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Changes To Connected Transaction Rules Effective 3 June, 2010
The Stock Exchange of Hong Kong Limited ("HKEx") has published its consultation conclusions ("Consultation Conclusions") on its proposals to amend the connected transaction rules contained in its consultation paper of 2 October 2009. The amended rules came into effect on 3 June 2010.
The Consultation Conclusions are available on HKEx's website. Our newsletter summarising the proposals in the consultation paper is available on our website here (Resources - Newsletters - Hong Kong law, Issue 84 - December 2009).
1. New Exemption For Persons Connected With An Issuer At The Subsidiary Level Where The Size Of The Subsidiary Is "Insignificant" To The Issuer
HKEx has decided not to adopt at this stage the proposal to exclude from the connected transaction requirements all persons connected at the level of an issuer's subsidiaries. It has instead adopted the alternative proposal of exempting only transactions with persons connected at the level of a subsidiary the size of which is "insignificant" to the issuer.
1.1 The "insignificant subsidiary" exemption
The amended Listing Rules (Main Board Rule 14A.31(9) and GEM Rule 20.31(9)) exempt from the connected transaction requirements transactions with a person who is connected with an "insignificant" subsidiary. Under the amended Rules:
HKEx states in the Consultation Conclusions that it will adopt a phased approach in relation to transactions with persons connected at the subsidiary level. It proposes to consult the market again following a review of the scope of the connected transaction rules to govern persons who are in positions of control or significant influence, and transactions that pose higher risks to the market.
1.2 Definition of "major subsidiary" for the disclosure requirement in Chapter 13
HKEx has decided not to proceed with the proposal to align the definition of "material subsidiary" in Main Board Rule 13.25 (GEM Rule 17.27) with the new definition of "insignificant subsidiary". The disclosure requirement in relation to winding-up or liquidation of a "major subsidiary" will therefore continue to apply to a subsidiary where the value of its assets, profits or revenue represent 5% or more under any of the percentage ratios, although HKEx will remove "major" from the term "major subsidiary".
2. Relaxation Of De Minimis Thresholds
Under the amended Rules (Main Board Rule 14A.33 and GEM Rule 20.33(3)):
However, the proposal to impose an additional fixed monetary cap (applicable irrespective of the percentage thresholds) will not be adopted.
3. New Exemption For Revenue Transactions With Associates Of A Substantial Shareholder Who Is A Passive Investor
Due to the high proportion of majority controlled listed companies and state-controlled PRC issuers, HKEx still considers it inappropriate to generally exempt revenue transactions with connected persons. It acknowledges however that there are areas where revenue transactions may be exempted and it proposes to continue its review of this area in the next phase of its review of the Rules.
The amended Rules (Main Board Rule 14A.31/GEM Rule 20.31(10)) implement the exemption proposed in the consultation paper for transactions of a revenue nature entered into in the ordinary course of the issuer's business on normal commercial terms which are connected transactions only because they involve an associate of a substantial shareholder who is a "passive investor".
Despite the majority of respondents favouring a broader exemption, the criteria for the application of the exemption are restrictive. The exemption will only apply if it involves an associate (Relevant Associate) of a substantial shareholder who is a passive investor in the issuer and meets the following criteria:
4. Extension Of Exemption For Acquisitions Of Consumer Goods Services
HKEx has extended the exemption under Main Board Rule 14A.31(7)(b)/GEM 20.31(7) to allow an issuer to acquire consumer goods or services from connected persons for the purpose of or in connection with the issuer's business if there is an open market and transparency in pricing the relevant goods or services.
5. Amendments To The Definition Of "Associate"
5.1 Removal of certain companies related to an "investee company"
The definition of associate in Main Board Rule 1.01 (for non-PRC issuers) and Rule 19A.04 (for PRC issuers) has been amended to remove:
An investee company includes a company over which a connected person, for example, a director or substantial shareholder of the issuer and/or any party closely related to this connected person, such as his spouse or, if the connected person is a company, its subsidiary or holding company, individually or together, has "control" as defined under HKFRS or IFRS. An example is a company where the connected person is a 30% shareholder or is able to control the composition of a majority of the company's board of directors.
5.2 Extended definition of associate
HKEx has expanded the definition of associate in Main Board Rules 14A.11(4)(b) and (c)/GEM Rules 20.11(4)(b) and (c) to include a company in which any relative referred to in the Rules has majority control. Control for these purposes means control of more than 50% of the voting power at the company's general meetings or control of the composition of a majority of the company's board of directors. In addition, HKEx will consider the interests of the connected person and his relatives in a company to determine whether they together have majority control over the company. Upon HKEx's request, the issuer must provide information to HKEx to determine whether the company is majority controlled by these persons or not.
6. Amendments To The Definition Of "Connected Person"
6.1 In relation to non-wholly owned subsidiaries
The following changes have been made in relation to non-wholly owned subsidiaries:
6.2 Other changes to the definition of Connected Person
The following persons have been removed from the definition of "connected person":
7. Allowing The De Minimis Exemptions To Apply To A Deemed Disposal Of An Issuer'S Interest In Its Subsidiary
Main Board Rules 14A.31(2) and 14A.32 and the GEM equivalents have been amended to remove the restriction on applying the de minimis exemptions to an issue of securities by an issuer's subsidiary (i.e. deemed disposals). The rationale is that the exclusion of issues of securities from the exemption was meant to protect against the dilution of shareholders' interest in the listed securities. This is not a concern at the subsidiary level.
8. Exemption For Financial Assistance Provided On A Pro-Rata Basis
Main Board Rule 14A.65(3)(b)(i) (GEM Rule 20.65(3)(b)(i)) has been amended so that financial assistance provided by an issuer to a company (which is a connected person) in proportion to the issuer's interest in that company would be exempt from the connected transaction requirements.
The current exemption only applies to a "commonly held entity" which is not a connected person. A "commonly held entity" is a company in which both the issuer (or its subsidiary) and a connected person are shareholders, and where any connected person(s) (at the listed company level) can control 10% or more of the voting power at any general meeting of the company.
The amended exemption will apply to financial assistance given by an issuer for the benefit of (i) a "commonly held entity", or (ii) a connected person in which the issuer is a shareholder, as long as the financial assistance being provided is on normal commercial terms and on a several and pro-rata basis.
9. Transactions With Third Parties Involving Joint Investments With Connected Persons
An exemption is available for a disposal in a connected transaction where a substantial shareholder of the disposal target is a controller only because of its position and/or shareholding in the disposal target immediately prior to the disposal. For the exemption to be applicable, there must be no change in the substantial shareholder's interest in the disposal target as a result of the issuer's disposal or other transaction or arrangement related to the disposal.
10. Annual Review Of Continuing Connected Transactions
Amended Main Board Rules 14A.37 and 14A.38 and GEM Rules 20.37 and 20.38 clarify that the annual review requirements do not extend to fully exempted continuing connected transactions (i.e those under Main Board Rule 14A.33/GEM 20.33). The annual review requirements however apply to continuing connected transactions which are subject to the reporting and announcement requirements of Chapters 14A and 20 of the Main Board and GEM Rules, respectively.
11. Further Review Of The Connected Transaction Rules
HKEx acknowledges that Hong Kong has one of the strictest regimes on connected transactions in developed markets. A further review of the connected transaction rules will be conducted by HKEx and it is expected that it will cover the following areas:
The purpose of this newsletter is to provide a summary only of HKEx's "Consultation Conclusions on Proposed Changes to Connected Transaction Rules" (20 May 2010). Its contents do not constitute legal advice and specific advice should be sought in relation to any particular situation.
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