SFC provides licensing guidance for private equity firms and family offices
In Hong Kong, there is a lack of specific licensing requirements for both private equity firms (“PE firms”) and family offices. The Securities and Futures Ordinance (Cap. 571, the “SFO”) provides for an activity-based licensing regime for entities and persons carrying on regulated activities (“RAs”). Whether specific licenses are required for carrying on the activities of any given PE firm or family office will depend on the scope of business and the power conferred on the management of the entity. In response to the enquiries from industry participants and their professional advisers, the Securities and Futures Commission (the “SFC”) has recently issued two circulars on the licensing obligations of PE firms and family offices, respectively, when conducting business in Hong Kong. Two separate email enquiry mailboxes have also been set up by the SFC to handle enquiries in relation to the licensing of PE firms (at firstname.lastname@example.org) and family offices (at email@example.com).
In the circular to PE firms, the SFC provides guidance on the licensing requirements for general partners of PE firms’, investment committee members and fund marketing activities. This circular also clarifies how the SFC assesses PE firms’ discretionary investment authority and investments in securities of private companies as well as the industry experience requirements for their responsible officers.
On the other hand, in the circular to family offices, the SFC provides guidance on how its licensing regime applies to family offices carrying out asset management or other services in Hong Kong. Further, this circular explains the application of the SFC’s licensing regime for both single and multi-family offices.
Guidance for PE Firms
SFC Licensing Handbook
The circular to PE firms builds on the latest version of the SFC’s licensing handbook published in February 2019 (the “Licensing Handbook”) in relation to PE firms and venture capital firms (“VC firms”). In this context, the key takeaway in the Licensing Handbook is that where a PE or VC firm deals in, advises on or manages shares or debentures of private offshore companies that fall outside the definition of “private company” under the Companies Ordinance (Cap. 622), it is likely that the firm in question will be required to be licensed.
Depending on a PE or VC firm’s business model, it may be required to be licensed to carry on one, or more than one, type of RAs:
1. If a PE or VC firm is delegated with discretionary power to make investment decisions on securities for a fund in Hong Kong, it must obtain a licence for Type 9 RA (asset management); and
2. If a PE or VC firm has not been granted any discretionary investment authority by the fund it serves, it may still need to be licensed for the following types of RAs:-
a. Type 1 RA (dealing in securities) for marketing or distributing a fund or conducting any other securities dealing activities (e.g. deal negotiation and trade execution) for the fund; and
b. Type 4 RA (advising on securities) for providing advice in respect of the investments or prospective investments of the fund.
Discretionary Investment Authority
The circular to PE firms now expands on the point on discretionary investment authority by providing that where the licensed asset managers are granted full discretionary investment authority in respect of the funds they manage, a Type 9 RA license is required. The determination of “full discretionary investment authority” by the SFC will depend on these non-exhaustive factors: (i) the proposed investment decision-making process; (ii) the roles of the proposed licensed individuals (including the responsible officers) and their involvement in the process; and (iii) whether the delegation of investment authority to the firm is properly documented. One way for a PE firm to be regarded as having discretionary investment authority is to propose having a responsible officer with sufficient authority and seniority to make investment decisions throughout the life-cycle of each fund.
Investments in Securities of Private Companies
Moreover, whether licensing for Type 9 RA is required also depends on the nature and composition of the underlying investments in the portfolio of a PE fund. Part 2 to Schedule 5 to the SFO provides that “asset management” refers to, among others, the provision of a service of managing a portfolio of securities or futures contracts for another person. If the PE fund utilises special purpose vehicles (“SPVs”) to hold the underlying investments, and the underlying investments fall within the meaning of “securities” or “futures contracts” under the SFO, or that the holding of the SPV itself already constitutes the holding of “securities”, the SFC will require the PE firm to be licensed by Type 9 RA. Whether or not the holding of the SPVs is itself carved out from the scope of asset management under the SFO is irrelevant.
Offering Co-investment Opportunities and Fund Marketing
If a PE firm offers investment opportunities to other persons whereby they may enter into securities transactions alongside the PE fund, it will likely be regarded as inducing them to enter into securities transactions. Likewise, fund marketing activities generally fall under the definition of “dealing in securities” as defined in the SFO. Where a PE firm engages in these activities, it should be licensed for Type 1 RA.
An exception to this licensing requirement is where the PE firm is licensed for Type 9 RA to manage the PE fund, and the activity in question is conducted solely for the purposes of carrying on Type 9 RA, such as where such offer is integral to securing capital to invest in the PE firm’s underlying projects.
Licensing Requirements for Fund Management Personnel
A limited partnership that constitutes the PE fund will have to obtain a Type 9 RA license where it provides fund management activities that fall under the definition of “asset management” in the SFO. Usually there are general partners (“GPs”) who undertake the asset management activities in Hong Kong, and in this scenario the GPs will have to be licensed for Type 9 RA as well. Those who perform these activities in Hong Kong for the GPs are also required to be licensed as representatives and potentially required to be approved as responsible officers (“ROs”) where appropriate. The above licensing requirements however do not apply to GPs who have fully delegated all of the asset management functions to another entity licensed or registered to carry on Type 9 RA, though what qualifies as full delegation remains unclear.
Likewise, PE firms with investment committees in Hong Kong for the funds managed should ensure the members of such investment committees are licensed as representatives and, where appropriate, be approved as ROs, unless the particular member does not have any voting right or veto power for investment decisions and primarily provides their input on legal, compliance or internal control matters.
The SFC is flexible in considering a broad range of experience, even in non-regulated situation or overseas settings, when assessing the competence of RO applicants within PE firms. Examples cited in the circular to PE firms include: providing management consulting and business strategy advice to companies in related industries; structuring corporate transactions, such as management buyouts and privatisations; and managing and monitoring a PE fund’s underlying investments.
Guidance for Family Offices
Single Family Offices
Whether a single family office requires to be licensed will depend on the way it is structured. Particularly, licensing for Type 9 RA is not necessary where the single family office operates by way of a trustee holding the assets of the family trust as an internal unit to manage only the trust assets and free of any assets owned by a third party.
Another exemption to licensing is the intra-group exemption, whereby a family office provides asset management services solely to related entities (which are defined as the family office’s wholly-owned subsidiaries, holding company that holds all its issued shares, or that holding company’s other wholly-owned subsidiaries) (the “Related Entities”). This would be the case where the family office is a separate legal entity wholly owned by a trustee, or a company that holds the assets of the family.
Multi-family offices are less likely to be able to rely on the intra-group exemption discussed above since they serve multiple families and hence have a less unified shareholding structure. Instead, a multi-family office will usually have to be licensed for Type 9 RA if granted full discretionary investment authority, because its activities are akin to an asset management company that provides services to more than just Related Entities. Even if its investment authority is short of full discretionary investment authority, depending on the kind of activities the multi-family office engages in, it will still likely need to be licensed for other types of RAs such as Type 1 RA (dealing in securities) and Type 4 RA (advising on securities).
The Bottom Line
The emergence of family offices has not changed the activity-based licensing regime for entities and persons carrying on RAs under the SFO. The relationships amongst the beneficiaries of a family trust or family members sharing assets managed by a family office are immaterial to whether licensing is required. Where the activities of a family office (whether single or multi-family) constitute RAs, licensing is required, subject to the exemptions discussed above.
Implications of the Circulars
The circular to PE firms and the circular to family offices together reinforce the activity-based licensing regime under the SFO while providing helpful guidance to eliminate some uncertainties surrounding a segment in the financial market that has attracted relatively less regulatory attention in the past. Now that it has become more clear as to what are the types of RAs that PE firms and family offices will most likely have to be licensed for, it is hoped that more specific guidelines will also be provided to personnel within PE firms and family offices wishing to be licensing as ROs in relation to the qualification and competence requirements. This is especially so when the normal processing time of RO licensing applications take an average of 10 weeks, and concrete guidance with case studies could streamline the application process for the RO license that is seeing an increase in demand.
For enquiries, please contact our Corporate & Commercial Department:
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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.
Published by ONC Lawyers © 2020
 Namely, a company that is not limited by guarantee, and whose articles (i) restrict a member’s right to transfer shares; (ii) limit the number of members to 50; and (iii) prohibit any invitation to the public to subscribe for any shares or debentures of the company
 Paragraph 1.4.18 of the Licensing Handbook.
 Paragraph 1.4.19 of the Licensing Handbook.