Introduction

On 20 May 2021, The Stock Exchange of Hong Kong Limited (the “Stock Exchange”) published its Consultation Conclusions on The Main Board Profit Requirement setting out the forthcoming increase in the profit requirement (the “Profit Requirement”) stipulated in rule 8.05(1)(a) of the Rules Governing the Listing of Securities on the Stock Exchange (the “Listing Rules”) for listing on the Main Board of the Stock Exchange (the “Main Board”) by 60%, resulting in an aggregate Profit Requirement of HK$80 million over the three financial years of the track record period.

For details of the Consultation Paper on The Main Board Profit Requirement (the “Consultation Paper”) and our firm’s response to the same, please refer to our newsletters published in December 2020 and February 2021: HKEX proposes to increase the profit requirement for a Main Board listing and ONC Lawyers submitted response to HKEX Consultation Paper on profit requirement.

Increase in the Profit Requirement

In view of the strong opposition (83% of the respondents) to the original proposals in the Consultation Paper to increase the Profit Requirement by either 150% (“Option 1”) or 200% (“Option 2”) (collectively, the “Original Proposals”) for reasons including small and medium enterprises and traditional companies being denied from listing on the Main Board and compromising the Stock Exchange’s competitiveness vis-à-vis other major exchanges, the Stock Exchange has decided to adopt a 60% increase in the Profit Requirement, resulting in an aggregate profit threshold of HK$80 million, and to amend the spread of the profit (the “Profit Spread”) between the first two financial years and the last financial year of the three-year track record period under the Profit Requirement from a 60%:40% split to a 56%:44% split, such that the minimum aggregate profit required for the first two financial years will be HK$45 million and that for the final financial year will be HK$35 million (collectively, the “Modified Profit Increase”).

The Modified Profit Increase was adopted primarily based on the following factors:

1.    the inflation since 1994 that the proposed increase is in line with the 61% increase (2019: 60%) in the monthly composite consumer price index (which is a commonly used measure of inflation) from September 1994 (68.6) to December 2020 (110.7);

2.    with a lesser extent of increase in the Profit Requirement, the Modified Profit Increase would result in fewer listing applicants being ineligible to list on the Main Board, which is the concern raised by a majority of the respondents; and

3.    the new aggregate profit threshold of HK$80 million is within the range of the alternatives (HK$60 million to HK$100 million) suggested by 27 of the 115 respondents, who are in favour of a lower level of increase in the current Profit Requirement.

Under the Modified Profit Increase, the current Profit Spread will be adjusted from 60%:40% to 56% to 44%, which would also be more conducive to attracting companies of the desired business scale and growth. Accordingly, the implied historical price to equity (P/E) ratio for a listing applicant that meets these minimum thresholds will be 14 times, which is in line with the average P/E ratio of the Hang Seng Index between 1994 and 2020. A comparison among the current Profit Requirement, the Modified Profit Increase and the Original Proposals is set out in the table below:

More flexible relief from the Profit Spread

The Stock Exchange will be prepared to grant relief from the Profit Spread on case-specific circumstances rather than through a set of fixed conditions, provided that the listing applicant meets an increased aggregate Profit Requirement of HK$80 million. In this respect, the Stock Exchange will ordinarily, among other things:

1.   evaluate the listing applicant’s business nature and the underlying reasons for its inability to meet the Profit Spread (e.g. growth stage companies and companies whose businesses have been severely affected by the Coronavirus disease 2019 and current economic downturn); and

2.   impose conditions where appropriate, including disclosure of the listing applicant’s profit forecast in the listing document.

In considering an application for a waiver from the revised Profit Spread under the Modified Profit Increase, the Stock Exchange (a) will critically assess the need to include a profit forecast in the listing document to enable investors to make an informed decision on the position and prospects of an issuer; and (b) may make enquiries on how the issuer’s IPO price was determined with reference to the book-building process.

Implementation timeline

The amended Listing Rules, which include the Modified Profit Increase and consequential amendments to paragraph 3(c) of Practice Note 15 of the Listing Rules, are set out in Appendix IV and will become effective on 1 January 2022. Any Main Board listing applications (including renewals of previously submitted applications or applications for a transfer of an issuer’s listing of securities from GEM of the Stock Exchange to the Main Board) submitted on or after 1 January 2022 will be assessed under the Modified Profit Increase.

Review of GEM

The Stock Exchange will also launch a review of GEM, including GEM’s positioning and the market perception of GEM. If this review concludes that changes to the Rules Governing the Listing of Securities on GEM are necessary, the Stock Exchange will publish a consultation paper to seek market feedback on appropriate reforms.