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Exchange to Change Some of its Connected Transaction Rules

Regulatory
21 Mar 2014

The Stock Exchange of Hong Kong Limited (the Exchange), a wholly-owned subsidiary of Hong Kong Exchanges and Clearing Limited (HKEx), published today (Friday) its consultation conclusions on the following proposed changes to the Listing Rules (the Rules) set out in the consultation papers of 26 April 2013 on:

  • Proposed changes to the connected transaction Rules; and
  • Proposed changes to align the definitions of connected person and associate in the Rules.

The Exchange will implement the two sets of proposals with some modifications to take into account the respondents' comments.  The Exchange received 63 and 47 submissions to the two consultation papers from listed issuers, professional and industry associations, practitioners, individuals and other entities.  The consultation period ended on 26 June 2013.  The Rule amendments will be effective from 1 July 2014 to give sufficient time for issuers and market practitioners to familiarise themselves with the changes.

"The Rule amendments will simplify and improve the clarity of the connected transaction Rules and ease the compliance demands on issuers while maintaining the same level of investor protection," said David Graham, HKEx's Chief Regulatory Officer and Head of Listing.

Review of connected transaction Rules

Most of the Exchange's proposals to simplify the connected transaction Rules received support from a large majority of the respondents and will be adopted.  A summary of those proposals is in the attachment to this news release.

The proposals in the following areas will not be adopted or will be adopted partly:

  • Transactions with connected persons at the subsidiary level – The Exchange will adopt the proposal that exempts transactions with these connected persons from the independent shareholder approval requirement while retaining the requirement for disclosure of these transactions by announcements.
     
  • Monetary limits for the de minimis exemptions – The Exchange will increase the monetary limit for fully exempt connected transactions to $3 million in light of the market views that the current limit of $1 million is too low for issuers generally.  It has decided to retain the monetary limit of $10 million for connected transactions exempt from the shareholder approval requirement.
     
  • Deeming provision – The Exchange has decided not to adopt the proposal to specify in the Rules that the deeming provision will cover a shadow director or de facto controlling shareholder of an issuer, and any person who is accustomed to acting according to a connected person’s direction or instruction.  The Exchange will continue to use the deeming provision under the current Rules in individual cases where connected persons stand to benefit from issuers' transactions.
     
  • Continuing connected transactions – The Exchange has decided not to adopt: (a) the proposal to codify in the Rules the current waiver practice to allow an issuer to obtain a shareholder mandate for continuing connected transactions over a period in lieu of a framework agreement; and (b) the proposal to allow percentage caps for continuing connected transactions of a revenue nature.

Proposed changes to align the definitions of connected person and associate in the Rules

The proposals to align the definitions of connected person and associate in other parts of the Rules with those used in Chapter 14A (Growth Enterprise Market, or GEM, Chapter 20) also received support from a majority of the respondents.  However, some respondents noted that implementation of the proposals may extend the requirements in some of the Rules and significantly increase issuers' compliance burdens, which is not the Exchange's intention.  The Exchange has reviewed the proposals and decided to apply the Chapter 14A definitions of connected person and/or associate in the following areas:

  • The reverse takeover Rules in Chapter 14 (GEM Chapter 19) which will apply to significant acquisitions from the incoming controlling shareholders' extended family members (Note 1) and companies controlled by them.
     
  • Significant corporate actions (Note 2), spin-off proposals and director's service contracts that require shareholders' approval, where the controlling shareholder or directors and their associates may not vote.  In other words, the connected persons' extended family members and companies controlled by them cannot vote in a general meeting to approve these matters. 
     
  • Grant of share options to connected persons under Chapter 17 (GEM Chapter 23).  In other words, the connected persons' extended family members and companies controlled by them cannot vote in a general meeting to approve the grant of share options to connected persons.
     
  • Independence of a sponsor in the case of a new listing application.  In other words, the sponsor must confirm that it is not a connected person (as defined in Chapter 14A) of the new applicant (Note 3).
     
  • Independence of an independent financial adviser in the case of a connected transaction by a listed issuer.  In other words, the independent financial adviser must confirm that it is not, and does not hold more than 5 per cent interest in, an associate (as defined in Chapter 14A) of the counterparty of the transaction (Note 3).
     
  • Other Rules where the use of the Chapter 14A definitions of connected person and associate are corollary to the connected transaction requirements. 

The Exchange has decided to rename the definitions of "connected person" and "associate" in Chapter 1 as "core connected person" and "close associate" respectively to distinguish them from the Chapter 14A definitions.

A summary of the Rule amendments to implement the proposals adopted is set out in the attachment to this news release.

Seminars on Rule amendments

To assist the market in understanding the Rule amendments, the Exchange plans to hold 12 issuer seminars in Hong Kong and the Mainland in the next few weeks to explain the amendments and answer any questions.

The Consultation Conclusions for Review of Connected Transaction Rules and Proposed Changes to Align the Definitions of Connected Person and Associate in the Listing Rules can be downloaded from the "News & Consultations – Market Consultations – Consultation Conclusions" section of the HKEx website.

The Rule amendments can be downloaded from the "Rules & Regulations – Rules and Guidance on Listing Matters – Amendments to Main Board Listing Rules" and the "Rules & Regulations – Rules and Guidance on Listing Matters – Amendments to GEM Listing Rules" sections of the HKEx website.

The Exchange has published the following guidance materials for the Rule amendments:

  • A guidance letter on the pricing policies in agreements for continuing connected transactions and their disclosure.  (It can be downloaded from "Rules & Regulations – Rules and Guidelines on Listing Matters – Guidance Letters - Guidance Letters for New Applicants" and "Rules & Regulations – Rules and Guidelines on Listing Matters – Guidance Letters - Guidance Letters for Listed Issuers" sections of the HKEx website.)
     
  • A new series of frequently asked questions (FAQs) on "Rule Requirements Relating to Connected Transactions" (Series 28), which include new FAQs relating to the Rule amendments to be effective on 1 July 2014.  (They can be downloaded from the "Rules & Regulations – Rules and Guidelines on Listing Matters – Frequently Asked Questions" section of the HKEx website.)
     
  • Reference tables relating to the revised connected transaction Rules. (They can be downloaded from the "Rules & Regulations – Rules and Guidance on Listing Matters – Amendments to Main Board Listing Rules" and the "Rules & Regulations – Rules and Guidance on Listing Matters – Amendments to GEM Listing Rules" sections of the HKEx website.)
Noted: 1. The extended family members of a person include any person cohabiting with him as a spouse; his or his spouse's children of age of 18 years or above; his parents; his siblings; and companies controlled by them.
2. They include voluntary withdrawal of listing of an issuer from the Exchange, large scale rights issue or open offer, refreshment of general mandate for issue of securities and transactions that would result in a fundamental change in the issuer’s principal business activities within 12 months after listing.
3. Connected persons (as defined in Chapter 14A) of a new applicant will also include any former directors of the new applicant or its subsidiaries in the last 12 months and their associates, and the extended family members (see Note 1) of any director, chief executive or substantial shareholder of the new applicant or its subsidiaries, and their controlled companies.
 
Associates (as defined in Chapter 14A) of the counterparty in the connected transaction will also include his extended family members (see Note 1) and companies controlled by them.

ATTACHMENT

Summary of Proposals Adopted

Review of Connected Transaction Rules 

Plain language amendments
 
1. Simplify the language of the Rules by replacing the current Chapter 14A (GEM Chapter 20) with the plain language Guide on the Connected Transaction Rules issued in April 2012, with minor modifications on drafting.
 
Exemption for connected persons at the subsidiary level
 
2. Exempt transactions with connected persons at the subsidiary level from the shareholders' approval requirement.
 
e0321fig1
  • Mr. X is a director or substantial shareholder of the Subsidiary.
     
  • Transactions between the Issuer Group and Mr. X is exempt from shareholder approval requirement.
 
3. Exclude persons connected with insignificant subsidiaries of the issuer from the definition of connected person, rather than exempting transactions with these persons as provided under the current Rules.
 
e0321fig2
  • Mr. Y is a director or substantial shareholder of the Subsidiary.
      
  • Mr. Y is not a connected person of the Issuer so long as Subsidiary is an insignificant subsidiary.
Refine the scope of associates
 
4. Exclude from the definition of "associate" any trustee of an employee share scheme or occupational pension scheme if the connected persons' interests in the scheme are together less than 30 per cent; and the scheme is established for a wide scope of participants.
  
5. In defining a "30%-controlled company"1, exclude any company in which the connected person and his/its associate together have an interest of less than 10 per cent, other than the indirect interest held through the issuer.
 
e0321fig3
  • Neither Company A nor B is an associate of X because X's direct interest in it is less than 10%.
 
Exclude certain transactions with third parties from the scope of connected transactions
 
6. Exclude from the definition of connected transaction the following transactions with third parties, where a controller2 is, or will be, a shareholder of the target company:
  • any disposal of interests in the target company to a third party where a controller at the issuer level is the target company’s substantial shareholder;

e0321fig4  
  • X is a controller of the Issuer.
      
  • any acquisition/disposal of interests in the target company from/to a third party where a controller at the subsidiary level is the target company's substantial shareholder; and
e0321fig5
 
 
  • Y is a controller of the Subsidiary.
  • transactions with third parties described in paragraphs (ii) to (iv) of current Rule 14A.13(1)(b).
       
Further exemptions from the connected transaction requirements
 
7. Increase the monetary threshold for fully exempt connected transactions from $1 million to $3 million.
 
8. Remove the one per cent cap on transaction value which is currently a condition for the exemption for provision/receipt of consumer goods or services to/from a connected person.
 
9. Exempt indemnities provided to, or purchase of insurance for, directors against liabilities incurred in the course of performing their duties, provided that the indemnity or insurance is in the form permitted under the laws in Hong Kong and the place of incorporation of the company providing the indemnity or insurance.
 
Refine or clarify the connected transaction requirements
 
10. For connected transactions involving option arrangements:
  • classify the termination of an option granted by a connected person as if the option is exercised, unless the issuer has no discretion over the termination;
     
  • introduce alternative classification Rules for the transfer, non-exercise or termination of an option granted by a connected person.
     
11. Align the auditors’ confirmation on continuing connected transactions with Practice Note 740 "Auditor’s Letter on Continuing Connected Transactions under the Hong Kong Listing Rules" issued by the Hong Kong Institute of Certified Public Accountants.
 
12. Clarify that the independent board committee's opinion on a connected transaction must also cover whether the transaction is on normal commercial terms and in the issuer's ordinary and usual course of business.

1 A "30%-controlled company" means a company held by a person who can: (a) exercise or control the exercise of 30 per cent (or an amount for triggering a mandatory general offer under the Takeovers Code, or for PRC issuers only, an amount for triggering a mandatory general offer or establishing legal or management control over a business enterprise under the PRC law) or more of the voting power at general meetings; or (b) control the composition of a majority of the board of directors.
  
2 A "controller" refers to a director, chief executive or controlling shareholder of the issuer or any of its subsidiaries. 
 

Alignment of the definitions of connected person and associate in the Rules

1. Rename the definitions of connected person and associate in Chapter 1 as "core connected person" and "close associate" respectively.
 
2. Apply the Chapter 14A definitions of connected person or associate in other parts of the Rules as follows:
 
Main Board Rules GEM Rules Rule requirements as amended
a)   Reverse takeovers
 
Apply the Chapter 14A definition of associate in the following Rule requirements:
 
R14.06(6)(b), R14.23B(2) R19.06(6)(b), R20.23B(2)
  • Acquisition of assets from the issuer's incoming controlling shareholder or his/its associate under the reverse takeover Rule.
     
R14.92 R19.91
  • Restriction of disposal of existing business by an issuer within 24 months after a change in control unless the assets acquired from the person(s) gaining such control or his/their associates and any other assets acquired after the change in control can meet Rule 8.05.
     
b)   Significant corporate actions/ spin-offs/ directors' service contracts
 
Apply the Chapter 14A definition of associate in the following Rule requirements:
 
R6.12, R6.13, R7.19, R7.24, R13.36(4), R14.90, R14.91,Note to R13.39 R9.20, R9.21, R10.29, R10.29A, R10.39, R10.39A, R17.42A. R19.89, R19.90, Note to R17.47
  • Any controlling shareholder (or where there is no controlling shareholder, directors and chief executive of the issuer) and its/their associates must abstain from voting to approve 
     
    • voluntary withdrawal of listing
    • large scale rights issue or open offer
    • refreshment of general mandate
    • transaction that would result in a fundamental change in the issuer's principal business activities within 12 months after listing
The parties that are required to abstain from voting may vote against the resolution at the general meeting provided that their intention to do so has been disclosed.
 
PN15 - Para 3(e)(2) PN3- Para 3(e)(2)
  • If a controlling shareholder has a material interest in a spin-off proposal, it and its associates must abstain from voting.
     
R13.68 R17.90
  • A director and his associates must abstain from voting on his service contract for a duration of more than 3 years.
     
App14 - Para B.1.2(h) App15 - Para B.1.2(h)
  • Under the Corporate Governance Code, the remuneration committee's terms of reference should include provision to ensure that no director or any of his associates is involved in deciding his own remuneration.
     
c)   Granting share options to connected persons
 
Apply the Chapter 14A definition of associate in the following Rule requirements:
 
R17.04(1), N1 to R17.04(3)(d) R23.04(1), N1 to 23.04(3)(d)
  • Requirement for independent non-executive directors to approve a grant of share options to any director, chief executive or substantial shareholder of an issuer or any of their associates
     
  • Shareholder approval requirement for granting share options to a substantial shareholder or independent non-executive directors, or any of their associates which exceeds the limits set out in the Rule; or any change in the terms of options granted to any such person.
R17.06A, R17.07 R23.06A, R23.07
  • Requirements to disclose information relating to share options granted to a director, chief executive or substantial shareholder of the issuer or any of their associates.
     
Add new provisions in the following Rules to specify that the Chapter 14A definition of associate will apply if the grantee is a connected person under Chapter 14A
 
R17.03(4), R17.04(1) R23.03(4), R23.04(1)
  • Where the grantee is a connected person under Chapter 14A, the grantee and his associates will need to abstain from voting to approve the grant of options.
     
d)   Independence of sponsors
 
Introduce a new Rule 3A.07(3A) where the Chapter 14A definition of connection person will apply:
 
R3A.07(3A) R6A.07(3A)
  • Sponsor to confirm whether it is a connected person of the new applicant.
     
Apply the Chapter 14A definition of associate in the following Rule requirement:
 
R3A.05 R6A.05
  • A new applicant and its directors must assist the sponsor to perform its role and must ensure that its substantial shareholders and associates also assist the sponsor.
     
e)   Independence of independent financial advisers (IFAs)
 
Introduce new Rules 13.84(1A) and 13.84(2A) where the Chapter 14A definition of associate will apply:
 
R13.84(1A) R17.96(1A)
  • In the case of a connected transaction, the IFA to confirm whether it holds more than 5% of the issued share capital of an associate of another party to the transaction.
     
R13.84(2A) R17.96(2A)
  • In the case of a connected transaction, the IFA to confirm whether it is an associate of another party to the transaction.
     
f)   Others
 
i)   Transactions 
 
Apply the Chapter 14A definition of connected person and/or associate in the following Rule requirements:
R14.58(3), R14.63(3) R19.58(4), R19.63(3)
  • Issuer to disclose in the announcement and circular of a transaction that the counterparty and the ultimate beneficial owner of the counterparty are third parties independent of the issuer and its connected persons.
     
R5.03, PN12- Para 15 R8.03
  • Requirements for valuation of property interests acquired from a connected person.
     
  • Disclosure in the valuation report if the valuer has relied on information provided by a connected person in a connected transaction.
     
R21.08(12) N/A
  • A listing document of a new applicant investment company to contain a statement as to whether the directors of the investment company, the management company, any investment adviser or any distribution company, or any associate of any of those persons, is or will become entitled to receive any part of any brokerage charged to the investment company, or any re-allowance of other types on purchases charged to the investment company.
     
ii)    Issues of securities
 
Apply the Chapter 14A definition of connected person and/or associate in the following Rule requirements:
 
R7.21(2), R7.26A(2) R10.31(2), R10.42(2)
  • Shareholder approval requirements for a rights issue or open offer underwritten by a director, chief executive or substantial shareholder of the issuer (or an associate of any of them) if there is no arrangement for excess applications.
     
N1 to R13.36(2)(b), R19A.38 Note to R17.41(2), N1 to R25.23
  • Any issue of securities by an issuer to a connected person under a general mandate is permitted only if it complies with Chapter 14A.
     
PN4 - Para 4(c) R21.07(3)
  • For a proposal to issue new warrants to existing warrantholders or to change the exercise period or exercise price of existing warrants, the Exchange has the right to require that any connected person of the issuer who holds more than 10% of the outstanding existing warrants to abstain from voting.
     
iii)  Persons to abstain from voting in connected transactions
 
Add a note in the following Rules to specify that the Chapter 14A definition of associate will apply if the subject matter is a connected transaction under Chapter 14A:
 
R2.16 R2.27
  • In the case of a connected transaction, the Chapter 14A definition of associate will apply when determining whether a shareholder or any of his associates has a material interest in the transaction.
     
R13.44 R17.48A
  • In the case of a connected transaction, a director of the issuer must not vote on any board resolution approving the transaction in which he or any of his associates has a material interest.
     
iv)   Depositary
 
Clarify in the following Rule that a depositary shall not be regarded as an associate as defined in Chapter 14A or a close associate as defined in Chapter 1:
 
R19B.03 N/A
  • A depositary shall not be: (a) an "associate" or "close associate"; (b) …, merely by reason of the fact that it is holding shares of an issuer as depositary for the benefit of depositary receipt holders.

Ends

Updated 21 Mar 2014

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