EQUITY CAPITAL MARKET - Mayer Brown Markets Quarterly Update | April - June 2012 Issue 2 Guidance on...

Capital Markets Quarterly Update | April - June 2012 Issue 1

April to June 2012

This quarterly update (April to June 2012) highlights recent developments in Hong Kong capital markets practices:

EQUITY CAPITAL MARKET

Landmark Hontex case triggers repurchase of investors’ shares and revocation of sponsor licence: The landmark Hontex case is considered as an important milestone to enhance SFC’s power to protect the interests of the investing public. On 20 June 2012, the Court of First Instance granted orders sought by SFC, which are the first of its kind, to require Hontex to make a repurchase offer to investors as a result of its violation of the SFO. Besides taking action against the listed issuer, SFC has also penalised its sponsor. On 22 April 2012, SFC revoked the licence of Mega Capital (Asia) Company Limited to advise on corporate finance and fined it HK$42 million for failing to discharge its sponsor’s duties in relation to the IPO application of Hontex. For more details, please refer to “Landmark Hontex case triggers repurchase of investors’ shares and revocation of sponsor licence” .

Guidance on disclosure of intended use of proceeds: On 17 April 2012, HKEx published a

guidance letter to listing applicants on disclosure of the intended use of proceeds in their listing documents. For more details, please see “Guidance on disclosure of intended use of proceeds”.

Guidance on disclosure of hard underwriting agreements: On 25 April 2012, HKEx published a

guidance letter on disclosure of hard underwriting agreements in listing documents. A “hard underwriting agreement” refers to an agreement in which the underwriters agreed to undertake to purchase a certain value of shares not taken up under the public offer and/or international placing of an IPO provided that the final offer price is fixed at the low end of an indicative offer price range. For more details, please see “Guidance on disclosure of hard underwriting agreements”.


Guidance on profit forecast and profit estimate: On 8 May 2012, HKEx published a guidance letter to clarify matters in relation to profit forecast and profit estimate. For more details, please see “Guidance on profit forecast and profit estimate”.

Guidance on disclosures for listing applicants adopting distributorship business models: On

17 May 2012, HKEx published a guidance letter 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. For more details, please see “Guidance on disclosures for listing applicants adopting distributorship business models”.

Guidance on liquidity disclosures: On 15 June 2012, HKEx published two guidance letters to

provide guidelines (a) to assist listing applicants and their advisers to prepare liquidity disclosures such as working capital statement, indebtedness statement and commentary on the liquidity and financial resources and capital structure; and (b) on the latest practicable date and the latest date for liquidity disclosures in a listing document. For more details, please see “Guidance on liquidity disclosures”.

Heavy reliance on parent company not suitable for listing: On 14 April 2012, HKEx published a

listing decision in which it decided that the listing applicant’s heavy financial and operational reliance on its parent company had resulted in the applicant being not suitable for listing on SEHK. For more details, please see “Heavy reliance on parent company not suitable for listing”.

No waiver under Listing Rule 18.04 if there is no clear path to commercial production: On 18

May 2012, HKEx published a listing decision to determine whether (a) there was adequate disclosure in the prospectus regarding allegations made in a complaint apparently against certain previous management members of the listing applicant; and (b) a waiver from the requirement under Listing Rule 18.04 should be granted to the listing applicant. For more details, please see “No waiver under Listing Rule 18.04 if there is no clear path to commercial production”.

Listing applicant was not required to prepare a competent person’s report for its mining

interests: On 8 June 2012, HKEx published a listing decision to determine that, subject to certain conditions, the listing applicant was not required to include a competent person’s report on certain mining interests it intended to acquire or develop. For more details, please see “Listing applicant was not required to prepare a competent person’s report for its mining interests”.

DEBT CAPITAL MARKET PRC notice on the issuance of RMB bonds in Hong Kong by non-financial institutions: On 2

May 2012, NDRC promulgated its “Notice on Relevant Matters in relation to the Issuance of RMB Bonds in Hong Kong by Local Non-Financial Institutions”. The notice sets out the relevant rules and requirements for the issuance of RMB bonds by PRC non-financial institutions in Hong Kong. For more details, please see “PRC notice on the issuance of RMB bonds in Hong Kong by non-financial institutions” .


In this Update, the following terms have the following meanings:

“GEM” Growth Enterprise Market operated by SEHK

“HK” Hong Kong Special Administrative Region of the PRC

“HK$” Hong Kong Dollars

“HKEx” Hong Kong Exchanges and Clearing Limited (also referring to its subsidiaries, including SEHK, as appropriate)

“Hontex”

Hontex International Holdings Company Limited

“IPOs”

Initial public offerings

“Listing Rules” Rules Governing the Listing of Securities on The Stock Exchange of Hong Kong Limited (Main Board Listing Rules) or Rules Governing the Listing of Securities on the Growth Enterprise Market of The Stock Exchange of Hong Kong Limited (GEM Listing Rules) or both, as the case may be

“NDRC” National Development and Reform Commission of PRC

“PRC” the People’s Republic of China

“RMB” Renminbi

“SEHK” The Stock Exchange of Hong Kong Limited

“SFC” Securities and Futures Commission

“SFO” Securities and Futures Ordinance (Cap 571 of the Laws of Hong Kong)


Landmark Hontex Case Triggers Repurchase of Investors’ Shares and Revocation of Sponsor Licence QUICK READ The landmark Hontex case is considered as an important milestone to enhance SFC’s power to protect the interests of the investing public. On 20 June 2012, the Court of First Instance granted orders sought by SFC, which are the first of its kind, to require Hontex to make a repurchase offer to investors as a result of its violation of the SFO. Besides taking action against the listed issuer, SFC has also penalised its sponsor. On 22 April 2012, SFC revoked the licence of Mega Capital (Asia) Company Limited (Mega Capital) to advise on corporate finance and fined it HK$42 million for failing to discharge its sponsor’s duties in relation to the IPO application of Hontex. BACKGROUND Hontex was listed on the Main Board of SEHK on 24 December 2009. Mega Capital was the sole bookrunner, lead manager and sponsor of Hontex’s IPO application at the relevant time. ALLEGATIONS AGAINST HONTEX

SFC alleged that Hontex had breached section 298 of the SFO1 by disclosing materially false or misleading information in its prospectus dated 14 December 2009 which was likely to have induced investors to subscribe for Hontex shares. Hontex acknowledged in a statement of agreed facts with SFC that it was reckless in allowing materially false and misleading information to be included in its prospectus which had induced investors to subscribe for or purchase its shares and that it had contravened section 298 of the SFO. However, neither Hontex nor its directors admitted any criminal contravention of this provision nor could they be taken to have done so. SFC also alleged that Hontex’s financial position (including the turnover, profit after tax and value of cash and cash equivalents) as outlined in its prospectus was materially overstated. Although Hontex admitted that the financial information contained in its prospectus was materially false, it did not agree the extent of overstatements alleged by SFC because it could not verify the true position.

1 Section 298 of the SFO, which is a market misconduct provision, prohibits the distribution of materially false or misleading information that is likely to induce another person to subscribe or buy securities if the person knows or is reckless as to whether the information is false or misleading.


COURT ORDERS To remediate the violation of the SFO by Hontex, the Court of First Instance has made orders under section 213 of the SFO (which are the first of this kind) to require Hontex:

to pay a further sum of HK$197,755,503 into the Court within a specified period of time, in addition to the amount of HK$832,244,497 already frozen under the interim orders; and

to convene a shareholders’ meeting by a specified date to approve a resolution to make a

repurchase offer to investors who had subscribed for its shares in the IPO or purchased its shares in the secondary market. If the resolution is passed, the administrators appointed by the Court will handle the repurchase scheme under a protocol to be agreed by SFC. Hontex investors will then have a choice to accept or reject the repurchase offer.

The repurchase price will be HK$2.06 per share, being the closing price of the shares when the trading of Hontex shares was suspended by SEHK (at the direction of SFC) on 30 March 2010. The repurchase offer will not be applicable to the controlling shareholders who have agreed to abstain from voting in the shareholders’ meeting approving the repurchase resolution.

You may download copies of the SFC’s press release in relation to Hontex via the link below: http://www.sfc.hk/sfcPressRelease/EN/sfcOpenDocServlet?docno=12PR63 REVOCATION OF SPONSOR LICENCE

Besides taking action against Hontex, SFC has also penalised its sponsor. On 22 April 2012, SFC revoked the licence of Mega Capital to advise on corporate finance and fined it HK$42 million for failing to discharge its sponsor’s duties in relation to the IPO application of Hontex. In parallel with the legal proceedings initiated by SFC against Hontex for violating the SFO as explained above, SFC had also investigated the practices and procedures taken by Mega Capital in acting as the sole sponsor of the IPO application of Hontex. SFC concluded that Mega Capital had failed to discharge its sponsor’s duties and found that:

Mega Capital’s due diligence work was inadequate and sub-standard - Mega Capital did not

perform proper due diligence on Hontex’s customers, suppliers and franchisees for the purpose of identifying the authenticity of its business performance.

Mega Capital had failed to act independently and impartially - Due diligence work

performed by Mega Capital on Hontex’s suppliers, customers and franchisees was mainly sourced from Hontex without independent investigation and verification. This reliance on the listed issuer was considered inappropriate.

Mega Capital had failed to maintain a proper audit trail of its due diligence work - There

were insufficient documentation and records of Mega Capital’s due diligence work.


Mega Capital had failed to provide adequate supervision to its staff - Most of the due diligence work was handled by junior and inexperienced staff of Mega Capital without sufficient and proper supervision.

Mega Capital had breached its sponsor’s undertaking and had filed untrue declarations

with SEHK - In view of the apparent failures and deficiencies of Mega Capital’s due diligence work as explained above, it would appear that Mega Capital had breached the undertaking given to SEHK and had filed untrue declarations as it had failed to:

make reasonable due diligence inquiries; and use reasonable effort to ensure that all information provided to SEHK during the IPO

application process of Hontex (including the information contained in the prospectus) was true in all material respects and did not omit any material information.

You may download copies of the SFC’s press release in relation to Mega Capital via the link below: http://www.sfc.hk/sfcPressRelease/EN/sfcOpenDocServlet?docno=12PR39


Guidance on Disclosure of Intended Use of Proceeds QUICK READ

On 17 April 2012, HKEx published a guidance letter “HKEx-GL33-12” to listing applicants on disclosure of the intended use of proceeds in their listing documents. GUIDELINES The guidance letter is summarised as follows:

Intended Use of Proceeds

Guidelines/Information to be Disclosed in the “Use of Proceeds” Section of the Listing Document

For general working capital

If there are no current or specific plans for the use of proceeds (or a material part of them), a statement should be included to state this and explain the principal reasons for the offering

References to “working capital” or “general corporate purposes” are not regarded as

current or specific plans for the proceeds except where a detailed explanation is included on how the working capital is to be applied or what the general corporate purposes are

Whether the explanation for the use of proceeds is acceptable will be considered on a

case-by-case basis

For acquisition of properties

If acquisition is intended from connected persons, the basis for determining the cost of the acquisition should be disclosed

For acquisition of businesses

The following should be disclosed: the identity of the businesses or the nature and types of the businesses, as appropriate the acquisition strategy the status of any related negotiations the terms of the proposed acquisition the identity of the parties

For discharge of indebtedness

The following should be disclosed: the interest rate the maturity of the debt except for working capital, how the borrowing was used (if the debt was incurred within

one year before the listing application date)


Other Relevant Matters Guidelines/Information to be Disclosed in the Listing Document

Proposed capital expenditures

The “Financial Information” section of the listing document should discuss matters such as liquidity and proposed capital expenditures

Where other material funds are required for the specified purposes for use of the proceeds

The amounts of those other funds required for each specified purpose and the source of funding should be disclosed in the appropriate sections

The intended order of priority of use of the proceeds

The information should be disclosed in the “Use of Proceeds” section if the amount raised is variable e.g. where the securities are offered under a price range and where additional securities are offered upon exercise of an over-allotment option

Change of use of proceeds Generally, any material change of use of proceeds is price sensitive and an announcement should be made if the information had not been disclosed in the listing document before

You may download copies of the guidance letter via the link below: http://www.hkex.com.hk/eng/rulesreg/listrules/listguid/Documents/gl33-12.pdf


Guidance on Disclosure of Hard Underwriting Agreements QUICK READ On 25 April 2012, HKEx published a guidance letter “HKEx-GL34-12” on disclosure of hard underwriting agreements in listing documents. A “hard underwriting agreement” refers to an agreement in which the underwriters agreed to undertake to purchase a certain value of shares not taken up under the public offer and/or international placing of an IPO if the final offer price is fixed at the low end of an indicative offer price range. Usually, the listing applicant would agree to pay a fee for the hard underwriting arrangement on top of the normal underwriting fees payable under the soft underwriting arrangement. “Soft underwriting” refers to the ordinary underwriting arrangement according to which the underwriters are entitled to terminate the underwriting agreements with immediate effect if any of the stipulated events occurs prior to 8:00 am on the date of listing. If the soft underwriting agreement is terminated, the listing will not proceed.

GUIDANCE For a hard underwriting agreement entered into before the issue of the prospectus - the following material terms (Material Terms) should be disclosed in the prospectus:

The date of the agreement The amount to be underwritten The conditions of the underwriting arrangement The grounds for termination The underwriting fees

For a hard underwriting agreement entered into after the issue of the prospectus - the issuer should disclose the Material Terms in a supplemental prospectus. You may download copies of the guidance letter via the link below: http://www.hkex.com.hk/eng/rulesreg/listrules/listguid/Documents/gl34-12.pdf


Guidance on Profit Forecast and Profit Estimate QUICK READ On 8 May 2012, HKEx published a guidance letter “HKEx-GL35-12” to clarify matters in relation to profit forecast and profit estimate. The letter mainly deals with the following three issues:

What is the difference between profit forecast and profit estimate? Under what situation will a listing applicant be required to include a profit forecast or a profit

estimate in its listing document? What are the rules in relation to submission of profit and cash flow forecast memorandum to

SEHK?

WHAT IS THE DIFFERENCE BETWEEN PROFIT FORECAST AND PROFIT ESTIMATE?

Under the Listing Rules, the definition of profit forecast is wide enough to cover profit estimate. A profit forecast means any forecast of profits or losses, whereas a profit estimate is an estimate of profit or loss for a financial period which has ended but for which the results have not yet been audited or published. A listing document should include the principal assumptions on which a profit forecast is based. However, the requirement does not apply to profit estimate as profit estimate is related to a financial period which has ended. The factors affecting a profit estimate are already known and so no assumptions are required to be included. UNDER WHAT SITUATION WILL A LISTING APPLICANT BE REQUIRED TO INCLUDE A PROFIT FORECAST OR A PROFIT ESTIMATE IN ITS LISTING DOCUMENT?

Generally, a listing applicant can decide on a purely voluntary basis whether to include a profit forecast or profit estimate in its listing document. The inclusion of a profit estimate is compulsory only when the listing applicant applies for a waiver from compliance with Listing Rule 4.04(1) which requires the inclusion in its accountants’ report of its consolidated results for each of the three financial years immediately preceding the issue of the listing document.

WHAT ARE THE RULES IN RELATION TO SUBMISSION OF PROFIT AND CASH FLOW FORECAST MEMORANDUM TO SEHK? A listing applicant is required to submit a profit and cash flow forecast memorandum to SEHK under the Listing Rules.


The memorandum should contain principal assumptions, accounting policies and calculations for the forecasts. The periods to be covered are as follows:

Situation Profit Forecast Memorandum

Cash Flow Forecast Memorandum

Including a profit forecast in the listing document

Should cover the same period of the profit forecast

Should cover at least 12 months from the expected date of publication of the listing document

NOT including a profit forecast in the listing document

Should cover the period up to the forthcoming financial year end date after the date of listing

Should cover at least 12 months from the expected date of publication of the listing document



Guidance on Disclosures for Listing Applicants Adopting Distributorship Business Models QUICK READ On 17 May 2012, HKEx published 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.

DISTRIBUTORSHIP BUSINESS MODELS Listing applicants may 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). However, 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, SEHK 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. GENERAL DISCLOSURES Sponsors should have performed sufficient due diligence work in relation to the fairness and reasonableness of sales to distributors recorded during the track record period and make the following general disclosures in the listing documents:

The different distribution channels adopted by the listing applicant and their total revenue contribution during the track record period.

The degree and mode of control over distributors. Whether it is an industry norm to adopt the subject distributorship model and what are the

benefits for using it. Whether it is a seller/buyer or principal/agent relationship between the listing applicant and the

distributors. The turnover rate of distributors and changes in the number of distributors during the track

record period and the reasons for the major changes. The amounts of sales to and goods returned from distributors during the track record period.


SPECIFIC AREAS OF CONCERN Besides the general disclosure requirements, SEHK also explains the following specific areas of concern and expected actions to be taken for listing applicants adopting distributorship, franchising or consignment business models:

Areas of Concern Actions to be Taken

Inventory risk - 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). Accordingly, 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. Under these circumstances, the timing in which revenue is to be recognised must be carefully assessed

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

Cannibalisation - Rapidly increasing the quantity of distributors may result in significant growth in sales. However, these distributors may have to compete with each other if there are too many of them in the market. Accordingly, royalty payments (if any) from distributors for initial set up may not be sustainable if that is the case

The sponsors must reasonably believe that the listing applicant’s revenue is not resulting from cannibalisation among distributors. Careful assessment should be contained in the listing document to enable investors to appreciate the sustainability of the business

Recoverability of accounts receivables - 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 directors and sponsors should give their views (with reasons) on whether the listing applicant’s credit management policy is appropriate and whether the provision for trade receivables is adequate The listing document should include: a commentary on the recoverability of accounts

receivable and the subsequent settlement of the amounts

the impact of the increase in accounts receivable

and debtors’ turnover days on the liquidity and cash flow of the listing applicant


Areas of Concern Actions to be Taken

Independence of distributors - Products 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 listing document: 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

management of the sales partners using the listing

applicant’s trading name and the potential risks and adverse consequences for misusing the name



Guidance on Liquidity Disclosures QUICK READ On 15 June 2012, HKEx published two guidance letters “HKEx-GL37-12” and “HKEx-GL38-12” to provide guidelines (a) to assist listing applicants and their advisers to prepare liquidity disclosures such as working capital statement, indebtedness statement and commentary on the liquidity and financial resources and capital structure; and (b) on the latest practicable date and the latest date for liquidity disclosures in a listing document. LIQUIDITY DISCLOSURES Under the Listing Rules, a listing applicant is required to make the following liquidity disclosures (Liquidity Disclosures) in its listing document:

A working capital statement (Working Capital Statement). A statement as at the most recent practicable date of the total amounts of debt securities,

borrowings, indebtednesses, mortgages, contingent liabilities and guarantees on a consolidated basis (Indebtedness Statement).

A commentary on the listing applicant’s (a) liquidity and financial resources; and (b) capital

structure (Liquidity Commentary).

GUIDANCE The guidelines in relation to the various categories of liquidity disclosures are summarised as follows:

Categories Disclosure Requirements

Working Capital Statement Confirm whether there is available sufficient working capital for the group’s present requirements, that is for at least the next 12 months from the date of publication of the listing document

Indebtedness Statement

Should be as at a date that is no more than two calendar months before the issue of the listing document (Most Recent Practicable Date)

Should include details of the banking and other facilities as at the

Most Recent Practicable Date


Categories Disclosure Requirements

Liquidity Commentary Should not merely be a reproduction of the financial statement information in a narrative form, or simply a tabulation of financial data without any commentary or analysis

The following information should be included (with discussion,

analysis and/or explanation):

the net current assets (liabilities) position stating the composite assets and liabilities as at the most recent practicable date (normally the same date as the Indebtedness Statement date and not more than two calendar months before the publication of the listing document)

sources and uses of cash and material changes in the

underlying drivers with specific disclosures as required factors which would have a material impact on the liquidity

position such as funds necessary to meet the obligations and operations; commitments for capital or other major expenditures; the likelihood of future cash requirements associated with known trends and uncertainties and relevant legal/ regulatory requirements

whether to raise material external debt financing in the

future? If so, the impact on the cash position and liquidity of the listing applicant. If no, a negative statement should be included

whether there are material covenants relating to outstanding

debts (or guarantees or other contingent obligations)? If so, the impact on the ability of the listing applicant to undertake additional debt or equity financing, etc. If no, a negative statement should be included

other material information to facilitate an investor to make a

properly informed assessment of the financial position and prospect of the listing applicant


THE LATEST PRACTICABLE DATE AND THE LATEST DATE FOR LIQUIDITY DISCLOSURES Apart from liquidity disclosures which should be included in a listing document, HKEx also provides guidelines in relation to the following:

The latest practicable date - the latest practicable date in a listing document is a date which is no more than 10 calendar days before the date of the listing document.

The latest date for the Liquidity Disclosures - the latest date for the Liquidity Disclosures in a

listing document is a date which is no more than two calendar months before the date of the listing document.

Also, SEHK has tightened up the requirement for confirmation by the directors of a listing applicant that there is no adverse change in the financial or trading position of the group in the “Summary” and “Financial Information” sections. The confirmation should now be provided for a period starting from the end of the period reported on in the accountants’ report up to the date of the listing document, instead of up to the latest practicable date in the listing document previously. You may download copies of the guidance letter “HKEx-GL37-12” via the link below: http://www.hkex.com.hk/eng/rulesreg/listrules/listguid/Documents/gl37-12.pdf You may download copies of the guidance letter “HKEx-GL38-12” via the link below: http://www.hkex.com.hk/eng/rulesreg/listrules/listguid/Documents/gl38-12.pdf


Heavy Reliance on Parent Company not Suitable for Listing QUICK READ On 14 April 2012, HKEx published a listing decision “HKEx-LD30-2012” in which it decided that the listing applicant’s heavy financial and operational reliance on its parent company had resulted in the applicant being not suitable for listing. BACKGROUND In Year 2 during the track record period (comprising Year 1, Year 2, Year 3 and the first six months of Year 4), the listing applicant (Company A) started to sell its products to its parent company (Parent Company). Since then, the Parent Company had been Company A’s largest customer, representing over 75% of its total sales in Year 2, Year 3 and the first six months of Year 4. For Year 4, Year 5 and Year 6, Company A anticipated that the sales to the Parent Company would amount to more than 50% of its total volume. From Year 3 to the first six months of Year 4, only less than 25% of Company A’s revenue was generated from sales to independent customers. At the time of the listing application, Company A had long-term sales contracts with only four independent customers. Also, Company A had received material advance payments from the Parent Company for the purchase of its products and it was a major funding source for Company A to finance its operation. The advance payments amounted to about 20% of the estimated sales to the Parent Company, a percentage which was two to four times higher than the percentage of advance payments received from other independent customers. Due to the continued downturn of the relevant industry, the Parent Company had shown deteriorating financial performance and had recorded gross loss, net loss and net current liabilities for the third quarter of Year 4. Also, the operating and financial performance of Company A was fluctuating during the track record period. As a result of the Parent Company’s deteriorating situation, Company A had recorded worsening financial results in the second half of Year 4. APPLICABLE LISTING RULES Rule 8.04 of the Listing Rules requires that both the issuer and its business, in the opinion of SEHK, must be suitable for listing. Paragraph 27A of Appendix 1A of the Listing Rules provides that the listing document should include a statement explaining how the issuer is satisfied that it is capable of carrying on its business independently of the controlling shareholder (including any associate) after listing, and particulars of the matters that it relied on in making the statement.


ISSUE In view of Company A’s heavy operational and financial reliance on the Parent Company, whether it is suitable for listing on SEHK?

LISTING DECISION SEHK was of the view that Company A’s significant operational and financial reliance on the Parent Company had raised the issue of sustainability of Company A’s business and Company A’s suitability for listing under Rule 8.04 of the Listing Rules. In order for SEHK to further review Company A’s listing application, Company A must first take concrete steps to address the issue of heavy reliance on the Parent Company. APPROACH TAKEN BY SEHK There is no bright line test in determining whether a listing applicant’s reliance on its parent company would have an adverse impact on the suitability for its listing. SEHK will consider the listing applications on a case-by-case basis and take into account the relevant facts and circumstances of individual cases. SEHK may allow the issue to be dealt with by way of appropriate disclosure in the prospectus. However, for extreme cases, SEHK may require the listing applicant to take further steps to address the issue before the listing application can proceed. Here are some past listing decisions made by SEHK on the issue for reference purposes:

Month and Year

Listing Decision Reference No.

Issue Listing Decision

July 2005 HKEx-LD46-1 Whether the listing applicant’s reliance on the parent group for certain sales and procurement functions on the deemed listing rendered it unsuitable for listing

In the first hearing of the listing application, SEHK determined that: the reliance issue could not be resolved

by disclosure alone concrete steps should be taken to

address the reliance issue before the listing application could proceed

Prior to the second hearing of the listing application, the listing applicant proposed to incorporate the sales function of a business which it intended to acquire from the parent group. In view of this, SEHK considered that the listing applicant had reduced the level of reliance on the parent group to an acceptable level


Month and Year



July 2005 HKEx-LD46-2 Whether the listing applicant’s reliance on its parent company for the editorial content of certain publication materials on which it relied on for its advertising business rendered it not suitable for listing

The level of reliance on the parent company could be addressed by disclosure in the prospectus with a description of the associated risks

March 2006 HKEx-LD51-1 Whether the listing applicant’s reliance on its parent company for certain aspects of its operations rendered it not suitable for listing

The listing applicant was suitable for listing and the reliance issue could be dealt with by way of disclosure in the prospectus

March 2006 HKEx-LD51-3 Whether the listing applicant was so dependent on its parent company as to be considered not suitable for listing given that (a) the executive directors of the listing applicant overlapped with some of the directors of the parent company; (b) they were in the same industry sector; and (c) common customers were identified

The listing applicant was considered suitable for listing due to its relationship with the parent company. The reliance issue and the issue of competition with its parent company were required to be addressed by appropriate disclosures in the prospectus

March 2006 HKEx-LD52-2 Whether the listing applicant could meet the requirement of independence from its parent company in view of the overlapping of directorships between itself and its parent group

The listing applicant had demonstrated independence from its parent company for the purpose of the Listing Rules


Month and Year



July 2009 HKEx-LD69-1 Whether the listing applicant must release the parent company’s guarantees of its existing banking facility to demonstrate its financial independence from its parent company before listing

The listing applicant was financially independent of the parent company. SEHK determined that (a) the parent company’s guarantees of the listing applicant’s banking facility need not be released before or at the time of listing; and (b) the listing applicant might ask the parent company for a secured loan facility to refinance the existing loans if the terms offered by independent third parties were considered by the directors to be less favourable

You may download copies of the listing decision via the link below: http://www.hkex.com.hk/eng/rulesreg/listrules/listdec/Documents/ld30-2012.pdf


No Waiver under Listing Rule 18.04 if there is No Clear Path to Commercial Production QUICK READ On 18 May 2012, HKEx published a listing decision “HKEx-LD31-2012” to determine whether (a) there was adequate disclosure in the prospectus regarding the allegations made in a complaint apparently against certain previous management members of the listing applicant; and (b) a waiver from the requirement under Listing Rule 18.04 should be granted to the listing applicant.

BACKGROUND The listing applicant (Company B) was a mineral company under Chapter 18 of the Listing Rules which focused on one operating mine (Operating Mine). An anonymous letter was received accusing that various member(s) of Company B’s management with a specified surname (Surname) was/were involved in a legal action (Complaint) filed by an overseas regulator relating to illegal sale and price manipulation of an unrelated company listed on an overseas exchange. Since the sponsors at that time were not able to form a definite view on the truthfulness of the allegations, Company B did not proceed with the listing application. After then, the former controlling shareholder of Company B (Mr X) with the Surname sold his entire interest in Company B to Company Y and Company Z. The two companies became Company B’s new controlling shareholders. Mr X and Mr X’s cousin with the Surname also resigned as directors of Company B. The consideration paid by Company Y and Company Z to Mr X represented a discount exceeding 70% to the proposed offer price of the IPO. RELEVANT LISTING RULE AND SEHK GUIDANCE Listing Rule 18.04 states that if a mineral company is unable to satisfy, among others, the profit test in Listing Rule 8.05(1), it may still apply to be listed if it can establish to SEHK’s satisfaction that its directors and senior managers, taken together, have sufficient experience relevant to the exploration and/or extraction activity that the mineral company is pursuing. Also, HKEx Guidance Letter HKEx-GL22-10 states that: “While we expect most applicants taking advantage of Rule 18.04 will still be at the development stage, those who are already in the production stage are not necessarily precluded. This is because Mineral Companies in production may have junior assets that are yet to be developed. Waivers from the financial standard requirements are only likely to be considered favourably where Mineral Companies demonstrate a clear path to commercial production”.


ISSUES Two major issues were considered:

Whether there was adequate disclosure in the prospectus regarding the allegations made in the

Complaint? Whether a waiver from the requirement under Listing Rule 18.04 should be granted to the

listing applicant?

LISTING DECISION Whether there was adequate disclosure in the prospectus regarding the allegations made in the

Complaint?

SEHK was of the view that the disclosure in the prospectus regarding the allegations made in the Complaint was unclear and limited. Instead, the following matters should have been disclosed:

A clear and detailed description of the Complaint. How did Company Y and Company Z know that Mr X intended to sell his interests in Company

B? An explanation about why Mr X was willing to sell his interest for an apparently low price (i.e. at

a discount exceeding 70% to the proposed offer price). An explanation about why the new controlling shareholders were willing to acquire Company B

despite the Complaint. Statements made by the directors of Company B confirming the following:

Mr X and his cousin retained no economic or other interests in Company B. The new controlling shareholders and Company B were independent of Mr X and his cousin. The allegations in the Complaint had no impact on Company B’s financial position and

operations.

The steps taken by the sponsors to satisfy themselves that: Mr X and his cousin retained no economic or other interest in Company B. The new controlling shareholders and Company B and their respective associates were

independent of Mr X and his cousin and their respective associates.

The steps taken by the new controlling shareholders to satisfy themselves that there were no other issues arising from the allegations that should be addressed.


Whether a waiver from the requirement under Listing Rule 18.04 should be granted to the listing

applicant? As explained above, SEHK will only grant a waiver of Listing Rule 8.05(1) under Listing Rule 18.04 if the listing applicant can show that there is a clear path to commercial production. In the present case, SEHK decided it would not grant such a waiver to Company B as it had failed to demonstrate that there was a clear path to commercial production. The conclusion was based on the following factors at the relevant time:

The Operating Mine was in its expansion stage and only limited trial production had occurred. No detailed mine plan had been completed for the Operating Mine. Lack of geotechnical study and use of preliminary grade study. The framework agreements appeared little more than undertakings to negotiate on the amounts

and quantities to be purchased, the price and other terms. The framework agreements should have been disclosed in plainer language so that investors could understand them easily. The disclosure appeared to have placed more importance on the framework agreements than warranted.

SUBSEQUENT DEVELOPMENT Subsequently, Company B started its commercial production. It also commenced to prepare a detailed mining plan with a detailed production schedule. Company B took appropriate actions and submitted a new listing application with enhanced disclosures to address the concerns raised by SEHK. In view of the new submission, SEHK decided to grant a waiver under Listing Rule 18.04 to Company B and the listing was allowed to proceed. You may download copies of the listing decision via the link below: http://www.hkex.com.hk/eng/rulesreg/listrules/listdec/Documents/ld31-2012.pdf


Listing Applicant was not Required to Prepare a Competent Person’s Report for its Mining Interests QUICK READ On 8 June 2012, HKEx published a listing decision “HKEx-LD32-2012” to determine that, subject to certain conditions, the listing applicant was not required to include a competent person’s report (CPR) on certain mining interests it intended to acquire or develop.

BACKGROUND The listing applicant (Company C) was a mineral company under Chapter 18 of the Listing Rules. It had interests in four mines and intended to include a CPR in its listing document. Details are as follows:

Mine Nature of Interests

Intended to include the mining interest in the CPR ?

Information to be included in the CPR

Other information

Mine W Mining right Yes Resource and reserve information

N/A

Mine Y A conditional agreement to purchase the majority equity interests in an entity which held the exploration right for Mine Y

Yes JORC compliant geological and exploration reviews but without any resource and reserve estimation or other mine planning information

Further exploration would be needed to decide the final purchase price and whether all conditions for completion could be met

Mine X Exploration right No N/A At the early exploration stage and there was insufficient information for a competent person to conduct a JORC compliant geological and exploration review for inclusion in the CPR

Mine Z An option to purchase the majority equity interests in an entity which held the mining right for Mine Z

No N/A Had not decided whether to exercise the option to acquire the mine and would engage an independent technical adviser to conduct exploration of the mine after listing


APPLICABLE LISTING RULE AND SEHK GUIDANCE Listing Rule 18.03 requires a mineral company to have the right to participate actively in the exploration and/or extraction of natural resources, and establish to SEHK’s satisfaction that it has at least a portfolio of indicated or contingent resources identifiable under a reporting standard and substantiated in a CPR. This portfolio must be meaningful and of sufficient substance to justify a listing. Listing Rule 18.05 requires a mineral company to include in its listing document a CPR and other details of its business operations and risks.

SITUATIONS WHERE A CPR IS NOT REQUIRED Despite the requirement to include a CPR in the listing document, there are two situations which a listing applicant can be excused from doing so: Situation 1

The necessary information for the preparation of a CPR is NOT available - SEHK would allow a listing applicant not to include a CPR on the minor part of its portfolio if:

it is satisfied with the listing applicant’s explanation for the absence of information on the minor part of its portfolio of mineral resources for the preparation of a CPR; and

the listing applicant’s other mineral resources are sufficient to qualify for a listing.

The listing applicant is normally required to undertake to SEHK to comply with the CPR requirements when the information for the preparation of a CPR on the relevant part of the portfolio becomes available. Situation 2

The necessary information on its resources to prepare a CPR is available but a waiver is granted by SEHK. SEHK will only consider granting a waiver to a listing applicant if it is not relying on those resources to satisfy the initial listing requirements. SEHK will also impose conditions on the waiver for the purpose of ensuring that investors will obtain qualitative information after listing.


LISTING DECISION

Subject to certain conditions, SEHK permitted Company C not to include a CPR or full CPR for each of Mines X, Y and Z in the listing document based on the following:

there was insufficient information to prepare a CPR or full CPR for Mines X, Y and Z before

listing and the listing document would not include any estimated resource or reserve information of Mines X, Y and Z; and

Company C did not rely on the contribution of Mines X, Y and Z to qualify for a listing status.

Although a full CPR was not required for Mines X, Y and Z, SEHK considered that sufficient information of these mines must be disclosed to investors as and when appropriate. You may download copies of the listing decision via the link below: http://www.hkex.com.hk/eng/rulesreg/listrules/listdec/Documents/ld32-2012.pdf


PRC Notice on the Issuance of RMB Bonds in Hong Kong by Non-Financial Institutions QUICK READ On 2 May 2012, NDRC promulgated its “Notice on Relevant Matters in relation to the Issuance of RMB Bonds in Hong Kong by Local Non-Financial Institutions” (Notice). The Notice sets out the relevant rules and requirements for the issuance of RMB bonds by PRC non-financial institutions in Hong Kong. The effective date of the Notice is also 2 May 2012.

BACKGROUND In June 2007, NDRC published rules for the issuance of RMB bonds in Hong Kong by PRC banks. However, prior to the promulgation of the Notice, there was no formal legislative approval framework for the issuance of RMB bonds in Hong Kong by PRC non-financial institutions and approvals had been granted on a case-by-case basis. The Notice aims to formalise the approval procedures and establish a regulatory framework for PRC non-financial institutions to issue RMB bonds in Hong Kong. REGULATORY REQUIREMENTS The requirements as set out in the Notice are summarised as follows:

Tenor of the RMB bonds: The term should be not less than one year. Approving authorities: Applications must be submitted to the Central NDRC for approval.

Entities which are supervised by the Central PRC Government may apply directly to the Central NDRC. Local entities should submit the applications for examination and approval by the provincial counterparts of NDRC which will then submit the applications to the Central NDRC for final approval.

Conditions: A PRC non-financial institution seeking to issue RMB bonds in Hong Kong should

satisfy the following conditions: Has good corporate governance. Maintains good creditability. Has relatively strong profit-making ability.


The proceeds from the RMB bonds should mainly be used for fixed asset investment projects

which comply with the national macroeconomic policies, industrial policies, foreign investment and outbound investment policies and fixed asset investment administrative rules. It appears that the proceeds could either be repatriated back to PRC or invested offshore, provided that the purposes have been pre-approved by NDRC.

None of its issued corporate bonds or other debts is in default and there has been no delay of

any interest payment or principal repayment. Has maintained a clean compliance track record for the past three years with no material

violation of laws and regulations. Timing of approval: NDRC will decide whether to accept or reject an application within 60

working days after submission of the application. Expiry date of approval: A NDRC approval will be valid for one year. The non-financial

institution should initiate the process to issue RMB bonds within 60 working days after obtaining the NDRC approval and the bonds issuance must be completed within one year.

Reporting details of the RMB bonds issuance: The non-financial institution should report

details of the RMB bonds issuance to NDRC within 10 working days after completion. Foreign debts regulations: Any bonds issuance under the Notice will be regarded as “foreign

debts” and so will be subject to all the relevant regulations such as the normal registration requirements with the State Administration of Foreign Exchange.

Issuance of RMB bonds by an offshore branch or subsidiary of a PRC non-financial

institution and guaranteed by another PRC entity: The non-financial institution should report details of the issue size, maturity and use of proceeds to NDRC within 20 working days before the issuance.

Compliance with Hong Kong rules: All relevant Hong Kong rules governing the bonds

issuance such as matters relating to sale, registration, custody, clearing and disclosure should be duly complied with.

Issuance of RMB bonds in other offshore markets: The same requirements as stipulated in

the Notice should apply to issuance of RMB bonds by non-financial institutions in other foreign jurisdictions or markets.

You may download copies of the Notice (Chinese version only) via the link below: http://www.ndrc.gov.cn/zcfb/zcfbtz/2012tz/t20120508_478219.htm


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