Hong Kong: Hong Kong: Stock Exchange Proposes Criteria for Continued Listing

In November The Stock Exchange of Hong Kong Limited (the "Stock Exchange") issued a revised consultation paper on continuing listing criteria and related issues. Readers will remember that the July version of this consultation paper sent shareholders onto a frenzied selling-spree, when the penny stocks on their hands suddenly appeared to be in imminent danger of becoming, as unlisted securities, valueless. The episode ended with the Stock Exchange withdrawing the offending section of the paper, a specially commissioned consultancy report on the consultation process, and a senior government official apologising to the public.

During the July consultation process commentators had an opportunity to express their views on the philosophical issues behind continued listing requirements. Some believe that whether a company should be able to maintain a listing should be left to market forces – as a company’s performance falls below commercially acceptable standards, public fund-raising becomes very expensive or impossible, rendering the listing status meaningless. Others, however, think that a listing status is a privileged status that listed companies have to earn by continuing to meet certain qualitative and quantitative standards of performance. In the revised consultation paper, the Stock Exchange invites more views from the market on the issue.

The Stock Exchange also invites comments on how to measure the "merits" of a company to justify its listing – should the company be judged on its financial performance alone, or should other factors be considered?

Whilst profitability is an important measuring rod, it is acknowledged that there are inherent problems with basing a company’s listing status merely on its profitability record. Market capitalisation reflects how the company is received in the market (which is not necessarily linked to financial performance alone), and shareholders’ equity reflects the financial strength of the company by way of asset base. In this connection, the Stock Exchange reiterated its proposal of three circumstances leading to a de-listing, as proposed in July:

• the company, with negative equity, being loss-making for three consecutive years; or
• the company, with an average market capitalisation of less than HK$50 million over 30 consecutive days, being loss-making for three consecutive years; or
• the company having an average market capitalisation of less than HK$50 million over 30 consecutive days and shareholders’ equity of less than HK$50 million.

The Stock Exchange proposed to set out in the listing rules certain events the occurrence of which will trigger a requirement for the listed company to take remedial action. If the requirement is not met or if remedial action is not successful, the company may be suspended or de-listed. These events include:

• the listed company going into receivership or provisional liquidation
• principal subsidiaries of the listed company (defined as those accounting for more than 75% of the listed company’s assets, turnover, profits or production volume) becoming insolvent and leaving the rest of the issuer’s business insufficient to meet continuing listing criteria
• the auditors’ report containing a disclaimer opinion or an adverse opinion (i.e. where the auditors gives no assurance that the financial statement gives a true and fair view of the company’s affairs)
• the issuer’s net assets, total assets, operations, turnover or after-tax profits having been reduced by 75% or more, so that the remaining businesses are insufficient to meet the initial listing criteria

The Stock Exchange also proposes to impose additional requirements for certain kinds of companies to maintain their listings. These include cash companies, companies that have been suspended for 12 months or more, and companies that have failed to carry out a sufficient level of operations or to have sufficient assets to warrant a listing. In addition, companies that persistently breach the listing rules or carry out illegal operations may be suspended or de-listed.

The Stock Exchange discusses two suggestions to protect minority shareholders’ rights when a company faces de-listing from the Stock Exchange. The first suggestion is for the controlling shareholders to be put under a duty to buy out minority shareholders. The problems with such approach are fairly obvious (for example, the company may not have any controlling shareholders at all, but may have its shares owned by a large number of small shareholders). The second suggestion is for the company to be compulsorily wound-up. Again there are practical and legal problems with this approach. The Stock Exchange invites public comments on alternative solutions.

Should de-listed shares be listed on an alternative board? Suggestions have been made that such shares can be moved onto the Growth Enterprise Market ("GEM") or a third trading platform to be specially established for the purpose. Taking into account the experience of other markets such as those of the US and Mainland China, this trading venue may be operated by agencies other than the Stock Exchange. At this stage, however, the Stock Exchange is still canvassing public opinion for further study.

The consultation paper raises other issues for discussion, including the consolidation and sub-division of shares, share offerings which have an effect of diluting minority shareholders, and issues relating to very low trading prices.

Consultation will close on 28 February 2003.

© Herbert Smith 2003

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