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A Better Delisting Framework?

2017-11-01

Introduction

In 2015, the Listing Committee of The Stock Exchange of Hong Kong Limited (the “Exchange”) reviewed the delisting framework in Hong Kong, and considered it necessary to adopt a more robust delisting policy. On 22 September 2017, the Exchange published the Consultation Paper on Delisting and other Rule Amendments (“Consultation Paper”), with view to improve the effectiveness of the current delisting framework and to address the concern of prolonged suspension of trading in listed securities in Hong Kong. This Newsletter focuses on the Exchange’s proposed amendments to (i) the Rules Governing the Listing of Securities on the Exchange (“MB Rules”); and (ii) the Rules Governing the Listing of Securities on the Growth Enterprise Market of the Exchange (“GEM Rules”), in the Consultation Paper.

Background

The Exchange has statutory duty under the Securities and Futures Ordinance (Cap. 571 of the laws of Hong Kong) (“SFO”) to maintain a fair, orderly and informed market for the trading of securities. To fulfil its statutory duty, one of the tools is the mechanism of trading suspension, which addresses and averts the risk of false, unfair or disorderly market. Situations triggering specific trading suspension include failure to disclose inside information, failure to maintain sufficient public float and the issuer no longer being suitable for listing. While trading suspension protects interests of shareholders from market disorder, prolonged suspension denies them of reasonable access to the market and prevents proper functioning of the market. As at 30 June 2017, 40 issuers have been suspended for over a year. There is no mechanism under our current regulatory framework to effectively prevent prolonged suspensions and to forcibly expel poorly performing issuers by delisting them.

Main Board Listing Rules

Current Delisting framework and Practical Concerns

A decision to delist an issuer is made by the Listing Committee of the Exchange. It has the discretion to either delist an issuer immediately or allow additional time for the issuer to remedy the situation leading to trading suspension. Pursuant to MB Rule 6.01, there are 4 circumstances under which the Exchange may at any time cancel a listing. It includes where an issuer: (a) is in material breach of the MB Rules; (b) fails to maintain sufficient public float; (c) fails to maintain sufficient operations or assets; or (d) is no longer suitable for listing.

For material breach of MB Rules and failure to maintain sufficient public float, delisting procedure is not specified in the MB Rules. The only resort is the general principle under MB Rule 6.04 that the Exchange may cancel a listing when there is continuation of a suspension for a prolonged period and the issuer fails to take adequate action to obtain restoration of listing. However, it is unclear as to what constitutes prolonged suspension and adequate action to restore listing. Accordingly, the suspended issuers may not have incentives to proactively rectify the issues.

On the other hand, for issuers that fail to maintain sufficient operations or assets as required under MB Rule 13.24, guidance on suspension of trading and delisting is provided in Practice Note 17 to the MB Rules (“PN17”). If sufficient operations or assets cannot be maintained, the issuer may request for or the Exchange may direct suspension of trading of its securities, and consequently triggering the 3-stage delisting procedures under PN17:

  • Stage 1 (initial period of 6 months following suspension): The Exchange will monitor development of the issuer. The issuer is obliged to publish periodic announcements of its development (MB Rule 13.24A).
  • Stage 2: The Exchange will write to the issuer to remind the issuer of its continued failure to meet the requirement under MB Rule 13.24 and to remind the issuer to submit resumption proposals within the next 6 months. During this period, the Exchange will continue to monitor development of the issuer. The directors of the issuer shall submit monthly progress reports to the Exchange.
  • Stage 3: The Exchange will announce that the issuer does not have sufficient operations or assets for listing and will impose a deadline (generally 6 months) for re-submitting resumption proposals. The directors of the issuer shall submit monthly progress reports to the Exchange.

 If, at the end of stage 3, no resumption proposals have been received, the listing will be cancelled.

The 3-stage delisting procedures of at least 6 months each is cumbersome in practice. From 2012 to 2016, more than 90% of the issuers falling under PN17 had a suspension period of more than 36 months, far exceeding the period of 18 months as contemplated in PN17. The reasons for prolonged suspension are: (a) at the end of each stage, the Exchange has to assess whether it is appropriate to proceed to the next stage, depending on whether the issuer has submitted a viable resumption proposal; and (b) each decision by the Exchange is subject to 2 levels of review.

The current framework focuses on requiring issuers to remedy the situation to resume trading, but contains no mechanism to facilitate delisting. For issuers that are no longer suitable for listing, pursuant to MB Rule 6.10, the Exchange may publish a delisting announcement specifying a period within which the issuers must remedy the issues to avoid delisting. Examples of situations giving rise to suitability concern include failure to disclose material information and material non-compliance with laws and regulations.

Proposal – Fixed period delisting criterion

In response to the issue of prolonged suspension of trading and to provide more certainty to the market, the Exchange proposed to add a fixed period delisting criterion under the new MB Rule 6.01A. The Exchange proposed fixed periods of 12, 18 or 24 months and seeks the public’s comments on the appropriate time frame for the fixed period delisting criterion.

The time frame for the fixed period delisting criterion shall strike a balance between (1) providing sufficient time for the suspended issuers to rectify the issues, thereby allowing minority shareholders opportunities to regain access to the market for trading of securities; and (2) effectively incentivising suspended issuers to act promptly to rectify the issues and serving a deterrent effect on the issuers to comply with the MB Rules.

According to the proposed rule, the Exchange has discretion to extend the suspension period. Nonetheless, the Exchange stated that any extension of time will only be granted in exceptional circumstances, in order to achieve the objectives of having a fixed period delisting criterion and to provide certainty to the market.

Proposal – Applicability of delisting procedure

under the amended MB Rule 6.01

As discussed, under the current MB Rules, for cases where issuers are considered as no longer suitable for listing, the Exchange may publish a delisting announcement under MB Rule 6.10 specifying a period within which such issuers must remedy the issues to avoid delisting. For delisting based on criterion in MB Rule 6.01, the Exchange may publish a delisting notice under a process similar to the current MB Rule 6.10 and give the issuer a period of time to remedy the relevant issues to avoid delisting, or delist an issuer immediately. The Exchange may specify a remedial period before delisting. The length of the remedial period may be shorter than the fixed period delisting criterion, depending on the matters leading to suspension. For instance, for failure to maintain sufficient public float, the Exchange expects it to be restored within a relatively short period of time (e.g. 6 months in the past). The Exchange has retained the power to delist an issuer at any time under MB Rule 6.01. For irregularities that are so fundamental to the general principles for listing and beyond remedy, the Exchange may immediately delist an issuer. Example includes a court finding that the issuer’s management and controlling shareholder operate a fraudulent scheme to overstate its profits.

Proposal – Removal of PN17
(issuers without sufficient operations and assets)

PN17 will be removed. As the Exchange has the authority to delist issuers without sufficient operations or assets under either (i) the fixed period delisting criterion; or (ii) the new delisting process under MB Rule 6.01, the Exchange considered PN17 redundant.

Proposal – Material breach of the MB Rules
as reason for suspension or delisting

The Exchange proposed to remove MB Rule 6.01(1), which provides that a material breach of the MB Rules is a specific ground for suspension or delisting, as it is already stated in MB Rule 2A.09 that breach of the MB Rules is a disciplinary action of the Listing Committee and is therefore subject to review procedures under Chapter 2A of the MB Rules.

In addition, the Exchange proposed to clarify in MB Rule 2B.07(5) that, regardless of whether material breach of the MB Rules is one of the reasons for cancellation of listing, decisions about cancellation of listing under MB Rule 6.01 shall be made and reviewed under the procedures for non-disciplinary matters as set out in Chapter 2B of the MB Rules.

Proposal – Quarterly updates

The Exchange proposed to introduce a requirement that suspended issuers shall announce quarterly updates in relation to its development and progress on satisfying resumption conditions.

Transitional arrangements

Following the proposal to remove PN17, the practice note will apply only to suspended listing issuers falling under PN17 before the effective date of the proposed MB Rule 6.10 as a transitional arrangement. With regard to the application of the fixed period criterion:

  • For issuers that have been suspended for a continuous period of less than 12 months as at the effective date of the fixed period criterion (the “Effective Date”), the “fixed period” will commence immediately from the Effective Date;
  • For issuers that have been suspended for a continuous period of 12 months or more as at the Effective Date, the “fixed period” will be deemed to have commenced 12 months before the Effective Date (if the fixed period is to be 24 months) or 6 months before the Effective Date (if the fixed period is to be 12/18 months).

 GEM Rules

The current delisting framework

Under the current delisting framework for GEM issuers, there already exists a delisting procedure similar to that proposed for MB issuers. Under GEM Rule 9.15, the Exchange may either (a) publish a delisting announcement specifying a period (ordinarily of 6 months) within which such issuers must remedy the issues to avoid delisting; or (b) immediately delist an issuer following publication of an announcement for fundamental irregularities. The current delisting framework applies to all existing delisting criteria under GEM Rules 9.01 and 9.04, which include the circumstances for delisting under the MB Rules (i.e. insufficient public float, insufficient operations or assets, and unsuitability for listing). There is no equivalent of the current MB PN17 in the GEM Rules, as the delisting procedure under GEM Rule 9.15 already covers situation of insufficient operations or assets. While delisting procedures with a wider scope of applicability are provided in the GEM Rules, the Exchange considers it necessary to improve the effectiveness of such delisting procedures. There is no clear basis to timely delist an issuer under GEM Rules 9.01 or 9.04.

Proposals

The Exchange proposed to add a fixed period delisting criterion to delist an issuer after prolonged suspension of trading, to bring the proposed GEM Rules in line with the proposed MB Rules. For GEM issuers, the Exchange proposed fixed periods of 6 or 12 months and seeks the public’s comments on the appropriate time frame. If the suspended GEM issuer fails to rectify the issues before the end of the prescribed fixed period, the Exchange may cancel its listing following publication of an announcement notifying the cancellation of the listing. As a transitional arrangement, it is proposed that for issuers that are suspended as at the effective date of the fixed period criterion, the fixed period will commence from such effective date.

Similar to the proposed rules for MB issuers, the Exchange also proposed that:

  • GEM Rule 9.04(5), which states that material breach of the GEM Rules is a specific ground for suspension and cancellation of listing, shall be removed. In addition, GEM Rule 4.07(6) has to be clarified. The decisions about cancellation of listing shall be made and reviewed under the procedures for non-disciplinary matters as set out in Chapter 4 of the GEM Rules; and
  • The suspended GEM issuers are required to announce quarterly updates of its developments and progress on satisfying resumption conditions.
  • The wording of GEM Rule 9.15, which provides that the Exchange may delist an issuer at any time or if the issuer fails to remedy the issues within a specified remedial period, shall be aligned with the proposed amendments to MB Rule 6.10, its equivalent in the MB Rules.

Trading Suspension

To maintain a fair, orderly and informed market for the trading of securities, issuers are required to apply for trading halt when the issuer has, or reasonably believes that it has, inside information that is subject to disclosure under Part XIVA of the SFO. The underlying objective is to allow the issuer time to announce inside information, to ensure equal treatment of investors and trading of securities on informed basis. Under the current regulatory framework, the rules in relation to disclosure of inside information are quite repetitive as to what constitutes inside information, which triggers the requirement to immediately publish an announcement, and if not, to apply for a trading halt. For instance, MB Rule 14.37(1) / GEM Rule 19.37(1) specifies that trading suspension is required for failure to announce an agreement about a share or a major (or above) transaction. In addition, MB Rule 14.37(2) / GEM Rule 19.37(2) specifies the requirement to apply for a trading halt or a trading suspension pending announcement following the signing of an agreement in respect of a notifiable transaction. The Exchange considered the market having extensive experience in determining the price sensitivity of information, and publishing the corresponding announcements in a timely manner. The Exchange proposed to remove MB Rule 14.37(1) / GEM Rule 19.37(1) and MB Rule 14.37(2) / GEM Rule 19.37(2) as the general principles requiring disclosure of inside information and trading suspension are sufficient to cover all situations involving inside information.

Trading Resumption

Under the current MB Rules and GEM Rules, the Exchange has the power to direct resumption of trading. However, such power is not exercisable until after the issuer is given an opportunity to be heard by the Listing Committee (MB Rule 6.07 / GEM Rule 9.12). The Exchange wishes to simplify and expedite the process by amending MB Rules 2B.08 and 6.08 / GEM Rules 4B.08 and 9.13, with the following proposals:-

  • Delegating the authority to direct resumption of trading to the Listing Department; and
  • Requiring the issuer who intends to review the decision by the Listing Department to direct resumption to submit the review application with reasons in writing within 2 days of the decision

Conclusion

More effective delisting procedures have been adopted by other stock exchanges. In particular, the UK Financial Conduct Authority and the Australian Securities Exchange may delist issuers after suspension periods of 6 months and 36 months respectively. The Exchange has to adopt a robust delisting policy to be in line with international practice, and to enable it to effectively expel poorly performing issuers and incentivize the existing issuers to observe the relevant rules, thereby maintaining the quality and reputation of the Hong Kong stock market.


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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.

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