge of the law is no defence.

There are an increasing number of claims and regulatory actions in Hong Kong and Asia.

C O N T A C T

Douglas Wong, CFAFinancial Lines Manager – Greater ChinaEmail: [email protected]

Ivan KuanExecutive Director, Financial and Executive Risks Practice, Greater ChinaEmail: [email protected]

ACE Insurance Limited25/F, Shui On Centre, No. 6-8 Harbour Road, Wanchai, Hong KongTel: (852) 3191 6800Fax: (852) 2560 3565Website: www.acegroup.com/hk

Willis Hong Kong Limited18/F The Lee Gardens, 33 Hysan Avenue, Causeway Bay, Hong KongTel: (852) 2830 6620Fax: (852) 2827 0966Website: www.willis.com

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Stock incentive compensation became widely adopted in the United States in the late 20th century to solve agency problems between management and shareholders caused by the separation of the corporate right of control from ownership. In the context of economic globalisation, more and more companies, including listed and unlisted companies, utilise a stock incentive compensation plan as a significant method of talent management within a company.

Stock incentive compensation effectively aligns the interests of the shareholders, management and key talents to solve the agency problem by aligning the interests of all these stakeholders and at the same time promotes the establishment of a corporate development strategy to achieve the company’s goals by focusing on achievement of mid to long-term strategy.

Stock incentive compensation is taken as part of the total compensation in a growing number of companies, and has become an important component of remuneration packages for senior executives and other top talents. Stock incentive compensation is also a principal method for attracting and retaining good management and key employees. For unlisted companies, stock incentive compensation is also a salient practice for encouraging rapid development and completion of a public listing.

This article analyses the characteristics and key factors of a typical stock incentive compensation scheme for Hong Kong listed companies before and after listing.

A Review of Stock Incentive Compensation Before Listing on the HKEx

With an increasing number of companies adopting a stock incentive compensation scheme before listing, Towers Watson, a global professional services company, analysed a sampling of China-based companies that adopted a stock incentive compensation plan before listing on the Hong Kong Stock Exchange (“HKEx”) since 2010 to see its effect.

The study revealed that the design, granting and vesting practices of stock incentive compensation schemes adopted by companies before listing on the HKEx are different from the market practice of those implemented after listing. Usually, one of the primary objectives of a pre-IPO company adopting a stock incentive compensation plan is to be listed. Therefore, the arrangements of the stock incentive compensation plan will relate and adapt to the company’s listing plan:

The Form of Stock Incentive Compensation: Before listing, most of the companies take stock options as the vehicle of stock incentive compensation to motivate employees with the premium/added value of the shares after listing. In recent years, some companies have taken restricted stock with stock ownership requirements or lock-up as incentive to further bind and motivate the core management.

The Objectives of Stock Incentive Compensation



Grant Timing: Most of the companies in the study first grant stock incentive compensation one year before it is listed on the HKEx to address the emphasis on their IPO goals and to motivate and retain the management and core employees after listing. Compared to broader market practice, internet companies usually will grant stock incentive compensation earlier, approximately three years before listing. In general, the longer the interval between the first grant date and IPO date, the greater appreciation room for stock options in the future, thus therefore the greater motivation to option holders to successfully complete the IPO.

Grant Frequency: The frequency of pre-IPO companies granting stock incentive compensation is closely related to the timing of the first grant. Generally, companies that make the first grant more than one year prior to the IPO will make several grants to the option holders. This approach can help improve the linkage between pay and company performance up to the listing and it allows the company to make grants to employees who are newly hired before listing. Companies that choose to make their first pre-IPO grant less than one year before the IPO will normally make just one grant before listing.

Vesting Arrangements: With most companies, the vesting of stock incentive compensation is tied directly to the completion of the IPO. In other words, once a company becomes publicly listed, the outstanding equity incentives will be unlocked or vested at once or in several batches (or “tranches”) according to the company’s internal needs.

In order for the incentive plan to be an effective motivator – and in addition to market circumstances and the company’s development phase – when a company designs or implements a stock incentive compensation scheme before listing it needs to comprehensively consider market practice, shareholders’ willingness to issue new shares, and how LTIs granted before the IPO would impact participants and the company after listing. Specifically, companies should consider the following:

A clear purpose needs to be determined and serve as the foundation for the incentive compensation plan design and implementation. A company should understand the option holders’ perspective, set an appropriate incentive dilution limit, integrate the listing plan together with talent planning, determine the grant frequency and distribute appropriately.

Since shares have no market price before listing, shares need to be valued in order to establish the grant and exercise prices. At different development phases, a company may set its grant price using different methods. Some start-ups set the grant price based on book value. Generally, if the interval between the first grant date and the IPO date is short, the grant price is set at the estimated IPO price or at a discount to the IPO price to ensure appropriate motivation.

The exercise price directly affects the income to the option holder from the granted incentive share option and creates a financial cost to the company. Therefore, when designing a stock incentive compensation scheme, in addition to considering the impact of dilution on shareholders, income statement impact and incentive cost analyses are important references for shareholders when approving such compensation schemes.

Provisions for handling exceptional circumstances, such as termination of employment and corporate change of control, and clear administration policies are important guarantees of the company and option holders’ interests. Companies should make clear provisions in advance to avoid unnecessary disputes and risks when implementing the scheme.

At the same time, considering the uncertainties of listing a company, when designing and implementing a pre-IPO stock incentive compensation scheme, a company should have an alternate compensation arrangement in the event it fails to complete the IPO as planned.



A Review of Stock Incentive Compensation After Listing on the HKEx

It is more common for companies to adopt a stock incentive compensation plan after listing. In Hong Kong, companies increasingly use stock incentive compensation as a principal method to continuously propel performance after listing, increase competitiveness of remuneration packages for key talents, improve compensation structure and optimise corporate governance. To further understand and analyse the practice and trend of the stock incentive compensation scheme of companies after listing, Towers Watson has been studying the adoption of schemes by China-based companies listed on the HKEx over the past 10 years. According to the study, the features of stock incentive compensation plans adopted by China-based companies listed on the HKEx are as follows:

As of 2013 over 70% of China-based companies listed on the HKEx have adopted a stock incentive compensation plan after listing. In Hong Kong, stock incentive compensation has become a core component of listed companies’ internal management practices. The granting of stock incentive compensation has become a norm in the Hong Kong market and a growing number of companies make stock incentive grants annually.

In terms of the forms of stock incentive compensation, stock options are still the most common vehicle. Reflecting a more mature corporate governance framework, increasing numbers of companies are choosing to implement additional incentive types, such as restricted stock, or a combination of different long-term incentive vehicles.

Fig.1: The Types of Long-term Incentive Grants by China-based Companies Listed on the HKEx in 2009-2013

Source: Towers Watson, Survey on Remuneration of Management and Stock Incentive Compensation of China-based Companies Listed on the HKEx, 2013-2014

With regard to share dilution, over the past 5 years China-based companies listed on the HKEx have typically granted between 1% to 1.5% of their total outstanding shares. Generally, the size of annual grants should be weighed and balanced based on the seniority and number of plan participants, competitiveness of individual grant levels, accounting and dilution impact and other factors.

Fig.2: Equity Incentive Grants as a Percentage of Total Shares Outstanding for China-based Companies Listed on the HKEx in 2009-2013

Source: Towers Watson, Survey on Remuneration of Management and Stock Incentive Compensation of China-based Companies Listed on the HKEx, 2013-2014

0%10%20%30%40%50%60%70%80%90%

2009 2010 2011 2012 2013 2009 2010 2011 2012 2013 2009 2010 2011 2012 2013 2009 2010 2011 2012 2013

SO RS SAR LTI

0.77%

1.25%1.45%

1.30% 1.32%

2009 2010 2011 2012 2013



C O N T A C T

In terms of plan participation, after listing stock incentive compensation is mainly distributed to members of the board, management, and key talents who can have significant impact on company performance.

Appropriate vesting arrangements can both enhance the effectiveness of stock incentive compensation and smooth the cost impact on the company’s finances. According to Towers Watson survey results, a 1 - 2 year initial locking period and vesting over 3 – 4 years is the most prevalent practice among Hong Kong listed Chinese companies. It is noticeable that, to strengthen the immediate impact of the incentive, some companies (29%) don’t set an initial locking period for stock incentive plans - in other words, at least a portion of the stock incentive compensation is unlocked or vested immediately at grant.

Table 1: The Stock Incentive Vesting Schedule/ Unlocking Period for China-based companies listed on the HKEx in 2013

Stock Incentive Compensation Vesting Schedule/ Unlocking Period

Year=0 0<Year<1 Year=1 1<Year<2 Year=2 Year>2

29% 8% 42% 3% 14% 5%Source: Towers Watson, Survey on Remuneration of Management and Stock Incentive Compensation of China-based Companies Listed on the HKEx, 2013-2014

Table 2: The Vesting of Stock Incentive Awards for China-based companies listed on the HKEx in 2013

Vesting Tranches, per Grant

T=1 T=2 T=3 T=4 T>4

34% 9% 34% 12% 10%Source: Towers Watson, Survey on Remuneration of Management and Stock Incentive Compensation of China-based Companies Listed in HKEx, 2013-2014

It is worth noticing that stock incentive compensation after listing is significantly different from that before listing. Apart from the time requirement for locking / vesting period, more and more China-based companies begin to attach business performance as part of unlocking / vesting conditions. An appropriate balance between performance incentives and retention incentives can promote the effectiveness of stock incentive compensation on a company’s overall performance.

Towers Watson29F, Beijing Kerry Center 1 Guanghua Road, Chaoyang District, Beijing 100020, ChinaTel: (86) 10-58216000Fax: (86) 10-010-85297884Website: www.towerswatson.com/

Maggy FangManaging Director, Executive Compensation Asia PacificEmail: [email protected]

As market regulators move towards more disclosure-based regimes, one of the biggest risks to a successful public listing is the lack of full disclosures. The FTI Consulting Global Risk and Investigations practice undertakes sophisticated investigations, uncovers actionable intelligence and performs value-added analysis to help decision-makers address and mitigate risk, make informed decisions and maximise opportunities before and during the IPO process.

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Why pre-IPO due diligence is necessary

As covered elsewhere in this handbook, the regulatory authorities in Hong Kong are placing increased emphasis on the need for robust risk management and transparency on the part of IPO sponsors in Hong Kong. This has led to greater requirements on sponsors to adapt to the changing regulatory environment, and there is now a growing awareness for the need to assess the effectiveness of their due diligence procedures.

Indeed, the SFC has made it clear that sponsors are ultimately responsible for the thoroughness (or otherwise) of the required due diligence, the parameters of which were clearly laid out in its October 2013 Code of Conduct. The recent spate of high-profile short selling reports accusing listed companies in Greater China of egregious frauds have also again made it abundantly clear that a lack of due diligence can be damaging for a sponsor, both in a regulatory and reputational sense.

The role of third party providers

There has been a tendency in the past, which to some extent still prevails, for investment banks to contract third party providers to conduct essentially box ticking exercises, purely to comply with the regulator’s minimum requirements. Now that the parameters of these requirements have significantly altered, so must the role of the providers.

The role of enhanced due diligence is increasingly necessary in assessing the potential risks involved in sponsoring a company for a listing in Hong Kong. This involves a close look into the numerous off-balance sheet risks that are not always visible from financial or legal reviews, and which give a more holistic representation of the company and the key principals behind it.

Reputable third party providers have the infrastructure and experience to evaluate key regulatory, political, and cultural aspects of a target company, its industry, and operating environment. The provider then seeks to develop an understanding of the backgrounds, reputations, and track records of a target company and its key principals, as well as related third parties.

Off-balance sheet risks

Off-balance sheet risks can broadly be categorised into three groups: operational; reputational; and regulatory/sanctions.

Selecting Your Due Diligence Service Provider



1. Operational Risks

Operational risks can be characterised as stemming from breakdowns in a company’s internal procedures and those overseeing them. The first step should be to closely examine the company’s management and shareholders. Several questions should be asked, including:

Are there a high proportion of related family members amongst the owners?

Are personal and professional connections between shareholders clearly disclosed?

Is the senior management appropriately qualified to hold the roles they have in the company? Have they demonstrated integrity and business acumen?

Do the key principals hold potentially conflicting business interests?

Is there a co-location of multiple related businesses or an unclear separation of entities that are not part of the IPO?

Operational issues may extend beyond the confines of the company’s immediate management or ownership, and involve related parties, nominees, purported customers, local government officials and regulatory authorities. It is therefore crucial for comprehensive due diligence efforts to locate any other business interests connected to the shareholders or senior management of the company. In addition, it is helpful to include reviews of a target company’s major suppliers and customers, as issues found with these can often be a key indication of fraud or financial misrepresentation. In the case of customers and suppliers, this would ideally include confirmation that they actually exist.

2. Reputational Risks

Public domain research is the first step to obtaining a comprehensive understanding of any reputational risks relating to a target company and its key principals. This includes a search and analysis of the local language press reports, trade journals, industry association notices, local government bureau announcements and even social media posts. Such research should focus on determining:

If the company has been involved in any civil litigation, either currently or historically (note that information on criminal records is not available in the public domain in most countries in Asia, though it is unlikely key principals of a substantial company will have a criminal record);

If the company has been involved in any publicized disputes with its industry peers, clients, joint venture partners, own workforce, local neighbouring enterprises, etc.;

If the company has been accused of fraudulent activities; and

If the key principals at the company have notable political connections, which have the potential to damage the company in the future.

3. Regulatory & Sanctions Risks

Due diligence efforts, should include attempts to uncover whether the target company (and/or its key principals) are currently under investigation, or likely to be in the future; by the relevant State authorities (for example the increasingly active Central Commission for Discipline Inspection in China) or by local regulatory offices. Related to this, efforts should be made to establish if any key licenses or assets (for example in the case of former State Owned Enterprises), were obtained via non-compliant means. Environmental issues such as pollution should also be examined to identify issues that may potentially lead to regulatory risk in the future.

Consideration also needs to be given for the potential for key principals being drawn into regulatory investigations in relation to previous business activities or relationships with government officials. Furthermore, attempts should be made to identify if the company is dealing with any sanctioned entities or



jurisdictions. Whilst not an obvious issue for some Hong Kong IPO’s, these will have reputational issues for the investment bank concerned if they are regulated by US or other authorities with strict sanctions policies in place.

The Due Diligence Process

Addressing the issues outlined involves a combination of investigative research, public records retrieval and discreet interviews with knowledgeable sources. The service provider will typically begin by collecting, collating, and analysing information from a wide variety of sources, such as:

1. Research and Public Records

Local corporate records, which are an essential cornerstone of any due diligence effort, once obtained, such records allow cross checking of information originally provided by a target company, such as confirming business addresses and scopes of work. For instance, does the company purport to have a factory in a commercial building? Do apparently independent entities share a common address or point of contact?

A search and analysis of social media and forum postings can be extremely useful. If the company is providing a service or supplies a well-known product, which is likely given its application for an IPO, it is probable that people will have commented on it online.

Sometimes, a lack of information can be a red-flag in itself. Do the companies have little to no exposure in the public domain? Is there little evidence of the company operating in its particular geographical location or industry sector?

2. Inquiries

Discreet inquiries seek to gather human intelligence from a variety of people, including industry, government, and regulatory sources, who are well-placed to provide insight into the company and its principals.

This is often where the most valuable information is obtained, and it is a delicate exercise in asking the right questions to the right people. It is from such inquiries that it is possible to uncover information that would not be available from financial data or in the public domain, such as additional colour on previous partnerships, related entities or subsidiaries, connections with government officials or agencies, and corruption or bribery related issues.

In addition, discreet site visits are invaluable to get an accurate picture of a target company’s genuine locations, and the size, and operational activity of these facilities. As multiple short seller reports have shown, creation of fake facilities and falsely reported levels of operational activity (including staff numbers) is still commonplace.

The advantages of third party providers over in-house teams

For most of these sponsors, it is not financially viable to retain a substantial team of due diligence researchers and field investigators on a full-time basis. When conducting pre-IPO due diligence, it may be necessary to investigate a large number of individuals and associated entities, which requires significant manpower and expertise over a short period of time. However, the sponsor may only work on a small number of such deals in any given year, making it difficult to maintain an in-house team.

The third party provider also has the crucial advantage of objectivity. Regardless of the operational precautions put in place, an in-house due diligence team will inevitably have subtly different incentives for reporting information to the deal team. This may not entail direct pressure, but it is likely that the level



of objectivity offered by such teams has inherent flaws. A third party provider, on the other hand, has the advantage of a degree of separation that is favoured by both the regulators and increasingly the sponsors themselves.

How to find the appropriate service provider

In emphasising the quality of their due diligence prior to an IPO, those involved in the listing process, particularly the sponsors, need to carefully choose which service provider to contract. It is all too easy to turn to a well-established name, or to an inexpensive consultant, without assessing whether the firm has the necessary expertise in the region and industry in question.

A company looking to list in Hong Kong is usually of a size that requires a large team of researchers and investigators, with the experience to assess red-flags and warning signs associated with operational, reputational and regulatory risks.

Identify the number of staff and actual operational presence your service provider has in the target jurisdiction. A large number of staff across a range of disciplines and industry expertise will provide reassurance that the service provider has the resources and industry networks in place to conduct the work in-house. A small or boutique provider may in reality have only a small footprint in the region and will in all probability be contracting much (if not all) of the work out to third parties which may compromise the integrity of the investigation, depending on the experience and reliability of the sub-contracted resources.

It is also essential to establish that the chosen service provider has the experience and ethical credibility to work strictly within the legal boundaries of the jurisdictions in which it operates and to not seek information that would be considered Material Non-Public Information.

FTI Consulting The Global Risk and Investigations practice of FTI Consulting regularly works with sponsors, by undertaking reputational due diligence into potential Hong Kong listing candidates (as well as for candidates listing in other capital markets).

C O N T A C T

Bill SimsManaging Director and Head of the Global Risk and Investigations Practice, Hong Kong Email: [email protected]

Greg HallahanSenior Director, Global Risk and Investigations Practice, Hong Kong Email: [email protected]

FTI Consulting Level 22, The Center, 99 Queen’s Road Central, Hong KongTel: (852) 3768 4500Fax: (852) 3012 9664 Website: www.fticonsulting.com



How to pick the right sponsors and underwriters

Along with the decision to go public and the choice of the listing market, selecting the sponsors, advisors and underwriters that will support their IPO journey is among the most important choices any listing candidate can make. Sponsors typically take on the senior role in an IPO and provide management of the entire IPO process, including liaising with regulators, while underwriters are responsible for pricing, marketing and positioning of an IPO to investors around the world.

This is especially true in an established and incredibly competitive market such as Hong Kong, where the role of banks in marketing and building confidence in deals throughout the investment community is expanding in importance and becoming even more prominent on both the investor and regulator sides of the equation. In Hong Kong, the stature and experience of the banks that sponsor and underwrite the listing are the ‘brand’ behind the deal, and in many ways provide a proverbial green light on the listing candidates for institutional and retail investors. Each potential lead sponsor or underwriter – while crucial to the success of any IPO – brings something different to the table in both style and substance. More often than not, underwriters for an IPO will also participate in future offerings of the listing candidate’s securities, should the company decide to tap capital markets for more funds in the future. Naturally, bigger, more diverse listing candidates tend to engage bigger and more diverse underwriters, such as the bulge bracket investment banks. Smaller companies often, but not always, work with local and regional sponsors. In the end, however, the market’s perception of the sponsor-listing candidate arrangement – not matter how skewed or inaccurate – is incredibly important: the better the reputation of the underwriters, the stronger the pricing power of the listing candidate.

While reviewing potential sponsors and underwriters, listing candidates should familiarize themselves with the range of mission-critical tasks given to the sponsor and lead underwriter, including but not limited to arranging road shows and investor marketing, working with regulators, developing the offering document and structuring an underwriter syndicate – which solicits investor demand from a range of institutional clients. Listing candidates should also familiarize themselves with the qualities and traits of strong underwriters. These traits include the bank’s knowledge of how to structure a particular deal according to characteristics and peculiarities that shape the target listing market, its understanding of the target market’s investor community and their associated tastes, biases, and preferences, and its track record of pricing deals that generate the strongest demand and also maximize return.

Listing candidates must also ensure that potential conflicts of interest – both real and perceived – will also be navigated successfully. In the post-financial crisis world, regulators in Hong Kong and in markets around the world are increasingly vigilant. Issuers should be cautious of any relationships between the sponsor, underwriters, and listing candidates that potential investors could perceive as conflicts of interest that may violate the integrity of the sponsor’s independence and call the genuine value of the offering into question. To list in Hong Kong, at least one sponsor from the syndicate must be able to represent to the Stock Exchange of



Hong Kong (SEHK) that it is independent from the listing candidate. The consequences for non-compliance are often swift and steep. In recent years, Hong Kong’s Securities and Futures Commission (SFC) has revoked listing sponsor licenses from brokerages that are found to have conducted inadequate pre-IPO due diligence – penalties that inevitably damage the reputation and public perception of the listing candidate as well.

In addition to having a clear understanding of sponsor and underwriter roles and responsibilities, listing candidates should also manage against inflated expectations. Companies must keep in mind that significant administrative costs are likely to be incurred long before the IPO goes to market – with no guarantee that a successful listing will ultimately occur. The markets are littered with examples of listings that failed due to mismatched expectations, communication challenges and bad marriages between companies and advisors – including not only lead sponsors and underwriters, but also securities counsel and legal experts, accountants, investor relations teams, compensation experts and communications consultancies. It is not uncommon that listing candidates fail to fully digest the unique set of rules and regulations that govern the target market, and inevitably grow frustrated with the listing process. Of course, the communication failure often originates from the other side of the equation as well, with advisors failing to do an adequate job of filling in the required knowledge gaps.

Candidates should also remember that sponsors and underwriters will investigate their company to ensure that books and records are fully compliant with all established rules and procedures, and are compiled according to the accounting and compliance standards of the chosen listing market. Among other due diligence requirements, sponsors and underwriters will request to see a candidate’s financial projections, and will also interview the candidate’s senior management team, review all financial reports and even conduct asset verification research, such as inspecting factories and store locations.

While ultimately the market will judge a company on its merits, working with committed, connected partners and bankers can ensure those merits are communicated in the best possible light, to the right audience and, most importantly, in the right tone and format. Issuers therefore need to evaluate their potential partners and advisors carefully, and perform rigorous due diligence from multiple angles before rushing into a decision. For marketing purposes, many advisors – like many listing candidates – will paint their track record in the most flattering light. It is up to the listing candidates to ensure the sponsor and underwriters are best positioned to launch the IPO.

As in any industry, experience is a crucial factor that can’t be fabricated or faked. Past performance should not be underestimated, making a sponsor or underwriter’s track record and position in league tables perhaps the best indicator of a bank’s ability to help a listing candidate prepare and execute a successful offering in a competitive market such as Hong Kong’s. A history of working on past IPOs in the same market and sector is a positive sign, as it demonstrates a hands-on understanding of the listing environment and - of equal, if not more importance – knowledge of potential investors’ interest in, views on and appetite for the listing company.

Issuers should also consider whether their potential underwriters have taken on deals of a similar size in the past. A smaller offering, for example, may not be given the attention it deserves by bulge bracket banks accustomed to much larger deals, while those focusing on small IPOs may struggle with the capacity needs and complexity that accompany big ones. A roster of past deals that are seen as landmarks in terms of structure, size, industry or quality is also strong testament to a potential underwriter’s ability and skills.

Another vital question is whether a listing candidate’s potential sponsors and underwriters have the ability to generate investor demand on a truly global level. In today’s environment, the Hong Kong market expects new listings to arrive with a substantial number of pre-existing investment commitments, and these commitments depend not only on the company’s prospects and general macroeconomic conditions, but also the degree of trust and influence banks and advisors wield with potential cornerstone and anchor investors. The ideal partners will have the capacity and platform to market the offering to a broad range of institutional investors



worldwide, as well as contacts among large corporates, sovereign wealth funds and the increasingly important realm of specialist or non-traditional investment, including family offices and high net worth individuals.

Following the ability to generate demand among a range of investors, an underwriter must also be capable of successfully spreading the word on an IPO, which requires an extensive sales distribution network and assets, including sales and sales trading. The size and strength of a bank’s sales distribution team should be considered a key indicator of its ability to execute and price a successful listing, since IPO price ranges are substantially based on investor feedback gleaned in the pre-deal marketing stage.

Prospective issuers should also take the time to interview the team from the bank that will be actually working on the offering, both to ensure their visions and strategies are aligned and to verify that it is the same ‘A-Team’ of senior dealmakers that likely pitched for the IPO mandate. Banks will sometimes bring out the heavy hitters and top brass to win IPO business, only to pass the actual day-to-day oversight and administration of the deal to a group of less experienced junior staff. No matter who is working on the deal, the candidate’s management team should be comfortable and have strong relationships with the bankers handling the transaction. It goes without saying that trust between all parties is crucial for any successful listing.

Finally, while steering any IPO through completion is a commendable achievement for any sponsor or underwriter, the ability to successfully execute and price an offering even in unfavorable market conditions is the truest test of the resilience of a bank’s strength, network and abilities. Listing candidates should therefore look for partners who have demonstrated a talent for launching well-received IPOs in tough times as well as bull markets. Succeeding against market headwinds is the ultimate demonstration of any bank’s mettle.

C O N T A C T

Jason CoxManaging Director, Co-head of Asia Pacific Global Capital Markets, Bank of America Merrill LynchEmail: [email protected]

Peter GuenthardtManaging Director, Co-head of Asia Pacific Global Capital Markets, Bank of America Merrill LynchEmail: [email protected]

Bank of America Merrill Lynch55/F Cheung Kong Center, 2 Queen’s Road Central, Central, Hong KongTel: (852) 3508 8888Fax: (852) 3009 0046http://corp.bankofamerica.com

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MARKETING THE DEALSSECTION


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CHAPTER 3

Marketing, Pricing and Stabilization

The main goals of most companies embarking on initial public offerings (IPOs) in Hong Kong have remained constant over the years – to raise awareness, attract long-term financial resources and enhance corporate value. However, the nature of the process, the regulatory landscape, and the market itself have changed significantly over the past decade. These changes, from improved governance standards to the market’s closer integration with mainland China, have made it more vital than ever to choose the right partners and lay the groundwork at the earliest stages for one of the most significant and transformational journeys a business can embark on.

Marketing: Forging strong connections with the investor community

Marketing Process

Cornerstone andAnchor Investors

1 Analyst &Investor Education

2 ManagementRoadshow

& Bookbuilding

3 Pricing/Allocation

4 AftermarketSupport

5

Pre-Launch Launch and Marketing Phase Pricing/Post-IPO

In the past, a bank’s efforts to educate investors about an upcoming IPO began around a month before the pricing of a particular offering. The investor education process typically started with the appointed bank’s research analyst writing a pre-deal research report with the purpose of providing an independent analysis of the listing candidate. This research report would be used to educate regional fund managers and other institutional investors around the world (where permitted) during the pre-deal investor education (PDIE) process, with the research analyst providing independent views on the company’s key strengths and risks, broader industry trends and valuation range, based on prospectus information.

The research PDIE was, in turn, followed by a high-profile management roadshow, during which key executives from the listing candidate embarked on a whirlwind tour of major markets around the world to meet with portfolio managers. The management’s presentations aimed to boost investors’ confidence in the company further and confirm their interest in the firm going forward. In the old model, roadshows – like the important

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contribution of investor education – often played a critical role in generating investor interest in an upcoming issue and had a substantial impact on the offering’s success.

More recently, efforts to cultivate an investor base for an offering now begin even further in advance. This lengthening of the investor engagement process and outreach is partly due to the listing process becoming ever more visible. As competition for investor interest intensifies, the market has developed higher IPO expectations, and regulatory scrutiny is accelerating at the same pace. In the past when listing candidates and sponsors submitted an initial IPO application to the Stock Exchange of Hong Kong (SEHK), the application was kept confidential. Nowadays the applications for listings are posted on the exchange’s website for all to see, making it vital for banks to act quickly to measure and build investor interest in a potential IPO.

Typically, syndicate banks will begin engaging potential cornerstone and anchor investors once the Application Proof has been filed with the SEHK. Investors will also begin engaging with the banks and the company’s management through a series of management meetings and site visits, and will conduct operational and financial due diligence as required to formulate a decision on a cornerstone or anchor investment. The lengthened investor engagement process is also a result of the market placing more emphasis on cornerstone and anchor investors – high-profile players who essentially agree to participate in the offering at the early stages of the deal, prior to the actual listing.

In the Hong Kong context, cornerstone investors typically include business or strategic partners of the listing candidate, major Chinese corporations, select institutional investors and sovereign wealth funds. These cornerstone investors can typically take anywhere from 30 to 40 percent of an offering. They are guaranteed allocations of shares from the IPO in return for agreeing to participate up to the top end of the price range and to hold the shares for a designated ‘lockup’ period during which they cannot be sold – in the Hong Kong context, usually six months. What is more, the identities of cornerstone investors are also disclosed in the IPO prospectus and vetted closely by the SEHK. Around the same time or shortly after cornerstone investors are secured by the lead underwriters, the management roadshow for a broader range of global institutional investors begins.

HK IPOs with Cornerstone Participation > US$200mm since 2013

Cornerstones

Date Issuer #

Tranche

(US$mm)

% of Base

Deal Cornerstone (US$mm)

2-Dec-14 CGN Power 18 1,331 42%

CSG International (100), CYPC International (100), CLP Nuclear(51), CDB

International (110), GIC (100), OZ (100), Value Partners (100), Hillhouse

(100), China Reinsurance (75), China Life (75), Cinda Sinorock (50), China

Alpha (50), Minmetals (50), North Industries (50), Beijing Jingneng (50),

Chow Tai Fook (30), E Fund (100), Guangzhou Fund (40)

3-Jul-14 Luye Pharma Group 6 280 37%

Dragon Billion China Master Fund (50), MQ Funds Mgmt HK Ltd (25),

Minmetals (25), OribMed Advisors (50), TAL China Focus Master Fund (30),

Value Partners (100)

25-Mar-14 Harbin Bank 7 513 45%

Fubon Life Insurance (289), CITIC Capital HB Investment (150), China

Fortune Finance Holdings(20), Wah Tao International Fund Limited (20),

Chongqing Tian Tai Real Estate Development (13.8), Boom Win Holdings

Limited (10), Introwell Limited(10)

22-Jan-14 HK Electric Investments 2 1,150 37% State Grid (1100), Oman Investment(50)

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Cornerstones

Date Issuer #

Tranche

(US$mm)

% of Base

Deal Cornerstone (US$mm)

In a highly developed and regulated market home to firms with strong growth potential such as Hong Kong’s, investors have learned to expect the participation of cornerstone investors in IPOs, as they feature in most of the city’s major listings – CGN Power Co. and Dalian Wanda Commercial Properties’ IPOs being just two recent examples. Investors find the presence of cornerstone investors reassuring; they not only represent high-profile votes of confidence in the listing candidate but are also seen as stabilizing forces that can mitigate the risks of volatility associated with a deal ahead of its launch.

A strong cornerstone investor base is often perceived by the retail investment community as a ‘stamp of approval’ from the largest, savviest market players, who tend to invest with a longer-term perspective. An IPO arriving to market with a solid list of cornerstone participants is akin to a new movie boasting a roster of previous Oscar winners – and sends a message to the market that the IPO is likely to be successful and that the company’s shares are set to perform well after their debut. Conversely, a sponsor’s failure to secure commitments from cornerstone investors can sometimes sink an IPO, as the issue is perceived by the public as lacking momentum and investor interest. Given the increasingly high stakes and evolving demands of the market, banks underwriting the offering will typically begin to sound out potential cornerstone or anchor investors two to three months before pricing.

Source: Company prospectus as of December 15, 2014

13-Dec-13 China Everbright Bank 19 1,744 58%

China Shipping Group(800), Chinese Estates(100), The Prudential Insurance

(50), Sun Life Assurance Company of Canada (50), Zhongrong International

(200), TEDA (80), Wenze (70), China Oceanwide Int'l (67), Sinochem (66),

Shanghai Electric Group (30), Sany Int'l (30),C.N. Team Ltd (Ms Wu Xiuli)

(30), Mr. Huo Qing Hua (30), Mr. Chen Hua Wei(30), China Chengton (ABCI

QDII) (30), Hongkong Energy Group (Mr. Sun Pei Hua) (30), Lina Wang(30) ,

Sun Hung Kai Strategic Cap (10), First Asian (whollyl owned by United Asia

Finace) (10)

12-Dec-13 China Conch Venture 5 233 50% CNBM (96), TCC(49), Asia Cement (38), Hillhouse (38), Linda Cheung (13)

5-Dec-13China Cinda Asset

Management 10 1,082 44%

China Life Insurance (200), OZ (200), Norges (150), Farallon (100), Haixia

Fund (100), Shen Zhen Rongtong (100), Ping An (75), Shandong State

owned Assets Investments (60), Oaktree (53), Yuedean (50)

5-Dec-13 Qinhuangdao Port 7 240 43%

Zhongrong Trust (50), China Coal (40), China Communications Construction

(30), China Datang (30), Guodian Fuel (30), Zhejiang Energy (30), China

Taiping Insurance (30)

6-Nov-13 Huishang Bank 6 585 49%Vanke Property (401), Chow Tai Fook (25.7), Jiangsu Huijin (62.2), Genertec

Capital (30), Peaceland / Mr. Xu Ping (56.2), Kan Hung Chih (10)

19-Sep-13 China Huishan Dairy Holdings 3 214 16% Norges (124), Yili (50), COFCO(39.5)

16-May-13 Sinopec Engineering 7 350 19%

China Shipping (100), China Aerospace (60), Aerospace Science &

Technology Finance (50), China Export & Credit Insurance (50), Zhongrong

International Trust (50), Albertson Capital (30), CAMCE(10)

15-May-13 China Galaxy Securities 7 360 34%Khazanah (100), Sinopec (80), AIA (50), Sino Life Insurance (50), China Life

Insurance (30), Genertec (30), China Cinda (HK) Asset Management (20)

24-Jan-13Chinalco Mining Corp

International5 240 60%

Trafigura Beheer (Urion) (100), Hongfan Group (30), Tongling Nonferrous

Metals Group (50), Louis Drefus Commodities Metals Suisse(30), Rio

Tinto(30)

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An anchor investor presence has also become an expected component of any Hong Kong IPO. Typically anchor investors, mainly institutional investors, express interest in the deal before the book building and place their orders on the first day the book opens, creating pricing tension and fostering demand momentum among other investors for the offering. While unlike cornerstone investors, they do not receive guaranteed share allocations and are not named in the prospectus. In addition, the market has evolved to the stage where Hong Kong investors generally expect IPOs to have a covered book, or enough orders for all the shares on offer, at the end of the first day of the book building process. This stands in contrast to markets such as the United States, where investors do not expect a covered message on the first day of book building. The additional importance in Hong Kong of generating cornerstone and anchor investor commitments before a deal goes to market means that here, more than most jurisdictions, early IPO marketing can make the difference between a successful listing and failed offerings that disappoint candidates, sponsors and investors alike. To be sure, independent research PDIE and well-organized roadshows remain key elements of the sponsor’s IPO process. However the shifting nature of the deal landscape means issuers and banks must work harder than ever to tap their existing networks for possible cornerstone and anchor investors who are confident enough in the company’s prospects to participate in the earliest phases of the offering and subscribe to shares with a medium or long-term view.

While the region’s relatively robust economic growth and the healthy outlooks of many of its companies ensure a certain degree of investor interest in almost any Hong Kong offering, the competition for high-profile investor interest is stiff, and the sustainability of this interest, and consequently the stability and success of each deal, require careful and proactive planning and cultivation, by both the IPO issuer and its sponsors and underwriters.

Pricing: Striking a balance

Determining the appropriate price at which shares in a company should be issued is one of the most delicate and critical aspects of the IPO process, requiring close coordination between the listing candidate and its range of underwriters and advisors. Accurate pricing is a delicate art, rather than a science. Underpricing an IPO can boost the offering’s appeal to bargain-hungry and risk-shy investors, but can also cost the company important capital raising opportunities and reputational damage by signifying a lack of confidence in the candidate’s current value and future prospects. Overpricing, meanwhile, runs the risk of alienating a discerning market, with cornerstone, anchor, and other investors rejecting the offer as a blatant cash grab by an overconfident company. What is more, overpricing can cause a stock to tumble on its debut, potentially putting off more risk-averse investors for the long term and damaging the company’s ability to return to the market for future capital raisings.

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Source: Dealogic as of December 15, 2014

Date Issuer

Deal Size

(US$mm)

Offer Price

(HK$) Final Pricing

First Day

Performance (%)

3-Dec-14 CGN Power Co Ltd 3,164 2.78 27.3

3-Dec-14 Yangtze Optical Fibre & Cable Joint Stock 152 7.39 (10.7)

21-Nov-14 China Maple Leaf Educational Systems Ltd 124 2.88 0.4

9-Oct-14 Hua Hong Semiconductor Ltd 332 11.25 (4.5)

29-Sep-14 Shanghai La Chapelle Fashion Co Ltd 250 13.98 0.1

25-Sep-14 CGN Meiya Power Holdings Co Ltd 262 1.71 14.6

12-Sep-14 CAR Inc 538 8.50 28.9

18-Aug-14 China VAST Industrial Urban Development 146 3.10 5.2

5-Aug-14 China Rundong Auto Group Ltd 124 3.58 (0.3)

29-Jul-14 WH Group Ltd 2,362 6.20 Fixed 7.4

14-Jul-14 Cogobuy Group 177 4.00 (0.5)

10-Jul-14 China Shengmu Organic Milk Ltd 138 2.39 (0.4)

7-Jul-14 Sinomax Group Ltd 103 1.06 (1.9)

3-Jul-14 Luye Pharma Group Ltd 878 5.92 13.2

30-Jun-14 Tian Ge Interactive Holdings Ltd 238 5.28 8.3

30-Jun-14Beijing Urban Construction Design &

Development 138 2.75 9.5

30-Jun-14 Beijing Digital Telecom Co Ltd 114 5.30 (4.3)

27-Jun-14 Guorui Properties Ltd 209 2.38 5.0

27-Jun-14 Kangda International Environmental Co Ltd 205 2.80 14.6

26-Jun-14 Hang Fat Ginseng Holdings Co Ltd 128 1.98 (24.2)

25-Jun-14 Jinmao Investments 462 5.35 0.0

25-Jun-14 Chanjet Information Technology Co Ltd 116 16.38 (8.2)

24-Jun-14 Ourgame International Holdings Ltd 107 4.25 (11.8)

20-Jun-14 Cosmo Lady (China) Holdings Co Ltd 189 3.60 (1.4)

20-Jun-14 Yida China Holdings Ltd 185 2.45 (0.4)

20-Jun-14 Colour Life Services Group Co Ltd 122 3.78 21.7

18-Jun-14 Central China Securities Co Ltd 194 2.51 (13.9)

13-Jun-14 Tianhe Chemicals Group Ltd 748 1.80 (0.6)

13-Jun-14 Hanhua Financial Holding Co Ltd 245 1.62 0.6

13-Jun-14 Dynagreen Environmental Protection Group 134 3.45 9.3

11-Jun-14 Ozner Water International Holding Ltd 169 2.70 10.7

26-May-14 Qingdao Port International Co Ltd 415 3.76 (1.3)

16-May-14 China CNR Corp Ltd 1,294 5.17 (1.6)

3-Apr-14 BAIOO Family Interactive Ltd 196 2.15 (17.7)

25-Mar-14 Harbin Bank Co Ltd 1,130 2.90 0.3

24-Mar-14 Optics Valley Union Holding Co Ltd 107 0.83 (8.4)

10-Mar-14 Haichang Holdings Ltd 316 2.45 (17.6)

6-Mar-14 Sunshine 100 China Holdings Ltd 258 4.00 (6.5)

28-Feb-14 Poly Culture Group Corp Ltd 380 33.00 29.1

24-Jan-14 Redco Properties Group Ltd 129 2.50 4.4

23-Jan-14 Honworld Group Ltd 133 7.15 15.7

22-Jan-14 HK Electric Investments 3,111 5.45 (2.0)

Average 2.1

1st Day Performance of HK IPOs >US$100mm since 2014

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Any IPO pricing exercise therefore will ideally draw on multiple sources and take place in several stages. Early on, a bank’s equity research analysts play an important part, preparing pre-deal research reports, which provide their views on the listing candidate, independent from investment banking as well as the issuer. This stage of the pricing exercise is an occasion when the internal controls established to separate the bank’s various divisions must come into play, making it crucial that prospective issuers partner with sponsors and underwriters that have a strong culture of corporate governance in place. Research analysts will usually consider a company’s industry context, various valuation methodology options and comparable peers already trading in the market to arrive at what they consider a fair value range for the company.

Once pre-deal report is published and distributed, research analysts will typically meet with investors during PDIE to offer their independent opinion about the issuer, taking into account both the quality of its current operations and its prospects. Feedback on the pricing will also be solicited from these investors around the world, who will in most cases expect an ‘IPO discount’ to the value range to compensate them for a wide range of risks, including but not limited to the company’s lack of a track record, the long-term prospects for the candidate’s particular industry, and the state of the current IPO pipeline and listing market.

The bank will be concurrently seeking the views of potential cornerstone investors on appropriate pricing levels as well. This is particularly true for potential cornerstone investors who are well-regarded institutional investors or sovereign wealth funds. Given their knowledge and the rising importance of their participation to the marketing and listing process, feedback from potential cornerstone investors often has a strong influence on the final price range of an offering.

Having garnered sufficient investor feedback, the lead sponsors will sit down with the listing candidate to establish and confirm the IPO’s final price range. This effort requires striking a balance where shares are not given away too cheaply, but also not pumped up to the point where the IPO may be in danger of losing all the quality orders on the book. Getting this balance right will ensure proceeds are maximized for the issuer while also paving the way for healthy trading in the aftermarket, which enables investors to enjoy some upside from the IPO and potentially secures their interest in future capital-raising efforts by the candidate.

After the price range has been established, the listing candidate’s management team will embark on a roadshow to meet with investors in major financial centers around the world, and convert their interest into firm orders within the price range. As previously stated the roadshow remains an essential opportunity to build bonds with the investment community and can also exert a strong influence on the way a potential offering is received by the market. During the management roadshow, issuers must ensure their roadshow presentations are meticulously prepared and consistently explain the company’s merits in a compelling way. They should also be ready to field questions about any aspects of the company’s business plans or operations that may worry investors, and to respond to critics with honesty and transparency. As the roadshow is ongoing, the listing’s underwriters will be taking orders from interested investors to build the IPO ‘book.’ The results of this exercise, which will most likely be supported by the participation of anchor investors, will help determine the final offer price.

While price performance can never be guaranteed, and it often takes time to gauge whether an IPO is truly a success or a failure, it can be helpful for all parties working on an offering to have a target in mind. The typical view on the street is that a share debut should aim to reach a healthy 5-15 percent increase over the issuer’s listing price. This result would confirm the IPO was not underpriced and pleases the issuer. Investors are also satisfied because they have made a respectable return on their initial outlay, without the stock hitting the kind

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of heights that can signal elevated volatility or disappointment ahead. It also means issuers returning to the market will likely have cultivated a happy investor base that is willing to support them going forward.

It is worth bearing in mind that in Hong Kong, some issuers are becoming more aggressive with their pricing expectations, and leaving less money on the table – which can undermine efforts to build a sustainable investor support network. This is partially a result of a relatively favourable economic backdrop and sustained investor appetite for new listings. However, it is also the product of the rapid emergence of alternative sources of demand, including family offices, angel investors and high net worth associates, who can be less price-sensitive than traditional institutional investors. This has allowed some issuers to price their IPOs at levels that would not necessarily be supported by the institutional community. Regardless of these trends, all IPOs will be scrutinized by the market to some extent, and a comprehensive and realistic pricing exercise can both bolster confidence in the company among investors and ensure that the listing is a positive step for the long-term.

Stabilization: Mitigating market risks

For better or worse, the movements of a company’s shares on the first day of trading can set the tone for their performance, and market perceptions of the issuer as a whole, for some time to come. If the shares close significantly under the price at which investors buy into the deal before their trading debut, all parties involved will generally view the offering as a failure. For that reason, there is an over-allotment option available to the underwriters which allow one of the appointed banks in the syndicate to conduct stabilization in the aftermarket.

In short, stabilization is a risk control mechanism designed to ensure shares do not fall significantly below the listing price on the initial day of trading, and to provide shares support in the aftermarket. A successful stabilization strategy should be developed well before trading begins on the stock’s debut, and led by the stabilization agent in consultation with the company. In most cases, a listing candidate’s primary objective is to protect and sustain the integrity of the issuing price for IPO investors. However, some issuers hope to be able to sell more shares, which calls for a more careful stabilization approach.

While listing candidates will typically appoint multiple banks to work on a deal – collectively known as a syndicate – only one can be chosen to act as the dedicated stabilization agent. The agent is typically the most senior member of the syndicate – i.e. a global coordinator rather than a bookrunner. Issuers also pick a stabilization manager based on a variety of factors that speak to its high standing in the target IPO market. These factors include but are not limited to the bank’s reputation, the strength of its relationships with investors, its experience in stabilization and its track record of successful aftermarket stabilization.

The chosen stabilization manager will, in turn, assign a ‘stabilization trader’ to the listing who is responsible for all stabilization-related matters when the stock begins trading on its debut. To assist with stabilization, banks typically over-allocate 15 percent of the base deal to be used to support shares on their trading debut and in the aftermarket, as required by the issuer and market conditions.

Stabilization is seen as standard practice for IPOs in Hong Kong and has opened the possibility for issuers and banks to expand the size of the offering through the use or reuse of so-called ‘greenshoe’ options on request.

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In sum, a carefully thought out stabilization strategy led by an experienced global coordinator can mitigate some of the risks associated with a critical stage in the IPO process – the trading debut. However, stabilization should not be viewed as a cure-all for listing risk, or a potential means for involved parties to lock in profits. The goal is not financial gain, but to secure the confidence of issuers and investors alike, and to help the company begin its new phase as a publicly listed – and publicly accountable – firm on a confidence-building note.

C O N T A C T

Jason CoxManaging Director, Co-head of Asia Pacific Global Capital Markets, Bank of America Merrill LynchEmail: [email protected]

Peter GuenthardtManaging Director, Co-head of Asia Pacific Global Capital Markets, Bank of America Merrill LynchEmail: [email protected]

Bank of America Merrill Lynch55/F Cheung Kong Center, 2 Queen’s Road Central, Central, Hong KongTel: (852) 3508 8888Fax: (852) 3009 0046website: http://corp.bankofamerica.com



The Role Played by a Receiving Bank in a Successfully Completed IPO

In every IPO, the receiving bank is responsible for collecting and checking the IPO subscription application forms and handling the subscription monies. Throughout the listing process, the receiving bank plays an important role.

Features

Role of the main receiving bank

1. At the request of the listing applicant and its sponsor, handling the account opening for the listing applicant including the account(s) which is/are opened with our bank or other sub-receiving bank(s);

2. Liaising with the share registrar for the refund cheque specimen and signing arrangement;

3. Upon the instructions of the quasi-listed company or its sponsor, giving relevant instructions to the involved organizations in the capacity of a nominee;;

4. Performing the duties of a receiving bank:

a. Distributing application forms and prospectuses; b. Collecting the completed application forms from applicants for new shares and the subscription

monies (cheque or cashier order); c. Processing the completed application forms and the subscription monies including processing of

applications through the Internet (eIPO); d. Delivering the cheques and cashier orders for the payment of new shares to Hong Kong Interbank

Clearing Limited (HKICL) for settlement; e. Returning the subscription monies to the financial system through the interbank money market; f. Arranging for the refund of subscription monies to the unsuccessful or partially successful

applicants; g. On the refund cheques dispatch date (five to seven days after the IPO application deadline),

depositing the funds raised into the main receiving bank account opened by the listing applicant.



How to select a receiving bank

1. Experiences and qualifications: In only five years, from 2009 until the present, Wing Lung Bank has acted as the receiving bank for more than 58 successfully listed companies.

2. Efficiency: During the IPO, Wing Lung Bank will set up an on-site command operations centre, effectively coordinating the related work of received funds, including the liaison and coordination with sponsors, securities registration companies (the share registrars) and other receiving banks, the deployment of client managers to facilitate sales promotion and subscriptions etc.

3. Low cost and high return: Wing Lung Bank’s service charges are reasonable and the interest rate for the raised fund is attractive.

4. Follow-up services: supplementary money management services allow listed companies to properly manage the IPO proceeds; open dividend payment accounts, and obtain sustainable post-listing banking and financial services.

C O N T A C T

Wing Lung Bank16/F, Wing Lung Bank Bldg, 45 Des Voeux Rd Central, Hong KongTel: 2952 8867Fax: 2868 4786Website: www.winglungbank.com

Wing Lung Bank, founded in 1933, is among the oldest local Chinese banks in Hong Kong. Following its motto of “Progress with prudence, service with sincerity”, the Bank provides comprehensive banking services, including deposits, loans, wealth management, securities, credit cards, NET Banking, syndicated loans, corporate financing, bills, hire-purchase and leasing, foreign exchange, insurance agency, Mandatory Provident Fund, etc. Wing Lung Bank also provides futures broking, insurance broking and general insurance underwriting, property management, trustee, nominee as well as asset management services through its wholly-owned subsidiaries. At present the Bank has 50 banking business outlets in Hong Kong, Mainland China, Macau and overseas, and a staff force of more than 1,700 people. As at 30 June 2014, its consolidated total assets stood at HK$246.3 billion. Wing Lung Bank became a member of China Merchants Bank Group in 2008 and subsequently a wholly-owned subsidiary of the Group in 2009.

www.sweetandmaxwell.com.hk +852 2847 2000 [email protected]

THE CHINA LAW LIBRARY

The China Law Library is a reference library from Sweet & Maxwell bringing you a comprehensive focus on corporate and commercial law and practice in China. Individual volumes within the series have been specifically written for practitioners by authors with international expertise and knowledge. Each title offers authors’ opinions and advice on the practical implications, presenting options for practitioners to follow.

REUTERS/Arben Celi

Shareholder Agreements and Joint Ventures in China, Third Edition

Tort Law in ChinaMergers and Acquisitions in China, Third Edition

China Arbitration Handbook

Competition Law in China and Hong Kong

Intellectual Property Rights in China

SPECIFIC LISTINGSSECTION


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CHAPTER 4

Specific Listing Issues

Planning, executing, and managing an initial public offering (“IPO”) can be a challenging task. The better prepared a company is, the more efficient and less costly the process will be. It is therefore of paramount importance for potential issuers to identify issues in advance and resolve them at an early stage of the IPO.

There are many issues and challenges that may arise according to the specific circumstances of the listing, the nature of the company and its industry. This chapter discusses some of the specific listing issues that may be encountered by potential issuers. In particular, as mainland enterprises form a substantial portion of Hong Kong’s stock market, this chapter highlights some common issues those businesses experience when listing in Hong Kong.

1. Listing of a PRC business – red chip or H-share?

1.1 What is meant by “red chip” and “H-share”?

People’s Republic of China (“PRC”) businesses listed on The Stock Exchange of Hong Kong Limited (“HKEx”) include “H-share companies” and “red chip companies”. H-share companies are joint stock companies incorporated in the PRC which have received approval from the China Securities Regulatory Commission (“CSRC”) to list in Hong Kong, whereas red chip companies refer to the companies which are incorporated outside the PRC (usually in Hong Kong, the Cayman Islands or Bermuda) but with most of their business in the PRC, and which are usually controlled by PRC entities. Listing a PRC business is generally more complicated than other listings in Hong Kong as relevant PRC approvals may be required for the reorganisation and listing process.

1.2 Circular 10 – A hurdle to overcome for red chip listings

Historically, the PRC regulatory process for the reorganisation and listing of red chip companies was simpler than that for H-share issuers. Nevertheless, following the introduction of the “Regulations Concerning the Merger and Acquisition of Domestic Enterprises by Foreign Investors” (commonly known as “Circular 10” or the “M&A Rules”) in August 2006, the listing process for red chip companies has become increasingly complicated.

Circular 10 was promulgated by the Ministry of Commerce (“MOFCOM”), the State-owned Assets Supervision and Administration Commission, the State Administration of Taxation, the State Administration for Industry and Commerce, CSRC and the State Administration of Foreign Exchange (“SAFE”) on August 8, 2006. It came into effect on September 8, 2006 and was amended by MOFCOM on June 22, 2009. By virtue of Circular 10, MOFCOM’s approval is required at various stages of a red chip listing, including:

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the establishment of a special purpose vehicle (“SPV”) outside the PRC by a PRC domestic enterprise for the purpose of an overseas listing of the interest in a PRC domestic enterprise1; and

the acquisition of the businesses or assets of a PRC domestic enterprise by the SPV.2

In addition, Circular 10 reinstated the requirement to obtain CSRC approval for a proposed red chip listing,3 which was previously removed when CSRC’s practice of issuing a no-objection letter was phased out in 2003. Moreover, under the framework of Circular 10, companies that successfully list overseas must repatriate proceeds within a pre-determined time frame to the PRC. Even if an enterprise obtains listing approval, failure to complete the overseas listing within 12 months of such approval would result in the enterprise reverting to its original shareholding structure.4

It was originally perceived that the stringent requirements and restrictions under Circular 10 would curb the overseas listing of those PRC enterprises whose red chip structures were not consummated before the implementation date of Circular 10 (that is, September 8, 2006). However, in past years, we have witnessed various ingenious reorganisation plans adopted by different PRC enterprises to oust the application of Circular 10 on their listings in Hong Kong, for example, the so-called “slow walk” or “option” arrangement and the variable interest entity (“VIE”) structure. While these options are not free from regulatory risk, it is expected that the transactional structures for red chip listings will continue to be developed and refined.

For details of the recent breakthrough in transactional structures for red chip listings, please refer to the section “Recent Breakthrough in red chip listing” below.

1.3 Foreign exchange registration for red chip listings

Since 2005, SAFE has issued a series of circulars concerning round-trip investments by SPVs, directing that certain types of round-trip investments are required to be registered with SAFE. In particular, the Circular on Relevant Issues concerning Foreign Exchange Administration of Offshore Financing and Round-Trip Investment by Domestic Residents Through SPVs (commonly known as “Circular 75”), which became effective on November 1, 2005 (and which has now been repealed and replaced, as set out below), had been the major regulation governing the foreign exchange administration of Chinese investors’ round-trip investment for almost a decade. Circular 75 imposed registration requirements on the setting up of offshore SPVs by PRC domestic residents for the purpose of acquiring PRC equity and assets, which is a key step in red chip restructuring. As some provisions of Circular 75 were quite vague, there had been different interpretations among different local SAFE offices, posing significant hurdles and risks to red chip restructuring for offshore IPOs.

In July 2014, SAFE issued the SAFE Circular Relating to Foreign Exchange Administration of Offshore Investment, Financing and Round-Trip Investment by Domestic Residents Through SPVs (“Circular 37”), which repealed and replaced Circular 75. Circular 37 simplifies and clarifies the foreign exchange registration requirements and procedures for PRC residents seeking offshore investments and financing, thereby bringing more certainty to the feasibility and timetable of red chip restructuring.

Key changes brought by Circular 37 to foreign exchange registration for red chip listings are summarised as follows:

1 Article 42 of Circular 10.2 Article 11 of Circular 10.3 Article 40 of Circular 10.4 Article 49 of Circular 10.

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56789101112

Who has to register Under Circular 75, it was uncertain as to whether foreign ID holders were required to attend foreign exchange registration. Under Circular 37, “domestic resident individuals” are now defined as PRC citizens who hold PRC ID cards, service IDs or armed police IDs, and foreign individuals who do not have legal PRC ID documents but habitually reside in the PRC for reason of economic interests.5

By virtue of the implementation guidelines of Circular 37 (the Implementation Guidelines) published by SAFE, an individual who legally holds both a PRC and foreign ID (including holders of Hong Kong, Taiwan and Macau IDs) will be treated as a foreign individual and is thus not subject to the registration obligation under Circular 37.6

The Implementation Guidelines further provides that evidence of offshore permanent residence cannot be used to establish foreign identity for SAFE registration purposes.7 In other words, PRC citizens who have permanent residence in another country without holding a formal foreign ID (for example, a green card holder) may still be required to complete foreign exchange registration for their offshore investments or financing.

Timing of Registration

Circular 75 required the application to be made prior to the PRC resident establishing or gaining control of the SPV.8 Circular 37 now provides that domestic residents can form a SPV first but shall not make any capital contribution before completing the initial foreign exchange registration, with the exception of paying registration fees for the SPV formation.9

First-Level-Only Registration

Under Circular 75, a domestic resident was required to register all SPVs it owns or controls. Pursuant to Circular 37, a domestic resident only needs to register the first level of SPV owned or controlled by it.10 This simplifies the registration process and reduces the compliance burden on domestic residents.

Repatriation of Offshore Profits

Circular 75 required the repatriation into the PRC of all profits, dividends and proceeds from SPVs within 180 days upon receipt. Circular 37 eliminated this requirement.

Registration of Employee Incentive Plan

Prior to Circular 37, foreign exchange registration could only be made for equity incentive plans of offshore listed companies.11 PRC employees who had employee stock options in a non-listed foreign company were unable to properly realise such rights and remit money relating to such options to foreign companies, nor could they legally exchange their income from selling the stock option into Renminbi.

Circular 37 allows senior management and employees of PRC companies directly or indirectly controlled by SPVs to conduct foreign exchange registration with regard to any equity incentive plans granted by non-listed SPVs.12 Hence, PRC employees may participate in pre-IPO share option schemes of offshore SPVs legally.

5 Article 1 of Circular 376 Review Principle 1 under Section 10 of the Implementation Guidelines7 Review Principle 1 under Section 10 of the Implementation Guidelines8 Article 2 of Circular 759 Review Principle 2 under Section 10 of the Implementation Guidelines10 Review Principle 3 under Section 10 of the Implementation Guidelines11 Circular on the Relevant Issues Concerning the Foreign Exchange Administration of the Participation of Equity Incentive Scheme of Foreign Listed

Companies by Domestic 12 Article 6 of Circular 37

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Specified Penalties for Violations

In contrast with Circular 75, Circular 37 sets out specific penalties for various violations. In particular, Circular 37 expressly provides that prior to the implementation of Circular 37, if a PRC resident has already contributed capital to a SPV without a proper foreign exchange registration, the PRC resident should explain the reasons for failing to register and make remedial registration. SAFE will determine whether to accept the remedial registration and impose administrative penalties on any violation of foreign exchange regulations.13

13

1.4 Relaxation of the “4-5-6 requirements” – a new era for H-share listing

Pursuant to the CSRC’s rule issued in July 1999, enterprises must have RMB400 million of net assets, raise US$50 million of funds, and have an after-tax profit of not less than RMB60 million before they can apply for listing on overseas main boards, including Hong Kong’s.14 These are commonly referred to as the “4-5-6 requirements”. During the IPO boom year of 2007, it was widely reported that CSRC had adopted an unofficial policy of approving an H-share listing only if the amount to be raised exceeded US$1 billion or if the company was willing to do a dual-listing in the mainland.15 As a result, the trend over the past few years has been for mega-PRC enterprises to conduct “A + H dual listings” on the Shanghai and Hong Kong stock exchanges. For less sizable PRC businesses, they are more commonly listed in Hong Kong by way of red chip listings.

Further to Supplement IX to the Closer Economic Partnership Arrangement (CEPA) which was signed on June 29, 2012, the CSRC promulgated the Guidelines for Supervising the Application Documents and Examination Procedures for the Overseas Stock Issuance and Listing of Joint Stock Companies (No. 45 [2012] of the CSRC) to lift the “4-5-6 requirements” and simplify the approval procedures for overseas listings. The relaxation took effect on January 1, 2013. As CSRC is loosening its grip on overseas IPO applications, H-share listings are opening up to smaller issuers. From January 2013 to October 2014, there have been 23 new H-share issuers on the Main Board of the Stock Exchange, one of which has a market capitalisation of only around HK$160 million.16

1.5 Red chip or H-share?

With the abolition of the “4-5-6 requirements”, the distinction between H-share and red chip listing is diminishing. Here is a summary of the comparison between red chip and H-share listing on the HKEx:

13 Article 12 of Circular 3714 The Notice on Relevant Issues Concerning Enterprises’ Application for Overseas Listing (No.83 [1999] of the CSRC) issued on July 14, 1999.15 “China ups the ante against HK listing” (2007) Financial Times, 16 April.16 List of H Share Companies (Main Board), available at www.hkex.com.hk/eng/stat/smstat/chidimen/cd_hmb.htm

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Red chip H-share

Listing vehicle No specific requirements. Any recognised/acceptable jurisdiction can serve as the listing vehicle. The most common listing vehicles are Cayman Islands and Bermuda companies.

Must be a PRC joint stock company.

Key legal obstacle The listing group needs to undergo restructuring to inject domestic assets/business into an offshore structure, which may be restricted by Circular 10 and Circular 37.

Approval from the CSRC is required.

Financial tests Same. Previous 4-5-6 requirements applicable to H-share listing have been abolished.

Restriction on circulation

Subject to lock-up requirements, all securities can be freely circulated.

Domestic shares held by founders cannot be circulated outside PRC without CSRC approval. The regulatory authorities are exploring full circulation of H-shares.17

Lock-up period Pursuant to the Listing Rules, controlling shareholders cannot sell any of their shares 6 months from the date of listing; and within the 6 months thereafter, controlling shareholders cannot sell their shares to the extent of losing the controlling status.

Apart from the requirements under the Listing Rules, according to PRC Company Law, shares issued before listing cannot be transferred within one year from the date of listing.

Issue after listing Pursuant to the Listing Rules, a listed company cannot issue new shares within six months after listing. Generally speaking, approval from PRC authorities is not required for issue of shares after listing. Future financing is more flexible.

Apart from the requirements under the Listing Rules, an H-share listed company requires approval from the CSRC every time when it issues new shares.

Ease of Future Financing

Subject to the lock-up restrictions, controlling shareholders generally can charge their shares for their own borrowings.

The shares held by controlling shareholders are domestic shares, which are not freely tradeable on the stock exchange. Lenders are less likely to accept domestic shares as security for lending.

17

17 “Charles Li: Full Circulation of H Shares Undergoing the Final Decision-Making Stage” (李小加：內地就 H 股全流通方式上市已進入後期決策階段), infocast, 4 March 2014

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2. Recent Breakthrough in Red Chip Listing

As discussed above, it was originally perceived that Circular 10 would curb the overseas listing of those PRC enterprises whose red chip structures were not consummated before the implementation date of Circular 10 (that is, September 8, 2006). However, in past years, we have witnessed various ingenious reorganisation plans adopted by different PRC enterprises to oust the application of Circular 10 on their listings in Hong Kong. Some of the common plans are summarised below.

2.1 Acquisition of Red Chip Structures Established prior to September 8, 2006

PRC lawyers generally consider that red chip structures established prior to September 8, 2006 were not caught by Circular 10. Hence, after the implementation of Circular 10, many PRC enterprises with red chip structures established prior to 8 September 2006 continued with their listings in Hong Kong. For those without such red chip structures, they might acquire an offshore SPV with an existing red chip structure (usually comprising a wholly foreign-owned enterprise (“WFOE”)) owned by third parties.

A diagram summarising the key reorganisation steps involved is set out below for illustrative purposes:

Step 2: Acquisition of the PRC

operating entity by the WFOE.

Step 1: Acquisition of the

SPV by the PRC resident.

Within PRC

Outside PRC

SPV

WFOE*

PRC

Resident

SPV

WFOE PRC

Operating

Entity

SPV

WFOE

PRC

Operating

Entity

PRC

Resident

* The WFOE was established before 8 September 2006.

As Circular 10 has been implemented for more than 8 years, it has become more and more difficult to find offshore SPVs with red chip structures established before September 8, 2006 which are available for acquisition.

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2.2 Obtaining Foreign Identity by the PRC Business Owner

Many PRC lawyers consider that PRC business owners who have obtained foreign identities are not subject to Circular 10. Hence, some PRC business owners achieve their listing plans by obtaining foreign identities from countries offering citizenship in return for investment, such as Saint Kitts and Nevis. A diagram summarising the key reorganisation steps involved is set out below for illustrative purposes:

Step 3: Acquisition of PRC

enterprise by the offshore company

Step 1: Obtaining

foreign ID

Outside PRC

Within PRC PRC

Resident

PRC

Enterprise

Foreign ID

Holder

PRC

Enterprise

Offshore

Company

PRC

Enterprise

Foreign ID

Holder

Offshore

Company

PRC

Enterprise

Step 2: Setting up

offshore structure

Foreign ID

Holder

A change of nationality and/or obtaining foreign identity by a famous PRC entrepreneur may attract considerable public attention. In addition, PRC individuals who habitually reside in the PRC for reason of economic interests may not simply oust the application of Circular 10 by obtaining foreign identities.

2.3 Introducing Foreign Investor(s)

While many successful listings have been achieved by the above-mentioned methods, these methods have their own shortcomings and limitations. In 2012, a breakthrough was achieved in the innovation of red chip listings, leading red chip listings into a new era.

In the listing of China Zhongsheng Resources Holdings Limited (Stock Code: 2623) in 2012, the red chip structure was developed by introducing a foreign investor to the relevant PRC domestic enterprise, thereby transforming the domestic enterprise into a Sino-foreign enterprise and subsequently a WFOE. As this enterprise only commenced the building of its red chip structure in 2010, that is, after the implementation date of Circular 10, its successful listing is said to have turned Circular 10 into a paper tiger18. A similar approach was adopted in the listing of China Tianrui Group Cement Company Limited (Stock Code: 1252).

18 “Zhongsheng Resources Holdings - New Route for Red Chip Listing” (中盛資訊控股”紅籌”新路徑) published in the September 2012 issue of Capital Finance

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A diagram summarising the key reorganisation steps involved in these cases is set out below for illustrative purposes:

Within PRC

Step 3: Acquisition of

PRC enterprise by the

offshore company

Step 1: Introducing a foreign

investor to the PRC enterprise Outside PRC

Foreign

Investor

PRC Resident

Domestic

Enterprise

PRC Resident

WFOE

Offshore

Company

Step 2: Setting up

offshore structure

Foreign

Investor

Sino-Foreign

Enterprise

PRC Resident

After the listing of China Zhongsheng Resources Holdings Limited, it was originally perceived that the foreign investor concerned should hold at least 25% of the equity interest of the relevant PRC enterprise so as to ensure that Circular 10 would not apply. However, it may not be easy to find investors who are interested in acquiring 25% of the business, nor are many PRC business owners willing to sell 25% equity of their business to third parties before their listings. In 2014, the listing of Jiashili Group Limited (Stock Code: 1285) (“Jiashili”) provided a solution to these problems.

In the reorganisation of Jiashili, a Singapore citizen serving as the foreign investor acquired, through a SPV, only 1% of the equity interest of the relevant PRC enterprise (“1% Acquisition”). The PRC enterprise was then transformed into a Sino-foreign joint venture with the ratio of foreign investment of less than 25%, and subsequently a WFOE. According to the prospectus of Jiashili, the local MOFCOM has verbally confirmed that:

1. Article 11 of Circular 10 (that is, where a domestic company or enterprise, or a domestic natural person, through an overseas company established or controlled by it/him, acquires a domestic company which is related to or connected with it/him, approval from MOFCOM is required) shall not apply to the 1% Acquisition; and

2. after the 1% Acquisition, the PRC enterprise would be converted into a Sino-foreign joint venture and further acquisition of its equity interest should not be subject to Circular 10.

In light of these recent cases, domestic enterprises could achieve their offshore listings more easily.

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3. Feasibility of VIE Structures under Close Examination

3.1 What is a VIE structure?

VIE structures have long been used by foreign parties to indirectly invest in sectors in the PRC in which foreign direct investment (“FDI”) is restricted. In addition, VIE structures have been adopted to enable PRC businesses in those FDI restricted sectors to list offshore. Coined as a “Sina structure” after Sina.com successfully listed its value-added telecom business on NASDAQ in 2000 by adopting a VIE structure, VIE structures have been replicated in other sectors such as publications, broadcasting, media, mining and internet-based businesses.

In essence, a VIE structure refers to a structure whereby a fully or partially foreign-owned entity established in the PRC has control over a PRC domestic enterprise which holds the necessary licence(s) to operate in a FDI restricted sector. By virtue of various contractual arrangements, the de facto control over the operation and management as well as the economic benefits of the PRC domestic enterprise are shifted to the foreign-owned entity. In past red chip listings adopting VIE structures, Circular 10 was interpreted by the relevant issuers to be inapplicable as no acquisition of the relevant PRC domestic enterprises was involved.

3.2 Typical VIE/Structured Contract Arrangement

Structured Contracts

Structured Contracts Within PRC

Outside PRC

Listing Applicant

WFOE

Operating Company

(OPCO)

Operating licences

to carry on the FDI

restricted business

Registered Owner

3.3 Can a VIE Structure be Listed in Hong Kong

Since there is no express endorsement of VIE structures by the PRC authorities, the legality of VIE structures is questionable. In 2010 and 2011, the Shanghai Sub-commission of the China International Economic and Trade Arbitration Commission (“CIETAC”) granted two arbitral awards, in which the CIETAC invalidated some VIE agreements on the grounds that they violated express provisions of PRC laws that prohibit foreign investors from controlling and participating in the FDI restricted business and constituted “concealing illegal intentions

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with a lawful form”.19 Further, in June 2013, the Supreme People’s Court ruled in a dispute involving Chinachem Financial Services Limited that the relevant entrustment agreements were void on similar grounds.20 In light of these arbitral awards and judgment, there was an uncertainty as to whether VIE structures could continue to be listed in Hong Kong.

The uncertainty has now been lifted as different enterprises adopting VIE structures successfully listed in Hong Kong from 2012 to 2014.21 HKEx also published two listing decisions to clarify that the listing of VIE structures would continue to be allowed on a case-by-case basis after full consideration of the reasons for adopting such arrangements, subject to certain requirements, including disclosure of the relevant details of the VIE structures and the risks involved in the prospectus.22 The standard of review adopted by HKEx is summarised as follows:

23242526

Scope of Contractual Arrangement

The contractual arrangements should be narrowly tailored to achieve the applicant’s business purposes and minimise the potential for conflict with relevant PRC laws and regulations.23

Compliance Assurance HKEx would review the legal and compliance history of the listing applicant (if any), its management systems and corporate governance practices, its records in protecting shareholder interests and its financial resources, to ensure compliance with the applicable laws and regulations.24

Regulatory Assurance Subject to availability and practicability, appropriate regulatory assurance should be obtained from the relevant regulatory authorities. In the absence of such regulatory assurance, the applicant’s legal counsel is required to make a statement to the effect that in its legal opinion all possible actions or steps taken to enable it to reach its legal conclusions had been taken. In consultation with the applicant and the sponsor, other relevant forms of assurance could be considered. 25

Where the relevant laws and regulations specifically disallow foreign investors from using any agreements or contractual arrangements to gain control of or operate a foreign restricted business, the legal advisers’ opinion on the structured contracts must include a positive confirmation that the use of the structured contracts does not constitute a breach of those laws and regulations or that the structured contracts will not be deemed invalid or ineffective under those laws or regulations. Where possible, the legal opinion must be supported by appropriate regulatory assurance to demonstrate the legality of the structured contracts. 26

19 “Shanghai CIETAC’s findings on VIE case raises plenty of questions”, China Business Law Journal, December 2012/January 2013 issue20 “Supreme court judgment again touches sensitive VIE nerve”, China Business Law Journal, July/August 2013 issue21 Examples include Branding China Group Limited (Stock Code: 8219) and Flying Financial Service Holdings Limited (Stock Code: 8030) listed in

2012, Forgame Holdings Limited (Stock Code: 484) and Jintian Pharmaceutical Group Limited (Stock Code: 2211) listed in 2013, as well as Baioo Family Interactive Limited (Stock Code: 2100) and Colour Life Services Group Co., Limited (Stock Code: 1778) listed in 2014.

22 HKEx Listing Decision LD33-2012 and HKEx Listing Decision LD43-323 Paragraph 13(b) of HKEx Listing Decision LD43-324 Paragraph 13(c) of HKEx Listing Decision LD43-325 Paragraph 13(d) of HKEx Listing Decision LD43-326 Paragraph 18A of HKEx Listing Decision LD43-3

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Requirements Other Than Foreign Ownership Restriction

Where restricted businesses are involved, the use of structured contracts are permitted only to address the foreign ownership restriction, for example, the restriction that foreign investors can only operate the restricted businesses under joint ventures with the foreign portion of the total investment and shareholding below 50%. For requirements other than the foreign ownership restriction (the “Other Requirements”), applicants should demonstrate to the satisfaction of HKEx that they have, upon advice from their legal advisers, reasonably assessed the requirements under all applicable rules and have taken all reasonable steps to comply with them before listing.27

Requirements of Structured Contracts

The structured contracts should include a power of attorney and appropriate dispute resolution clauses which provide for arbitration and the courts of competent jurisdictions with power to grant interim remedies in support of the arbitration pending formation of the arbitral tribunal or in appropriate cases, and encompass dealing with the assets of the operating company so as to protect the rights of the listing applicant and its successors (including the liquidators). 28

Disclosure Requirements HKEx Listing Decision LD43-3 sets out a list of matters which should be disclosed in the prospectus.29 The prospectus should include at least the following structured contracts-related risk factors:

(ii) the government may determine that the structured contracts do not comply with applicable regulations;

(iii) the structured contracts may not provide control as effective as direct ownership;

(iiii) the domestic shareholders may have potential conflicts of interest with the applicant; and

(ivi) structured contracts may be subject to scrutiny of the tax authorities and additional tax may be imposed. 30

Others HKEx requires any applicant using structured contracts and its sponsor to unwind the structured contracts as soon as the law allows the business to be operated without them.31

2728293031

Potential issuers with VIE structures who decide to press on with their listing plans ahead of the potential legislative change in the PRC should keep track of the regulatory development and seek competent legal advice.

27 Paragraph 16A of HKEx Listing Decision LD43-328 Paragraph 18(c) of HKEx Listing Decision LD43-329 Paragraph 19 of HKEx Listing Decision LD43-330 Paragraph 20(b) of HKEx Listing Decision LD43-331 Paragraph 18(b) of HKEx Listing Decision LD43-3

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4. Competing Interests of Controlling Shareholders and Directors

Generally speaking, the Listing Rules allow the presence of a competing business of a listing applicant’s directors and controlling shareholders, provided that full disclosure is made in the prospectus (and for directors, also in its annual reports after listing) of the following32 :

Disclosure for competing business

Reasons for the exclusion of the competing business from the business about to be listed;

A description of the excluded business and its management, including the nature, scope and size of the business, with an explanation as to how such a business may compete with the business to be listed;

Facts demonstrating that the listing applicant is capable of carrying on its business independently of, and at arm’s length from, the excluded business; and

Any intention of the controlling shareholder to inject the excluded business into the company to be listed and the timeframe of the intended injection.

However, in assessing the suitability of listing, HKEx will review if there are adequate arrangements to manage conflicts of interest and delineation of businesses between the company and other businesses under common control. In addition, HKEx will also consider factors relating to the conduct of the listing applicant’s business independently from its controlling shareholders in areas including financial independence, operational independence and management independence.33

In this regard, the controlling shareholders of a listing applicant would normally be expected to enter into a non-competition agreement with the listing applicant to delineate their businesses following listing and to eliminate future competition. The controlling shareholders may be required to give undertakings as to referral of future business opportunities to the listing applicant, approval procedures prior to the controlling shareholder entering into future competing businesses and grant of options, pre-emptive rights or rights of first refusal over their existing or future competing businesses.

In some cases, the HKEx may consider the giving of non-competition undertakings by the controlling shareholders inadequate or ineffective to manage conflicts of interest and delineation of businesses, and may require additional arrangements to be made by the listing applicants. For instance, the independent non-executive directors may be required to review the options, pre-emptive rights or rights of first refusal granted by the controlling shareholders over their existing or future competing businesses and to decide whether to exercise these rights. They may also be required to disclose the matters relating to the exercise or non-exercise of these rights to the public.34

5. Distributorship Business Model

5.1 Increasing Concern over Distributorship Business Model

Many listing applicants have adopted business models in which sales of goods and services are made through various levels of distributors, franchisees or consignees (collectively referred to as “distributors” below). While their extensive distributor network and impressive sales growth may have lured many investors, their distributorship models made it difficult for investors to grasp the exact income and continued viability of the

32 Rule 8.10 of the Listing Rules33 HKEx Listing Decision LD51-334 The Listing Committee Annual Report 2006, pp.5–6

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enterprises and may have artificially pushed up sales. In recent years, some enterprises with distributorship business models recorded poor financial performance after listing. Against such background, HKEx published on May 17, 2012 a guidance letter “HKEx-GL36-12” in relation to the areas of concern and the relevant disclosures which should be made in the listing documents for listing applicants adopting distributorship business models.

As the terms “distributorship”, “franchising” and “consignment” cover a wide spectrum of different business models, the use of these terms alone cannot truly reflect the real nature of a listing applicant’s business. Also, different arrangements and degrees of control over the distributors, franchisees or consignees would result in different consequential risks on a listing applicant. Accordingly, HKEx requires listing applicants to clearly explain in their listing documents the business models they adopted for the purpose of enabling investors to understand how their revenue is generated.

5.2 General Disclosure

HKEx expects sponsors to have performed sufficient due diligence work in relation to the fairness and reasonableness of sales to distributors recorded during the track record period and to disclose in the prospectuses:

General disclosures for distributorship business model35 :

the applicant’s different distribution channels and their total revenue contribution during the track record period;

the degree of control over distributors, in particular, with respect to compliance with the applicant’s pricing policy, sales and avoidance of competition between different levels of distributors;

the benefits of using the particular distributorship model and whether it is an industry norm;

whether the applicant’s relationship with the distributors is seller/buyer or principal/agent;

the turnover rate of distributors and movements in the number of distributors during the track record period and reasons for the major changes;

the amounts of sales to and goods returned from distributors during the track record period;

a discussion of the applicant’s revenue recognition and unsold goods return policies;

the principal terms of the distribution/consignment/franchise agreements such as (i) their duration, (ii) geographic or other exclusivity, (iii) the rights and obligations of parties involved, (iv) sales and pricing policies, (v) obsolete stock arrangements, (vi) goods return arrangements, (vii) sales and expansion targets, (viii) sales and inventory reports and estimates, (ix) any minimum purchase amounts, (x) payment and credit terms and (xi) conditions for terminating and renewing the agreements.

35

5.3 Specific Area of Concern

Besides the general disclosure requirements, HKEx also explains the following specific areas of concern and expected actions to be taken for listing applicants adopting distributorship, franchising or consignment business models:

35 Paragraph 3.2 of HKEx Guidance Letter GL36-12.

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363738

Areas of Concern Actions to be TakenIn

vent

ory

risk

36

Although a significant increase in sales may indicate a vibrant business, there is a risk that these are artificially pumped-up sales not supported by an actual increment in demand from ultimate end-users. Goods may have only been delivered to distributors but not to end customers (channel stuffing). The excess inventory may be stored up in different warehouses and retail outlets along the line of distribution over which the listing applicant has no information and control, thereby making it difficult to determine and manage the amount of excess inventory.

Sales to distributors on a “right of return” basis and delayed payment may delay revenue recognition.

The sponsors and the reporting accountants must reasonably believe that the revenue recognition is appropriate. The listing applicant’s returned goods policy and the amount of returned goods must also be taken into account.

Cann

ibal

isat

ion37

An aggressive growth in sales can be achieved by sales made to a rapidly increasing number of distributors. However, these distributors may have to compete with each other if there are too many of them in the market. Hence, royalty payments from distributors for initial set up may not be sustainable.

The sponsors must reasonably believe that the listing applicant’s revenue is not resulting from cannibalisation among distributors. The turnover of distributors during the track record period, including the reasons for their termination or replacement, must be carefully assessed and stated in the prospectus to enable investors to appreciate the sustainability of the business.

Rec

over

abili

ty o

f acc

ount

s re

ceiv

able

s38 Where a significant increase in sales is accompanied with a substantial increase in accounts receivable and debtors’ turnover days, the recoverability of these receivables and the sustainability of the listing applicant’s business may give rise to concerns.

The prospectus should include:

directors and sponsors’ views (with basis) on whether the listing applicant’s credit management policy is appropriate and whether the provision for trade receivables is adequate;

a commentary on the recoverability of accounts receivable and the subsequent settlement of the amounts; and

the impact of the increase in accounts receivable and debtors’ turnover days on the liquidity and cash flow of the listing applicant.

36 Paragraphs 4.2 to 4.5 of HKEx Guidance Letter GL36-12.37 Paragraphs 4.6 and 4.7 of HKEx Guidance Letter GL36-12.38 Paragraphs 4.8 and 4.9 of HKEx Guidance Letter GL36-12.

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Inde

pend

ence

of d

istr

ibut

ors39

Goods may be sold to: (a) distributors who are former employees of the listing applicant; or (b) sales partners who trade under the listing applicant’s name. Uncertainty may arise as to the independence of customers and the authenticity of sales.

The following disclosures should be made in the prospectus:

the terms of the agreement with the sales partners, including conditions of use of the listing applicant’s name;

policies to handle the potential conflict of interests between the sales representatives and the sales partners;

internal controls and corporate governance measures to monitor the listing applicant’s sales activities to detect potential abuses; and

management of the sales partners using the listing applicant’s trading name and the potential risks and adverse consequences for misusing the name.

39

6. Non-Compliance with the Annual General Meeting Requirements

6.1 AGM Requirements

Section 111 of the predecessor Companies Ordinance (Cap. 32) (the “Predecessor CO”) requires companies incorporated in Hong Kong to hold an annual general meeting (“AGM”) every calendar year, while section 122 of the Predecessor CO requires directors to lay accounts made up to a specific date before the AGM (collectively, the “AGM Requirements”). Similar requirements are retained in the new Companies Ordinance (Cap. 622) (“New CO”) under sections 610 and 429, respectively.

During the due diligence exercise conducted by professional parties in a listing application, it is often discovered that the Hong Kong subsidiaries of the listing applicant fail to comply with the AGM Requirements. In the past, in order to demonstrate to HKEx that the listing applicant has taken steps to remedy the non-compliance and to dispel any legal risks, the listing applicant may choose to apply to the court seeking an order to remedy the non-compliance.

39 Paragraphs 4.10 to 4.13 of HKEx Guidance Letter GL36-12.

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6.2 Winds of Change – Higher Threshold for Court Order to be granted

In the past, the court showed readiness to grant relief upon demonstrating that the following three factors (the “Three Factors”):

the default was inadvertent and arose from identifiable mistake rather than indifference;

the shareholders were aware of the financial position of the company in question and thus were not prejudiced by the non-compliance; and

the court is satisfied that the company will comply with the obligation to lay audited financial statements before AGMs in the future. 40

In light of a significant increase in applications seeking remedies for failing to comply with the AGM Requirements from listing applicants, the court’s position seems to have shifted. In Chan Yu Ling Abraham v Natural Corp. Ltd [2014] HKEC 43 (“Re Natural Corporation”), Harris J held that the Three Factors are factors for deciding whether or not to exercise its discretion; it does not follow that because they are satisfied, the discretion should automatically be exercised, particularly when the breaches go back a consideration period of time and remedying them is largely academic, in which case there has to be some good reason for the court to exercise its discretion. Further, in Re Hong Kong Times Investments Ltd [2014] HKEC 194, Lam J also took the view that it was too narrow and mechanistic a view that once an affirmation is made by a director or shareholder of the company asserting the Three Factors, the court would grant an order almost as a matter of routine.

6.3 Does Non-Compliance with the AGM Requirements affect a Company’s Suitability for Listing?

Many court applications are made out of fear that non-compliance will impede a successful listing. In Re Natural Corporation, Harris J reiterated his observation in previous cases that a prospective listing may be a reason for exercising the court’s discretion but it is not necessarily so. There is no evidence was shown that if the court does not make an order remedying breaches of sections 111 and 122, it will be fatal to the successful progress of a listing.

Further, in Liang Ronald v LWK & Partners (HK) Ltd [2014] HKEC 392, Harris J expressed that the reason that had been commonly advanced for making these types of applications (namely, that if orders sought were not granted, a prospective listing would be jeopardised) was fallacious. That case itself illustrates so because the relevant listing applicant successfully listed prior to the court decisions. The case of Re Prime Sunlight Limited [2013] HKEC 1708 also illustrates the same, in which despite that order sought was declined and other ordinances were breached, HKEx still approved the relevant listing.

In various subsequent cases, Harris J repeatedly reiterated that those successful listing applications demonstrate that HKEx would not consider sections 111 and 122 breaches as an impediment to a listing. The court shows great dissatisfaction with having to waste judicial resources on applications which seemed to be unnecessary and artificial. Therefore, prospective listing alone can no longer be a good reason which necessitates granting of relief.

6.4 Practical Approach in Dealing with Non-Compliance of AGM Requirements

As the non-compliance with the AGM Requirements dated back beyond three years would be time-barred pursuant to section 351A of the Predecessor CO (the equivalent section 900 of the New CO), listing applicants should discern these historical breaches and should not make any court application unless there is strong reason supporting the application (e.g. risk of civil claims).

40 e Re Sanliuyidu (Hong Kong) Sports Goods Co. Ltd [2009] HKEC 1219

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As to more recent non-compliances, listing applicants should note the recent court’s comments regarding the proliferation of unnecessary applications before rushing applications relating to AGM Requirements. In any event, appropriate disclosure of non-compliances should be made in accordance with HKEx Guidance Letter GL63-13, which catergorised non-compliances into three categories:

Category Meaning Disclosure Requirements

Material Non-Compliance

Non-compliances which have had or may have a material financial or operational impact on the listing applicant.

Disclosure in the listing document is required, including reasons, whether charged or penalised, enhanced internal controls to prevent reoccurrence, rectification actions and views of directors and sponsors.

Systemic Non-Compliance

Non-compliances which are not material impact non-compliances, but reflect negatively on the listing applicant’s or its directors’/senior management’s ability or tendency to operate in a compliant manner.

Disclosure in the listing document is required, including views of directors and sponsors and disclosure to the extent necessary the reasons, whether charged or penalised and enhanced internal controls to prevent reoccurrence.

Immaterial Non-Compliance

Non-compliances which are neither material impact non-compliances nor systemic non-compliances.

No disclosure nor rectification requirements are required.

7. Should Hong Kong Adopt Weighted Voting Right Structures?

Stung by the loss of the high-profile IPO of Chinese e-commerce firm Alibaba Group to the New York Stock Exchange (NYSE), there has been debates in the market as to whether weighted voting rights structures (“WVR Structures”) should be adopted in Hong Kong. HKEx published a Concept Paper on Weighted Voting Rights (“Concept Paper”) on August 29, 2014.41 The paper sought views on whether WVR Structures should be permissible for companies currently listed or seeking to list on HKEx.

WVR Structures refer to governance structures which give certain persons voting power or other related rights disproportionate to their shareholding. They can take different forms. In the United States, the most common WVR Structure is dual-class share structure, which contains two share classes (“A” and “B” shares), where one class carries a greater number (most commonly 10) votes per share. Also, some companies adopt structures which give existing controllers enhanced or exclusive rights to appoint directors (usually a majority) to the board of directors.

Under the Listing Rules, fair and equal treatment of all shareholders is a fundamental principle.42 A company with shares which have voting power that does not bear a reasonable relationship to the equity interest of those shares is not allowed to be listed on HKEx. The restriction is subject to any “exceptional circumstances” agreed with HKEx.43 However, HKEx has not listed any company using this exception so far.

41 The Concept Paper is available at www.hkex.com.hk/eng/newsconsul/mktconsul/Documents/cp2014082.pdf42 Rule 2.03(4) of the Listing Rules.43 Rule 8.11 of the Listing Rules.

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The major purpose of the consultation is to invite views on issues including fair and equal treatment of shareholders as a general principle of the Listing Rules, current position under the Hong Kong company laws and the Listing Rules, competition of Hong Kong as a listing venue, detailed review of other jurisdictions where WVR Structures are permitted and the academic literature on the impact of dual-class corporate structures. The consultation helps to explore the possibility of allowing WVR Structures to enhance the competitiveness of Hong Kong as a listing venue, as WVR Structures are allowed in some jurisdictions such as the United States. As at 31 May 2014, 102 Mainland Chinese companies were primarily listed in the United States rather than in Hong Kong, out of which 29% have a WVR Structure, representing 70% of the market capitalization of all US-listed Mainland Chinese companies. 70% of the US-listed companies with WVR Structures are information technology companies. Should WVR Structures be allowed by HKEx, many market players consider that Hong Kong may be able to attract more Mainland Chinese companies generally, and technology companies in particular, to list in Hong Kong.

The Concept Paper does not advocate either the status quo or a change. If there is support for a material change to the Listing Rules in order to adopt WVR Structures, a second stage formal consultation would be required for the amendments to the Listing Rules, including details of the scope and language of any proposed changes.

Disclaimer

The law and procedure on this subject are very specialised and complicated. This article is just a very general outline for reference and cannot be relied upon as legal advice in any individual case. If any advice or assistance is needed, please contact our solicitors.

This article also covers some specific issues that are governed by the laws of the PRC. We have not investigated, and do not express or imply any opinion on the laws of the PRC. If you have any question(s) on PRC issues, please consult PRC lawyers.

C O N T A C T

Raymond CHEUNGPartner, Head of Corporate & Commercial DepartmentEmail: [email protected]

Angel WONGPartner Email: [email protected]

ONC Lawyers14-15th Floor, The Bank of East Asia Building, 10 Des Voeux Road Central, Hong KongTel: (852) 2810 1212Fax: (852) 2804 6311Website: www.onc.hk

Paul Hastings was one of the first U.S. law firms to establish a presence in Asia, and today we continue to be a leader in the region. Our Hong Kong Capital Markets team recently completed 12 Hong Kong listings, which account for approximately 18% of all Hong Kong listings in 2014 to date, based on value of funds raised.

With a strong presence throughout Asia, Europe, Latin America and the U.S., we have the global reach and extensive capabilities to provide personalized service wherever our clients’ needs take us.

For more information, please visit us at www.paulhastings.com.

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CHAPTER 5

Specific Listing Methods

1. Hong Kong Depositary Receipts (“HDRs”)

1.1 What are HDRs?

HDRs are instruments issued by a depositary bank as agent for the issuer. An HDR evidences interests and rights in shares in that issuer. These are not interests and rights as a shareholder of the issuer, and are set out in a depositary agreement entered into between the issuer and the depositary bank as well as on the HDR certificate issued to each HDR holder. Each HDR represents a number or fraction of underlying shares according to the “HDR ratio”, which is determined by the issuer. Generally, an issuer would seek to list its HDRs at a price that is similar to the share or unit price of its sector peers. HDRs are traded, cleared and settled in Hong Kong dollars, US dollars or Renminbi in accordance with the Hong Kong Exchanges and Clearing Limited’s (“HKEx”) market procedures. Currently, the HDR framework applies to the Main Board only.

HDRs are conceptually similar to American Depositary Receipts (ADRs) listed on stock exchanges in the United States and Global Depositary Receipts (GDRs) listed on other stock exchanges, such as the Frankfurt and Luxembourg stock exchanges. Four HDR listings have been completed to date: Vale S.A.; SBI Holdings, Inc. (delisted in June 2014); Coach, Inc.; and Fast Retailing Co., Ltd.

1.2 Why list HDRs?

HDRs allow flexibility for issuers to overcome legal and operational problems. Reasons for listing HDRs include the following:

HDRs enable issuers to issue and list securities in Hong Kong, regardless of whether their jurisdiction of incorporation permits them to maintain a share register overseas;

HDRs provide a mechanism for issuing securities that are tradable in Hong Kong dollars, US dollars or Renminbi and in denominations consistent with other comparable listed companies in Hong Kong; and

HDRs allow overseas issuers to effectively delegate to the depositary bank the functions of dealing with many of the continuing obligations that need to be complied with following a listing on the HKEx, including administrative, registration and shareholder communication matters that would otherwise have to be carried out by the overseas issuer itself. These matters also include currency conversions, tax reclaims, and compliance with investment regulations in the issuer’s jurisdiction of incorporation, share registration procedures and investor registration procedures.

1.3 Listing requirements

In general, an issuer listing HDRs would be required to comply with the same requirements as an issuer of shares in respect of the qualifications for listing, listing process and continuing obligations after listing. For example, issuers from any overseas jurisdiction can apply to have HDRs listed on the HKEx, provided that their

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jurisdiction of incorporation is one that the HKEx treats as either a “recognized” jurisdiction (including Bermuda, Cayman Islands and the People’s Republic of China) or an “acceptable” jurisdiction that complies with the Joint Policy Statement Regarding the Listing of Overseas Companies issued by the HKEx on 27 September 2013. In addition, the requirements in relation to secondary listings and liquidity arrangements for listings by introduction for shares equally apply to similar transaction structures involving HDRs.

Chapter 19B of the Listing Rules provides a framework and additional requirements for the listing of HDRs on the HKEx, including:

applicable rules relating to the HDR issuer, including obtaining necessary consents for the listing of HDRs from relevant authorities in its place of incorporation and ensuring that the depositary bank maintains through an approved Hong Kong share registrar a register of HDR holders in Hong Kong;

requirements on conversion between the depositary receipts and the issuer’s underlying shares;

requirements and qualifications of the depositary bank; and

required contents of the depositary agreement.

Appendix 1E and Appendix 1F to the Listing Rules contain the content requirements for the listing document of an HDR issuer.

1.4 Depositary bank

The issuer must appoint a depositary bank, who issues the HDRs and carries out certain administrative actions. The depositary bank must be a suitably authorised and regulated financial institution acceptable to the HKEx. When assessing its suitability, the HKEx will take into account the depositary bank’s experience in issuing and managing depositary receipt programmes in Hong Kong and overseas.

The role of the depositary bank includes the following:

issuing depositary receipts as agent of the issuer;

holding the underlying shares represented by the HDRs for the benefit of the HDR holders;

receiving distributions from the issuer, converting them into host market currency (Hong Kong or US dollars) and distributing them, net of its fees, to HDR holders;

transmitting entitlements and corporate communications to HDR holders; and

casting votes at shareholders’ meetings on behalf of the HDR holders in accordance with their instructions.

1.5 Depositary agreement

The depositary agreement is entered into between the issuer and the depositary bank, and sets out the rights and obligations of the issuer, including the depositary bank as well as certain rights of the HDR holders. The depositary agreement must be in a form acceptable to the HKEx, and must be approved by the HKEx. The depositary agreement includes the following provisions:

appointment of the depositary bank and authorisation to act on behalf of the issuer;

the roles and duties of the depositary bank and the custodian appointed by the depositary bank to hold the underlying shares;

rights of HDR holders to receive distributions, instructing the custodian as to the exercise of voting rights and participation in corporate actions;

the depositary fee structure; and

procedures for the replacement or removal of the depositary bank and/or the custodian.

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As the HDR holders are not parties to the depositary agreement, a deed poll is executed by the issuer and the depositary bank in favour of the HDR holders so that the HDR holders will be able to enforce rights set out in the depositary agreement against the issuer and the depositary bank.

A summary of the terms of the depositary agreement and the deed poll must be disclosed in both the listing document and the Company Information Sheet that would be made available on the HKEx website after listing.

1.6 Rights of HDR holders

The rights of HDR holders in respect of their holdings arise from the depositary agreement, which is a contractual document. HDRs are not shares, and hence do not attract the same legal rights and obligations as share ownership. As a result, HDR holders do not have rights of shareholders, and must rely on the depositary bank to exercise on their behalf such rights (including the right to vote on resolutions, to receive dividends and to participate in corporate actions), unless they convert their HDRs into the underlying shares.

2. B to H Share Conversion

2.1 What is meant by B to H share conversion?

B shares are foreign capital shares of the Peoples’ Republic of China (“PRC”) incorporated issuers that are listed on the Shanghai Stock Exchange or the Shenzhen Stock Exchange. B shares are denominated in Renminbi, and traded in US dollars (for Shanghai-listed B shares) or Hong Kong dollars (for Shenzhen-listed B shares). B to H share conversion involves converting the “domestically-listed foreign shares” (B shares) into “overseas-listed foreign shares” (H shares), and listing the H shares on the HKEx by way of introduction.

Three B to H share conversions have been completed to date, all involving issuers with B shares listed on the Shenzhen Stock Exchange: China International Marine Containers (Group) Co., Ltd., Livzon Pharmaceutical Group Inc. and China Vanke Co. Ltd.

2.2 Why convert B shares to H shares?

The trading of B shares has historically been inactive, and the B share market has lacked liquidity. The perceived benefits of converting into H shares and listing in Hong Kong include the following:

higher liquidity with a wider investor base, including international private and institutional investors;

greater brand recognition and presence in the international market;

greater flexibility to raise capital with access to Hong Kong and international capital markets; and

higher valuation of the shares.

2.3 Regulatory and shareholder approvals

The B to H share conversion requires certain approvals including the following:

the “implementation plan” for the conversion must be approved at the extraordinary general meeting of the issuer by two-thirds or more of the voting rights of shareholders attending the meeting and two-thirds or more of the voting rights of holders of B shares attending the meeting;

the proposed listing and application to list the H shares on the HKEx must be approved by the China Securities Regulatory Commission; and

the application for listing must be approved by the HKEx. The HKEx will consider whether listing by way of introduction would be an acceptable method of listing, taking into account the adequacy of precautionary measures in place to ensure that the issuer’s shares would be traded on an orderly, informed and fair basis.

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2.4 Cash offer

In general, PRC domestic investors are not permitted to purchase overseas securities under PRC laws. PRC shareholders may hold or sell the H shares that have been converted from the B shares, but they cannot acquire additional H shares or other securities listed on the Stock Exchange.

Existing holders of B shares who do not wish to hold H shares after the conversion and listing are normally provided with a “cash offer” from a third party. The third party would acquire the B shares from their holders at a pre-determined offer price.

2.5 Trading and settlement

In view of the investment restrictions on PRC investors, the following arrangements are typically made:

the issuer appoints a third party as a nominee to hold the H shares on behalf of the PRC investors who have elected to hold H shares; and

the third party would act as a trading and settlement agent, and process instructions on behalf of the PRC investors through its designated securities account at a Hong Kong securities intermediary.

2.6 Liquidity arrangements

To ensure adequate liquidity in the trading of H shares, the issuer would make arrangements to procure certain public holders of B shares to deposit the converted H shares in brokerage accounts in Hong Kong, which would be ready for trading on the HKEx upon listing.

3. Real Estate Investment Trusts (“REITs)

3.1 What is a REIT?

A real estate investment trust, known as a REIT, is a collective investment scheme constituted as a trust that invests primarily in real estate with the aim of providing returns to its holders from rental income of its real estate holdings. For a REIT to be listed on the HKEx, it must be authorised by the Securities and Futures Commission (“SFC”) pursuant to section 104 of the Securities and Futures Ordinance of Hong Kong (“SFO”), and comply with the Code on Real Estate Investment Trusts (“REIT Code”) published by the SFC and certain parts of the Listing Rules that are applicable to authorized collective investment schemes. There are currently 11 REITs listed on the Main Board of the HKEx.

3.2 Why list as a REIT?

REITs provide property developers with access to capital markets. From the perspective of investors, REITs provide stable distributions compared to shares, especially in a volatile investment climate. REITs also offer investors higher liquidity compared with investments in real property.

3.3 Authorisation and application for listing

A REIT seeking authorisation from the SFC must satisfy the following conditions under the REIT Code:

it must have dedicated investments in real estate that generates recurring rental income;

active trading in real estate is restricted;

rental income from real estate must constitute a greater proportion of its total income;

it must distribute to unitholders as dividends not less than 90% of its audited annual net income after tax each year;

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its aggregate borrowings must not at any time exceed 45% of its total gross asset value; and

any connected party transactions must be subject to unitholders’ approval.

Application must also be made to the Executive Director of Investment Products of the SFC to seek authorization of the REIT under the SFO, and to the HKEx for the listing of its units under Chapter 20 of the Listing Rules. To obtain the formal and final listing approval from the HKEx, the trustee and the management company of the REIT (“REIT Manager”) must sign a standard form listing agreement for collective investment schemes with the HKEx. The REIT Code requires the REIT Manager to appoint a listing agent acceptable to the SFC to lodge the formal application for listing and deal with the Stock Exchange on matters in connection with the listing application.

Although the provisions of the Listing Rules on minimum public float are not applicable to a REIT, in practice the SFC will require the REIT Manager to maintain the percentage of units held in public hands at a minimum of 25% of the total issued and outstanding units of the REIT as a condition of its authorisation.

3.4 Structure of a REIT

A REIT must be structured as a trust, and be subject to and governed by the laws of Hong Kong. The typical structure of a REIT is set out below:

Property

Special purpose vehicle

REIT

Unitholders

TrusteeREIT Manager

Holds units Distributions

Holds interest Dividends

Owns property

Trustee fees

Management fees

Management services

Acts on behalf of unitholders

Rental income

3.5 Trustee

The REIT must appoint a trustee that is acceptable to the SFC. The trustee must be a licensed bank or a trust company that is a subsidiary of a licensed bank. The trustee holds the assets of the REIT on trust for the benefit of the unitholders. The trustee is also responsible for overseeing the activities of the REIT Manager.

The trustee and the REIT Manager will enter into a trust deed to constitute the REIT. The trust deed is a comprehensive legal document which will typically include provisions on the REIT’s structure and investment restrictions, rights, interests and liabilities of its unitholders. It will also usually include information on how new units could be issued, how meetings of unitholders could be convened, powers, duties and obligations of the trustee, trustee’s fee, termination and retirement and removal of the trustee. The amount and the payment

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method of the trustee’s fee payable by the REIT to the trustee is an arm’s length commercial decision between the REIT Manager and the trustee.

3.6 REIT Manager

The REIT Manager must be approved by the SFC, and in general must be licensed under the SFO to conduct the regulated activity of asset management as required by the REIT Code. It must have at least two responsible officers each with at least a five year track record in investment and/or property portfolio management, and at least one of them shall be available at all times to supervise the REIT Manager’s business. The SFC may consider management companies licensed by securities regulators of certain jurisdictions as acceptable, for example, Australia, Germany, Ireland, Luxembourg and United Kingdom. The REIT Manager is responsible for managing the REIT in accordance with the REIT’s constitutive documents, conducting due diligence on the investments made by the REIT as well as fulfilling duties under general law.

The amount and the payment method of the REIT Manager’s fee payable by the REIT to the REIT Manager differ on a case-by-case basis, but it is common for REIT Managers in Hong Kong to earn their management fees through a combination of a percentage of the value of the REIT’s properties and the rental income derived from the properties.

3.7 Special purpose vehicles

While the REIT Code allows a REIT to hold and acquire real estate assets through direct ownership by the REIT, it is more common and tax efficient to hold real estate assets of the REIT through special purpose vehicles if the REIT legally and beneficially owns the special purpose vehicles and has majority ownership and control of them. The SFC expects the special purpose vehicles to be wholly owned by the REIT unless there are special circumstances, for example, the need to comply with overseas regulatory requirements. The special purpose vehicles must be incorporated in jurisdictions with laws and corporate governance standards commensurate with those for companies incorporated in Hong Kong, and their board of directors must be appointed by the trustee of the REIT.

For REITs holding PRC real estate assets, there are various reasons for holding the assets through at least two layers of special purpose vehicles, i.e. one Hong Kong incorporated company underneath the REIT holding a PRC incorporated wholly foreign-owned enterprise. One reason is to simplify the onshore restructuring procedures for transferring the PRC real estate assets into the REIT. Another reason is to reduce the PRC withholding tax payable on dividends distributed from the onshore entities holding the real estate assets to the REIT.

In general, the REIT should not have more than two layers of special purpose vehicles. However, the SFC may allow additional layers in limited circumstances, for example, if they are required under overseas laws and regulations.

3.8 Investment restrictions

A REIT must invest primarily in real estate, which must generally be income-generating. It may also invest in property development, financial instruments and other non-real estate assets provided that their combined value does not exceed 25% of the gross asset value of the REIT.

3.9 Real estate

At least 75% of the gross asset value of the REIT should be invested in real estate that generates recurring rental income. The REIT must hold each property for a minimum holding period of two years, unless it has clearly communicated to the unitholders the reasons for disposal prior to this period and the unitholders have consented by special resolution to the disposal.

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3.10 Property development

Traditionally, Hong Kong listed REITs were prohibited from engaging in property development activities. Following a market consultation conducted by the SFC in early 2014, Hong Kong REITs are now allowed to invest in property development activities provided that the aggregate contract value of the uncompleted units does not exceed 10% of the gross asset value of the REIT. Property development and related activities include acquisitions of uncompleted units in a building, new development projects and re-development of existing properties.

3.11 Financial instruments

The REIT may also, subject to its constitutive documents, invest in certain financial instruments including listed securities, unlisted debt securities, government and other public securities and local or overseas property funds, provided that:

the value of holding of investments issued by a single group of companies would not exceed 5% of its gross asset value; and

the investment should be sufficiently liquid and could be readily acquired or disposed.

3.12 Location of properties

A REIT may invest in properties located in Hong Kong or overseas. Certain measures must be in place where a REIT invests in overseas properties:

the REIT Manager should have the requisite competence, experience, internal controls and risk management systems to invest in and manage overseas properties;

the REIT Manager should conduct sufficient due diligence before investing in overseas properties; and

the offering circular should contain enhanced disclosure of the risks and characteristics of overseas properties investments.

C O N T A C T

Sammy LiCorporate Partner and Hong Kong Office ChairEmail: [email protected]

Catherine TsangCorporate Partner Email: [email protected]

Edwin KwokCorporate PartnerEmail [email protected]

Paul Hastings21-22/F Bank of China Tower, 1 Garden Road, Central, Hong KongTel: (852) 2867 1288Fax: (852) 2526 2119Website: www.paulhastings.com

Sammy Li, partner and Chair of the Hong Kong office along with Capital Markets partners Catherine Tsang and Edwin Kwok authored this chapter. Paul Hastings has a dedicated corporate team led by Raymond Li, Partner and Chair of Greater China, comprising of Hong Kong, U.S. and PRC qualified lawyers. Our Hong Kong corporate practice includes Capital Markets, Employment, Leveraged Finance, M&A, Private Equity, Real Estate and Regulatory & Compliance.

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CHAPTER 6

Choosing Your Offshore Listing Vehicle – Key Factors to Consider

The offshore world is used extensively for corporate finance activities. In particular, companies in the Cayman Islands and Bermuda comprise more than 70 per cent of all listed companies on the Hong Kong Stock Exchange (“HKSE”) (Cayman 45% (790) and Bermuda 29% (512)), almost all of which maintain a vast number of British Virgin Islands (“BVI”) companies as part of the group. Since December 2009, the HKSE has allowed companies incorporated in the BVI to list on the HKSE. The HKSE’s decision to accept BVI companies for listing in Hong Kong raises BVI’s standing in the international investment community. Currently, there are six BVI companies listed on the HKSE which make up 0.3% of all listed companies.1

On other major international stock exchanges, Bermuda companies make up a majority of the listed offshore entities on the New York Stock Exchange, NASDAQ and the Singapore Stock Exchange. A significant proportion of Fortune 100 and FTSE 100 companies have also undertaken transactions in these offshore financial centres.

These offshore jurisdictions are now welcomed by market regulators of major international stock exchanges around the world and they are acceptable to underwriters, rating agencies and investors, both institutional and private. They are well regulated and reputable and have a strong service infrastructure. Each has a flexible and responsive legislative, business and regulatory environment that permits the development of innovative legal solutions for capital markets transactions.

By far, Cayman, Bermuda and to a much lesser extent, BVI are the most popular listing vehicles in a Hong Kong listing. Certain salient features of Cayman, Bermuda and BVI companies could have an impact on a pre-IPO reorganisation and the listing process as well as post-IPO corporate finance transactions, such as securities offering and capital restructuring. This chapter will highlight such features in a Hong Kong listing context which would be key factors influencing the choice of domicile of an offshore listing vehicle.

1. Cayman Islands exempted companies

1.1 Prospectus filing

There is no prospectus filing requirement in the Cayman Islands for Cayman companies when making public offers unless the company constitutes a mutual fund under the Mutual Funds Law (as revised) of Cayman Islands, nor are there any Cayman governmental approval requirements for issuance and/or transfer of securities in Cayman companies. The Companies Law (as revised) of the Cayman Islands (the “Cayman Companies Law”) provides that an exempted company that is not listed on the Cayman Islands Stock Exchange is prohibited from making any invitation to the public in Cayman to subscribe for any of its securities, although this is unlikely to be applicable for a Hong Kong listing.

1 Acceptance of the Cayman Islands, Bermuda and BVI as jurisdictions are subject to HKSE listing rules requirements.

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1.2 Taxation

At the time of writing, there is no taxation on profits, income or dividends, nor is there any capital gains tax, corporation tax, or taxes in the form of withholding, estate duty or inheritance tax under Cayman Islands law.

An exempted company may apply to the Governor of the Cayman Islands for a written undertaking that, should taxes ever be introduced into the Cayman Islands, the company will remain tax-free for a period of up to 30 years from the date of the undertaking. This undertaking is normally granted for up to 20 years, in the first instance, and may provide that in addition to the exemption from capital gains, profits and income taxes, no tax in the nature of estate duty or inheritance tax shall be payable on, or in respect of, shares, debentures or other obligations of the company.

1.3 Share Premium

Dividends may be paid out of the share premium account of a company, but may not be paid out of a company’s capital. Where the intention is to provide the flexibility to pay dividends out of share premium, the articles should contain a provision which permits this. No dividend may be paid to the shareholders out of a company’s share premium account unless the distributing company will be able to pay its debts as they fall due in the ordinary course of business immediately following the date on which the dividend is proposed to be paid.

1.4 Directors’ interests

There are no Cayman statutory provisions regulating directors’ interests. Directors will need to comply with their common law fiduciary duties and also any regulations in the articles of association. Most articles of association will require directors to disclose their interests to the board of directors and may also prohibit directors from voting at board meetings where they have interests in the matters being considered.

1.5 Disposal of assets

There are no Cayman statutory provisions regulating disposal of assets. The articles of association may contain provisions regulating or restricting disposal of assets, for example requiring shareholders’ approval.

1.6 Financial assistance

No Cayman statutory provisions exist prohibiting the grant of financial assistance to a person who acquires shares in a Cayman company. The common law rules will continue to apply, and a decision by the company’s directors to provide such assistance must be made in good faith, for a proper purpose and in the interests of the company. The terms of such assistance should be on an arm’s length basis.

1.7 Annual government fees

At the time of writing, the annual government fees for Cayman companies range between US$854 and US$3,132, with the highest level being paid by those companies with an authorised share capital over US$2,000,000. The issued share capital and share premium do not impact on the level of annual government fees.

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1.8 Capital reduction

Unlike a Bermuda company where a capital reduction can be effected without a court process by a shareholder resolution passed at a general meeting subject to the passing of the relevant solvency test, the Cayman Companies Law requires all capital reductions of Cayman companies to be approved by the Cayman courts.

Subject to confirmation by order of the Grand Court of the Cayman Islands, a company may, if its articles so provide, reduce by special resolution its issued share capital in any way, including by extinguishing or reducing the liability on any of its partly-paid shares, cancelling any paid-up share capital which is lost or unrepresented by available assets, or paying off any paid-up share capital which is excess of the need of the company. The prescribed procedure for obtaining such an order of the Grand Court seeks to ensure that any creditors are not prejudiced by the capital reduction.

2. Bermuda exempted companies


Before the amendment of the Companies Act of Bermuda (as amended) (the “Bermuda Companies Act”) in 2013, HKSE listed Bermuda companies were required to file a copy of the prospectus with the Bermuda Registrar of Companies when making public offers (for example IPO, rights issue, warrant issue etc.). After the 2013 amendments, HKSE listed Bermuda companies are no longer required to file any prospectus in Bermuda provided that the HKSE has received or otherwise accepted the relevant prospectus, or if the rules of the HKSE do not require the company to publish and file a prospectus at such time or in such circumstances.

2.2 Taxation

There are no taxes on profits, income or dividends, nor is there any capital gains tax, estate duty or death duty in Bermuda. The Bermuda government has enacted legislation under which the Minister is authorised to give an assurance to an exempted company that, in the event of there being enacted in Bermuda any legislation imposing tax computed on profits or income or computed on any capital asset, gain or appreciation, then the imposition of any such tax shall not be applicable to such companies or any of their operations. In addition, there may be included an assurance that any such tax or any tax in the nature of estate duty or inheritance tax, shall not be applicable to the shares, debentures or other obligations of such companies. This assurance may be obtained by exempted companies for a period until March 31, 2035.

2.3 Consents of Bermuda Monetary Authority

A distinct feature of Bermuda companies is that all issuances and transfers of securities in a Bermuda company to non-Bermuda residents require prior approval of the Bermuda Monetary Authority with a few exceptions. Pursuant to Part I, paragraph 1 of the public notice issued by the Bermuda Monetary Authority on June 1, 2005 (the “BMA Notice”), where any equity securities of a Bermuda company are listed on an Appointed Stock

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Exchange (as defined in the BMA Notice which includes the HKSE), general permission is given for the issue and subsequent transfer of any securities of the company from and/or to a non-resident of Bermuda, for as long as any equity securities of the company remain so listed. As such, all transfers and issuances of securities of a Bermuda companies listed on HKSE to non-residents of Bermuda are covered by the general permission and would not require further consent from the Bermuda Monetary Authority.

2.4 Contributed surplus and share premium

Where a company issues shares at a premium, whether for cash or otherwise, a sum equal to the aggregate amount or value of the premiums on those shares shall be transferred to the share premium account. Share premium may be applied by a company, without going through capital reduction procedure, in paying up unissued shares of the company to be issued to shareholders of the company as fully paid bonus shares.

In the case of a share swap (including in the context of a pre-IPO reorganisation), the excess value of the shares acquired over the par value of the shares being issued may be credited to a contributed surplus account of the issuing company. A company may make a distribution out of contributed surplus, if there are no reasonable grounds for believing that (a) the company is, or would after the payment be, unable to pay its liabilities as they become due; or (b) the realisable value of the company’s assets would thereby be less than its liabilities.


The Bermuda Companies Act requires directors to disclose at the first opportunity at a meeting of directors or by writing to the directors (a) their interest in any material contract or proposed material contract with the company or any of its subsidiaries; and (b) their material interest in any person that is a party to a material contract or proposed material contract with the company or any of its subsidiaries. The Bermuda Companies Act also provides that an interest occurring by reason of the ownership or direct or indirect control of not more than 10% of the capital of a person shall not be deemed material. Most bye-laws will require directors to disclose their interests to the board of directors and may also prohibit directors from voting at board meeting where they have interests in the matters being considered at the meeting.


There are no Bermuda statutory provisions regulating disposal of assets. The bye-laws may contain provisions regulating or restricting disposal of assets, for example requiring shareholders’ approval.


The statutory regulations on financial assistance in the Bermuda Companies Act were repealed in 2011. Common law rules (as mentioned above) will continue to apply.

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At the time of writing, the annual government fees for Bermuda exempted companies range between US$1,955 and US$31,120, with the highest level being paid by those companies with an assessable capital of US$500,000,001 or above. Annual government fee is determined in accordance with the company’s assessable capital as of August 31 of the preceding year. Assessable capital is the sum of the company’s authorised share capital and share premium account.

2.9 Capital Reduction

As mentioned above, Bermuda companies are more flexible than Cayman companies in that they are able to effect a capital reduction without court approval.

Depending on the provisions in the listing bye-laws, usually a special resolution will be required to approve a capital reduction. A legal notice in respect of the capital reduction is required to be published in an appointed newspaper in Bermuda at a date not more than 30 days and not less than 15 days before the effective date. The directors should ensure that the statutory solvency test for capital reduction can be satisfied. The company is also required to file a prescribed form of memorandum of reduction of share capital together with the above-mentioned legal notice and a certified true copy of the shareholders’ resolution approving the reduction with the Registrar of Companies in Bermuda within 30 days from the effective date of the reduction.

3. British Virgin Islands Business Companies

3.1 BVI company as a listing entity

BVI companies have been used extensively in private equity transactions and a HKSE listing is now a viable exit option for private equity investors.

The traditional pre-IPO restructuring steps would involve the incorporation of a Cayman/Bermuda listing vehicle (“Cayman/Bermuda Listco”) and the reorganisation of the group structure (for example by a share swap) resulting in the Cayman/Bermuda Listco becoming the group holding company, which will then be listed. Where the BVI holding company is already in place, the pre-IPO restructuring and listing process of the BVI holding company can be simplified. Subject to the listing rules of the HKSE, the existing BVI holding company can directly act as the listing vehicle and be listed without going through the traditional pre-IPO restructuring steps. This will minimise any regulatory, bank or contractual approvals which would otherwise be required for a pre-IPO restructuring. However, as the existing BVI holding company may have undertaken various rounds of fund-raising exercises, guidance should be sought on its existing operations, constitutional documents, corporate records and any private equity arrangements. The BVI holding company will also need to amend its memorandum and articles of association to comply with the relevant HKSE listing rules.

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3.2 Taxation

A BVI business company is exempt from all provisions of the BVI Income Tax Act (as amended) (including with respect to all dividends, interests, rents, royalties, compensations and other amounts payable by the company to persons who are not resident in the British Virgin Islands). Capital gains realised with respect to any shares, debt obligations or other securities of the company by persons who are not resident in the BVI are also exempt from all provisions of the BVI Income Tax Act (as amended).

3.3 BVI Business Companies and former International Business Companies

The BVI Business Companies Act (the “BC Act”) abolished the concept of authorised share capital to accord with company legislation in Commonwealth jurisdictions such as Australia and Canada. Under the BC Act, no minimum share capital is prescribed for a company. A company may issue shares with par value, with no par value or a combination thereof. The company may also issue fractional shares.

Companies which were incorporated under the former International Business Companies Act (“IBCs”) were all automatically re-registered under the BC Act on 1 January 2007 unless they had voluntarily re-registered under the BC Act prior to such date. It is important to note that the concept of authorised share capital continues to apply for those IBCs that were automatically re-registered on 1 January 2007, rather than voluntarily re-registering. There is a set of separate grandfathering provisions in the BC Act regulating IBCs’ share capital, including surplus and capital reduction provisions. These provisions will continue to apply for these companies until they decide otherwise by making a filing with the BVI Registrar of Corporate Affairs and adopting a new set of memorandum and articles of association to disapply the grandfathering provisions.

3.4 Share Premium

Without the concept of share capital or capital preservation rules, a company’s ability to make distribution is no longer dependent on its level of share capital and/or share premium.

Subject to the memorandum and articles of association, the board of directors can authorise a distribution if they are satisfied, on reasonable grounds, that the company will, immediately after the distribution, satisfy the following solvency test:

(i) the value of the company’s assets exceeds its liabilities, and

(ii) the company is able to pay its debts as they fall due.

Please note the position of IBCs on surplus as mentioned above.


There is no prospectus filing requirement in the BVI for BVI companies when making public offers unless the company is a BVI registered public fund, nor are there any BVI governmental approval requirements for issuance and/or transfer of securities in BVI companies, provided that it does not make any offer of securities to the public in the BVI.

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The BC Act requires that a director of a company shall, forthwith after becoming aware of the fact that he is interested in a transaction entered into or to be entered into by the company, disclose the interest to the board of the company. The BC Act further provides that a transaction entered into by a company in respect of which a director is interested is voidable by the company unless the director’s interest was (a) disclosed to the board prior to the company entering into the transaction; or (b) the transaction or proposed transaction is between the director and the company; or (c) the transaction or proposed transaction is or is to be entered into in the ordinary course of the company’s business and on usual terms and conditions. However, a transaction entered into by a company in respect of which a director is interested is not voidable by the company if (a) the material facts of the interest of the director in the transaction are known by the members entitled to vote at a meeting of members and the transaction is approved or ratified by a resolution of members; or (b) the company received fair value for the transaction.

Most articles of association would contain regulations requiring directors to disclose their interests and may also prohibit directors from voting at board meeting where they have interests in the matters being considered at the meeting.


The BC Act provides that subject to the memorandum or articles of a company, any sale, transfer, lease, exchange or other disposition, other than a mortgage, charge or other encumbrance or the enforcement thereof, of more than 50 per cent in value of the assets of the company, if not made in the usual or regular course of the business carried on by the company, shall be first approved by the directors and then be submitted to the shareholders accompanied by an outline of the disposition for their approval. The articles of association may further contain provisions regulating or restricting disposal of assets.


No BVI statutory provisions exist prohibiting the grant of financial assistance to a person who acquires shares in a BVI company. Common law rules (as mentioned above) will continue to apply.


At the time of writing, the annual government fee for BVI Business Companies is US$350 (where the company is authorised to issue no more than 50,000 shares) and US$1,100 (where the company is authorised to issue more than 50,000 shares).

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3.10 Capital Reduction

With the abolishment of the concept of share capital, capital reduction becomes a relatively simple process in the BVI. Save as otherwise stated in its memorandum or articles, a company may reduce its authorised shares and must inform the Registrar of Corporate Affairs in writing of any such reduction and file an amendment to the memorandum. The reduction is effected by amending the memorandum of association to state the desired maximum number of authorised shares. Please note the position of IBCs on capital reduction as mentioned above.

C O N T A C T

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TAX CONSIDERATIONSSECTION


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CHAPTER 7

Tax Considerations in an IPO

For a company, going public is a tremendous exercise which needs to be supported by different specialists. To new players in an IPO exercise, a question often pops up as to when the tax specialists should be engaged. The chart below briefly illustrates the tax work to be handled by an IPO applicant and will help to answer the question.

Pre-IPO preparation

Submission of application

Review of application

Determining the IPO group structureImplementation of group reorganisationPre-IPO due-diligenceRectification of non-compliance issues

Preparation of potential queries from the approving authoritiesDrafting of tax disclosures in the prospectus

Answering queries from the approving authorities

The tax work involved in a typical IPO is heavily front-loaded. The early involvement of tax specialists is highly recommended in order to facilitate the whole process and avoid the unnecessary tax costs stemming from a lack of preparation. This chapter will provide the readers with a general understanding of the key IPO tax considerations from Hong Kong and China tax perspectives as well as a hinting note on selecting your tax advisor.

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1. HK tax considerations for pre-IPO reorganisation

Almost every IPO process involves group reorganisation, which is aimed at reorganising the companies to be listed into a suitable listing group structure. This will usually include two phases; firstly, companies with different shareholders but under common control are to be brought together under a common holding company. Secondly, it is not uncommon to have a company incorporated in an overseas jurisdiction, such as British Virgin Islands, to be the intermediate holding company which will be interposed between the listed entity and the operating companies within the group. Two or more tiers of intermediate holding companies may be adopted for some complex structures. Such an overseas intermediate holding company would be considered for its flexibility in future spin-off, particularly when a non-core business is subsequently eligible for a separate listing.

1.1 Share vs business transfer

Companies can be positioned under one common holding company by a direct transfer of shares. Under the current tax laws, transfer of shares of a Hong Kong company will be subject to ad valorem HK stamp duty at 0.2% of the market value of the shares transferred. Sometimes it is considered more appropriate to transfer the business into the group rather than the whole company. This will often be the case from a HK stamp duty point of view if a company also holds an immovable property in HK which is the residence of an individual owner of the group, but the owner does not want that property to be included in the group to be listed. Since direct transfer of a HK property out of a group can result in dire consequences, such as liable to HK stamp duty up to a maximum of 8.5% and the added buyer’s stamp duty in certain circumstances, a logical solution will be to transfer the business into the listing group leaving the property with the original company outside of the group.

1.2 HK stamp duty

As mentioned above, group reorganisation which involves the transfer of shares of each company in HK from their existing individual shareholders to the new common holding company, will inevitably be subject to HK stamp duty currently at 0.2% of the market value of the shares transferred. Most group reorganisations are proceeded by a share swap, which is also subject to HK stamp duty and even if the shares are transferred as a gift. It is important to bear HK stamp duty in mind, which is part of the cost to be considered in every IPO.

It is noteworthy that relief for HK stamp duty is available for transfer of shares in Hong Kong companies between associated corporations. For two or more companies to be associated, either:

a) one of the companies must be the beneficial owner of not less than 90% of the issued capital of the other company, or

b) a third such company must be the beneficial owner of not less than 90% of the issued capital of each of the companies

It is not necessary for the shares to be directly held in determining the percentage of shareholdings. It is, however, not applicable where the shares in the relevant companies are owned by the same individual.

Relief for HK stamp duty has to be adjudicated. In practice, the Collector of Stamp Duty will require any application for relief to be accompanied by a statutory declaration made by a responsible officer of the parent company, often a director setting out in detail the circumstances and facts of the application.

It is also noteworthy that if after the stamp relief is granted, the transferor and the transferee of shares cease to be associated within two years from the date of shares transfer, e.g. the shareholdings of the group in the transferee have dropped to below 90%, any relief granted will be cancelled and the HK stamp duty has to be paid within 30 days. Although at least 25% of the shares in the listed company have to be offered to the public upon successful listing, the HK stamp duty relief will not be disturbed.

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In case the HK stamp duty relief is not applicable, other methods have to be considered in mitigating the liability. The most commonly adopted method is dividend stripping. Dividend distribution to the shareholders prior to an IPO will not impact the profit threshold required during the track record period for listing purposes. In other situations, it is advisable to consult tax advisers.

1.3 Tax loss brought forward

It is also important to consider whether any loss sustained in a company prior to the reorganisation will be available for set off of future profits post reorganisation. There is anti-avoidance legislation in HK stipulating that if change in shareholdings of a loss company of which the sole or dominant purpose is to obtain a tax benefit, the loss may not be allowed to be carried forward to offset future profits. Although change in shareholdings pursuant to group reorganisation to facilitate an IPO has been accepted as outside the avoidance context, it is less obvious if strategic investors are introduced and new businesses are injected by them into the group to utilise the loss.

As discussed in 1.1 above, the amount of tax loss available should be taken into account when considering whether business or shares should be transferred to the listed group. Where business is to be transferred, the entity with tax loss could be dropped out of the group. Under the new Companies Ordinance, tax loss could still be available under certain reorganisation conditions.

1.4 Unutilised tax depreciation brought forward

When the reorganisation process involves the transfer of assets between group companies which are depreciable, including but not limited to plant and machinery, furniture and fixtures, industrial or commercial buildings, revaluation will be made to determine their transfer value. In the event their market value is larger than their tax written down value, the transferor company has to account for the excess as a balancing charge in the HK profits tax return in the year of transfer. A balancing charge is treated as taxable income, and if significant in amount, will create an additional and immediate tax burden prior to listing. A balancing charge is common in the case of commercial or residential properties in Hong Kong, whose market prices are constantly on the rise. This would also be the case where certain prescribed assets are transferred, such as computers; the whole of the transfer value will be subject to tax as the full amount has been tax deducted in the year of purchase. However, the balancing charge is limited to the cost of the assets, i.e. limited to the depreciation allowance claimed. Thus, the capital gain element is exempt from tax. Nevertheless, such balancing charge has to be borne in mind as a cost of listing, and tax is usually payable while the IPO process is underway.

2. China tax considerations at a glance

It is very common nowadays for a proposed listed group in Hong Kong to have a significant operation or numerous companies in China. China’s tax system is recognised by tax practitioners as far more complicated than the HK one. In addition to enterprise income tax (“EIT”), China also implements turnover taxes (i.e. value added tax, business tax and consumption tax) and other taxes (such as real estate tax, deed tax, land appreciation tax, etc.). In this respect, different to HK, not only EIT and stamp duty but all applicable taxes should be considered in preparing for an IPO. For a pre-IPO reorganisation involving Chinese equity investments, particular attention should be paid to special reorganisation rules in China, direct equity transfers under special holding structures, indirect transfers of Chinese resident companies and tax efficiencies for profits repatriation from China.

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2.1 Special reorganisation rules in China

As stated previously, a company that goes public should have an efficient and suitable holding structure for investment by public investors. Before going public, some private investors, especially family businesses, may hold their investments in China by a number of related companies, or even partnership companies and joint ventures. In order to go public, a company may be required to reorganise its existing holding structure into a structure which contains an ultimate holding company incorporated in a suitable jurisdiction with many subsidiaries engaged in the core businesses suitable for listing.

For making the process of reorganisation more tax efficient, Chinese tax implications of special reorganisation rules and direct equity transfer (please see section 2.2 below) should be attended to.

The State Administration of Taxation (“SAT”) promulgated tax circular Caishui [2009] No. 59 (“Circular 59”) in 2009 to address various tax treatments in corporate reorganisation.

Pursuant to Circular 59, the Chinese tax authority will differentiate a restructuring into “ordinary” and “special” categories, and the corresponding tax treatments are different. For ordinary restructuring, fair value should generally be adopted and a profit and loss should be recognised upon transaction. For special reorganisation, profit and loss can be deferred and the tax basis can be carried forward.

There are a number of prerequisites for a Chinese equity transfer to qualify as a special restructuring such as commercial reasons for the restructuring that it is not carried out mainly for tax purposes; not changing the operations substantially in a prescribed minimum period; completing the reorganisation with a minimum equity consideration received by the transferor (“Equity Swap”) and not transferring the equity obtained in a prescribed lock-up period; satisfying the minimum equity acquisition percentage; etc.

If the enterprise satisfies all the prerequisites set out in Circular 59 and opts for tax treatment as a “special restructuring”, the parties involved should file documentation with the competent tax authorities at the time of the annual EIT filing of the relevant year in which the restructuring is completed. The tax treatment as special restructuring will further be subject to review from the relevant provincial level tax authorities. Otherwise, it could not be entitled to the tax treatment as a special restructuring.

For an equity acquisition that involves parties located outside of China, additional criteria shall be satisfied when:

1) a non-resident company transfers its equity in a PRC resident company to another non-resident company 100% directly owned by the transferor, and such transfer will not change the withholding tax liability on future income derived from the transfer of the subject equity; and the transferor shall provide a written undertaking that it will not transfer its ownership of the transferee within 3 years; or

2) a non-resident company transfers its equity in a PRC resident company to another PRC-resident company 100% directly owned by the transferor; or

3) a PRC resident company contributes assets / equity to a non-resident company 100% owned by the PRC resident company as a form of investment

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For cross-border equity transfers under situations (1) and (2) above, if the non-resident companies opt for tax treatment as a “special restructuring”, they will have to file documentation with the competent tax authorities within 30 days after the equity transfer agreements become effective and the business registration renewals with the designated bureau of the State Administration for Industry and Commerce for the Chinese entities concerned are completed.

2.2 Direct equity transfer under a special holding structure

In a pre-IPO reorganisation involving Chinese businesses, it is not uncommon for the existing investors to take the opportunity to rationalise some special holding structures for the purpose of meeting the IPO requirements.

For those reorganisation arrangements which are unable to meet the special reorganisation rules as stated in section 2.1 above, a direct equity transfer under an ordinary restructuring may be required to go through.

Under an ordinary restructuring, fair value should be adopted and profit and loss should be recognised upon transaction.

Under the relevant tax regulations, if a non-resident company transfers the equity in a resident enterprise in China, the gain derived from the transfer will be subject to withholding tax at 10% (or enjoying the preferential tax treatment if requirements laid down in an applicable double tax treaty or arrangement (“DTA”) are met). If the transferor is a Chinese resident company, the gain will be included in its taxable income and taxed at the applicable EIT rate. While the transferor is a Chinese resident individual, the gain will be subject to Individual Income Tax at 20%.

The Chinese transferor of a Chinese entity may need to pay taxes resulted from the fair market transaction. Commercially, the Chinese transferor may not agree to bear the tax costs and the acquirer (the proposed IPO company) may need to agree on a commercial settlement with the party concerned. Some of the arrangements may result in a tax-on-tax effect which requires the taxpayer to calculate its tax payable at a gross-up method.

The proposed IPO company will need to maintain the equity transfer agreement as well as the legal evidence in supporting the fair value of the equity transfer in case of a future request from the tax authorities for review.

2.3 Indirect transfer of Chinese resident company

Given the time consuming administrative procedures in transferring the equity ownership of Chinese companies, it is not uncommon to carry out a group reorganisation through an indirect transfer of the shares of the foreign intermediate holding company (“FIHC”) of the Chinese company. Under tax circular Guoshuihan [2009] No. 698 (“Circular 698”) issued by the SAT, if a foreign investor transfers the shares of a FIHC which holds equity in a Chinese resident enterprise and,

1) the actual tax burden on the income generated from the share transfer is less than 12.5% in the intermediary holding jurisdiction (“IHJ”); or

2) the IHJ does not tax foreign-sourced income of its residents generated from the share transfer for EIT purpose;

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The foreign investor is then required to report the tax information in respect of the indirect equity transfer to the tax bureau in charge where the Chinese resident enterprise is located within 30 days after the share transfer agreement is signed.

The PRC tax authorities shall adopt the substance-over-form doctrine to assess if the capital gains derived by the foreign investor from transfer of the FIHC are sourced from China. In particular, the PRC tax authorities are empowered to invoke the general anti-avoidance rules to disregard the FIHC, if its existence serves no commercial purpose except the avoidance of tax liabilities.

2.4 Tax efficiency for profits repatriation from China

Dividends distributed by a Chinese resident company to its foreign investors are subject to 10% withholding tax. The withholding tax rate may be reduced under a DTA. Under the China-HK Double Tax Arrangement and the relevant tax notice, the PRC withholding tax on dividends would be reduced to 5% if the beneficial owner (“BO”) of the dividends is a HK tax resident company and it holds directly at least 25% of the shares/equity of the PRC resident company for at least 12 months.

The tax authorities will conduct a comprehensive review of the BO status, including the nature of business activities carried out by the HK company, its size of operations and its tax position in HK. The HK company could not be a conduit company in this respect.

Proper pre-IPO reorganisation planning would be required in order to satisfy the BO substantive test and enjoy the DTA preferences in the future taking into account the developing implementation of general anti-avoidance rules in China.

In determining its proposed listed structure and implementing its reorganisation plan, the proposed listed company is recommended to seek a competent tax consultant for necessary tax advice in order to minimise its tax exposure and enhance its tax efficiency

3. Tax non-compliance during the track record period

Amongst others, tax non-compliance during the track record period could be a cause of failure in an IPO. Non-compliance which results in tax payable, late surcharge(s) and a tax penalty will be scrutinized seriously by the Listing Division of The Hong Kong Stock Exchange. This is because it will cast doubt on the suitability of the applicant for public listing in terms of the adequacy and effectiveness of corporate governance and internal control systems of the applicant. In most circumstances, the applicant has to maintain an effective internal control system to prevent the occurrence of any tax non-compliance.

For Chinese companies, tax administrative procedures are far more complicated than HK, and massive documents will be required in fulfilling the tax compliance requirement. Companies preparing for an IPO application should carry out a tax health check in assessing their tax compliance status and ensuring that any special tax treatment and entitlement of tax preferences are substantiated by valid written approval documents granted by the competent tax authorities.

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Rectification of any non-compliance issues has to be executed skilfully in order to minimise the exposure yet meeting the evidential and compliance requirements in substantiating the fulfilment of regulatory obligations.

4. Pre-IPO tax due diligence

It is different with a private company for which only close stakeholders of the company may be able to access the financial statements and question on the compliance status of the company. A higher demand will be set on listed companies and correspondingly the IPO applicants on their preparation of financial statements, compliance status, effectiveness of corporate governance, etc.

When approaching a potential IPO, the IPO sponsor may consider requesting the applicant to engage a tax specialist to perform a tax due diligence review and document the findings and the applicant’s fulfilment of tax compliance requirement in order to facilitate the IPO process.

A pre-IPO tax due diligence assessment also provides a company with an opportunity to improve its tax efficiency by identifying and resolving uncertain tax positions.

5. Transfer pricing

Transfer pricing (“TP”) has been one of the most popular tax topics in recent years. With the increase in cross-border transactions resulting from economic globalisation, tax authorities have further strengthened their enforcement of anti-tax avoidance rules to prevent from unreasonable profit shifting of their respective resident companies therein.

The HK Inland Revenue Department (“IRD”) expresses its view in Departmental Interpretation and Practice Notes (“DIPN”) No. 46 that it would seek to apply the Organisation for Economic Co-operation and Development (“OECD”) principles except where they are incompatible with the express local provisions.

According to Article 123 of the Implementation Rules of the EIT law, if related party transactions do not comply with the arm’s length principle, or an enterprise makes other arrangements without reasonable commercial purpose, the tax authority in China has the right to make tax adjustments within 10 years after the transactions occurred.

In view of the above transfer pricing environment in Mainland China and Hong Kong, the sponsor may conduct an independent due diligence to ensure the financial transactions of an IPO applicant are free of material TP risks. An IPO applicant should maintain proper and adequate documentation to justify reasonableness of its pricing policy of its related party transactions and profit allocation among the group companies involved before an IPO submission.

Proposed IPO companies are recommended to review the reasonableness of their related-party transactions and methodology adopted in pricing the transactions. Unattended TP risks could result in delay of the whole IPO process.

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6. Post IPO tax management

Companies considering going IPO are recommended to approach the whole exercise before and after its transformation. Resources have to be committed to enhance the corporate governance. The tax function within the organisation has to be maintained to achieve the following:

Timely monitoring of any existing or new tax risks after listing

Continuing to optimise the overall tax efficiency of the group

Keeping abreast of the latest changes in tax regulations

Evaluating the tax impact of any new business arrangement proposed by the management

Coordinating with a tax advisor to obtain professional advice to enhance overall tax efficiency and avoid deviance when implementing the advice

C O N T A C T

Crowe Horwath (HK) CPA Limited9/F Leighton Centre, 77 Leighton Road, Causeway Bay, Hong KongTel: (852) 2894 6888Fax: (852) 2895 3752Website: www.crowehorwath.hk

Charles ChanChairman and CEOEmail: [email protected]



Selecting Your Tax Advisor

The global tax environment keeps evolving and tax administrative burdens are becoming heavier to taxpayers. Both HK and Chinese tax authorities have been tightening up the enforcement on tax administration and collection. At the same time, for globalisation, IPO applicants in these days may operate and invest across countries and regions outside China and Hong Kong. Investors show increasing concerns to the tax functions performed by public companies. In reaction to this, the IPO approval authorities have put more efforts in carrying out a more stringent review of the IPO applications from a tax perspective. Potential applicants should engage a tax advisor with an international network who will be able to cover all different jurisdictions concerned and assist in preparing for explanations on the following aspects:

Common tax related issues raised by HKEx

Tax compliance status of each company under the proposed listing group of companies

Tax provision basis for any substantial provision amount or aged unutilised tax provision

Effective tax rate of the group should it fluctuate across the track record period or is rather low in comparison to the statutory tax rate

Any unsettled dispute with the tax authorities

The use of low tax jurisdiction companies within the group and the corresponding commercial reasons

Transfer pricing arrangement for the related parties transactions among the group companies

Any potential penalties resulting from the above

To cope with the above, a tax advisor should be engaged ahead of the pre-IPO preparation to assist the group in achieving the following:

Achievements through pre-IPO tax preparation

Meeting the tax compliance prerequisites

Minimising potential tax queries from the IPO approval authorities

Reducing the time required in responding to tax queries and smoothen the IPO process

Managing and controlling the necessary tax disclosures in the prospectus

Improving the group tax efficiency, controlling the tax risks and improving operational efficiency through a properly designed IPO holding and operational structure

Improving the company’s benchmarking on tax performance and enhancing the potential investors’ confidence in the company



Particularly for a tax efficient holding structure, a tax advisor should be able to:

Provide advice in planning and minimising the tax costs on profits repatriation or exit

Assist to perform a treaty network study in designing a tax efficient holding structure

Advise on the appropriate investment vehicle from a tax perspective taking into account the tax treatment in the intermediary holding jurisdiction being considered

Given the complexity of works and international tax issues involved, the group should identify a tax advisor with an international network and be able to show the eligible credentials of works.

C O N T A C T

Crowe Horwath (HK) CPA Limited9/F Leighton Centre, 77 Leighton Road, Causeway Bay, Hong KongTel: (852) 2894 6888Fax: (852) 2895 3752Website: www.crowehorwath.hk

Charles ChanChairman and CEOEmail: [email protected]

INVESTOR RELATIONSSECTION

A strong reputation creates competitive advantage and helps maximize market value. At Brunswick we provide senior counsel to clients on the critical issues that affect reputation, valuation and business success. We are a leading communications partnership with senior advisors in 22 offices in 13 countries – allowing us to respond seamlessly to our clients’ needs, wherever they are in the world. As part of our Capital Markets Advisory Practice we help CEOs, CFOs and IROs take control of their investment story, reputation and relationships in order to more effectively compete for financial capital in today’s rapidly changing global marketplace.

Reputation is your most valuable asset

brunswickgroup.comAbu Dhabi Beijing Berlin Brussels Dallas / Fort Worth Dubai Frankfurt Hong Kong Johannesburg London Milan Munich New York Paris San Francisco Sao Paulo Shanghai Singapore Stockholm Vienna Washington DC


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CHAPTER 8

How to Market and Navigate a Successful IPO

1. Introduction

An IPO introduces a company to the world and establishes a high bar for disclosure and shareholder accountability, literally overnight. When a company’s final prospectus document goes live, it should be the finest communications document management is capable of producing and it should transparently answer the strategic and governance questions that are on investors’ minds. Too often, it isn’t and doesn’t. Well before the day when shares begin to trade, management should have built a foundation for trusting relationships with long-term investors, in order to create demand for the shares and allow for optimal valuation. Too often, they don’t. As a regional investor recently commented, “If you want to convince an investor that you are a quality investment then you need to explain clearly what your investment case is. Sounds simple but not enough companies do a really good job.”

Listing on an exchange like the Stock Exchange of Hong Kong (SEHK), which has long been one of the world’s top destinations for IPOs, not only signals a high standard of corporate governance, transparency and disclosure, but also establishes trust between the company and its key stakeholders. However, the investor trust expected to come with the prestige of listing in a world-class IPO market needs to be earned. This is where the role of Investor Relations is vital. Senior management needs to be seen as representing the interest of all shareholders, and taking that commitment seriously. The IR function is therefore the essential interface between the company and its stakeholders.

2. The Hong Kong IPO Market

Historically, Hong Kong has attracted mature companies with well-established businesses, but Hong Kong has also seen an increase in younger Chinese companies wanting to list. Listing on the SEHK does not guarantee a successful pricing or ongoing fair valuation. Hong Kong IPOs have been bad bets for investors in recent years, with 2013 being one of the worst.

(Source: Wall Street Journal, 30 Nov 2014)

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Why is this? The Hong Kong IPO investor community is sceptical and selective. Investors in this market tend to vote with their feet, and will exit a stock if they are not getting an international standard of investor outreach early on once a stock has listed.

Overall, a waning appetite for emerging market risk is likely to continue to impact the IPO market in 2015. Many investors still prefer to buy stocks in the secondary market where the track record of the company can be more easily analysed. With further headwinds ahead in 2015 and China’s economy growing at its slowest rate in five years, appetite for recent IPOs out of China, even when priced affordably, has been declining. This environment, combined with the current local IPO practices, such as the regular use of cornerstone investors whose lock-up periods can create a stock overhang and liquidity issues post-IPO, create an even more challenging landscape for those companies wanting to list in Hong Kong.

Winners for IPO investors in Hong Kong share a few common characteristics. They tend to be companies that benefit from China’s growing middle class; they are in sectors that are in vogue such as healthcare, energy, financial services and consumer goods related stocks; and they are companies that have openly embraced their commitments as a listed entity and worked hard to engender trust with their institutional and retail investors.

3. Key Steps to Ensure a Successful IPO

Brunswick has helped a variety of companies through the IPO process in all of the major global capital markets. The following are some best practice recommendations to consider as you take the first step down the road of marketing your company before going public.

3.1 Establish normal course communications

Establish normal course communications and IR precedents well before an IPO is announced. Once you enter the “quiet period” (which typically begins the moment you first file, or even when rumours of listing circulate, as advised by legal counsel), your ability to communicate with investors or media will be extremely limited. Further, you will be dependent on perceptions built prior to your listing announcement.

3.2 Build an IR infrastructure

Use the pre-IPO time wisely. Build the foundation of your IR function, and learn as much as you can about your investing audiences. Identify and prioritize gaps with projected timelines and budgets for remediation prior to your IPO. For example, you may want an online provider to display your roadshow materials, and you will need to go live with an IR website upon listing. Pre-IPO, in addition to preparing all investor-facing materials and IPO documents, IR should identify and train staff likely to come into contact with investors and analysts in the future.

3.3 Create an IPO road map

It is important to create an IPO road map at the outset. Start with the end date in mind and work backwards to determine whether your IPO date is realistic. Ideally, planning should begin around two years before the anticipated IPO date. The entire advisor working group should be formally established and working as a team no less than six months before listing. Your planning and your team should extend through the first reported earnings after listing so that going public is a seamless process.

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3.4 Don’t go it alone

Get the right sponsors, financial advisors and communication specialists on board who have all been there, done that before. You do not have to go it alone.

3.5 Encourage those advisors to work as a team with you and each other

You will need a way to manage communications with large working groups, including sharing information, giving instructions and reaching consensus on various work streams. Kick-off meetings, working group lists, small working groups and regular conference calls that include key company insiders, bankers, lawyers, accountants and communications advisors are all practical and valuable tools.

3.6 Conduct peer group benchmarking

Look at best practice disclosure of your potential peer group, and should use that analysis to decide how to report and disclose once you are a listed entity. The benchmarking process will also help you understand what transparency looks like in your industry and how your financial fundamentals will be assessed by the media and financial community.

3.7 Plan your media communications strategy

Clear strategic communication objectives need to be defined at the beginning of the process and reflected in all materials created, including the prospectus. Once the prospectus has been published, communications must not deviate from the prospectus content. You will be announcing and communicating on such factual things as your IPO venue, time frame, and underwriter selection. Unless you are engaged in ordinary course business activities or deals which require media engagement, you will be prohibited from speaking extensively about the company. Yet you and your advisors may still be having background conversations with journalists and other third parties who will be quoted by media. Making sure that your key messages are either communicated on background or incorporated into your prospectus will ensure that communications stay on topic.

3.8 Carefully plan for and cultivate sell-side analysts

The sell-side community will be one of the most important audiences during the IPO as well as long after. Pre-IPO, you can broaden your knowledge of this critical shareholder group by trying to anticipate who will cover the company after you are listed. Make sure you know them in advance if possible. Track what angles their research notes pursue, and monitor their consensus of the peer group. As you near towards the time of the IPO, let them know if you are holding analyst presentations and who will work with them after the IPO. They begin forming their impressions very early.

3.9 Understand your financial reporting risks

Understanding your financial reporting risks is one of the areas that requires substantial lead time. Look at your balance sheets and two years of income statements. Identify any potential issues to determine if they might result in a restatement. Restatements and restructurings are obviously best done before the prospectus becomes official.

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3.10 Assess your accounting processes and internal controls

Ensure your accounting processes and internal controls meet public company requirements, and do not invite questions. Is your IR function prepared to handle SEC, Sarbanes-Oxley, Know Your Client and other requirements of a public company? Cross-border accounting disputes have been much in the news in the past year, and thus you should expect that questions may arise over how and where your accounts are audited. Decide in advance what you will disclose and how you will handle known issues.

3.11 Lay the groundwork for good Corporate Governance practice

For investors, the perceived creditability and competence of a company’s board of directors and its governance rest at the heart of the investment case. Investors will be able to tell if you are merely ticking the boxes verses taking governance seriously. However, if during the pre-IPO stage the groundwork on governance has been laid down, understood and supported internally, investors are much more likely to feel the authenticity and reward the company with their support.

3.12 Create your own investor universe – or shareholder wish list

Look tactically at who are the potential investors, and build your own profile of these institutions. This can run alongside the bankers’ and brokers’ lists, and could become part of your core investor database post-listing. It is never too soon to understand your potential investors’ motivations and how your story may resonate with them.

Ensure you understand the use of cornerstones, as they create different trading dynamics and can have a negative appeal to large traditional longer-term investors who need allocation and liquidity in order to own and trade in a stock. If you do go down the cornerstone route, you also need to carefully manage any stock overhang and the potential of a sell off post lock up period.

3.13 Get your management team ready for interacting with investors

Review your management team’s experience and expertise, and determine who will need media training, IR training and presentation workshops before putting them in front of a savvy investment community. Training and rehearsals, while time consuming during a high intensity period, are extremely valuable, especially for non-native English speakers. This is especially important in advance of the roadshow, which is your one opportunity during pre-listing to market to investors.

3.14 Don’t forget about your IR team

Undoubtedly, investors want to see and meet the senior management team at the IPO stage, but they also want to see and feel an IR function that is already established. They want a credible and dedicated point of contact. Investors have frequently mentioned to us their frustration with companies that come to the market without any proper IR function. It can make them highly sceptical of the company’s real commitment to investors in the future.

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3.15 Do not overlook your website

The company website is one of your best marketing tools; use it wisely to help set perceptions. Make sure you develop a website that captures your company’s culture and delivers a deeper understanding of your strategic objectives. Having a detailed investor relations section that covers all the essential investor communications materials can also help set the tone for investors, and is an excellent way to make a good first impression. This is your opportunity to think outside the box and be innovative. Consider your presence in social media and use of static and dynamic visuals, such as info-graphics and video. Investors in Asia are two times more likely than their global counterparts to make investment decisions based on conversations on digital and social media.

3.16 Review your communications guidelines and reiterate them to staff

How and what staff tell the outside world will be significantly more important once you are a public company. Do you have clear guidelines in place for what can and cannot be shared with external parties? Have you explained the implications of sharing information that should not be shared? This is especially important during the quiet period, as a loose-lipped employee could accidentally overshare and lead to a listing delay.

3.17 Prepare your broader employee base for life as a public company

Preparing your employees for life as a public company goes beyond sharing communication ‘Dos and Don’ts’. Being part of a public company can instil a real sense of company pride for employees, and also result in a nice cash windfall. However, especially in Asia, where personal pride can be very tied to one’s employer, staff will need to be prepared for the increased scrutiny a listing may bring. Encourage pride and thick skin, and remember, there is no such thing as a purely internal communication. Review every staff communication with the expectation it will be leaked to external parties.

3.18 Remember, listing day is not the finish line; it is the starting point

Start “acting like a public company” well before you need to. Start complying with regulatory requirements by convening the board and reporting quarterly results; getting legal and board reviews of press releases; practicing announcing and forecasting earnings and comparing your actual performance for a few quarters. Have a plan in place for your first earnings call before you go public. Anticipate what your numbers will look like, if possible, and adjust your positioning pre-listing to support those results. While going public can be an exciting process, marketing and communicating the value of your company during this time can be tricky. The tips in this chapter will go a long way to ensure a successful IPO, but it will be important to ensure you have the right advisors by your side throughout the process to keep you apprised

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C O N T A C T

Ginny WilmerdingDirectorEmail: [email protected]

Kirsten MolyneuxSenior ConsultantEmail: [email protected]

Katharine CralléAssociate PartnerEmail: [email protected]

Brunswick Group Ltd12/F, Dina House, 11 Duddell Street, CentralHong KongTel: (852) 3512 5000Fax: (852) 2259 9008Websites: www.brunswickgroup.com

4. So now, you’re a public company

The truth is, the IR function’s work starts in earnest the day after listing. Life as a public company can be very different and investors who bought in may quickly move out. Newly listed companies need to be in the habit of proactively building deeper investor support for their stock right from the start. It is, therefore, vital that the IR team builds on a strong start as a public company and develops a best practice IR function that fulfils the needs of the all the company’s stakeholders. This in turn will help the company achieve the reputation and valuation that it seeks.



An initial public offering (IPO) requires a company to develop its investor relations. Besides the fulfillment of regulatory requirements defined by the stock exchange and the regulator, good investor relations helps to build a positive corporate image towards the financial community, supports a fair valuation of the company by analysts and investors, reduces costs of capital and stabilizes the stock price – the basics for a solid foundation in the capital markets. With one of the leading global stock exchanges measured by the number of IPO and capital raised, Hong Kong is accessible by international investors, hence your company will be benchmarked with best-practices globally.

Fundamental regulatory and investor requirements include high transparency by active, timely and simultaneous disclosure of all relevant corporate information, usually in your local and English language. Thanks to the advancement in modern information technologies, it is becoming easier to capture information on a global basis as investors around the world can access market information through online means. This trend combined with transparency requirements mentioned before and the need for increasing internal efficiency, makes the use of Online Tools for Investor Relations activities the prevalent trend.

The following five recommendations about the use of online investor relations will help you to comply with regulatory listing requirements and ensure an active, timely, target-group oriented and simultaneous disclosure of your corporate information to the financial markets. As a result you increase the access to various

Online Investor Relations: Effective and Efficient Communication with the Financial Community

(By Marcus Sultzer, CEO Asia-Pacific, EQS)



types of investors, you help the public to understand the core business of your company and you enable them to give a fair valuation by understanding your company’s equity story and advantages in the capital markets.

1. Make use of a central online platform to fulfill your investor relations requirements

The use of a self-explanatory online platform will put you on the safe side, whether you use it in the office, at home or on the road. You will be able to manage your contact data, fulfill disclosure requirements and distribute different kinds of news – all in one central platform.

a. Reduce risks by complying with rules of local stock exchanges and increase internal efficiency by managing your investor relations through a central platform with easy and 24/7 online access 365 days a year

b. Optimize the distribution of your announcements, circulars, corporate news, press releases and investor e-mailings simultaneously and with one click to domestic and international terminals, news agencies, web media and other financial publications

c. Manage your investor data in your integrated investor relations CRM system.



2. Create a professional investor relations website including a mobile version

Your websites serves investors as the first source of more detailed information about your company and is required according to local listing rules. That’s why it is very important that your investor relations website contains all the relevant corporate information, and is also kept up-to-date at all times.

a. Enhance your company’s visibility and help investors get all corporate information through your best-practice investor relations website including fact sheet, stock price chart, financial analyzer and other tools

b. Fulfill regulatory requirements by automated upload of the latest announcements, circulars and other news to the investor relations page and connect the website with your central online platform for automated investor registration

c. Develop a mobile website and/or application for the investor relations website with automatic and simultaneous content updates that it in line with today’s Internet trends.



3. Conduct regular webcasts to reach out to all investors simultaneously

Investor events are the highlights of an IPO, roadshow or results announcement. To ensure a perfect presentation and involvement of all interested stakeholders, those events should be transmitted through the Internet – as a podcast or webcast, live or on-demand. Only by doing so will you give all investors the opportunity to participate.

a. Update your investors about interim and annual results independent irrespective of where they are with live real-time transmission of your event and presentation

b. Increase media penetration, visibility and coverage through integrated audio and video solutions to stream your IPO promotion events, investor days, shareholder meetings and others including streaming on mobile devices



c. Provide your target groups with replays of the events directly embedded into your Investor Relations website and track participation in the webcasts and conference calls with detailed user statistics

4. Provide an online version of your annual, interim and sustainability Reports

Releasing your annual, interim and sustainability report are highlights of each business year. Rarely is the tension so high, and your company so much in the spotlight. It is thus more important to express your messages convincingly, highlight the most important information and make sure you are able to analyze the interest.

a. Transfer your PDF report into an interactive HTML format to ensure faster access to content, share your equity story by using the the Internet and save printing costs

b. Additional value through search functions, internal and external links, downloads, financial figure comparisons and creation of customized reports

c. Video messages, recommend functionality and contact forms for real interaction with your target groups

d. User statistics to evaluate the importance of different report sections and analyze domestic and international reach

5. Use social networks to gain market exposure swiftly

The rise of social media – not only in investor relations – means that information spreads globally faster than ever before. To maintain control over the messages communicated about your company and give investors a guideline as to which information is relevant, you will need to manage these channels actively.

a. Improve visibility and online exposure to access more prospective investors with the support of images, text, video and other interactive means

b. Benefit from high Internet penetration across geographies, which enables corporate information to reach investors instantly



C O N T A C T

EQS Asia Ltd / TodayIR (HK) Ltd14/F., Amber Commercial Building70-74 Morrison Hill RoadWanchai, Hong KongTel: (852) 2893 5622Websites: asia.eqs.com / TodayIR.com

About EQS TodayIREQS TodayIR, a member of EQS Group, is a leading provider for online investor relations in Asia with more than 400 clients. Since its incorporation in 2000, EQS Group has grown to be a leading international provider of digital solutions for investor relations and corporate communications. Its solutions and services enable over 7,000 companies worldwide to fulfill complex domestic and international corporate information requirements securely, timely and efficiently. EQS TodayIR operates offices in Hong Kong, Shenzhen, Singapore and Taipei and offers integrated communication solutions all over Asia, which can be used individually or combined effectively in a modular system. EQS Group is headquartered in Munich, Germany. The Asian operations of EQS TodayIR are headquartered in Hong Kong. The Group currently employs more than 160 people worldwide.

c. Leverage on this major source of online traffic today, offering low costs and potential high returns

Source: LinkedIn

Marcus SultzerCEO Asia-PacificEmail: [email protected]

Terry ChauExecutive Director Asia-PacificEmail: [email protected]

THE LEADING SOURCE OF INTELLIGENT INFORMATION FOR BUSINESSES AND PROFESSIONALS

Contact us on +852 2847 2000 or visit www.sweetandmaxwell.com.hk

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THOMSON REUTERS combines industry expertise with innovative technology to deliver critical information to legal professionals. As one of Asia’s most respected legal publishers,

provides authoritative & respected contact for the legal and regulatory professions. Our online offerings include and , the premier legal research tool and know how providing the most trusted and widely used online legal and practical resources.

POST-LISTINGSSECTION


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CHAPTER 9

Corporate Governance for Listed Company with the Latest Corporate Governance Code Update

1. Significant of corporate governance

Corporate governance broadly refers to the processes and related organisational structures by which organisations are directed, controlled and held to account. It “involves a set of relationships between an organisation’s management, its board, its shareholders and other stakeholders. Corporate governance also provides the structure through which the objectives of the organisation are set, and the means of attaining those objectives and monitoring performance are determined.”1

Good governance practice can help ensure the protection of shareholders’ rights, enhance the effectiveness of the board and improve the transparency of the company’s business and performance for appraisal and investing decisions. Three commonly accepted fundamental principles of good corporate governance were identified in the report of the Cadbury Committee (“Cadbury Report”)2. These are “Openness”, “Integrity” and “Accountability”.

Openness (Transparency)

The Company should disclose information to the public/investors within the limits set by their competitive position. It is the basis for the build up of confidence which needs to exist between business and all those who have a stake in its success.

Integrity It involves “both straightforward dealing and completeness”. The Cadbury Report stated that financial reporting, which was the primary focus of the Cadbury Committee, should be “honest and … should present a balanced picture of the state of the company’s affairs”.

Accountability The board of directors are accountable to their shareholders and both have to play their part in making accountability effective, the directors through the quality of information they provide and the shareholders through a willingness to exercise their responsibilities.

Table 1: Definition of “fundamental principles” of good corporate governance

The Stock Exchange of Hong Kong Limited (“Stock Exchange”) adopted the Code on Corporate Governance Practices in 2005, which has been subsequently amended and updated. The most recent and substantial amendments were implemented in 2012 and the title of the aforesaid Code was changed to the Corporate Governance Code.

1 Adapted from the preamble to the Organisation for Economic Co-operation and Development (OECD)’s Principles of Corporate Governance.2 Source: Report of the Committee on the Financial Aspects of Corporate Governance (UK, 1992).

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A listed issuer in Hong Kong must report to its shareholders in the corporate governance report on how it has applied the “code provisions” of the Corporate Governance Code as stipulated in the Rules Governing the Listing of Securities on the Stock Exchange of Hong Kong Limited (“Listing Rules”) and disclose the considered reasons for any deviations thereof which is on a comply or explain basis. It may also follow “recommended best practices” as set out in the Corporate Governance Code which are for guidance only.

The Corporate Governance Code is not a rigid set of rules and gives companies the flexibility of deciding their own method of implementation. The advantage of this approach is that when making decisions on governance practices, the board can make judgments on a case-by-case basis, taking into account the size and complexity of the company and the nature of the risks and challenges it faces. Thanks to the fact that good corporate governance is not entirely found in the legal and regulatory requirements but in codes of conduct, a listed issuer is generally valued more favourable if it adopts “best practices” for corporate management and business operation.

2. Benefits of good corporate governance

The corporate failure of Enron, WorldCom, Barings Bank and other business giants including Lehman Brothers in the financial sector have eroded confidence of the public, shareholders, employees, stakeholders or even regulators, in respect of the board of directors who are charged with protecting the interests of investors and employees. The Conference Board stated in its report that “the results is that corporate governance is more likely than ever to move from something done as a result of external pressures to something boards cannot afford to dismiss if they want to properly manage risk, provide internal efficiencies in running the corporation and insure growth.”3

Good corporate governance enables the board and management to pursue objectives that are in the interests of the company and its stakeholders, facilitates effective monitoring and encourages the company to use its resources more efficiently. Benefits of achieving good corporate governance should outweigh the relevant costs, which may involve the set up cost for various policies and measures, resources allocated in continuous monitoring and review of the implementation, and time consumed in relation there to and so on. They are the initiatives for the listed issuers to promote good corporate governance within the company.

Ensure corporate success andeconomic growth

Help in brand formation anddevelopment

Maintain Investor’sconfidence, as a result, raise

capital efficiently andeffectively

Reflect intrinsic value of thecompany and have positive impact on the share price

Ensure the company ismanaged in a manner that fits

the best interests of all

Lower the capital cost

Minimise wastages,corruption risks and

mismanagement

Attract long term investors

Proper Inducement to theowners as well as managers toachieve objectives that are in

interests of the companyand stakeholders

Table 2: Benefits of good corporate governance

3 The Conference Board, “Corporate Governance Best Practice: A Blueprint for the Post-Enron Era” (2003) Report SR-03-05.

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3. Key drivers

3.1 Increasing shareholders’ rights

Shareholders are the owners of the company and are separated from its management. Principally, the shareholders will rely on the directors to protect their interest. Nevertheless, shareholder activism has been increasingly common among listed companies recently, not only due to the provisions under the Listing Rules but also the enhancement of the general awareness of rights entitled to a shareholder. When certain proposed corporate changes or transactions are subject to the shareholders’ approval, the directors should be prepared if such matter contemplated attracts adverse comments or feedback from the institutional investors who may choose to sell out the company’s shares in their hands causing a drop in the share price.

Shareholders now possess more information via the internet, professional analysts’ reports or other forms of media, therefore may no longer be satisfied by regular interim and annual reports or the announcements prepared based on minimum disclosure standards. They may take every opportunity to raise questions to the directors or the management regarding the company’s performance or their reasons for decisions made and future outlook. To strengthen the relationship between the company and the shareholders, directors should proactively enable the shareholders to have a better understanding on the company’s business and disclose the information openly, provide ongoing dialogue with them and actively participate in all kinds of general meetings to interact with the shareholders and hence build up mutual trust. Communication and transparency lay down the foundation of good corporate governance.

Following the amendments to the Listing Rules in 2012, the shareholders’ rights were enhanced in the following areas:

(a) Voting by poll – to allow an exception for procedural and administrative matters and to clarify disclosure requirements of poll results

(b) Notification of changes of directors and directors’ information

(c) Require shareholders to approve appointment and removal of auditors. The auditors must be allowed to make a representative at the general meeting to remove them before the end of their term of office

(d) Remove the 5% de minimis exemption on a director’s right to vote on an interested transaction

(e) Require to disclose the senior management’s remuneration by band

(f) Require to disclose directors’ attendance at board and shareholders meetings

Further, the listed issuer is required to establish the communication policy with the shareholders to provide them with information about the listed issuer and also enable them to engage actively with the listed issuer and exercise their rights as shareholders in an informed manner and required to disclose the relevant shareholders’ right pursuant to paragraph O of Appendix 14 to the Listing Rules.

The new Companies Ordinance (Cap 622) (“CO”) took effect on March 3, 2014. It enhances shareholder engagement in the decision-making process by:

introducing a comprehensive set of rules for proposing and passing a written resolution

requiring a company to bear the expenses of circulating members statements relating to the business of, and proposed resolutions for, annual general meeting, if they are received in time to be sent with the notice of the meeting

reducing the threshold requirement for members to demand a poll from 10% to 5% of the total voting rights

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The above requirements should not be overlooked although they are more relevant to Hong Kong group companies rather than the listed issuer itself. In the event that minority interests exist within the listed group, any non-compliance of rules may allow them to challenge the operations or management of the listed group as a whole.

3.2 Stakeholders’ expectation

Apart from the shareholders, the company is also required to balance the interests of various stakeholders, including customers, investors, employees, government, non-governmental organisations, the general public etc. The company must be accountable for their actions and behaviours towards a diverse group of stakeholders and should consider it within the company’s business strategy. Stakeholders may exert influence on the company’s business and management by raising questions, inducing market discussions, exercising their rights, dis-investing shares on hand, refusing from doing business with the company, where applicable; and regulators may upgrade or enforce new rules in order to be in line with international trends or ensure proper market order. Among others, the Stock Exchange introduced the Environmental, Social and Governance (“ESG”) Reporting Guide in 2013, which assists listed issuers in considering and disclosing ESG issues and applicable key performance indicators, as a recommended practice appended to the Listing Rules (Appendix 27) with a view to raise the level of obligation of some recommended disclosures to “comply or explain” by 2015 subject to consultation. Directors should start to discussing those issues and look into the company’s current business and operations from an ESG perspective and disclose appropriately.

3.3 Directors’ accountability

The directors or the board of directors are responsible for overseeing and managing the company. On the one hand, the directors’ powers are deemed to be overwhelmingly large and shareholder may rarely challenge their powers on how to manage the company; on the other hand, the shareholders have the ultimate right to remove directors who are considered to be performing unsatisfactorily. A mechanism should be in place for ensuring that the board of directors is acting in the interests of the company and shareholders as a whole. The board of a listed issuer normally consists of executive directors and non-executive directors (including independent non-executive directors). Even though non-executive directors are used to spending substantially less time on the affairs of the company than their executive director colleagues, all board members have the same level of duty to the company and accountability to the shareholders and other stakeholders.

The Stock Exchange enhanced the accountability of the listed issuer and directors by amending the Corporate Governance Code in 2012 to:

improve transparency by bolstering requirements for disclosure and communication with shareholders

enhance the quality of directors and company secretaries by requiring training

require greater involvement in the listed issuer’s board committees by the independent non-executive directors

recognise company secretaries’ contribution to corporate governance and define their role and functions

place emphasis on the leadership role of the chairman of the board in corporate governance matters

In September 2013, a new code provision was introduced to the Corporate Governance Code which expected the board or the nomination committee should have a policy concerning diversity of board members, and the listed issuer should disclose the policy or a summary of the policy in the corporate governance report. Appointment of directors from various backgrounds should help to bring in knowledge and experience from wider horizons, balance different views and interests and avoid bias or inclined directions.

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Furthermore, the new CO also strengthens the accountability of the directors by:

restricting the appointment of corporate directors by requiring every private company to have at least one natural person to act as director, to enhance transparency and accountability

clarifying in the statue the directors’ duty of care, skill and diligence with a view to providing clear guidance to directors

3.4 Increasing company secretary’s role and duties

A new section (Section F) was introduced in 2012 to the Corporate Governance Code setting out the role and responsibilities of a company secretary; while a new rule 3.29 was added to the Listing Rules requiring company secretary to attend 15 hours of professional training per financial year. The company secretary plays an important role in supporting the board of directors, ensuring good information flow within the board of directors, ensuring board policy and procedures are followed, advising the board on governance matters and facilitating induction and directors’ professional development. A company secretary is commonly considered as the listed issuer’s conscience and sounding board, which assists the board in formulating and maintaining the best practices, so as to ultimately enhance corporate governance.

4. Directors’ role in maintaining good corporate governance

A director is ultimately responsible for corporate governance. The corporate governance framework of a Hong Kong listed issuer is derived from the following key areas:

1. Listing Rules

2. Corporate Governance Code as stipulated in Appendix 14 to the Listing Rules

3. Companies Ordinance (Cap 622) (“CO”)

4. Securities and Futures Ordinance (“SFO”)

4.1 Directors’ duties under the Listing Rules

The Listing Rules contain a number of disclosure requirements, conditions and restrictions on the listed issuer for the purposes of ensuring transparency and accountability to shareholders and to protect their interests. The listed issuer is required to give considered reason(s) for any deviations from the code provisions together with the mandatory disclosures as required under Appendix 14 to the Listing Rules in the corporate governance report. Deviations from the code provisions are acceptable if the listed issuer considers that there are more suitable ways and rational explanations for it to comply with the principles. The listed issuer should consider its actual circumstances, size, business and the nature of risks and challenges and so on, and understand that compliance is not solely for box-ticking purposes. On the contrary, sensible deviations demonstrate the listed issuer’s intelligence.

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The table below shows some of the key duties of director under the Listing Rules:

Time commitment for handling company’s affairs

Timely dissemination of information to the shareholders or the public

Risk identification, assessment and management

Avoidance of conflict of interest or abstain from voting in case of material interest

Keep abreast of changes (business, operating environment and regulatory landscape) by participating continuous professional development

Additional role for independent non-executive directors, such as giving independent opinion to the board to safeguard the interests of the company’s and shareholders’ as a whole

Establishment of an independent board committee to deal with connected transaction, where necessary

Effectiveness of internal control (legal, financial and operation) to manage potential risks and enhance effectiveness

*Note: The Stock Exchange issued a consultation paper on risk management and internal control in June 2014.

Terms of reference of board committees, setting out delegations and duties, as a result, ensuring focused discussions and increasing efficiency of the company’s overall decision making

Co-operation with regulators regarding enquiries and investigations

Establishment of whistle-blowing policy, giving a reporting channel for suspicious wrongdoing

Compliance of proper conduct for directors’ securities dealings

In June 2014, the Stock Exchange issued a consultation paper on risk management and internal control, which placed greater emphasis on risk management in Corporate Governance Code rather than just on internal controls. It seeks to improve the Corporate Governance Code by better delineating the roles and responsibilities of the board, the management and the internal audit function, as well as setting out the minimum specific disclosures that listed issuers should make so as to enhance transparency. The board should oversee the company’s risk management and internal control systems on an ongoing basis, and receive assurance from management team on their effectiveness. The company should have an internal audit function. Consultation conclusion has not yet been issued but directors, particularly the independent non-executive directors, should be alerted with this proposed change and well prepared for its implementation.

4.2 Directors’ Duties under new Companies Ordinance (Cap. 622) (“CO”)

A comprehensive exercise to rewrite the Companies Ordinance (Cap. 32) was launched in mid-2006 with the aim of modernising Hong Kong’s company law and further enhancing Hong Kong’s status as a major international business and financial centre. The new CO, which consists of 921 sections and 11 Schedules, provides a modernised legal framework for the incorporation and operation of companies in Hong Kong. It aims to achieve four main objectives, namely, to enhance corporate governance, ensure better regulation, facilitate business and modernise the law.

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The table below shows the major changes affecting directors under the new CO:

Providing a clear guidance to directors, the standard of directors’ duty of care, skill and diligence

The new CO sets out a mixed objective and subjective test for the standard of a director’s duty to exercise reasonable care.

Directors with special knowledge, skill and experience will be subject to a higher standard of care compared to a director without such knowledge. Conversely, a director will be expected to meet an objective reasonable standard of care, even if under-qualified for the role.

Directors should always bear in mind of their duty of care in attending to the company’s affairs, or excuses are hardly acceptable while measures for maintaining corporate governance in place should not be upset.

Ratification of directors’ conduct by disinterested members

The new CO allows a company to ratify a director’s conduct amounting to negligence, default, breach of duty or breach of trust by the approval of the disinterested members, to prevent conflicts of interests and possible abuse of power by interested parties (especially majority shareholders) in ratifying the unauthorised conduct of directors.

Director representing controlling shareholder can no longer rely on the said shareholder with substantial voting right to ratify his unauthorised act.

Liability and indemnification of directors The new CO permits a company to indemnify a director against liability incurred by the director to a third party if the specified conditions are met. Certain liabilities and costs must not be covered by the indemnity, such as criminal fines, penalties imposed by regulatory bodies, the defence costs of criminal proceedings where the director is found guilty and the defence costs of civil proceedings brought against the director by or on behalf of the company or an associated company in which judgment is given against the director

Loans and similar transactions with directors

The scope of the prohibition was expanded to cover a wider category of persons connected with a director, except:

(a) loan, quasi-loan and credit transaction of value not exceeding 5% of net assets or called-up share capital; and

(b) funds to meet expenditure, incurred or to be incurred by a director, on defending proceedings or in connection with an investigation or regulatory action.

Wider coverage of prohibition reduces the possibility of inappropriate use of the company’s assets.

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Directors’ service contracts Shareholders’ approval is required if the guaranteed terms of the employment of a director with the company exceeds or may exceed 3 years.

If shareholders’ approval for a long-term service contract is not obtained, the relevant provision in the service contact is void to the extent of the contravention. Further, the contract is to be regarded as containing a term entitling the company to terminate it at any time by giving reasonable notice.

Practically, listed issuer may set the term of director’s service contracts as shorter than or equal to 3 years, which is renewable subject to the listed issuer’s review of the director’s performance.

Payment to directors for loss of office To plug any potential loophole that loss of office payments to directors may be made indirectly via other parties, the loss of office payment provisions are extended by to include:

payment to an entity connected with the director; and

payment to a person made at the direction of, or for the benefit of the director or an entity connected with the director.

The new CO also extends the prohibition to include payment by a company to a director or former director of its holding company and payment made in connection with a transfer of the undertaking or property of the company’s subsidiary.

4.3 Directors’ Duties under SFO

The Securities and Futures Ordinance (Cap. 571) (“SFO”) was enacted on March 13, 2002 and gazetted on March 28, 2002 and came into operation on April 1, 2003 with the aim of consolidating and modernising the ten ordinances which at that material time constituted the framework for regulating the securities and futures industry in Hong Kong. On January 1, 2013, the provisions relating to inside information disclosure under the Securities and Futures Ordinance came into effect. Directors are required to observe their duties under the SFO.

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The table below shows some duties of director under SFO:

Briefing on Directors’ Duties under SFO Recommendations

Disclosure of Interests

Directors and chief executives of a listed corporation must disclose their interests, and short positions, in any shares in a listed corporation (or any of its associated corporations) and their interests in any debentures of the listed corporation (or any of its associated corporations).

In the case of an initial notification the time allowed for filing a notice is 10 business days as opposed to 3 business days in the case of the other relevant events.

If a person commits an offence, he is liable (i) on conviction on indictment to a fine of $100,000 and to imprisonment for 2 years; or (ii) on summary conviction to a fine of $10,000 and to imprisonment for 6 months for each offence of which he is convicted.

Directors and chief executives should familiarise themselves with the relevant obligations by attending training, and making proper submission for the timely disclosure of interests.

Directors and chief executives should follow the notification procedures under Model Code for Securities Transactions by Directors of Listed Issuers as set out in Appendix 10 of the Listing Rules, before any proposed dealings, allowing the company to maintain a record and observe their subsequent filings.

Disclosure of Inside Information

Criteria for Identification of Inside Information:

specificity, relevance, not generally known, materiality

The Guidelines on Disclosure of Inside Information published by the SFC has a generalised list of potential inside information, and some 34 examples of the events, or set of circumstances that will be likely to influence the price of the securities that need to be disclosed were listed therein including but not limited to:

√ changes in performance, or the expectation of the performance of the business

√ changes in financial condition, e.g. cash flow crisis, credit crunch

√ change taking place in control and control agreement √ takeover and merger

√ purchase or disposal of equity interests or other major assets or business operation

√ change in share capital, e.g. new share placing, rights issue, share consolidation and capital reduction

√ changes in directors and supervisors

√ legal disputes and proceedings

√ decrease or increase in value of financial instruments in portfolio etc.

The company should provide training to employees and raise their awareness of inside information and establish internal procedure to report internally and disclose the same to the public.

Mechanism of maintained confidentiality should always be in place and information is delivered on need-to-know basis.

Directors are responsible for making the assessment (with the assistance of professional adviser if necessary) case-by-case and determine the timing and extent of disclosure, where applicable.

For the sake of transparency or prudent approach, the company should consider to publish the announcement willingly.

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Market Misconduct

Market misconduct as defined in section 245 of the SFO comprises

Market Misconduct

insider dealing

false trading

price rigging

disclosure of

about prohibited

disclosure of false or

misleading

inducing

stock market

The company should review and ensure the effectiveness of internal control, avoiding directors and/or any persons may take advantage of processing inside information to gain personal benefits or disturb market trading.

4.4 Directors’ Duties under the Competition Ordinance

The Competition Commission and the Communications Authority recently jointly published six draft guidelines under the Competition Ordinance (Cap. 619) and seeks comments from interested parties. The draft guidelines outline how the Competition Commission expects to interpret and give effect to the three competition rules in the Competition Ordinance, namely the First and Second Conduct Rules and the Merger Rule, as well as the procedures for handling complaints, conducting investigations and considering applications for exclusions and exemptions. Directors and the management team of the listed issuer should ensure the business operation complies with the ordinance when comes into force.

C O N T A C T

SW Corporate Services Group Limited18/F, Tesbury Centre, 28 Queen’s Road East, Wanchai, Hong KongTel: (852) 3912 0800Fax: (852) 3912 0801Website: www.swcsgroup.com

Dr. Maurice NgaiChief Executive OfficerEmail: [email protected]



Taking into consideration the increasing complexity of the regulatory framework and the awareness of the benefits of good corporate governance, the role of the company secretary has become more significant in Hong Kong. Under the CO, every company incorporated in Hong Kong must have a company secretary and a company cannot be listed on the Stock Exchange without having a qualified company secretary. The company secretary of a listed company must possess the relevant qualification and experience under the Listing Rules. The Stock Exchange recognises that the company secretary plays an important role in supporting the board in ensuring good information flow within the board and that board policy and procedures are followed. The company secretary is also responsible for advising the board through the chairman and/or the chief executive on governance matters and facilitating induction and professional development.

The typical duties of a company secretary include coordinating the production, publication and distribution of company accounts and reports. He/she acts as a main coordinator with the relevant outside parties (e.g. accountant, printer and lawyers etc.) and the internal departments to obtain, consolidate and publish/disclose the information in a timely manner as well as to ensure such disclosure complies with the relevant rules and regulations. The company secretary also serves as a channel of communication to shareholders, investors, regulatory bodies and the Stock Exchange on behalf of the company. He/she may take up the roles of authorised representative and investor relations which, respectively, are responsible for fielding the queries from the Stock Exchange and the shareholders’ enquiries regarding corporate governance issues in general meetings. He/she can ensure the reliable, proper and timely information is provided by the company. Directors, in particular the independent non-executive directors, rely on the company secretary to obtain the adequate information to support their decision-making process and discharge their duties. All directors should have access to the advice and services of the company secretary to ensure that the board procedures, and all applicable law, rules and regulations are followed.

In order to ensure directors understand their duties and disclosure obligation under the rules and regulations, the company secretary is responsible for arranging the directors’ induction for new directors and organising the appropriate training for directors to be familiar with the general obligations and the company’s practices.

The Role of Company Secretary



Roles

Communication channels

In-house compliance advisor / sounding board

Officer to the board Senior management

Func

tion

With regulators (e.g. Authorised representative)

Monitor/advise on compliance issues

Assist in conduct of board and board committee meetings

Monitor and report implementation of board’s decision

With shareholders (e.g. Investor relations)

Monitor/advocate best corporate governance practices

Proper documentation (e.g. Minutes and resolutions)

Assist in building internal control systems to cater for risks

With Board members Induction to new directors/periodical trainings

Assist in conduct of shareholders meeting

Propose/update procedures/policies in line with the changing regulatory landscape

Table 3: Company Secretary’s role and function

The Stock Exchange realised the importance of the role of company secretary and paragraph F in relation to “Company Secretary” was implemented in the corporate governance code of Appendix 14 of the Listing Rules in 2012. Under code provision F.1.2, the selection, appointment or dismissal of the company secretary should be approved by the board. A board meeting should be held to discuss the appointment and dismissal of the company secretary and the matter should be dealt with by a physical board meeting rather than a written resolution.

The company secretary of a listed issuer must possess appropriate professional qualifications and relevant experience. Some, particularly small or new, companies may find it more cost-effective to employ external service providers as company secretaries. A reliable external service provider can provide good support to the company. It can also provide independent and professional advice and guarantee industry expertise and professional knowledge.

A company secretary is regarded as both an officer and part of the senior management team, and being at the centre of the board’s decision-making process, which is essential in promoting good corporate governance by discharging the following responsibilities:

1. Establish an effective board structure –The company secretary should ensure the composition of the board and board committees comply with the relevant statutory requirements or corporate governance code. The company secretary should warn the board should the number of board members fall below the minimum number.

2. Support the board decision making process – The company secretary should ensure the smooth running of board and board committee meetings by: (i) scheduling the meeting with the directors in advance; (ii) drafting the agenda; and (iii) dispatching the board papers to the board members in a timely manner and seeking their comments and confirmation. The company secretary should advise the board members on the board procedures and ensure they are followed. Meanwhile, the company secretary should record



the board’s decisions clearly and accurately and circulate the draft minutes to the board members for comments before formal execution. He/she should pursue follow-up actions and report on matters arising.

The company secretary should also facilitate the information flow between the board members and non-executive directors and management. In addition, he/she should ensure the concept of stakeholders (in particular the employees) is in the board’s mind.

3. Support the board development and appraisal, and flourish constructive working culture inside the board – The company secretary should organise the induction and professional development programmes for directors and keep training records. It can help to develop and support procedures for the annual review of the board performance. The company secretary may take a lead in managing difficult inter-personal issues on the board.

4. Advice the board on corporate governance matters – The company secretary should review all legislative, regulatory and corporate governance development that might affect the company’s operations and should ensure the board is fully briefed on the matters and take appropriate action in advance of implementation. He/she also acts as an additional enquiring voice in relation to board decisions which particularly affect the company.

C O N T A C T

SW Corporate Services Group Limited18/F, Tesbury Centre, 28 Queen’s Road East, Wanchai, Hong KongTel: (852) 3912 0800Fax: (852) 3912 0801Website: www.swcsgroup.com

Dr. Maurice NgaiChief Executive OfficerEmail: [email protected]



ESG Report – A Document to Convey an Organisation’s Sustainability Commitment

1. Overview

On October 14, 2014, the Sustainable Stock Exchanges (SSE) Global Dialogue took place at the United Nations Headquarters in Geneva. The aim of the SSE Global Dialogue is to gather ideas, insights and opinions brought about by the CEOs of international Stock Exchange Partners to develop and promote sustainability-related activities among all the Stock Exchanges of the world. New and renewed commitments from the various Stock Exchange Partners were discussed and additional steps will be taken to promote Environmental, Social, and Governance (ESG) performance among their listed companies. The event also led to discussions with policy makers on how the rules of capital markets should be strengthened to better align market signals with internationally agreed sustainability goals. Hong Kong Exchanges and Clearing Limited (HKEx) announced in October 2013 that it would make ESG reporting a recommended best practice for listed companies with the aim of following the global trend of increased ESG disclosure. HKEx plans to raise the level of obligation of some recommended disclosures to “comply or explain” in 2015 but there has not been any update on the mandatory compliance in the listing rules. HKEx is expecting its listed companies to develop a more comprehensive management strategy across their company operations to measure performance with reference to their health and environmental, social responsibility and corporate governance policies through the disclosure process of the ESG Report.

The origin of ESG reporting roots from social and ethical investment traced as far back as the 18th century in the UK, when a number of religious-based investment and pension funds incorporating the so-called “sin” screens into their investment philosophy, starting negative scanning on their investment portfolio by avoiding industries like tobacco, alcohol and gambling, etc. The modern era of socially responsible investing has its roots in the Vietnam War where increasing numbers of investors became aware that they would need to be cautious and ethical in devising investment strategies to avoid funding companies which may be suppliers of weapons used in the war. Interest continued to grow in the 1990s with an increase in engagement between Social Responsibility Investment funds and companies, and there were a growing number of shareholder resolutions and greater pressure for companies to be accountable and transparent about the social and environmental impacts of their business in addition to financial performance.

2. A global trend in Sustainable Development

The latest report by the Intergovernmental Panel on Climate Change (IPCC), a leading international body established by the United Nations Environment Programme (UNEP) and the World Meteorological Organisation (WMO) in 1988 for the assessment of climate change, reaffirms the overwhelming consensus:

global warming is occurring and is caused by humans

greenhouse gases (GHGs) emissions’ effect on the environment is inevitable.



In the 2014 Asia-Pacific Economic Cooperation (APEC) summit, the world’s two largest economies, energy consumers and emitters of greenhouse gases, China and USA issued a joint statement on combating climate change with respective post-2020 targets. China committed to slow, peak, and reverse the course of the country’s carbon emissions while the US is to set a new goal and double the pace of reducing the net greenhouse gas emissions by 26 to 28 per cent below 2005 levels by the year 2025. Agreement has been made to negotiate in strengthening practical cooperation on clean energy and environmental protection at the United Nations Climate Change Conference to be held in Paris in 2015.

In this year’s G20 Summit in Brisbane, US President Barack Obama gave a speech to the students of University of Queensland referencing the Great Barrier Reef, which the Intergovernmental Panel on Climate Change (IPCC) has warned could be at risk if effort is not made to reduce carbon emissions. Mr Obama said: “But let me say particularly to the young people here, combating climate change cannot be the work of governments alone. Citizens, especially the next generation, you have to keep raising your voices, because you deserve to live your lives in a world that is cleaner and that is healthier and that is sustainable, but that’s not going to happen unless you are heard”. Mr Obama has formally announced a $US3 billion contribution to the Green Climate1 fund to help developing countries cope with the effects of climate change.

The public is getting more and more concerned about the planet they are living in, environmental scientists say it is absolutely necessary to prevent the most catastrophic effects of climate change. The economic environment and its development have been the primary focus in developed and developing countries, but the environmental impact caused by the economic development is affecting the future of the Earth. Thus, international investors from both private and institutional sectors are increasingly interested in diversifying their portfolios by investing in companies that set industry-wide best practices concerning sustainability. From a purely financial point of view, the adoption of corporate sustainability or sustainable development conveys a positive message that the company, whether publicly listed or a small or medium-sized enterprise (SME), cares about the society and aims to increase long-term shareholder value.

A growing number of investors are convinced that sustainability is a catalyst for enlightened and disciplined management, and becomes the best practice and crucial success factor. The global trend envisaged by multi-national companies is that profitability is not the most important consideration for investors, but rather the internalised commitment of the organisation to minimise the harm or side-effects their businesses make to the social and physical environment.

The Dow Jones Sustainability Indices and FTSE4GOOD Indices are the pioneers from Dow Jones and FTSE respectively to enable investors, through very detailed analysis, to understand corporate sustainability performance with regard to their environmental, social and ethical/ governance impact. As one of the most influential financial markets in Asia, Hong Kong follows the global trend to adopt the method of determining a certain degree of corporate sustainability “Rating” by first recommending publicly listed companies to make disclosure through ESG reporting.

1 The Green Climate Fund is a fund under the financial mechanism of the United Nations Framework Convention on Climate Change (UNFCCC). The objective of the Fund is to provide support to developing countries to limit or reduce their greenhouse gas emission and to adapt to the impact of climate change as they are particularly vulnerable to the adverse effect of it.



3. Why is ESG important?

ESG’s key performance indicators (KPIs) provide the stakeholders with more insight into the management quality, culture, risk profile and other characteristics of a company.

It is important to stress that ESG factors not only reveal the appealing information of a company to investors, but also help the company’s management to benchmark its overall business operations and results for internal review, streamline processes and performance improvement. The ESG KPIs shed light on whether companies are:

leaders in their industries

better managed and more forward-thinking

better at anticipating and mitigating risk

committed to meet positive standards of corporate responsibility

focused on sustainable development in the long term

The public is getting more and more conscious of the ESG performance of companies and ESG reporting is similar to sustainability and Corporate Social Responsibility (CSR) reporting as it requires companies to disclose social and environmental impacts information. As the table below suggests, a company’s ESG activities have the potential to positively impact its financial performance over the long term.

ESG subject area/aspects

Aspects Potential impact on financial performance

Environmental protection

Emissions

Use of resources

The environment and natural resources

Reduce emissions and climate impact

Resource management and pollution prevention

Environmental reporting and wise use of resources

Lower costs through organisational energy use efficiencies and associated costs

Avoid or minimise environmental liabilities

identify opportunities to bolster the bottom line

Discover competitive advantages

Reduce regulatory, litigation and reputational risk

Identify cost-saving opportunities

Demonstrate corporate environmental responsibility and leadership



Social

Workplace quality

Operating practice

Community involvement

Workplace quality

Diversity

Health and safety

Labour-management relations

Human rights

Operating practice

Product/ service integrity

Product/ service quality

Safety

Meet customer demands

Emerging technology issues

Community involvement

Community Impact

Community relations

Responsible lending

Corporate philanthropy

Improved productivity and morale

Reduce turnover and absenteeism

Openness to new ideas and innovation

Reduce potential for litigation and reputational risk

Comply with local and national regulations

Create market-based incentives

identify carbon hotspots in the product life cycle and costs among suppliers

Corporate governance Executive compensation

Board accountability

Shareholder rights

Reporting and disclosure

Align interests of shareowners and management

Avoid negative financial surprises

Reduce reputational risk

Companies will benefit in the following ways from adopting the ESG reporting initiatives:

Build up and strengthen corporate reputation and brand preference

Improve environmental rankings and demonstrate corporate social responsibility

Improve staff engagement and morale since it takes collective efforts in the preparation of the ESG report

Attract new talent by demonstrating awareness of and leadership in sustainability

Differentiate products and services from competitors

Drive sales with customers and increase customer loyalty by showing that care is given to meeting customers’ needs

Broaden market distribution by demonstrating the company’s commitment to reducing the environmental impact of their products



What to report?

The reporting framework of the HKEx ESG report is listed in the following table:

Subject area Aspect

A. Workplace quality A1 Working conditions

A2 Health and safety

A3 Development and training

A4 Labour standards

B. Environmental protection B1 Emissions

B2 Use of resources

B3 The environment and natural resources

C. Operating practices C1 Supply chain management

C2 Product responsibility

C3 Anti-corruption

D. Community involvement D1 Community investment

How to prepare?

Societal expectations, government regulation and investor engagement are driving increasing awareness and action on, Environmental, Social, and Governance (ESG) performance around the world. These drivers challenge organisations and their chief financial officers (CFOs) to enhance reporting and disclosure, and address ESG factors as an everyday part of decision-making.

The practical question here is: “how should organisations provide meaningful and specific data for their ESG reports?”

The following points shed light on the issue:

Establish an internal working group or assign a main contact person in the company

Assess the current state of ESG performance

Identify subject areas, aspects and indicators/KPIs that are relevant

Determine scope of the ESG report, ie to focus on a single business line, or on a specific programme, initiative or product (geographical or business scope)



Assess the systems in place to manage responsible business practices related to the environment and society as a whole, and to collect the relevant data required

Look into the guiding principles, policies, and governance structures that support your company vision and leadership in social involvement, corporate governance and business ethics including improper or unethical business practices such as fraud or bribery

Commit resources, secure overall organisational commitment to stakeholder engagement at the beginning

Develop a comprehensive list of stakeholders (eg suppliers, customers and internal stakeholders such as management and employees) and identify interests of the stakeholders

Reduce the number of stakeholders to a workable size (it may not be possible to contact each and every stakeholder for an opinion on an ESG issue)

Setting strategic engagement objectives – choose an appropriate method to collect opinions from stakeholders and analyse the results

Begin data collection for all defined subject areas, aspects and indicators/KPIs

Calculate GHG emissions for environmental aspect

Assess data quality and analyse

Prepare ESG report in accordance with HKEx requirement and recommendation

Review and prepare for the next round of reporting and strategies for ESG improvement.

The green path ahead

The Greenhouse Gases (GHGs) emissions inventory, guided by GHG Protocol Corporate Standard, comprises the accounting and reporting of the six greenhouse gases covered by the Kyoto Protocol, namely carbon dioxide (CO2), methane (CH4), nitrous oxide (N2O), hydrofluorocarbons (HFCs), perfluorocarbons (PFCs), and sulphur hexafluoride (SF6). The GHG Protocol Corporate Standard was amended in May 2013 to include a seventh greenhouse gas – nitrogen trifluoride (NF3). Nitrogen trifluoride is an inorganic nitrogen-fluorine compound that acts as a replacement for PFCs, which is used most frequently in the electronics industry during various processes including plasma etching, cleaning chambers in which silicon chips are made, semi-conductors and LCD panel manufacturing. All greenhouse gases (GHGs) are not equal. In fact, each greenhouse gas has a unique ability to trap heat in the atmosphere relative to carbon dioxide (CO2) over a specified time horizon. To reiterate the report statement of Intergovernmental Panel on Climate Change (IPCC), greenhouse gases (GHGs) emissions’ effect on the environment is inevitable, global business corporations must gear towards more sustainable development to minimise their impact to climate change.

Nowadays, many companies, either listed or not listed, multinational or SME, manufacturing or servicing, are actively engaging with the public sector, and leading, funding or volunteering in non-governmental organisations (NGOs) that are addressing the issues of climate change, water management, fuel technology, diversity and inclusion development, disaster recovery and community safety. With the collaboration of work, knowledge exchange and expertise transfer, companies begin to implement green ideas so that good solutions for sustainability find their way into the mainstream consciousness.

There may be different views on corporate best practice, but all companies should start preparing for ESG disclosure in some way. An ESG report is only a document for disclosure, the underlying idea is society’s will that businesses – while their traditional objectives are making profits or capital gain – will become more and more dedicated to caring for people, natural resources and the planet by designing safe, energy-efficient



products in the manufacturing sector and providing energy-efficient services in various service sectors that minimise the overall environmental impact to the Earth. Just as the title of this article, an ESG report is a document to convey an organisation’s sustainability commitment. Companies will benefit from their commitment to ethical and legal business, environmental, human rights and labour practices on a global basis.

C O N T A C T

Mr. Paul WuPrincipalEmail: [email protected]

Ms. Kaily LamManagerEmail: [email protected]

Ascent Partners Group Limited21/F, Hong Kong Trade Centre, 161-167 Des Voeux Road Central, Hong KongTel: (852) 3679 3890Fax: (852) 3579 0884Website: www.ascent-partners.com

t r o u t m a n s a n d e r s . c o mATLANTA BEIJING CHARLOTTE CHICAGO HONG KONG NEW YORK ORANGE COUNTY PORTLAND RALEIGH RICHMOND SAN DIEGO SHANGHAI TYSONS CORNER VIRGINIA BEACH WASHINGTON, DC

Troutman Sanders


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CHAPTER 10

Listed Company Compliance Issues

1. Introduction

Upon listing of a company on the Hong Kong Stock Exchange, that company will need to comply with a wide range of obligations imposed on it by the Hong Kong laws and regulations, such as the Rules Governing the Listing of Securities on The Stock Exchange of Hong Kong Limited (“Listing Rules”), the Securities and Futures Ordinance (“SFO”) and the Hong Kong Code on Takeovers and Mergers (“Takeovers Code”). Failure to comply with any of these obligations may result in the Hong Kong Stock Exchange and/or the Securities and Futures Commission of Hong Kong (“SFC”) taking disciplinary or other actions and even criminal prosecutions against that company and its personnel.

This chapter provides an outline of the following major aspects of post-listing compliance for a Hong Kong listed company, namely: (i) disclosure of inside information under the SFO; (ii) notifiable transactions; (iii) connected transactions; (iv) other general obligations under the Listing Rules; and (v) obligations in the event of a takeover. Please note, however, that this outline is not an exhaustive list of all relevant requirements. A listed company is to comply with other obligations set out in the Listing Rules, the SFO, the Takeovers Code and other laws and regulations in Hong Kong, such as the Companies Ordinance and the Companies (Winding Up and Miscellaneous Provisions) Ordinance.

2. Disclosure of inside information

The SFO requires timely disclosure by listed companies of “inside information” for maintaining a fair and informed market. This area had long been the focus of Hong Kong regulators for enhancing market transparency and, as a result, Part XIVA was introduced to the SFO from January 1, 2013 to make the disclosure requirements part of the law. This statutory disclosure obligation in relation to “inside information” is to be enforced by the SFC. The SFC has also issued “Guidelines on Disclosure of Inside Information” (“Guidelines”) to provide examples and discuss issues on particular situations.

2.1 What may constitute “inside information”?

“Inside information”, in relation to a listed company, means specific information that is about: (i) the company; (ii) a shareholder or officer of the company; or (iii) the listed securities of the company or their derivatives, and is not generally known to the persons who are accustomed or would be likely to deal in the listed securities of the company but would, if generally known to them, be likely to materially affect the price of such listed securities.

The Guidelines identified three key elements comprised in the concept of “inside information”:

1. the information about the company must be specific;

2. the information must not be generally known to that segment of the market which deals or which would likely deal in the company’s securities; and

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3. the information would, if so known be likely to have a material effect on the price of the company’s securities.

Below are the common examples of events and circumstances listed in the Guidelines where a listed company should consider whether a disclosure obligation arises:

changes in performance, or the expectation of the performance, of the business;

changes in financial condition, e.g. cash flow crisis, credit crunch;

changes in control and control agreements;

changes in directors, supervisors or auditors;

changes in the share capital, e.g. new share placing, bonus issue, rights issue, share split, share consolidation and capital reduction;

issue of debt securities, convertible instruments, options or warrants to acquire or subscribe for securities;

purchase or disposal of equity interests or other major assets or business operations;

formation of a joint venture;

restructurings, reorganisations and spin-offs that have an effect on the company’s assets, liabilities, financial position or profits and losses;

legal disputes and proceedings;

revocation or cancellation of credit lines by one or more banks;

changes in value of assets;

insolvency of relevant debtors;

physical destruction of uninsured goods;

new licenses, patents, registered trademarks;

decrease or increase in value of financial instruments in portfolio which include financial assets or liabilities arising from futures contracts, derivatives, warrants, swaps protective hedges, credit default swaps;

decrease in value of patents or rights or intangible assets due to market innovation;

receiving acquisition bids for relevant assets;

innovative products or processes;

changes in expected earnings or losses;

orders received from customers, their cancellation or important changes;

withdrawal from or entry into new core business areas;

pledge of the company’s shares by controlling shareholders;

changes in a matter which was the subject of a previous announcement.

2.2 When and how should inside information be disclosed?

The listed company must, as soon as reasonably practicable after any inside information has come to its knowledge, disclose the information to the public. The disclosure should be made by way of a public announcement. Before the information is fully disclosed to the public, the company should ensure that the information is kept strictly confidential. Where the company believes that the necessary degree of confidentiality cannot be maintained or that confidentiality may have been breached, it should immediately disclose the information to the public.

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If the listed company needs time to clarify the details of, and the impact arising from, an event or a set of circumstances before it is in a position to issue a full announcement to properly inform the public, it should consider issuing a “holding announcement” which set out as much detail as possible of the subject matter and the reasons why a fuller announcement cannot be made. The full announcement should be made as soon as reasonably practicable.

2.3 Safe harbours that allow non-disclosure of inside information

To strike an appropriate balance between requiring timely disclosure of inside information and preventing premature disclosure which may prejudice a listed company’s legitimate interest, a listed company is not required to disclose any inside information under the following circumstances:

(1) if and so long as the disclosure is prohibited by an order of a Hong Kong court or any statutory provisions of Hong Kong; or

(2) if the company takes reasonable precautions for preserving the confidentiality of the information and such confidentiality is preserved, and one or more of the following applies:

the information concerns an incomplete proposal or negotiation;

the information is a trade secret;

the information concerns the provision of liquidity support from the Exchange Fund of Hong Kong or from an institution which performs the functions of a central bank to the company or, if the company is a member of a group of companies, to any other member of the group; or

the disclosure is waived by the SFC.

2.4 Responsibility for compliance and management controls

The SFO requires that every officer must take all reasonable measures from time-to-time to ensure that proper safeguards exist to prevent a breach of a disclosure requirement in relation to the company. “Officer” means a director, manager or company secretary or any other person involved in the management. If the listed company is in breach of a disclosure requirement, an officer of the company is also considered to be in breach of the disclosure requirement if:

1. it is his intentional, reckless or negligent conduct that has resulted in the breach; or

2. he/she has not taken all reasonable measures from time to time to ensure that proper safeguards exist to prevent the breach.

Hinting Note

Maintaining an effective policy in respect of material information

In this connection, a listed company should establish and maintain appropriate and effective systems and procedures to ensure any material information which comes to the knowledge of its officers be promptly identified, assessed and escalated for the attention of the board to decide about the need for disclosure. This would require a timely and structured flow to the board of information arising from the development or occurrence of events and circumstances so that the board can decide whether disclosure is necessary.

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3. Notifiable transactions

Chapter 14 of the Listing Rules sets out detailed rules on how certain transactions – principally acquisitions and disposals by a listed company and its subsidiaries – are classified according to their size, the details that are required to be disclosed to the public, and whether a circular and shareholders’ approval are required based on their size. The purpose of the notifiable transaction rules is to enhance shareholders’ entitlement to information and involvement in significant transactions of a listed company.

Notifiable transactions mainly involve acquisitions or disposal of capital assets, formation of joint ventures, provision of financial assistance and other capital nature transactions. Details of a transaction are required to be disclosed to the public if it is at least 5% in size calculated based on the “5 tests”.

Chapter 14 of the Listing Rules has established the “5 percentage ratios”, commonly known as the “5 tests”, to determine the classification of a transaction and the level of disclosure and shareholder’s involvement required. With detailed rules on the calculation for each test, the “5 tests” is designed to provide a meaningful measure of the relative size of the transaction in question against that of the listed company.

3.1 5 tests

The following are the “5 tests” and their formulae which calculate the relevant percentage ratios (expressed as percentages) for a particular transaction:

(1) Assets ratio = Total assets which are the subject of the transaction

Total assets of the listed company

(2) Profits ratio =

Profits attributable to the assets which are the subject of the transaction

Profits of the listed company

(3) Revenue ratio =

Revenue attributable to the assets which are the subject of the transaction

Revenue of the listed company

(4) Consideration ratio = Consideration

Total market capitalisation of the listed company

(5) Equity ratio = Nominal value of the listed company’s equity capital issued as consideration

Nominal value of the listed company’s issued equity capital immediately before the transaction

Note: This equity ratio is only applicable for acquisitions (and not disposals) by the listed company issuing new equity capital as consideration.

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3.2 Classification of transactions

The size of the transaction is calculated using the “5 tests”. The resulting percentage ratios will then be used for classification of the transaction. Each category of notifiable transaction is subject to different disclosure and other requirements. The following are the six categories of notifiable transactions based on the size of the transaction (or a series of transactions), as determined by the percentage ratios:

A “share transaction” is an acquisition of assets (excluding cash) where the consideration includes securities for which listing will be sought and where all percentage ratios are less than 5%

A “discloseable transaction” is a transaction where any percentage ratio is 5% or more but less than 25%

A “major transaction” is an acquisition where any percentage ratio is 25% or more but less than 100%, or a disposal where any percentage ratio is 25% or more but less than 75%

A “very substantial acquisition” is an acquisition where any percentage ratio is 100% or more.

A “very substantial disposal” is a disposal where any percentage ratio is 75% or more.

A “reverse takeover” is a very substantial acquisition of assets by the listed company involving a change of control of the listed company which constitutes an attempt to achieve a listing of the assets to be acquired and a means to circumvent the listing requirements.

3.3 Disclosure and other requirements

The following table summarises the notification, publication and shareholders’ approval requirements for each category of notifiable transactions:

Notification to Hong Kong Stock Exchange

Publication of announcement

Circular to shareholders

Shareholders’ approval

Accountants’ report

Share transaction Yes Yes No No No

Discloseable transaction

Yes Yes No No No

Major transaction Yes Yes Yes Yes+ Yes#

Very substantial disposal

Yes Yes Yes Yes+ No*

Very substantial acquisition

Yes Yes Yes Yes+ Yes#

Reverse takeover Yes Yes Yes Yes+ Yes#

# Only for acquisition of businesses or companies

* The Listed company may at its option include an accountants’ report

+ Any shareholder and his associates must abstain from voting if such shareholder has a material interest in the transaction

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3.4 Aggregation of transactions

To prevent a listed company from circumventing the notifiable transaction rules by a series of transactions, the Hong Kong Stock Exchange retains discretion to require the listed company to aggregate a series of transactions and treat them as if they were one transaction if they are all completed within a 12-month period or are otherwise related. This rule of aggregation applies to both notifiable transactions and connected transactions. The Hong Kong Stock Exchange will take into account the following factors in determining whether transactions will be aggregated:

1. whether the transactions are entered into by the listed company with the same party or with parties connected or otherwise associated with one another;

2. whether the transactions involve the acquisition or disposal of securities or an interest in one particular company or group of companies;

3. whether the transactions involve the acquisition or disposal of parts of one asset; or

4. whether the transactions together lead to substantial involvement by the listed company in a new business activity.

4. Connected transactions

Connected transactions are transactions between the listed company’s group (including its subsidiaries) on one hand, and connected persons or their associates on the other hand. In addition, connected transactions include certain types of transaction with third parties that may confer benefits on connected persons through their interests in the entities involved in the transactions. The connected transactions can be one-off or even continuing transactions.

These connected transactions are governed by Chapter 14A of the Listing Rules. The purpose of regulating connected transactions is to ensure that the interests of shareholders as a whole are taken into account by the listed company when it enters into connected transactions with its connected persons, such as its directors, chief executives, substantial shareholders, so that none of them will be able to take advantage of their positions in the listed company’s group.

Under the rules, unless an exemption applies, connected transactions are subject to the general requirements of: (1) disclosures in announcements, circulars and annual reports (2) shareholders’ approval, and, for continuing connected transactions (3) the requirement of annual reviews by independent non-executive directors and the auditors.

The definition of “transactions” for “connected transactions” is broader than that of “notifiable transactions”, as it includes both capital and revenue nature transactions, whereas “notifiable transactions” generally excludes revenue nature transaction save expressly so provided in Chapter 14 of the Listing Rules.

4.1 Definition of “connected person”, “associate” and “connected subsidiary”

1. Connected person

Under the connected transaction rules, a connected person is:

(i) a director, chief executive, substantial shareholder (holding at least 10% of the voting rights) or supervisor (in case of a PRC issuer) of the listed company or any of its subsidiaries;(ii) a person who was a director of the listed company or any of its subsidiaries in the last 12 months;(iii) an “associate” of any person referred to in (i) and (ii);(iv) a “connected subsidiary”; or

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(v) a person deemed to be connected by the Hong Kong Stock Exchange.

2. Associate

An “associate” of a connected person is defined in Rules 14A.12 to 14A.15 of the Listing Rules. They are divided into two categories:

(i) associates of a connected person who is an individual They include a spouse, a person cohabiting as a spouse, child or step-child, parent, step-parent and sibling

of that connected person (family members), and any company under a certain level of control of that connected person and/or that connected person’s family member(s) and/or their trustee.

(ii) associates of a connected person which is a company They include a subsidiary, holding company, fellow subsidiary of the holding company of that connected

person, and any company which that connected person and/or any of the above companies and/or their trustee hold 30% or more of its voting rights or control the composition of a majority of the board, and any other company which is a subsidiary of such a company.

3. Connected subsidiary

A “connected subsidiary” is defined in Rule 14A.16 to include: (i) a non wholly-owned subsidiary of the listed company which any connected person(s) at the listed company level hold 10% or more of the voting power at the subsidiary’s general meeting; and (ii) any subsidiary of that non wholly-owned subsidiary.

4.2 Types of connected transactions

There are two types of connected transactions – one-off connected transactions and continuing connected transactions.

For a continuing connected transaction, the listed company must set an annual cap, which must be: (1) expressed in monetary terms; (2) determined by reference to previous transactions and figures in the published information of the listed company’s group or on reasonable assumptions if there were no previous transactions; and (3) approved by shareholders if the transaction requires shareholders’ approval. The connected transaction rules require the listed company to re-comply with the announcement and shareholders’ approval requirements before the annual cap is exceeded, or before it renews the agreement or effects a material change to its terms. The period for the agreement must be fixed and reflect normal commercial terms or better. It must not exceed three years except in special circumstances where the nature of the transaction requires a longer period. A non-exempt or partially exempt continuing connected transaction is subject to annual review by the independent non-executive directors and the auditors.

4.3 Exemptions for connected transactions

Depending on the applicability of the exemptions under the connected transaction rules, a connected transaction will fall within one of the three categories below:

1. Fully exempt connected transaction

Connected transactions in this category are fully exempt from shareholders’ approval, annual review and all disclosure requirements. For example, if the connected transaction is on normal or better commercial terms, and all the percentage ratios (other than the profits ratio) are:

– less than 0.1%; or – less than 1% and the transaction is a connected transaction only because it involves connected person(s)

at the subsidiary level; or

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– less than 5% and the total consideration is less than HK$3 million, then this connected transaction is fully exempt under this de minimis exemption. There are other

exemptions which provide for full exemption for certain types of transactions.

2. Partly exempt connected transaction

Connected transactions in this category is exempt from the circular and shareholder approval requirements but are subject to annual review (in case of continuing connected transaction) and all disclosure requirements. For example, if the connected transaction is on normal or better commercial terms, and all the percentage ratios (other than the profits ratio) are:

– less than 5%; or – less than 25% and the total consideration is less than HK$10 million,

then this connected transaction is exempt from the circular and shareholder approval requirements under this de minimis exemption. There are other exemptions which provide for partial exemption for certain types of transactions.

3. Non-exempt connected transaction

If none of the exemptions or waivers is available, the listed company is required to comply with shareholders’ approval, annual review (in case of continuing connected transaction) and all disclosure requirements and obtain the prior approval from the independent shareholders. In addition, the circular to shareholders must contain an advice from an independent financial adviser on the terms of the transaction and a recommendation from an independent board committee.

4.4 Recent amendments to the connected transaction rules

Chapter 14A of the Listing Rules has been recently amended and the amendments came into effect on July 1, 2014. Some of the important changes are highlighted below:

1. Amendments to the definition of connected person and associate:

(i) Excluding persons connected with insignificant subsidiaries from the definition of connected person – Such persons (e.g. director, chief executive or substantial shareholder of an insignificant subsidiary) are no longer connected persons to the listed company, and there is no longer size restriction for capital nature transaction between an insignificant subsidiary and the person connected with that subsidiary. An “insignificant subsidiary” is a subsidiary of the listed company whose total assets, profits and revenue as compared to that of the listed company’s group are less than: (i) 10% under the percentage ratios for each of the three preceding financial years; or (ii) 5% under the percentage ratios for the latest financial year.

(ii) Excluding trustees of employee share scheme or occupational pension scheme from the definition of associate – The previous definition of “associate” includes trustees of any trust of which a director, chief executive or substantial shareholder (or any of his/her immediate family) is a beneficiary. A trustee of an employees’ share scheme or occupational pension scheme established for a wide scope of participants is no longer within the definition of “associate” if the connected persons’ aggregate interests in the scheme are less than 30%

2. Amendments to the scope of connected transactions: Excluding certain types of transactions with third parties from the scope – Previously, certain types of transactions between the listed company and a third party involving a “controller” (i.e. a director, chief executive or controlling shareholder of the listed company or its subsidiary) were regarded as connected transactions. As from July 1, 2014, a transaction

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with a third party will constitute connected transactions only if it involves the listed company’s acquiring an interest in a target company where a substantial shareholder of that target company is or is proposed to be a “controller” at the level of the listed company, or is or will (as a result of the transaction) become an associate of a “controller”.

3. Amendments to exemptions for connected transactions:

(i) Partial exemption for transactions with connected persons at subsidiary level – The previous definition of connected persons included persons connected at subsidiary level (e.g. a director, chief executive or substantial shareholder of a subsidiary of the listed company). Their connected transactions with the listed company’s group are now exempt from the circular and shareholders’ approval requirement if: (i) the transactions are on normal or better commercial terms; (ii) the transactions are approved by the listed company’s board; and (iii) the listed company’s independent non-executive directors confirm that the terms of the transactions are fair and reasonable, and the transactions are on normal commercial terms and in the interests of the listed company and its shareholders as a whole.

(ii) Increased monetary cap for de minimis exemption – The de minimis exemption is relied upon by listed companies to exempt smaller connected transactions from all the disclosure and shareholders’ approval requirements. Previously, a connected transaction could be fully exempt under the de minimis exemption if the percentage ratios of the connected transaction are equal to or more than 0.1% but less than 5% and the total consideration is less than HK$1 million. This HK$1 million cap is now increased to HK$3 million, which makes it easier for smaller connected transaction to fall with the de minimis exemption.

(iii) Relaxed exemption for provision/receipt of consumer goods or services - Provision to or receipt from connected persons of consumer goods or services is fully exempt from all the connected transaction requirements subject to certain conditions, one previously being that the consideration or value involved must be less than 1% of the listed company’s total revenue or total purchases. The 1% cap for this exemption is removed.

Hinting Note

Maintaining a connected transaction compliance system

Given the complexity and technical nature of the connected transaction rules, it is important for a listed company to have a sound connected transaction compliance system which is capable of identifying connected persons and monitoring continuing connected transactions. This will ensure compliance with the Listing Rules and promote investors’ confidence in the listed company. A good connected transaction compliance system will assist the listed company in:

regularly updating the list of connected persons

determining whether a deal is a connected transaction before signing

for countinuing connected transactions:

the transaction volume or proposed changes to the transaction terms

ensuring compliance with all applicable requirements in accordance with the connected transaction rules after the listed company enters into a connected transaction

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5. Other general obligations under the Listing Rules

Apart from the requirements in relation to inside information, notifiable transactions and connected transactions, a Hong Kong listed company is required to meet other continuing obligations, most being disclosure obligations, pursuant to the Listing Rules.

The table below is a list of some of the continuing obligations of a listed company under Chapter 13 of the Listing Rules:

Listing Rules Obligations

13.09(1) To announce information necessary to avoid a false market (e.g. incomplete information in the market) as soon as reasonably practicable after consultation with the Hong Kong Stock Exchange

13.10 To respond to the Hong Kong Stock Exchange’s enquiries concerning unusual price movements or trading volume, the possible development of a false market in the listed company’s securities or any other matters

13.13–13.15A To announce details advance to an entity which exceeds 8% under the assets ratio

13.16 To announce details of financial assistance to affiliated companies which in aggregate exceeds 8% under the assets ratio

13.17 To announce details of a controlling shareholder’s pledge of all or part of his interest in the listed company’s shares to secure its debts

13.18 To announce details relating to a loan agreement that includes a condition imposing specific performance obligations on controlling shareholder and a breach of such an obligation will cause a default in respect of loans that are significant to the listed company’s operations

13.19 To announce information relating to breaches of loan agreements for loans that are significant to the listed company’s operations such that the lenders may demand their immediate repayment

13.28–13.30 To announce information relating to issue of securities

13.32 To maintain the minimum 25% public float

13.46–13.49 To publish annual and interim results announcements, annual report and interim report

13.51 To announce changes in relation to constitutional documents, directors, supervisors, chief executives, secretary, auditors, share registrar, process agent, compliance adviser, financial year end, registered address, rights attaching to any class of listed securities etc.

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A newly listed company should also note that, pursuant to Rule 14.89 of the Listing Rules, within the first 12 months after its listing, it is not allowed to effect any acquisition, disposal or other transactions or arrangements which would result in a fundamental change in its principal business activities as described in the prospectus.

6. Obligations in the event of a takeover

A Hong Kong listed company must comply with the Takeovers Code if a takeover offer for its shares is made. The SFC is the principal regulator of the Takeovers Code, which primarily aims to afford fair treatment for shareholders affected by takeover transactions.

Under the Takeovers Code, if a party acquires 30% or more of a listed company’s shares, or if the party already holds over 30%, but not more than 50% and it acquires 2% or more in any 12-month period, that party must make a mandatory takeover offer to acquire all the shares of that listed company. All other offers are voluntary offers.

6.1 Obligations of a listed company as takeover target

Any offer for a listed company should be put forward in the first instance to that company’s board or to its advisers, and before the offer is announced to the public. A board which receives an offer, or is approached with a view to an offer being made, must establish an independent committee of the board to make a recommendation as to whether the offer is, or is not, fair and reasonable and as to acceptance or voting. The board must retain a competent independent financial adviser to advise the independent committee in writing in connection with the offer.

Until an offer is announced to the public, a proposed takeover will be price sensitive information in relation to the securities of the listed company. The Takeovers Code requires secrecy before an announcement is made. All persons in possession of confidential information must treat it as secret and must take steps to minimise the chances of an accidental leak of information. Also, no dealing may be made by any person (other than the offeror) who possesses price sensitive information concerning an actual or contemplated offer. If there are leaks resulting in rumor or speculation about a possible offer or undue movement in the share price or trading volume, the board must make an early announcement of the possibility of an offer. If there is no further announcement in respect of that possible offer within one month, the listed company must make an announcement setting out the progress. This obligation continues until the listed company has made an announcement of either a firm intention to make an offer or of a decision not to proceed with the offer. After the announcement of a firm intention to make an offer is made, a board circular setting out the recommendation of the independent board committee and the independent financial adviser’s advice will need to be dispatched to the shareholders.

An offer period normally begins with the announcement of a proposed or possible offer. When the offer period begins, the listed company must announce, as soon as possible, details of all classes of relevant securities issued by it, including the numbers of such securities in issue. Any subsequent change in such details should be announced as soon as possible. In addition, all dealings by the offeror or the listed company and their respective associates during the offer period are subject to disclosure obligations under the Takeovers Code.

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C O N T A C T

Rossana ChuPartnerEmail: [email protected]

Dennis YeungSenior AssociateEmail: [email protected]

Troutman Sanders34/F Two Exchange Square, 8 Connaught Place, Central, Hong KongTel: (852) 2533 7888Fax: (852) 3009 3438Website: www.troutmansanders.com

A listed company should also note that once a bona fide offer has been communicated to its board, it is prohibited by the Takeovers Code from taking any action which could effectively result in an offer being frustrated except with the approval of its shareholders in general meeting. Examples of frustrating actions include issue of shares, grant of options, disposal or acquisition of assets of a material amount or buying back shares.



Selecting Your Compliance Officer

A newly listed company must appoint a compliance adviser for the period starting from the date of listing and ending on the date on which the listed company publishes its financial results for the first full financial year commencing after the date of listing. The compliance adviser’s principal role is to ensure that the listed company is properly guided and advised as to compliance with the Listing Rules and all other applicable laws, rules, codes and guidelines.

Who may be appointed: A compliance adviser must be licensed or registered under the SFO for Type 6 regulated activity (advising on corporate finance) and permitted under its licence or certificate of registration to undertake work as a sponsor. In some IPOs, the IPO applicants appointed their IPO sponsors as their compliance advisers upon listing.

Timing of appointment: To ensure that the appointment is in place immediately after listing, an IPO applicant will need to appoint the compliance adviser in advance and disclose the same in the prospectus, and arrange for the submission of the compliance adviser’s undertaking to the Hong Kong Stock Exchange before the publication of the prospectus.

When to consult: During the term of the compliance adviser’s appointment, the listed company must consult with the compliance adviser and, if necessary, seek advice from it on a timely basis in the following circumstances:

(1) before the publication of any regulatory announcement, circular or financial report;

(2) where a transaction (a notifiable or connected transaction) is contemplated including share issues and share repurchases;

(3) where the listed company proposes to use the IPO proceeds in a manner different from the use stated in the prospectus or where the business activities, developments or results of the listed company deviate from any forecast, estimate or other information in the prospectus; and

(4) where the Hong Kong Stock Exchange makes an inquiry of the listed issuer under Rule 13.10 of the Listing Rules.

The listed company is encouraged to work closely with its compliance adviser. In particular, it should proactively discuss and seek advice from its compliance adviser on matters described above, maintain regular contact with its compliance adviser and keep it appraised of developments and proposed corporate actions. The listed company should allow adequate time for the compliance adviser to review the matters and provide advice.



Compliance adviser’s role: When the compliance adviser is consulted in the above circumstances, the compliance adviser is expected to ensure that the listed company is properly guided and advised as to compliance, and to discuss frequently with the listed company its operating performance and financial condition, its achievement of any profit forecast or estimate set out in the prospectus, and its compliance with the terms of the waivers granted by or undertakings given to the Hong Kong Stock Exchange. In addition, the compliance adviser may act as an additional communication channel to maximize the effectiveness of communication between the listed company and the Hong Kong Stock Exchange.

Termination: The listed company may terminate a compliance adviser’s role only if the compliance adviser’s work is of an unacceptable standard or if there is a material dispute (which cannot be resolved within 30 days) over fees payable to the compliance adviser.

7. Conclusion

A company that seeks listing in Hong Kong should get itself fully prepared for the wide range of post-listing compliance obligations which are designed to provide shareholders and the public with information on a timely and even basis. Given the continuing nature of these compliance obligations, a listing applicant must ensure that an effective internal control system will be in place upon listing. But what is also important is the awareness that timely disclosure of accurate and quality information is in the company’s interests, since investors nowadays attach high importance to the transparency of listed companies.

C O N T A C T

Rossana ChuPartnerEmail: [email protected]

Dennis YeungSenior AssociateEmail: [email protected]

Troutman Sanders34/F Two Exchange Square, 8 Connaught Place, Central, Hong KongTel: (852) 2533 7888Fax: (852) 3009 3438Website: www.troutmansanders.com

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CHAPTER 11

Corporate Finance Strategies Post-IPO

1. Introduction

An IPO is a long, arduous and expensive process. It is, nevertheless, worthwhile if the objectives can be clearly defined beforehand and achieved in practice afterwards. Some of the objectives, such as obtaining a listing status and raising capital (whether new capital for the company or funds for existing shareholders), are achieved as part and parcel of the process itself. The others, perhaps the majority, are a “work-in-progress” at the time the IPO completes, such as:

achieving full liquidity and marketability for the shares

raising further capital in the secondary market

use in acquisitions and as security

use as security for loans

The main post-IPO objectives and how a financial adviser can help the newly listed company to fulfill them are the subjects of paragraphs 2 to 5 of this chapter. The roles of compliance adviser and independent financial adviser are covered in paragraphs 6 and 7.

2. Achieving Full Liquidity and Marketability

2.1 A newly listed company often turns to the sponsor or other financial adviser to “hold their hand” during the critical period after the launch of its IPO. This period, called the stabilisation period, which is described in Chapter 3, is a formal arrangement. Disarmingly, prospectuses carry a specific warning that the underwriter may effect transactions which stabilise or maintain the market price of the shares “at levels above those which might otherwise prevail on the open market”. However, after one month, when the stabilisation period is over, the newly hatched public company is on its own. Liquidity of the shares may become a problem.

2.2 As described in Chapter 3, Hong Kong IPOs have become increasingly reliant on cornerstones; such investors, while counting as part of the required public float level, are “locked up” for six months, so that their shares cannot be traded in the market.

2.3 If only the minimum number of shares has been issued or sold to the public to qualify for a listing under the stock exchange rules, small purchases by directors or major shareholders (who do not qualify as “the public”) would jeopardise the company’s newly won listed status. Consequently, the controlling

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shareholders may not be able to buy in the market. Nor can they sell in the short term, as it is standard procedure for the sponsor to require that the promoters and other major existing shareholders will not sell their holdings into the market for a period of, six months, for example, after the IPO. Under Stock Exchange rules, the controlling shareholder cannot sell for six months, and control cannot change for the first twelve months after the IPO.

2.4 How can a company face the challenge of retaining market interest? Partly by “sticking to the knitting”, as senior management may well have been distracted during the prospectus period. With additional funds and an enhanced profile, a company should be well-positioned to implement additional projects and generate positive announcements and press coverage. It will have engaged a financial public relations firm during the IPO, and that firm may propose “follow up” announcements to build on the IPO publicity. In doing so, it must take care to keep to any policy commitments made in the prospectus. Encouraging progress when the upcoming financial results are announced will help with investor morale and counter any suggestion that the company has been listed at its performance peak.

2.5 Opinions vary on what constitutes the success of an IPO, with differing perspectives on the level of demand and the price at which the shares start trading.

Directors and management may feel they have made the best deal for the company (as opposed to the new shareholders) if the IPO price is high enough to eliminate any significant premium when trading starts. They may also feel that bankers should be made to earn their fee for underwriting and selling the issue.

Bankers must balance an understandable desire for a safety margin with the possible annoyance of their client (and loss of future business) if the issue is too cautiously priced. Subscribers are attracted by an issue price which leaves “something to go for” and would look for a 10-20% premium, for example, when trading starts in order to cover their expenses and risk.

Vendor shareholders may object to profits which represent “money left on the table” by themselves. However, the promoters may measure their own prestige against the level of demand and the premium on the start of trading. Particularly if they have encouraged friends and associates to subscribe, a discount at the opening is embarrassing to them. Since the market price determines the value of their remaining shareholding, the market price should concern them as much as, or more than, the issue price.

3. Raising Further Capital

3.1 An IPO paves the way for future fund raising exercises. This applies not only to the equity markets but to improved access to other capital markets, such as bonds and syndicated loans. The company’s public status, together with the greater transparency as regards financial information, is likely to make its name more acceptable to fund providers. Unlike an IPO, which may take a year or more to prepare, further equity issues, once the company is listed, can be completed relatively quickly.

3.2 Issues of new shares or equity-linked securities which are offered first to existing shareholders are called “rights issues” or “open offers”. Existing shareholders are an obvious source of new equity for a company as they have already made a deliberate decision to invest in it.

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3.3 There are two main reasons for adopting a rights issue or open offer structure:

(i) They provide a means of raising new equity capital while giving existing shareholders an opportunity to ensure that their percentage holding in the company is not diluted.

(ii) Shareholders are in a position to benefit from any discount in the price at which the new shares are issued compared with the prevailing market price.

In addition, rights issues provide for an opportunity to sell “nil paid” rights – that is before shareholders have put up any money – if they cannot, or do not wish to, take up the rights themselves.

3.4 A normal size for a rights issue is in a range between one new share for every ten existing shares and one new share for every two existing shares. If less than this, the time and expense needed may not be justified; above this, the “call” on shareholders is considered heavy. Under Hong Kong Listing Rule 7.19(6), an issue of over 1-for-2 requires approval by minority shareholders, i.e. shareholders other than controlling/ management shareholders.

3.5 A requirement to offer new shares first to existing shareholders is subject to exceptions. The most commonis that up to 20% of a company’s issued share capital may, under the Hong Kong Listing Rules, be issued to third parties, provided existing shareholders have previously given the directors a “general mandate” to do so (usually given or renewed annually at the annual general meeting). A general mandate placing may not be made at a discount of more than 20% to market price.

3.6 General mandate or other placings are normally organised by investment banks, stockbrokers or the two acting in combination. Depending on the size of the placing, a syndicate of intermediaries may be formed to maximise contacts with institutions and other interested parties. On the assumption that investors are knowledgeable, professional investors, a placing can be carried out with little or no information provided about the company other than what has already been published. In a placing and “top up”, the controlling shareholder makes existing shares available for the placing, so that completion can take place on the normal “T+2” timetable for Stock Exchange transactions. The controlling shareholder then “tops up” their holding back to the original via a subscription agreement conditional only on listing being granted for the new shares, which may take about a week to 10 days. This is a common procedure adopted in Hong Kong to facilitate the placing as it minimises the delay before the new investors can trade in the shares they acquire.

3.7 Comparison

The table below sets out a comparison of the main features of rights issues, open offers and placings:

Rights Issue Open Offer Placing

1. Shareholders participate pro rata

Yes, directly Through assured entitlements

Usually not

2 Discount to market price (“ex issue”)

20-30% 20-30% 5-20%

3. Trading in nil paid Yes No No

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4. Underwriting Yes Yes Practice varies

5. Registration of prospectus Yes Yes Usually not

6 Approximate time to complete from announcement

6 weeks 6 weeks 2-10 days

7. Widens shareholder base Not directly No Yes

3.8 In management’s eyes, the small discount to market and the speed and certainty of completion makes the placing method highly attractive. Management may feel that in some sense they have done a “better deal” for the company by issuing shares at a price close to market. In an uncertain market or where there is bad news about the company, a large rights issue or open offer can depress the market price of the shares below the theoretical “ex rights” or “ex open offer” adjustment and towards the issue price itself, as the market contemplates the issue of a large number of shares at that price. The speed of completion and, usually, the lesser documentation involved in a placing means that the risk of a change in market conditions during the issue period is greatly reduced. In addition, the argument can be made that a placing gives management the ability to widen the shareholder base and attract institutions who might feel, particularly with small companies, the market is too narrow to build up a significant stake through market purchases.

3.9 These same institutions, however, are among the firmest defenders of the principle that further issues should be by way of rights. In taking this position, they may argue that they are championing the rights of all shareholders, small and large. However, large shareholders tend to be approached in any case by the manager of the issue to act as sub-underwriters of the rights issue. Since they would normally take up a rights issue in a portfolio company, the underwriting may be covered by their own subscriptions. The underwriting commission can then be considered as an effective discount on the rights price or as a source of fee income.

4. Acquisitions

4.1 A listed company is in an enhanced positon to pursue a policy for acquisitions, whether they are funded by new share issues, bank borrowings, cash or a combination thereof. Many companies set up a business development department to establish criteria, screen candidates and initiate discussions.

4.2 Sellers of assets or shares in companies are normally not willing to accept unlisted securities as a form of payment. Once a company is listed, however, it may use its shares as consideration in acquisitions, widening its financing options and allowing it to consider bigger targets. Acceptance of paper rather than cash may be attractive from the vendors’ point of view, both from tax considerations and by allowing them to feel they still retain an interest in the asset or business they are selling. On the other hand, controlling shareholders may be wary of a strategic bloc of shares being issued to parties they do not know well.

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4.3 Reasons for making acquisitions include the following:

growth, increased market share and reduced competition

security of supply or sales – so-called “vertical” integration

diversification – a purchase is often a quicker and safer way of entering a new business than a “greenfield” operation

bargains – buying at a discount to net asset value, securing an increase in earnings per share

defence – sheer size may make a takeover by a rival more difficult

acquiring management with specific experience or skills – this benefit comes with the concern of post-completion retention of key personnel

acquiring a company with specific attributes, such as a stock exchange listing or a licence to carry out certain activities.

4.4 Disposals should be subject to a similar process as acquisitions, and sometimes market forces will prompt a company to consider disposals seriously. However, from management’s point of view, making acquisitions, with connotations of growth and dynamism, is often given a higher priority than disposals, with possible implications of failure and decline.

5. Listed Shares as Security

5.1 Once a company is listed, its shares become more acceptable to banks as security for loans. This provides an alternative for shareholders who do not wish to sell but need to raise money from time to time. Provided the shares are reasonably well traded, banks or brokerages which engage in this line of business will normally be prepared to advance a ‘margin finance’ of a percentage, one-third, for example, of the market price of shares pledged to them.

5.2 It can be very convenient for a major shareholder of a company to pledge his shares in support of bank loans. If a controlling stake is pledged, disclosure is required under Listing Rule 13.17, which may be embarrassing or the shareholder and can create uncertainty for the company. If the shareholder uses the funds to increase his stake in the company, his private interests can become highly geared. Such a loan would commonly contain a covenant that the market value of the shares should exceed the loan by a certain amount. If the share price falls, the shareholder may be forced to deposit further shares or be tempted to support the price in the market, potentially a vicious circle if the share price continues to weaken. If he is forced to sell a significant number of shares, the share price may come under sudden heavy pressure, and there may be a potential change in control, damaging the confidence of bankers and creditors of the company. In addition, dividends from the shares may not match payments due under the loan, leading to pressure on cash flow and a temptation to pay higher dividends than is prudent or, of greater concern, to extract funds from the listed company by other methods.

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6. Compliance Adviser

6.1 Under the terms of Chapter 3A.19 of the Listing Rules, a newly listed company must appoint a compliance adviser (“CA”) from the date of its listing until publication of the results for the first full financial year after its listing. If, for example, a company has a December year end, floats in May/June and is likely to announce its results in February/March, this period will be approximately 20 months. The Stock Exchange may also require the appointment of a CA at a later period such as when the company has breached the Listing Rules.

6.2 The duties of the CA under the Stock Exchange Listing Rules are described in Chapter 3A 21-28. The main purpose of the appointment is to guide the newly listed company on how the Listing Rules, which are quite detailed, apply to the company in practice. On its side, the company must consult the CA on a timely basis on sensitive matters, such as with financial results, the issue of the announcements and the publication of circulars.

6.3 From practical experience, the matters most likely to give rise to difficulties between the newly listed company and its CA include the following:

Company listed on more than one Exchange; there may be different regulations and inconsistences, such as the timing of announcements of price sensitive information.

Company managed in a different time zone from Hong Kong; making sure the appropriate company representatives are available, for example, to clear announcements before the start of trading Hong Kong time.

Company management not able to communicate clearly in Chinese or English.

A change in the use of proceeds described in the prospectus – a convincing explanation is needed.

Profit forecast included in prospectus; this will be a very sensitive point as the profit results deadline draws near. It is not enough just to achieve the number; consistency with the assumptions as set out in the prospectus is just as important.

Company has an unusually high gross margin, one very profitable product or other metrics out of line with its peers, which may make it vulnerable to attack by short sellers after listing.

Company likely to propose contentious connected or other transactions that may attract investor and press criticism.

Company has a history of litigation, problematic assets/liabilities or personnel problems, e.g. frequent changes of directors and senior management.

6.4 Creating a good working relationship between the company and its CA can yield important benefits in avoiding embarrassing mistakes while the company’s personnel get used to its new public status. A productive relationship is best achieved if the company is prepared to take the CA into its confidence and give it enough information and time to comment sensibly. The CA, on its side, should try to give practical advice, suggesting solutions as well as identifying problems, and avoid just reciting rules and preaching good behaviour, which is as tempting to the CA as it is irritating to the company.

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7. Role of Independent Financial Adviser

7.1 There are occasions when a listed company is required to appoint an independent financial adviser (IFA) as set out in the Listing Rules and the Hong Kong Takeovers Code. Broadly speaking, these circumstances arise in transactions where there is a conflict of interest between the company and/or its directors, controlling shareholders and independent shareholders. It is, therefore, critical that the IFA itself does not have any conflict of interest, which would arise, for example, from advising the company itself. Consequently, the sponsor of the company’s IPO and its CA will not qualify as an IFA. The IFA reports to an independent board committee, usually made up of the independent non-executive directors, or if no directors are independent in a particular case, direct to the independent shareholders. The main safeguard is that material transactions involving a conflict of interest should be subject to an independent shareholders’ vote at a general meeting convened to consider the transaction. The IFA’s report will include a recommendation as to how independent shareholders should vote at the meeting.

7.2 The main matters likely to require a newly listed company to appoint an IFA are as follows:

(i) Listing Rules Connected transactions exceeding 5% (note) of the 5-tests ratios set out in Chapter 14 of the Listing Rules. There are two types of connected transactions – continuing and “once off”. As part of its IPO preparations, a company will have identified continuing connected transactions and received a waiver from the Stock Exchange for the first three years after the IPO.

Rights Issue/Open Offer (Listing Rules 7.19 and 7.24)

rights issue/open offer within 1st year of new listing applicant; or

dilutive rights issue/open offer exceeding 50% (aggregated with previous rights issue/ open offer within 12 months) of the issuer’s capital or market capitalisation

Transactions where the value is less than HK$10 million are exempted from shareholders’ approval.

Note - no de minimis exemption exists for (i) issue of securities by issuer to connected person (Listing Rule 14A.76); and (ii) financial assistance to connected persons which is not in the issuer’s ordinary and usual course of business and not on normal commercial terms.

(ii) Takeovers Code A general offer being made, when control of a company has, or may, change

A “whitewash waiver” being applied for, where independent shareholders are asked to sanction a change of control without a general offer being made

Special Deals, usually where certain assets are taken out of a public company at the time an offer is made

As mentioned above, under Stock Exchange rules, controlling shareholders may not sell control of a company within twelve months of an IPO.

7.3 In Hong Kong, transactions requiring independent shareholder approval are frequent. This is mainly because most Hong Kong listed companies are not very widely held after an IPO and continue to have a controlling shareholder. That shareholder may have control over more than one listed company and also have substantial business interests remaining in its private hands. Consequently, transactions between the company and directors/controlling shareholders are often proposed, and indeed have been a considerable source of growth for Hong Kong listed companies after an IPO.

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7.4 In assessing whether a proposed transaction will stand up to the scrutiny of an IFA, the directors of a listed company should prepare in advance to answer the following main questions:

Is there a sound commercial reason for the company to enter into the transaction, or could it be seen as principally for the convenience/benefit of the related party? Is it consistent with the company’s stated policies? Does it lie within existing management’s competency?

Is the price competitive, e.g. supported by objective evidence such as an independent valuation or the terms of comparable arms length transactions in the market?

Are the means of payment – new shares, loans and cash – appropriate for the company in the circumstances, and is there dilution in percentage holdings of independent shareholders?

Do the terms of the transaction show benefits to the overall financial position of the company, for example as regards earnings and net assets per share?

There will be many other factors to consider on a case-by-case basis. However, if satisfactory detailed answers can be given to the above four questions, it is unlikely that the company will suffer the embarrassment of being unable to obtain the IFA’s recommendation or having the transaction voted down by independent shareholders.

C O N T A C T

Somerley Capital Limited20th Floor, China Building, 29 Queen’s Road Central, Hong KongTel: (852) 2869 9090Fax: (852) 2526 2032Website: www.somerley.com.hk

Martin SabineChairmanEmail: [email protected]


BIOGRAPHY

ACE Insurance LimitedAddress: 25/F, Shui On Centre, No. 6-8 Harbour Road, Wanchai, Hong KongTel: (852) 3191 6800Fax: (852) 2560 3565Website: www.aceinsurance.com.hk

Author Name: Douglas Wong, CFATitle: Financial Lines Manager – Greater ChinaEmail address: [email protected]

Douglas has been working with ACE Insurance Limited since 2005, with the responsibility of developing and underwriting Directors and Officers Liability Insurance, Public Offering of Securities Insurance, Professional Indemnity Insurance and other Financial Lines products in Hong Kong and the Mainland China. Douglas has provided insurance solutions to a number of world renowned companies and their directors and officers.

ApplebyAddress: Room 2206-19, Jardine House, 1 Connaught Place, Central, Hong KongTel: (852) 2523 8123Fax: (852) 2524 5548Website: www.applebyglobal.com/www.applebyglobal.cn

Author Name: Judy LeeTitle: PartnerEmail address: [email protected]

Judy Lee is a Partner in Appleby’s Hong Kong office, she practises a wide range of Bermuda, Cayman and BVI corporate and commercial law, specialising in corporate finance and investment funds. She has over 20 years of offshore and onshore experience in IPOs on the Hong Kong Stock Exchange and the Singapore Stock Exchange as well other corporate finance transactions. Judy recently won the ‘Best in Offshore’ individual award at Euromoney Legal Media Group’s Asia Women in Business Law Awards 2013.

Ascent Partners Group LimitedAddress: 21/F, Hong Kong Trade Centre, 161-167 Des Voeux Road Central, Hong KongTel: (852) 3679-3890Fax: (852) 3579-0884Website: www.ascent-partners.com

Author Name: Mr. Paul WuTitle: PrincipalEmail address: [email protected] Mr. Paul Wu is one of the founders of Ascent Partners Group Limited. He spearheads the business valuation and advisory service division to formulate marketing strategies, business development and operating plans, as well as establish and institutionalize business practices, standards and processes for the effectiveness and efficiency across the global operations of the Group. Mr. Wu is also the head of the analytical and risk management division which provides solutions and consultancy services to financial institutions and corporate clients in financial products and operations.

Author Name: Mr. Stephen YeungTitle: PrincipalEmail address: [email protected]

Mr. Stephen Y. W. Yeung is a Registered Professional Surveyor (General Practice Division), Member of the Royal institution of Chartered Surveyors and a Professional Member of The Hong Kong Institute of Surveyors with over 10 years’ experience in valuation of properties in HKSAR, Macau and mainland China. Mr. Yeung is also a valuer on the List of Property Valuers for Undertaking Valuations for Incorporation or Reference in Listing Particulars and Circulars and Valuations in Connection with Takeovers and Mergers published by HKIS.


Author Name: Ms. Kaily LamTitle: ManagerEmail address: [email protected]

Ms. Kaily Lam, ESG Consultant of Ascent Partners Valuation Service Limited, holder of a Master degree of Science in Environment Science, has Carbon Audit Certification and was a management in a US cargo airline and a Singapore Resort; she is experienced in environmental issues that impact the cost and efficiency of the company.

Bank of America Merrill LynchAddress: 55/F Cheung Kong Center, 2 Queen’s Road Central, Central, Hong KongTel: (852) 3508 8888Fax: (852) 3009 0046Website: http://corp.bankofamerica.com

Author Name: Jason CoxTitle: Managing Director, Co-head of Asia Pacific Global Capital Markets, Bank of America Merrill LynchEmail address: [email protected]

Jason Cox is a Managing Director and Co-Head of Asia Pacific Global Capital Markets at Bank of America Merrill Lynch. He has spent the last 18 years in Capital Markets in Hong Kong after starting his career in New York. Previously, he worked for Seoul National University, Korea in the Economics Department as a Luce Scholar. He joined Merrill Lynch from Goldman, Sachs & Co., Equity Capital Markets Group, in March 2005.

Author Name: Peter GuenthardtTitle: Managing Director, Co-head of Asia Pacific Global Capital Markets, Bank of America Merrill LynchEmail address: [email protected]

Peter Guenthardt is a Managing Director and Co-Head of Asia Pacific Global Capital Markets at Bank of America Merrill Lynch. He joined BofAML in October 2014 having spent the prior 15 years in Equity Capital Markets and senior management at UBS providing ECM advice to corporate issuers, venture capital/private equity firms, and investors. During this time Peter has been based in Zurich, Hong Kong and London.

BDO LimitedAddress: 25th Floor, Wing On Centre, 111 Connaught Road Central, Hong KongTel: (852) 2218 8288Fax: (852) 2815 2239Website: www.bdo.com.hk

Author Name: Franki LuiTitle: Director Assurance servicesEmail address: [email protected]

Franki Lui is a director of our assurance services. He has extensive experience in handling listed company audit assignments over a wide variety of industries including retailing, luxury products, manufacturing, property development and natural resources. He also specialises in transaction support assign¬ments, such as initial public offerings, capital market transactions and financial due diligence in acquisitions of companies. Franki is a Certified Public Accountant in Hong Kong and a fellow member of the Association of Chartered Certified Accountants.


Brunswick Group LtdAddress: 12/F, Dina House, 11 Duddell Street, CentralTel: 3512 5000Fax: 2259 9008Website: www.brunswickgroup.com

Author Name: Ginny WilmerdingTitle: DirectorEmail address: [email protected]

Since joining Brunswick in 2010, Ginny has worked with cross-border teams and outside advisors on the IPOs of Alibaba Group (NYSE), Chow Tai Fook (SEHK) and Skylark (TSE) and on transactions including CITIC Pacific’s acquisition of its parent company and Bain Capital’s sale of Domino’s Pizza Japan to Domino’s Australia. She advises on corporate reputation, crisis communications, and investor and media relations, and has a particular interest in corporate governance issues. Ginny’s prior experience includes business development roles for Hutchison Whampoa and AT&T in Hong Kong and Shanghai and heading corporate affairs and IR for US venture-backed companies. She published an entrepreneurial advice book for women in 2006 and currently sits on The Women’s Foundation’s Women on Boards Advisory Council in Hong Kong; she has been a Trustee of Princeton-in-Asia since 1997. Ginny holds a BA in East Asian Studies from Princeton and speaks Mandarin.

Author Name: Kirsten MolyneuxTitle: Senior ConsultantEmail address: [email protected]

Kirsten is a capital markets specialist with a wealth of experience in running global investor relations programs. Kirsten’s particular focus is on investor communication as well as preparing senior management teams for interaction with their investors. Kirsten has been with Brunswick since 2011, having started her career in 1994 in Corporate Broking at UBS in London. She also co-founded an Investor Relations consultancy in 2000, advising European “blue chips” on communicating with their

global investor base. Kirsten currently acts as a senior consultant to clients in the oil and gas, mining, energy, retail and chemical sectors in Asia and globally.

Author Name: Katharine CralleTitle: Associate PartnerEmail address: [email protected]

Katharine specialises in providing clients a global perspective tailored to their regional business context and cultural sensitivities. Katharine began her Brunswick career in 2005 in London, relocating to New York in 2006, Dubai in 2011 and Hong Kong in 2014. During this time, Katharine has helped companies position themselves to global stakeholders, both internal and external, around times of significant change, with a focus on IPOS and mergers and acquisitions. Katharine’s previous work experience ranges from art houses to brokerage firms in both the United States and the UK. Katharine graduated with Honours from the University of St. Andrews in Scotland where she received an M.A. in Social Anthropology.

Crowe Horwath (HK) CPA LimitedAddress: 9/F Leighton Centre, 77 Leighton Road, Causeway Bay, Hong KongTel: (852) 2894 6888Fax: (852) 2895 3752Website: www.crowehorwath.hk

Author Name: Charles ChanTitle: Chairman and CEOEmail address: [email protected]

Charles started his career in public accounting in 1974 and began his CPA practice in 1980. Over the course of many years, his CPA practice has expanded to cover a comprehensive range of services including audit, taxation and various business consulting services. Charles has been assisting clients particularly the mainland enterprises to raise capital through IPOs,


international M&A, and other fund raising activities in Hong Kong and other major capital markets.

EDICO Financial Press Services LimitedAddress: 8/F., Wheelock House, 20 Pedder Street, Central, Hong Kong.Tel: (852) 2110 2233Fax: (852) 2110 1799Website: www.edico.com.hk

Author Name: EDICO Financial Press Services LimitedTitle: Corporate Services TeamEmail address: [email protected]

Mrs. Amy Chan Donati has been in the financial printing field for over 14 years and runs EDICO Financial Press Services Limited as its managing director. Besides placing an emphasis on providing top-notch quality services, she is also responsible for leading a unique team of professionals and being a role model for the employees. She strives to grow the company sustainably, also creating a harmonious working environment and creating a solid base for success as well.

EQS TodayIR (EQS Asia Ltd.)Address: 14/F, Amber Commercial Building, 70-74 Morrison Hill Road, Wanchai, HKTel: (852) 2893 5622Fax: (852) 2892 1112Website: www.asia.eqs.com / www.todayir.com

Author Name: Marcus SultzerTitle: CEO Asia-PacificEmail address: [email protected]

As Chief Executive Officer, Marcus together with his team is responsible for developing EQS Group’s business in Hong Kong and other Asian markets – acting under the Asia brand EQS TodayIR. Marcus joined EQS Group in

2007 as Executive Assistant to the Group’s CEO, working at the company’s headquarters in Munich that time. Since its incorporation in 2008 until 2012 Marcus was General Director of the Group’s business in Moscow, responsible for business development in Russia and CIS. Before working in EQS Group Marcus worked as Sales Executive at a Premium Online service provider, managing for example the Corporate Website of Daimler (Mercedes Benz). Marcus studied economics and holds an MBA.

Fangda Partners (in association with Peter Yuen & Associates)Address: 30/F., One Exchange Square, 8 Connaught Place, Central, Hong KongTel: 3976 8888Fax: 2110 4285Website: www.fangdalaw.com

Author Name: Arnold PangTitle: PartnerEmail address: [email protected]

Arnold Pang is a partner of Fangda Partners (in association with Peter Yuen & Associates) based in the Hong Kong office. He specializes in Hong Kong capital market transactions, post-listing compliance matters and merger and acquisition transactions. Before joining Fangda Partners, he worked at several leading international law firms. He represented issuers and underwriters in various Hong Kong IPOs. He also acted as compliance counsel for a number listed issuers.


FTI ConsultingAddress: Level 22, The Center, 99 Queen’s Road Central, Hong KongTel: (852) 3768 4500Fax: (852) 3012 9664Website: www.fticonsulting.com

Author Name: William SimsTitle: Managing Director and Co-Head of the Global Risk and Investigations Practice, Hong KongEmail address: [email protected]

Mr. Sims has significant experience in the conduct of sophisticated business intelligence and ‘off-balance sheet’ due diligence assignments in the region and globally (including pre-IPO and M&A). He has managed numerous investigations involving competitor assessments, major fraud, mass staff defections, FCPA inquiries, multi-jurisdiction asset searches and brand protection in emerging markets, and has provided security/political risk assessment consulting. Mr. Sims spent 17 years with the British Diplomatic Service and completed postings in Malaysia, Jordan, UAE, South Korea and Zimbabwe.

Author Name: Greg HallahanTitle: Senior Director, Global Risk and Investigations Practice, Hong KongEmail address: [email protected]

Mr. Hallahan is experienced in leading and conducting a wide variety of business intelligence, due diligence and corporate investigations throughout Asia Pacific, with a focus on the Chinese market where he was based previously for over a decade. These engagements have stretched across a variety of industry sectors, in particular financial services, mining and manufacturing. Mr. Hallahan holds a M.A. in Psychology from Edinburgh University, Scotland. As well as his native English, Mr. Hallahan speaks Mandarin Chinese.

Herbert Smith FreehillsAddress: 23rd Floor Gloucester Tower, 15 Queen’s Road Central, Hong KongTel: (852) 2845 6639Fax: (852) 2845 9099Website: www.herbertsmithfreehills.com

Author Name: Matt EmsleyTitle: Partner, Corporate, Hong KongEmail address: [email protected]

Matt specialises in corporate finance work, including initial public offerings, secondary offerings and mergers and acquisitions. His clients have included HSBC, Goldman Sachs, J.P. Morgan, Morgan Stanley and UBS. Matt is qualified as a solicitor in England and Wales and in Hong Kong. He is a native English speaker and speaks fluent Putonghua and Japanese.

Hong Kong Exchanges and Clearing LimitedAddress: 12/F One International Finance Centre, 1 Harbour View Street, Central, Hong KongTel: (852) 2522 1122Fax: (852) 2295 3106Website: www.hkex.com.hk

Author Name: David GrahamTitle: Chief Regulatory Officer and Head of ListingEmail address: [email protected]

David Graham took up the newly-created role of Chief Regulatory Officer, and Head of Listing, at the Hong Kong Exchanges and Clearing Limited in early 2013. Mr. Graham has over 30 years of experience in legal and financial services. He started his career with Freshfields (now Freshfields Bruckhaus Deringer) in the UK in 1982, was promoted to Partner in 1991 and moved to Hong Kong in 1999. Mr. Graham joined Morgan Stanley as General Counsel (Asia ex-Japan) in 2001 and has been working in the financial services sector since then. He has held several


senior roles within UBS, both in Asia and in the UK, including Global General Counsel of UBS Investment Bank. Prior to taking up his current role, he was Global Head of Legal and General Counsel of the Wholesale Division at Nomura. Mr. Graham has been a member of a number of committees of the Hong Kong Securities and Futures Commission, including serving as a member, and then a Deputy Chairman, of the Hong Kong Takeovers Panel from 2001 to 2012. He is currently a member of the Code Committee of the UK Takeover Panel; and is also a member of the Securities and Futures Commission Advisory Committee and the Standing Committee on Company Law Reform. Mr. Graham graduated from Oxford University in 1981. He is admitted as a solicitor in England and Wales and in Hong Kong.

Merrill CorporationAddress: 5th Floor, World-Wide House, 19 Des Voeux Road, Central, Hong KongTel: (852) 2536 2288Fax: (852) 2522 8922Website: www.merrillcorp.com

Author Name: David HaynesTitle: Director, Asia PacificEmail address: [email protected]

David Haynes joined Merrill Corporation in 2013. He is responsible for the growth of Merrill’s product suite and client base in Asia-Pacific, with a primary focus on Hong Kong, China and Japan.David brings over 15 years of industry experience to Merrill, joining from Thomson Reuters, where he was most recently Head of Business Intelligence. He was responsible for Corporate Development, Treasury and M&A products in Asia Pacific. David is also a regular speaker at industry events and frequently advises on Market Intelligence Strategy.

ONC LawyersAddress: 14-15th Floor, The Bank of East Asia Building, 10 Des Voeux Road Central, Hong KongTel: (852) 2810 1212Fax: (852) 2804 6311Website: www.onc.hk

Author Name: Raymond CHEUNGTitle: Partner, Head of Corporate & Commercial DepartmentEmail address: [email protected]

Raymond has practised as a corporate and commercial lawyer for over 20 years, specialising in corporate finance, mergers & acquisitions, securities and futures, funds and banking & financing. As the Head of our Corporate and Commercial Department, Raymond supervises and leads the corporate finance practice of our firm, which covers a wide range of venture capital financing, private equity investments, pre-IPO investments, IPO, post-listing company compliance, placings and takeovers.

Author Name: Angel WONGTitle: PartnerEmail address: [email protected]

Angel has experience in a range of corporate and commercial matters, including IPOs, pre-IPO investments, placings, advisory work for overseas listing projects, mergers and acquisitions, loan and financing transactions, licensing and registration matters under the Securities and Futures Ordinance, corporate governance and general compliance matters.


Paul HastingsAddress: 21-22/F Bank of China Tower, 1 Garden Road, Central, Hong KongTel: (852) 2867 1288Fax: (852) 2526 2119Website: www.paulhastings.com

Author Name: Sammy LiTitle: Corporate Partner and Hong Kong Office ChairEmail address: [email protected]

Sammy Li is a partner and chair of the Hong Kong office. He has a capital markets and corporate transactional practice, with experience as a lawyer in private practice and as an investment bank in-house counsel. Mr. Li has led on many Hong Kong and U.K. equity capital markets transactions (IPOs, global offerings, rights issues and other capital markets fund raising transactions), M&A, restructuring and insolvency, and private equity and venture capital investments.

Author Name: Catherine TsangTitle: Corporate PartnerEmail address: [email protected]

Catherine Tsang is a corporate partner with a capital markets and corporate transactional practice, and many years of experience as a lawyer in private practice. Ms. Tsang has advised clients on equity capital markets transactions (including Hong Kong Main Board as well as other capital markets fund raising transactions) and mergers and acquisitions, public takeovers and regulatory compliance. She is fluent in English, Cantonese and Mandarin.

Author Name: Edwin KwokTitle: Corporate PartnerEmail address: [email protected]

Edwin Kwok is a corporate partner with a focus in corporate finance, securities offerings, mergers and acquisitions, public takeovers, and regulatory compliance. He advised on many significant and mega securities offerings and mergers and acquisition transactions in his career. He is fluent in English, Mandarin and Cantonese.

Schulte ResearchAddress: 801 Kinwick Center , 32 Hollywood Road, Central, Hong Kong.Tel: (852) 2534 7417Website: www.schulte-research.com

Author Name: Paul SchulteTitle: Founder/EditorEmail address: [email protected]

Paul Schulte has 27 years experience as an analyst. He has experience in economic policy (NSC economic desk and Republic of Indonesia Ministry of Finance), sell side research (Credit Suisse, Barings, Lehman Brothers, Nomura, China Construction bank Intl.), buy side (Tiger Cub hedge fund in the US for 5 years), and academia (part-time MBA professor at UST/ NYU Stern School, HKU/Columbia MBA program and Kellogg for the past 15 years).

Somerley Capital LimitedAddress: 20th Floor, China Building, 29 Queen’s Road Central, Hong KongTel: 2869 9090Fax: 2526 2032

Website: www.somerley.com.hkAuthor Name: Martin SabineTitle: ChairmanEmail address: [email protected]

Mr. Sabine was the founder of Somerley in 1984. Before setting up Somerley, he was head of corporate finance at the investment banking division of HSBC, handling transactions throughout the Asia-Pacific region. Previously, he had seven years of experience in the European and North American corporate finance markets. He is the author of Corporate Finance - Flotations, Equity Issues and Acquisitions, a well-known book on corporate finance, now in its 4th edition and translated into Chinese. He is a member of the Hong Kong Takeovers Panel. He has a BA degree from the University of Oxford and an MBA from the Wharton School, University of Pennsylvania.


Stephenson HarwoodAddress: 18th floor, United Centre, 95 Queensway, Hong KongTel: (852) 2868 0789Fax: (852) 2868 1504Website: www.shlegal.com/home

Author Name: Silvia OnTitle: Registered Foreign Lawyer, Private WealthEmail address: [email protected]

Silvia On specialises in advising individuals and families on their succession and estate planning needs. She also advises Hong Kong charities. She has been identified as an Associate to Watch by Chambers Asia Pacific from 2013 to 2015, named in the Citywealth Leaders List in 2013 and 2014 and in Legal 500 from 2013 to 2015.

SW Corporate Services Group LimitedAddress: 18/F, Tesbury Centre, 28 Queen’s Road East, Wanchai, Hong KongTel: (852) 3912 0800Fax: (852) 3912 0801Website: www.swcsgroup.com

Author Name: Dr. Maurice NgaiTitle: Chief Executive OfficerEmail address: [email protected]

Dr. Ngai, a chartered secretary by profession in a very senior rank, is a President of The Hong Kong Institute of Chartered Secretaries. He is selected as an Independent Non-executive Director for mega-SOEs and a renowned corporate governance specialist. He is a regular speaker on the subjects of compliance, corporate governance and best company secretarial practices in Hong Kong and China. He had previously been engaged in senior management roles in listed companies and possesses substantive corporate management experience. Dr. Ngai has been appointed by the Chief Executive of The Hong Kong Special Administrative Region as a member of the Working Group on Professional Services under the Economic Development Commission, and also serves as a member of the Qualification and Examinations Board of

the Hong Kong Institute of Certified Public Accountants and a Committee Member of the General Committee of the Chamber of Hong Kong Listed Companies. Dr. Ngai is also the Adjunct Professor of Law of Hong Kong Shue Yan University.

Towers WatsonAddress: 29F, Beijing Kerry Center 1 Guanghua Road, Chaoyang District, Beijing 100020, ChinaTel: (86) 10-58216000Fax: (86) 10-010-85297884Website: www.towerswatson.com/

Author Name: Maggy FangTitle: Managing Director, Executive Compensation Asia PacificEmail address: [email protected]

Maggy Fang is the managing director executive compensation Asia Pacific. She has 20 years experience in human resource management advisory, specialized in executive compensation design. As a trusted board advisor of leading fortune 500 companies in Asia Pacific and expert of advising multinational companies’ human resources issues in the Asia Pacific, Maggy has helped a number of Fortune 500 companies on projects related to executive compensation, globalization, merge and acquisition and cooperate governance. She also successfully led the project of Lenovo and IBM’s post-merger integration. Maggy has provided consulting services to various industries from financial services, high-tech, Insurance to mining and resources, manufacture across Asia Pacific. Maggy Fang is the trusted advisor of a numbers of regulators, for example China securities regulation committee (CSRC), State-Owned Assets Supervision and Administration Committee (SASAC), and she is a major contributor of “The Boards” Magazine. Prior to joining Towers Watson, Maggy Fang has worked for MOHRSS of China and ILO (International Labor Organization) Beijing Branch. She was a Chevening Scholarship winner. She finished her MBA program in Newcastle University of United Kingdom in 2004. In 1995, she graduated from Beijing Normal University with a BA degree in Economy.


Troutman SandersAddress: 34/F Two Exchange Square, 8 Connaught Place, Central, Hong KongTel: (852) 2533 7888Fax: (852) 2533 7898Website: www.troutmansanders.com

Author Name: Rossana ChuTitle: PartnerEmail address: [email protected]

Rossana is experienced in mergers and acquisitions, securities as well as corporate finance. Admitted as a solicitor in Hong Kong and in England & Wales, Rossana routinely advises clients on mergers and acquisitions involving Hong Kong-listed companies, initial public offerings, post-IPO fund raising and corporate restructurings. She also works on private equity/venture capital investments with PRC and Hong Kong elements, as well as on compliance matters in relation to Hong Kong-listed companies.

Author Name: Dennis YeungTitle: AssociateEmail address: [email protected]

Dennis’ practice focuses on mergers and acquisitions, securities as well as corporate finance. He routinely advises clients on Hong Kong capital market transactions, public and private mergers and acquisitions, initial public offerings, private equity/venture capital investments and compliance matters in relation to Hong Kong-listed companies. Over the years, Dennis has served many listed and private companies from various sectors in the PRC and Hong Kong.

Willis Hong Kong LimitedAddress: 18/F The Lee Gardens, 33 Hysan Avenue, Causeway Bay, Hong KongTel: (852) 2830 6620Fax: (852) 2827 0966Website: www.willis.com

Author Name: Ivan KuanTitle: Executive Director, Financial and Executive Risks Practice, Greater ChinaEmail address: [email protected]

Ivan has been an executive director with Willis Hong Kong since September 2010. He has extensive experience in serving Hang Seng Index companies and US listed-companies’ D&O liability insurance and risk management programmes and handling US shareholder class actions. Before joining Willis, Mr. Kuan served as executive director with HSBC Insurance Broker and was responsible for financial and professional practices for the South-east Asia. From 2004 to 2006, Mr. Kuan was the chief operating officer for ACE Taiwan, responsible for all lines of insurance operation for Taiwan. Before the Taiwan post, he was the regional underwriting manager for ACE Insurance’s financial lines operation in South-east Asia. Mr. Kuan was a founding member of Taiwan D&O Liability Insurance in 1997. He also set up the American International Underwriters D&O and financial lines profit centre for Taiwan.

Wing Lung BankAddress: 16/F, Wing Lung Bank Bldg, 45 Des Voeux Rd Central, Hong KongTel: 2952 8867Fax: 2868 4786Website: www.winglungbank.com


With a foreword written by David Graham, Chief Regulatory Officer and Head of Listing, HKEx, the inaugural ALB IPO handbook for Hong Kong 2015 provides guidance to companies on solving the variety of issues they will face in their listing journey in Hong Kong, especially after the changes to Listing Rules in 2014. The IPO handbook features the comprehensive requirements that a company need to address during its listing journey, with advice provided by more than 20 experts who have been offering IPO related services for many years and have the most up-to-date knowhow. These include: - How to get the company ready to be listed; - The key issues that could arise during the IPO application process,

along with the latest rule changes related to IPO sponsors; - How to market the deal effectively by setting the price, sales and

stabilization; - Some specific listing issues and methods that needs to be addressed;- The most efficient tax considerations; - Effective investor relations during the whole IPO process; - Post-IPO issues like corporate governance, including updates to the

latest corporate governance code; - Compliance issues, including the latest rules on connected transaction

updates that became effective from July 1, 2014; and- Effective post-IPO Strategies.

Date post:	07-Apr-2016
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