Proposed changes to the Hong Kong prospectus regime

Clifford Chance partner Stephen Roith and associate Malini Budhwani discusses changes to Hong Kong companies ordinance.

Proposed changes to the Hong Kong "prospectus regime"

- The Companies (Amendment) Bill 2003

Clifford Chance Capital Markets Partner Stephen Roith and Capital Markets Associate Malini Budhwani discuss some of the proposed changes to the Hong Kong Companies Ordinance (Cap. 32) (the "CO") prospectus regime, with particular emphasis on the Companies (Amendment) Bill 2003, which was introduced to the Legislative Council on 25 June 2003 for its first reading and is currently passing through the bills committee stage. The date of its enactment is not yet known.

Introduction

In order to increase market liquidity by attracting to Hong Kong more issuers of debt and equity, overseas capital and investors, the Financial Secretary of Hong Kong has endorsed a three-phase reform of the existing regulatory framework governing the offering of shares and debentures. Phase 1 was the issue by the Securities and Futures Commission (the "SFC") of three sets of guidelines (the "Guidelines") in February/March 2003, permitting, among other things, "awareness advertisements", a "dual prospectus" structure and further exemptions from the prospectus regime (all described further below). Phase 2 involves putting the proposals set out in the Guidelines on a statutory footing and making other "quick fix" improvements to the CO (after consultation with market participants). This phase is in the process of being carried out by way of the Companies (Amendment) Bill 2003 (the "Bill"), which amends the CO. Phase 3 is a comprehensive review and reform of the legal and regulatory framework governing public offers of securities. This review has commenced and the SFC is aiming to put forward proposals for consultation by September 2004.

This article briefly outlines the current position under the Guidelines (Phase 1) and details the main changes to be made to the prospectus regime by the Bill (Phase 2). This article is not exhaustive and we refer you to the Bill itself for full details. A copy of the Bill can be downloaded from the Government's website at www.info.gov.hk.

The Current Position - The Guidelines

The Guidelines were gazetted on 21 February 2003 (see www.hkfsc.gov.hk for a copy) in response to market demand. The SFC describes the Guidelines as constituting "a facilitative interpretation of particular provisions of the current prospectus regime" and making "adjustments to current market practices and procedural requirements in order to facilitate the conduct of a public offering of shares or debentures". Legislation is not necessary to implement the Guidelines, which are now in force.

  • The first set of Guidelines, "Guidelines on use of offer awareness materials and summary disclosure materials in offerings of shares and debentures under the Companies Ordinance", relates to the content and manner of publication of materials which may be issued to the public in Hong Kong in connection with an offer by prospectus and they clarify the SFC's view in relation to the treatment of such materials under various ordinances, including the CO.
  • The second set of Guidelines, "Guidelines on using a "dual prospectus" structure to conduct programme offers of shares or debentures requiring a prospectus under the Companies Ordinance", outlines the regulatory approach that the SFC proposes to take regarding offerings made on a "programme" (i.e. a continuous or repeat) basis using programme and issue prospectuses that have been registered separately.
  • The third set of Guidelines, "Guidelines on applying for a relaxation from the procedural formalities to be fulfilled upon registration of a prospectus under the Companies Ordinance", relates to the formalities when seeking authorisation for registration of a prospectus.

The Guidelines describe only the way in which the SFC proposes to perform its own functions under existing law (however, The Stock Exchange of Hong Kong Limited has indicated its support for the Guidelines). The SFC makes clear that the Guidelines are not law, but are a policy position taken by it within what it considers to be the boundaries of existing law. The SFC states that the Guidelines should not be interpreted in a way that would conflict with existing legislation or regulation.

As mentioned above, it is intended that the Guidelines will be given statutory force by the Bill.

The Companies (Amendment) Bill 2003

The CO governs (i) written public offerings of shares and debentures in a Hong Kong company[1]; and (ii) written public offerings in Hong Kong of shares and debentures in an overseas company (whether or not it has a place of business in Hong Kong). The CO provides, inter alia, that such offerings require a prospectus to be prepared and registered with the Registrar of Companies in Hong Kong (the "Registrar") (and such prospectus will only be registered by the Registrar if the SFC has certified that it complies with the provisions of the CO).

Generally, the Bill amends the CO in the following three ways:

  • to update the prospectus regime;
  • to enhance shareholder remedies; and
  • to revise the registration system for overseas companies.

This article summarises the amendments to the prospectus regime and certain other changes that impact on the issue of debt securities.

Amendments to the prospectus regime

Publication of offer awareness materials

The CO currently prohibits the publication, by way of advertisement, of any extract from or abridged version of a prospectus. The Bill has expanded this prohibition to disallow any advertisements in relation to proposed prospectuses. However, in accordance with the Guidelines, the Bill permits "awareness advertisements", namely advertisements that set out only factual and procedural information concerning offers, in order to enhance investor awareness of such offers and allow them to make the necessary financial and other arrangements in case they wish to subscribe for the offer. Such advertisements must comply with the new Nineteenth Schedule to the CO (inserted by the Bill), which prescribes the type of information that can be included in such advertisements and contains certain investor protection safeguards, for example, the advertisement must state that it does not constitute an offer and must refer investors to the prospectus for further information before making an investment decision.

The Securities and Futures Ordinance (Cap.157) (the "SFO"), which currently prohibits the issue to the public in Hong Kong of an advertisement, invitation or document relating to securities (subject to certain exemptions), will be amended to expressly permit publications of the type described above.

Amendments to the definition of "prospectus"

The Bill adds an exclusion to the current CO definition of "prospectus" to carve out from the definition offering documents in respect of an offer of a type listed in Part 1 of the new Seventeenth Schedule to the CO (inserted by the Bill). Such offers will therefore not trigger the prospectus regime. The following are some of the twelve types of offers listed therein:

  • Offers to "professional investors". The Bill adopts the same definition of "professional investors" as that contained in the SFO, which is helpful for two reasons: (i) it extends the scope of the exemption, as the SFO definition of "professional investors" is much wider than the existing narrow formulation in the CO; and (ii) it brings the CO into line with the SFO as far as professional offerees are concerned. It is also notable that, under the Bill, this exemption is available to Hong Kong companies as well as overseas companies.
  • Offers to not more than 50 persons, subject to the inclusion in the offer of a modified form of warning statement (as set out in the Bill), stating, inter alia, that the document has not been reviewed or endorsed by any regulatory authority in Hong Kong (a "Warning Statement"). This amounts to statutory recognition of private placements. The Bill also clarifies that, in the case of a continuous offering, the period during which the number of offerees may be determined is 12 months.
  • Small offers, the total consideration for which is not more than HK$5,000,000, subject to the inclusion of a Warning Statement.
  • Minimum investment offers, where the minimum denomination of the share/debenture is not less than HK$500,000, subject to the inclusion of a Warning Statement.

The Bill states that a reference to an "offer" in Part 1 of the Seventeenth Schedule does not include that part of the offer that is made outside Hong Kong, e.g. if an offeror is relying on the "professional investors" exemption or the "50 persons" exemption, any offerees outside Hong Kong do not need to be taken into account in deciding whether or not the offeror can avail itself of the exemption.

Furthermore, the Bill clarifies that, with the exception of offers of a type described in the third and fourth bullet points above, all the "exempted" offers listed in the Seventeenth Schedule may be combined, e.g. an offeror can offer shares or debentures to an unlimited number of "professional investors" and up to 50 persons who are non-professionals.

In order to protect investors, the Bill also provides (in relation to both Hong Kong and overseas companies) that an offer of a type listed in Part 1 of the Seventeenth Schedule may only be onsold to the public by an original purchaser if either (i) a prospectus is approved and registered in accordance with the CO; or (ii) shares/debentures of the same class as those offered are listed on a recognised stock market.

In addition, to avoid any inconsistency, the SFO prohibition on the issue to the public in Hong Kong of an advertisement, invitation or document relating to securities will be amended by the Bill so that the prohibition will not apply to the extent that such advertisement, invitation or document relates to an offer falling within Part 1 of the Seventeenth Schedule to the CO. Furthermore, the Bill amends the definition of "prospectus" in the SFO so that it has the same meaning as that contained in the CO (as amended by the Bill).

Finally, the Bill expressly excludes from the definition of "prospectus" offer awareness materials as described above (i.e. "awareness advertisements" and extracts from or abridged versions of a prospectus) and thus such publications are not subject to the prospectus regime.

Extension of SFC's powers of exemption

Currently, under the CO, the SFC has the power to exempt a company from compliance with certain of the prospectus requirements on the grounds that such compliance would be "irrelevant" or "unduly burdensome". The Bill expands this power by adding a further ground, where granting an exemption "will not prejudice the interests of the investing public", and by increasing the number of provisions in respect of which exemptions can be granted. The Bill requires the SFC to publish details of each exemption granted, in order to promote greater transparency.

Programme offerings

At present, a company is required to produce a new prospectus each time it makes an offer in a series of issues (even if the information is very similar to a previous prospectus). In order to allow "programme offerings" (i.e. offers made on a repeat or continuous basis or through successive tranches) by Hong Kong and overseas companies, the Bill will allow a prospectus to be made up of more than one document, i.e. a base document (defined as a "programme prospectus") and supplementary documents (defined as "issue prospectuses"), each of which can be authorised, registered and issued at different times as a prospectus in its own right. This concept is new in Hong Kong. It is similar to the "shelf-registration" system in the United States but has no equivalent in United Kingdom legislation.

These amendments will reduce administration and facilitate debt issuance programme offerings as there will be no need to re-register the "programme prospectus" in relation to each issue and, if an expert has already consented to the inclusion of its statements in the programme prospectus, such expert will not need to reiterate such consent in respect of the programme prospectus in any subsequent issue prospectus.

Various investor safeguards will be introduced by the Bill in relation to programme offerings, e.g. an issue prospectus must contain a warning statement in the prescribed form stating, inter alia, that it should be read in conjunction with the programme prospectus.

The Bill provides that shares or debentures which are the subject of a programme prospectus and an issue prospectus cannot be offered or sold after the earlier of (i) the publication of the next annual report and accounts of the issuer after the publication of the programme prospectus; or (ii) the first anniversary of the date on which the programme prospectus was published; or (iii) if the relevant offer is guaranteed, the publication of the next annual report and accounts of the guarantor after the publication of the programme prospectus. In practice, this would mean that the programme prospectus would need to be updated upon the occurrence of any one of the aforementioned events.

Amendments to civil and criminal liability provisions

In order to enhance investor protection, changes are proposed to the civil and criminal liability provisions in the CO as follows:

  • Section 40 (which applies both to Hong Kong companies and overseas companies) of the CO will be amended to extend civil liability for misstatements in prospectuses to offer awareness materials (i.e. "awareness advertisements" and extracts from or abridged versions of a prospectus), as if such publications were prospectuses. Furthermore, under the CO as amended by the Bill, section 40 would also apply to prospectuses of overseas companies making offers for sale (i.e. not only those making offers for subscription, as is currently the case).
  • Section 40A (which applies to Hong Kong companies only) will be amended to extend criminal liability for misstatements in prospectuses to offer awareness materials, as if such publications were prospectuses.
  • The Bill now makes it clear that civil liability for misstatements extends to agents or intermediaries selling to investors as principal.
  • The Bill provides that, in relation to both Hong Kong and overseas companies, a misstatement in a prospectus for the purposes of the sections concerning civil and criminal liability would include a material omission from the prospectus.

Miscellaneous amendments

  • The Bill provides that the Third Schedule to the CO (which sets out the matters to be specified in a prospectus) also applies to the guarantor (if any) of an issue of debentures i.e. prospectuses relating to such issues must include disclosure on the guarantor similar to that provided for an issuer.
  • As a result of changes made by the Bill, companies will no longer be required to register "material contracts" with the Registrar but such contracts must be made available for inspection for at least 14 days after publication of the prospectus at the registered office of the company in Hong Kong (in the case of Hong Kong companies) or the company's principal place of business in Hong Kong or, if none, a place in Hong Kong specified by the SFC in the particular case (in the case of overseas companies).
  • The Bill provides that a stand-alone prospectus can only be amended in accordance with a new Twentieth Schedule to the CO, added by the Bill. This allows amendments only by way of an addendum or a new prospectus and makes clear that any such amending document is itself a "prospectus" and accordingly is subject to the provisions of the CO. There are separate (but similar) procedures for amendments to prospectuses consisting of more than one document (i.e. programme prospectuses).
  • The Bill states that where documents (other than a prospectus) are required to be submitted for the purposes of seeking authorisation and registration of a prospectus, certified true copies of such documents will be accepted.
  • The power to amend the Third Schedule to the CO (which sets out the matters to be specified in a prospectus) is presently held by the Chief Executive in Council, which does not accord with other international financial centres and the approach taken in the SFO. The Bill empowers the SFC to amend the Third Schedule and the new Seventeenth to Twenty-Second Schedules to the CO, after having consulted the public regarding any proposed changes.

Conclusion

The Bill has had a positive response from market participants and seems likely, after its enactment (expected to be some time in 2004 or 2005), to facilitate the use of the Hong Kong capital markets by both Hong Kong and non-Hong Kong incorporated issuers.

Stephen Roith (Partner)

Malini Budhwani (Registered Foreign Lawyer, England & Wales)

CLIFFORD CHANCE


[1] With respect to Hong Kong companies, it is not clear whether the CO is intended to apply only to offers made in Hong Kong or to offers made anywhere in the world. The SFC has gone on record as saying that the CO applies only to offers made in Hong Kong. However, the wording in the CO is unclear and therefore, erring on the side of caution, we would interpret the CO as applying to offers made anywhere in the world.