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Key changes under the Companies Ordinance (Cap. 622)

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Key changes under the Companies Ordinance (Cap. 622)

Part 2 – Changes concerning share capital, transactions involving share capital and registration of share transfers

2.1. ABOLITION OF PAR VALUE OF SHARES

New CO references: section 135 and 170; part 4, division 2 of Schedule 11

Position under the Old CO

Companies incorporated in Hong Kong under the Old CO and having a share capital were required to have a par value ascribed to their shares. Generally, par value was the minimum price at which shares could be issued.

Key changes under the New CO

The New CO adopts a mandatory system of no-par for all Hong Kong companies with a share capital and abolishes the concept of par (or nominal) value of shares. Since the commencement of the New CO, a Hong Kong company’s shares have no nominal value. This applies to all shares, including shares issued before 3 March 2014. Concepts such as par value, share premium and the requirement for authorised capital have been abolished.

The New CO provides that the amount of authorised capital set out in an existing company’s constitutional documents is deemed to be deleted.

Schedule 11 to the New CO sets out transitional arrangements and deeming provisions so that existing companies will not need to take steps to change their existing share capital and constitutional documents to reflect the no-par regime, and to ensure that contractual provisions that reference par value and related concepts will not be affected by the abolition of par.

For contracts, resolutions, trust deeds and other documents executed before the commencement date of the New CO, any express or implied reference to par or nominal value will be deemed to be a reference to nominal value immediately before the commencement date of the New CO.

From the commencement date, any amount in the share premium account and any amount in the capital redemption reserve became part of the company’s share capital. The previous permitted uses of share premium are preserved for any such amounts in the share premium account immediately before the commencement date.

The liability of a shareholder for calls on partly paid shares issued before the commencement date (whether the amounts due are in respect of nominal value or premium) are not affected.

Practical considerations and recommended steps

The migration to no-par should benefit companies by giving them greater flexibility in structuring their share capital. The nature of a share is the same whether or not it has a par value, in that a share still represents a fraction of ownership in a company. The concepts of paid up capital, issued capital and partly paid shares are also still relevant.

Alteration of share capital

Section 170 of the New CO sets out the various methods by which a company can alter its share capital (other than by redemption or repurchase of shares), including issuing new shares, capitalising profits, issuing bonus shares and effecting a share split or a share consolidation. A company must submit notice of any alteration of share capital to the Registrar of Companies in Hong Kong (the “Registrar”) within one month (s171). The notice must include a statement of capital setting out the number of shares in issue, the amount of the share capital and the amount of the increase in the company’s issued share capital (if any). If the company alters its share capital by allotting new shares, it is not required to file notice of alteration of capital under s171 but must file a return of allotment to the Registrar under section 142.

Issuing new shares for consideration

If a company issues new shares for consideration, then the full proceeds will be credited to the share capital account.

As the concept of par value has been abolished, there is now no minimum price at which shares must be issued, or indeed any statutory control over the setting of the issue price of shares. However, directors still have an overriding fiduciary duty to set the price in good faith. It may also be necessary to obtain shareholders’ approval before issuing new shares, if the shares are not allotted under an offer made to all members of the company in proportion to their holdings (i.e. a rights issue).

Maximum number of shares that may be issued

As the concept of authorised share capital has been abolished, there is no limit on the number of shares that the directors can issue. However, if shareholders so wish, they can amend the articles of association by way of special resolution to specify a maximum number of shares that may be issued. The maximum number of shares that a company may issue can be changed by way of ordinary resolution.

Issuing bonus shares

When a company issues bonus shares under the “no-par” regime, such shares will have no nominal value, meaning the company is no longer required to transfer an amount to share capital if it issues shares for no consideration, unless it elects to do so (for example, by capitalising profits). Therefore, a company may allot and issue bonus shares either with or without increasing its share capital. Shareholder approval would not be required for a bonus issue, provided the issue is to members of the company in proportion to their shareholdings.

Consolidation and subdivision of shares

Companies continue to be able to consolidate and subdivide shares. Although there is no nominal amount to be divided for no-par shares, a similar result to subdivision can be achieved by increasing the number of shares. The process of consolidating shares into a smaller number can be effected by reducing the number of shares with no visible effect on the share capital.

Practical considerations and recommended steps

Amendments to constitutional documents and contracts

Notwithstanding the transitional arrangements described above, companies may wish to review their particular situation to determine if they need to introduce specific changes to company documents (such as the articles of association, contracts and share certificates) to reflect the abolition of the par value regime. Also, while the transitional arrangements provide legal safeguards in respect of contracts that reference par value (and related concepts) under Hong Kong law, they may not necessarily be applied by courts outside Hong Kong, particularly if the governing law of the relevant contract is not Hong Kong law. Such contracts may need to be reviewed to determine whether clarifying amendments should be requested. An example would be a preferential dividend or liquidation preference payable to a holder of preferred shares up to the amount of the nominal value of each share. Such rights are often set out in a subscription or shareholders’ agreement, as well as the constitutional documents of the company.

2.2. SHAREHOLDER CONSENT FOR GRANTS OF OPTIONS AND OTHER EQUITY LINKED SECURITIES

New CO references: sections 140 and 141

Requirement for shareholder approval

Sections 140 and 141 of the New CO provide that directors may only allot new shares or grant rights to subscribe for, or to convert any securities into shares with prior approval of the company in general meeting.

This is more prohibitive than the Old CO which only required shareholders’ approval for allotments of new shares. The Old CO did not require shareholders’ approval for the grant of an option to subscribe for shares or a right to convert any securities into shares. Only the subsequent exercise of the option or the right of conversion that would result in an allotment required shareholders’ approval.

Shareholders’ approval is not however required for:

  1. allotments of shares or grants of rights under a pro rata offer to shareholders;
  2. allotments of shares, or grants of rights on a pro rata bonus issue of shares;
  3. allotments to a founder member of a company of shares that the member, by signing the company’s articles, has agreed to take; and
  4. an allotment of shares made in accordance with a grant of a right to subscribe for, or to convert any security into, shares.

Approval may be given for a particular exercise of the power or for its exercise generally, and may be unconditional or subject to conditions. An approval may also be revoked or varied at any time by ordinary resolution of the company. An approval expires:

  1. if the company is required to hold an annual general meeting (AGM) on the earlier of:
    1. the conclusion of the next AGM held after the approval is given; or
    2. the expiry of the period within which the next AGM after the approval is given is required to be held;
  2. if the company is not required to hold an AGM because of section 612(1), on the date on which the requirements of that section are satisfied; or
  3. if the company is not required to hold an AGM for any other reason, on the date specified in the approval which must not be more than 12 months after the approval.

Consequences of Contravention

A director who knowingly contravenes, or authorises or permits a contravention of section 140 commits an offence and is liable to a fine of $50,000 and up to 6 months’ imprisonment. The contravention will not however affect the validity of an allotment or grant of rights.

Return of allotment (s.142)

A limited company must file a return of allotment with the Registrar within one month after an allotment of shares setting out the information required under section 142(2).

Practical considerations and recommended steps

It will be useful for both companies and rights holders to deal upfront with shareholder approval for the granting of rights, rather than dealing with the issue subsequently when the rights are exercised, at a time when the shareholding structure may have changed and / or shareholder approval may not be forthcoming.

2.3. UNIFORM SOLVENCY TEST FOR SHARE CAPITAL TRANSACTIONS

New CO references: sections 204 to 206

The New CO establishes a uniform solvency test for share buy-backs, financial assistance and reductions of capital. Under section 205 of the New CO, a company satisfies the solvency test in relation to a particular transaction if:

  • immediately after the transaction there will be no ground on which the company could be found to be unable to pay its debts; and
  • either:
    • if it is intended to commence the winding up of the company within 12 months after the date of the transaction, the company will be able to pay its debts in full within 12 months after the commencement of the winding up; or
    • in any other case, the company will be able to pay its debts as they become due during the period of 12 months immediately following the date of the transaction.

Section 206 further requires the directors of a company to make a “solvency statement” to the effect that the directors have formed the opinion that the company satisfies the solvency test in relation to a particular transaction. In forming his or her opinion, a director must inquire into the company’s state of affairs and prospects and take into account all liabilities (including contingent and prospective liabilities) of the company.

A solvency statement must be in the specified form unless it relates to the giving of financial assistance. It must be made and signed by all directors for buy-backs and reductions of capital, and made and signed by the directors who vote in favour of giving the financial assistance.

Under the New CO, there is no longer any requirement to attach an auditors’ report to the solvency statement.

2.4. FINANCIAL ASSISTANCE

New CO references: sections 274 to 289

The Prohibition (s.275)

The New CO, like the Old CO, prohibits a company and its subsidiaries from giving financial assistance directly or indirectly to any person for the purpose of acquiring shares in the company, subject to certain exceptions. The prohibition extends both to financial assistance given before or at the same time as the acquisition takes place, and to financial assistance given to reduce or discharge the liability incurred by any person to finance an acquisition which has already occurred.

Non-Hong Kong holding companies

Section 275(3) of the New CO clarifies that a company is not prohibited from giving financial assistance for the purpose of an acquisition of shares in its holding company, if the holding company is incorporated outside Hong Kong.

However, there is no clarification that the giving of financial assistance by a non-Hong Kong subsidiary for the purpose of an acquisition of shares in its Hong Kong holding company is not prohibited. As the definition of “subsidiary” in the New CO is not limited to companies formed and registered under the New CO (referring instead to “body corporates”), the prudent view would be that non-Hong Kong subsidiaries are caught by the prohibition.

Definition of financial assistance (s.274(1))

The definition of “financial assistance” in the New CO is broadly unchanged. “Financial assistance” can be by way of:

  1. gift;
  2. guarantee, security or indemnity;
  3. release or waiver;
  4. loan or any other similar agreements;
  5. the novation of, or the assignment of rights arising under, a loan or other similar agreements;
  6. any other financial assistance given by a company if:
    1. the net assets of the company are reduced to a material extent by the giving of the assistance; or
    2. the company has no net assets

Exceptions to the prohibition

The New Ordinance substantially retains the exceptions to the prohibition as in the Old Ordinance. These include:

  1. General exceptions (s.277)
    The New Ordinance does not prohibit any of the following transactions:

    1. Distribution of a company’s assets by way of dividend or in the course of winding up;
    2. Allotment of bonus shares;
    3. Reduction of a company’s share capital;
    4. Redemption or buy-back of a company’s own shares;
    5. Anything done pursuant to a court order for reorganisation of a company’s share capital (Division 2 of Part 13 of the New Ordinance);
    6. Anything done under an arrangement under section 237 of the Companies (Winding Up and Miscellaneous Provisions) Ordinance (power of liquidator to accept shares, etc. as consideration for sale of property of a company on winding up; and
    7. Anything done under an arrangement made between a company and its creditors that is binding on the creditors by virtue of section 254 of the Companies (Winding Up and Miscellaneous Provisions) Ordinance.
  2. Principal purpose exception (s.278)
    A company is not prohibited from giving financial assistance for the purpose of the acquisition of a share in the company or its holding company or for the purpose of reducing or discharging a liability incurred for such an acquisition if:

    1. either:
      • the principal purpose in giving the assistance is not the acquisition of a share in the company or its holding company or freducing or discharging a liability incurred for such an acquisition; or
      • the giving of the assistance is only an incidental part of some larger purpose of the company; and
    2. the assistance is given in good faith in the interests of the company.
  3. Exception for money lending businesses (s.279)

    If the lending of money is part of the ordinary business of the company, it is not prohibited from lending money in the ordinary course of such business.

    For listed companies, the exception only applies if the company has net assets that are not reduced by the giving of the financial assistance or, to the extent that the assets are reduced, the assistance is provided by a payment out of distributable profits (s.282).

  4. Exception for employee share schemes (s.280)

    The exception applies to the company giving financial assistance:

    1. in good faith in the interests of the company for the purposes of an employee share scheme. Employee share scheme is defined as a scheme for encouraging or facilitating the holding of shares in a company by or for the benefit of employees and former employees of the company or another company in the same group of companies or the spouses, widows, widowers and minor children of such employees: or
    2. for the purposes of enabling or facilitating the acquisition of beneficial ownership of shares in the company or its holding company by employees and former employees of the company or another company in the same group of companies or the spouses, widows, widowers and minor children of such employees.

    The New CO has relaxed the rules on giving financial assistance for the purposes of employee share schemes. While the Old CO only allowed financial assistance for the purchase or subscription of fully paid shares, section 280 of the New CO allows financial assistance for all types of employee share schemes if the assistance is given in good faith in the interests of the company for the purposes of an employee share scheme.

    For listed companies, the exception only applies where the company has net assets that are not reduced by the giving of the financial assistance or, to the extent that the assets are reduced, the assistance is provided by a payment out of distributable profits.


  5. Exception for loans to employees (s.281)

    Companies are not prohibited from making of loans to their “eligible employees” for the purpose of enabling them to acquire fully paid shares in the company or its holding company. Eligible employees do not include:

    1. a director of the company;
    2. a director’s spouse;
    3. a director’s minor child;
    4. a trustee of a trust (other than an employee share scheme):
      • the beneficiaries of which include a person referred to in (i) to (iii) above; or
      • the terms of which may be exercised for the benefit of a person referred to in (i) to (iii) above; or
    5. a partner of a person referred to in (i) to (iii) above or of a trustee referred to in (iv) above.

    For listed companies, the exception only applies where the company has net assets that are not reduced by the giving of the financial assistance or, to the extent that the assets are reduced, the assistance is provided by a payment out of distributable profits.

New authorisation procedures for financial assistance (s.283 to 285)

The main change in relation to financial assistance under the New CO is to allow all types of companies (listed or unlisted) to provide financial assistance for the acquisition of shares in the company or its holding company or to reduce or discharge a liability incurred for such acquisition, subject to satisfaction of the solvency test and one of three authorisation procedures. These replace the rather cumbersome whitewash exemption under the Old Ordinance.

Each of the three authorisation procedures requires:

  1. a prior board resolution to the effect that:
    • the company should give the assistance;
    • giving the assistance is in the company’s best interests; and
    • the terms and conditions of the assistance are fair and reasonable to the company.
  2. The board resolution must set out in full the board’s conclusions on the above matters.

  3. a solvency statement made on the same day as the board resolution and not more than 12 months before the giving of the assistance. For financial assistance, there is no specified form which must be used (s.206(4)). The solvency statement need only be signed by the directors who vote in favour of giving the financial assistance.

The new authorisation procedures allow:

  1. financial assistance which together with all other financial assistance previously given and not repaid, is less than 5% of the paid up share capital and reserves of the company (s.283);
  2. financial assistance approved by prior written resolution of all members of the company (s.284); and
  3. financial assistance approved by an ordinary resolution of shareholders. The following additional requirements apply:
    1. at least 14 days before the date of the proposed resolution, the company must send shareholders:
      • a copy of the solvency statement; and
      • a notice setting out:
        1. the nature and terms of the assistance and the name of the person to whom it will be given;
        2. if it will be given to a nominee for another person, the name of the other person;
        3. the text of the board resolution; and
        4. any further information necessary to explain the nature of the assistance and the implications of giving it for the company and the shareholders; and
    2. the assistance must not be given less than 28 days after the date of the ordinary resolution.

Where financial assistance is approved by ordinary resolution, shareholders holding at least 5% of the total voting rights or, in the case of a company which is not limited by shares, members representing at least 5% of the total members of the company, may apply to the Court for an order restraining the giving of financial assistance (s.286). The application for a restraining order must be made within 28 days of the shareholders’ resolution approving the financial assistance and may only be made on the ground that:

  1. the giving of the assistance is neither in the best interests of the company nor of benefit to those shareholders of the company not receiving the assistance; or
  2. the terms and conditions under which the assistance is to be given are not fair and reasonable to the company and those members not receiving the assistance.

A shareholder who voted in favour of the financial assistance cannot apply for a restraining order.

Consequence of breach of the prohibition on financial assistance

Where financial assistance is given in contravention of the New Ordinance, the financial assistance and contracts connected to that financial assistance remain valid (s276).

Contravention of the prohibition on financial assistance is an offence for which the company and every responsible person of the company are each liable to a fine of HK$150,000 and to imprisonment for a maximum period of 12 months.

Practical considerations and recommended steps

The New CO facilitates transactions involving financial assistance by abolishing the previous complicated whitewash exemption procedure and replacing it with a choice of three approval mechanisms that can be used by both listed and non-listed companies.

Directors do not need to obtain an auditors’ report or rely on audited accounts when making a solvency statement to support financial assistance in a particular case. However, directors are still expected to have reasonable grounds in forming their opinion as to the company’s solvency. Directors must therefore make due enquiries as to the company’s state of affairs and prospects before signing the solvency statement. In some cases, directors may decide that professional assistance (for example, from auditors or financial advisers) is needed.

However, the additional expenses and delays in engaging third party advisers may not be appropriate in all cases. Third party advisers may not be in a better position than the directors in ascertaining the company’s solvency, which involves forward-looking business judgments. In the resolutions approving the financial assistance, the board should clearly set out its bases for forming the opinion that the company satisfies the solvency test in relation to the particular transaction.
 

Skills

Posted on

2014-06-16