Introduction

In Securities and Futures Commission v Qunxing Paper Holdings Company Limited and others [2018] HKCFI 271, upon the application the Securities and Futures Commission (“SFC”), the Court of First Instance (the “CFI”) granted a restorative order against a listed company in Hong Kong and its related parties, requiring them to pay monetary compensation to its investors who suffered loss as a result of the market misconducts committed by the listed company and its related parties.

Background

Qunxing Paper Holdings Co. Ltd (“Qunxing”), the 1st Defendant, was founded by the 3rd Defendant, his wife and their son, the 4th Defendant.  Qunxing operated its paper production business in Mainland China through a wholly owned subsidiary, Shandong Qunxing Paper Ltd (“Shandong Qunxing”), which was held via the 2nd Defendant, another subsidiary of Qunxing.  On 2 October 2007, Qunxing was listed on the Main Board of the Hong Kong Stock Exchange.  On 17 December 2010, Qunxing made an open offer of new shares and further raised about HK$112.46 million from public shareholders.  On 14 January 2011, an investor entered into a subscription agreement with Qunxing to subscribe 206.56 million unlisted warrants of Qunxing.

The SFC’s action

In March 2011, the SFC commenced an investigation into Qunxing and identified irregularities in its financial results, including:-

• a material overstatement of sales by Shandong Qunxing in Qunxing’s prospectus, annual results and results announcements between 2007 and 2011;
  
• Qunxing’s annual reports and results announcements issued between 2009 and 2012 failed to disclose the bank borrowings of the group, which were between 4 and over 14 times of the stated liabilities of the group at the end of the relevant periods; and
  
• persons who had been held out to the auditors as employees of a customer of the business of Qunxing were in fact not employed by the customer.
• 
  

In late 2013, the SFC commenced proceedings against all the four Defendants and sought, among other things, remedial orders under section 213(2)(b) of the Securities and Futures Ordinance (Cap. 571) (“SFO”) requiring all the Defendants to restore Qunxing’s shareholders to the positions they were in before their subscription or purchase of Qunxing’s shares by making monetary compensation to them.

Relying on the expert evidence on establishing inducement and materiality of the relevant misstatements, the CFI was satisfied that Qunxing had committed market misconducts in the context of sections 277 and 298 of the SFO by issuing false or misleading information which was likely to induce subscription of its shares and that it had also contravened section 384 of the SFO and section 342F of the Companies (Winding Up and Miscellaneous Provisions) Ordinance (Cap 32) by making false or misleading statements in its IPO Prospectus. The remaining question was whether the financial relief under section 213(2)(b) of the SFO should be granted.

Discussion on section 213 of the SFO

Section 213 of the SFO provided that:

“(1)    Where –

• A person has –(iv)    directly or indirectly been in any way knowingly involved in, or a party to, any such contravention; the Court of First Instance, on the application of the Commission, may, subject to subjection (4), make one or more of the orders specified in subsection (2). …
• (2)     The orders specified for the purposes of subsection (1) are –
• …
• …
• Where a person has been, or it appears that a person has been, is or may become, involved in any of the matters referred to in subsection (1)(a)(i) to (v), whether knowingly or otherwise, an order requiring the person to take such steps as the Court of First Instance may direct, including steps to restore the parties to any transaction to the position in which they were before the transaction was entered into
• …
• The Court of First Instance shall, before making an order under subsection (1), satisfy itself, so far as it can reasonably do so, that it is desirable that the order be made, and that the order will not unfairly prejudice any person.” In light of this legislative intent, the CFI affirmed that an order under section 213 of the SFO could be made against persons who had directly or indirectly been knowingly involved in the market misconduct. Therefore, a person who has been knowingly concerned in the market misconduct would also be liable. Besides, the CFI also held that it is not necessary to bring into section 213(2)(b) all the requirements of a private law cause of action of deceit in the case of each investor. The CFI further remarked that section 213(2) of the SFO confers a discretion on the Court to make an order specified therein if it is desirable and fair.
• Adopting a flexible approach in construing section 213 of the SFO, the CFI ordered the Defendants to pay HK$1.42 billion in total to shareholders and public investors, notwithstanding that only HK$112 million of assets held by the Defendants have been found to be located in Hong Kong.

The CFI found that section 213 of the SFO is essentially a statutory regime which empowers the SFC, as the regulator, to take action to obtain civil remedies for the benefit of investors, who might otherwise be deterred by costs and other consideration from commencing legal proceedings individually. The CFI further recognised that the legislative intent of section 213 of the SFO is for the SFC to act as protector of the collective interests of investors who have been injured by market misconduct.

Key takeaways

Both investors and persons involved in market activities of listed companies may have takeaways from the Qunxing case.  For investors, the CFI’s confirmation that the SFC may seek civil remedies under section 213(2)(b) of the SFO for the benefit of the investors is undoubtedly a redress to investors.  Meanwhile, for persons involved in market activities of listed companies, while the CFI’s decision appears to be aggressive, it should be noted that the Defendants in Qunxing case were either excused or absent from the hearing and the CFI made the decision with the benefit of the SFC’s submissions only.  Accordingly, persons closely involved in market activities of listed companies, when faced with a section 213 of SFO application, may seek to raise arguments in relation to the undesirability and unfair prejudice of the order sought under section 213 of the SFO.

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Important: The law and procedure on this subject are very specialised and complicated. This article is just a very general outline for reference and cannot be relied upon as legal advice in any individual case. If any advice or assistance is needed, please contact our solicitors.