10. Exchange’s Approach to Listing VIE Structures: Listing Decision 43-3
The Exchange’s approach to the listing of applicants using VIE structures is set out in its Listing Decision 43-3 which was first issued in 2005. It has been updated a number of times. The Exchange generally allows listing applicants using a VIE structure (also known as “Contractual Arrangements” or “Structured Contracts”) to list provided that it is satisfied as to the reasons for adopting the structure and the listing applicant meets the requirements set out in that Listing Decision. VIE structures are normally only accepted for listing where they are used for restricted businesses. Where a VIE structure is used for an unrestricted business, the Listing Division will normally refer the case to the Listing Committee.
Under the disclosure-based approach, the Exchange will not consider an applicant using a VIE structure to be unsuitable for listing if it has complied with all relevant PRC laws and regulations. The listing decision requires appropriate regulatory assurance to be obtained from the relevant regulatory authorities. In the absence of such regulatory assurance, the applicant’s PRC legal counsel must include a statement in its legal opinion to the effect that all possible actions or steps taken to enable it to reach its legal conclusions have been taken.
The PRC legal opinion must also confirm that the structured contracts would not be deemed as “concealing illegal intentions with a lawful form” and thus void under PRC contract law.2 This requirement was added in November 2013 following a ruling by China’s Supreme Court in October 2012 that arrangements which sought to give control to Chinachem Financial Services, a Hong Kong company, over a shareholding stake in China Minsheng Banking Corporation, were invalid. The court found that the arrangements had been entered into with the intention of circumventing restrictions under PRC law on foreign investment in China’s banking sector and were thus invalid and unenforceable since they “concealed illegal intentions with a lawful form”. Some commentators have argued that the case undermines the viability of the VIE structure. However, the issues in the Chinachem decision were different to those arising in a typical VIE structure. For example the case was concerned with the validity of entrustment arrangements which are not normally used in a VIE structure.
Listing applicants which adopt a VIE structure for restricted businesses are required to demonstrate that they have taken all reasonable steps to comply with all applicable PRC rules (other than the restriction on foreign ownership).
Where PRC laws and regulations specifically prohibit foreign investors from using agreements or contractual arrangements to gain control of or operate a foreign restricted business (e.g. on-line gaming business which is subject to GAPP’s notice 133), the PRC legal opinion on the structured contracts must:
- include a positive confirmation:
- that the use of the structured contracts does not constitute a breach of those laws and regulations; or
- that the structured contracts will not be deemed invalid or ineffective under those laws and regulations; and
- be supported by appropriate regulatory assurance, where possible, to demonstrate the legality of the structured contracts.
The Exchange also expects the Contractual Arrangements to be narrowly tailored to achieve the applicant’s business aims and minimise the potential for conflict with PRC laws and regulations.
The listing applicant using a VIE structure and its sponsor are required to:
- provide reasons for the use of structured contracts in its business operation;
- unwind the structured contracts as soon as the law allows the business to be operated without them. The shareholders of the OPCO must undertake that, subject to relevant laws and regulations, they will return to the listing applicant any consideration they receive in the event that the applicant acquires the OPCO shares when unwinding the structured contracts. This undertaking must be included in the listing document;
- ensure that the structured contracts:
- include a power of attorney granted by the OPCOs’ PRC shareholders to the applicant’s directors and their successors (including a liquidator replacing the listing applicant’s directors) giving them the power to exercise all rights of the PRC shareholders (the OPCO’s shareholders must ensure that the power of attorney does not give rise to potential conflicts of interest; the power of attorney should be granted in favour of officers or directors of the applicant who are not also shareholders of the OPCO);
- include dispute resolution clauses providing:
- for arbitration and that arbitrators may award remedies over the shares or land assets of the OPCOs, injunctive relief or order the winding up of the OPCOs;
- provide the courts of competent jurisdictions with the power to grant interim remedies in support of the arbitration pending formation of the arbitral tribunal. The courts of HK, the applicant’s place of incorporation, the place of incorporation of the OPCOs and the place where the principal assets of the OPCOs are located should be specified as having jurisdiction for this purpose; and
- encompass dealing with the assets of the OPCOs and not only the right to manage its business and the right to revenue. This is to ensure that the liquidator can seize the OPCOs’ assets in a winding-up for the benefit of the listing applicant’s shareholders or creditors.
The Exchange revised Listing Decision 43-3 in August 2015 to note heightened concerns over the legality and validity of VIE structures to hold interests in PRC businesses which are subject to foreign ownership restrictions following publication of the Draft FIL. The amendments encourage listing applicants which use structured contracts to hold interests in PRC businesses to contact the Exchange at the earliest possible opportunity to seek informal and confidential guidance. The undertakings typically required by the Exchange will be to ensure that the listing applicant is controlled by PRC nationals. The aim is to ensure that the listing applicant will not be regarded as controlled by foreign investors which are prohibited from investing in certain industries and subject to restrictions on investing in others. The types of undertakings typically required by the Exchange are as discussed above.
Listing applicants using Contractual Arrangements for the entire or part of their business are required to disclose the following information in the prospectus:
- detailed discussion about the OPCOs’ registered shareholders and a confirmation that appropriate arrangements have been made to protect the applicant’s interests in the event of their death, bankruptcy or divorce;
- the extent to which the applicant has arrangements to address the potential conflicts of interest between the applicant and the OPCO’s registered shareholders;
- reasons why the directors believe that each of the Contractual Arrangements is enforceable under PRC laws and regulations;
- the economic risks the applicant bears as the primary beneficiary of the OPCO, such as its share of OPCO’s financial losses, the circumstances in which the applicant would be required to provide financial support to the OPCO, and other events that could expose the applicant to loss;
- whether the applicant has encountered any interference from any PRC governing bodies in operating their business through the OPCO under the structured contracts;
- the limitations in exercising the option to acquire ownership in the OPCO with a separate risk factor explaining the limitations;
- the structured contracts must be included as material contracts in the “Statutory and General Information” section and must be available on the applicant’s website;
- a corporate structure table in the “Summary” section must be included for the purpose of illustrating the Contractual Arrangements;
- details of any insurance purchased to cover the risks relating to the structured contracts or prominent disclosure that those risks are not covered by any insurance;
- separate disclosure of revenue from structured contract arrangements if the listing applicant generates revenue from other subsidiaries apart from the OPCO;
- the prospectus should include at least the following structured contracts- related risk factors:
- the PRC government may determine that the structured contracts do not comply with applicable regulations;
- the structured contracts may not provide control as effective as direct ownership;
- the PRC shareholders may have potential conflicts of interest with the applicant; and
- structured contracts may be subject to scrutiny by the PRC tax authorities and additional tax may be imposed.
Disclosure of the structured contracts (other than the risk factors associated with them) should be presented in a standalone section.
PRC property issues
The listing of PRC companies often involves properties situated in the PRC. Despite the rapid development of the property market and title registration system, many issues relating to titles of PRC properties remain unresolved. Therefore, potential PRC listing applicants may face difficulties in evidencing their ownership in those properties due to uncertainty involved in the application process for the relevant land use right certificate and/or building ownership certificate.
The Exchange issued a guidance letter in relation to the requirements for title certificates of PRC properties (HKEx-GL19-10). Below is a summary of the guidance letter:
- For infrastructure project companies and property companies, the relevant title certificates of PRC properties are a pre-requisite for listing approval;
- For mineral and exploration companies, the Listing Rules require them to obtain adequate rights to participate actively in the exploration and extraction of resources. Title certificates are normally required to prove their rights;
- For other companies, the Exchange no longer requires title certificates of PRC properties. Instead, it expects listing applicants to disclose in the prospectus the risks to their operations of not having the relevant title certificates
Practice Note 12 of the Listing Rules provides that where the issue of a land use right certificate is pending, a properly approved land grant or land transfer contract in writing accompanied by a PRC legal opinion as to the validity of the approval may be acceptable as evidence of a transferee’s pending title to the land to be granted or transferred.
2 Paragraph 19(k) of Listing Decision HKEx-LD43-3.
3 “Notice Regarding the Consistent Implementation of the ‘Stipulations on “Three Provisions”’ of the State Council and the Relevant Interpretations of the State Commission Office for Public Sector Reform and the Further Strengthening of the Administration of Pre-examination and Approval of Internet Games and the Examination and Approval of Imported Internet Games” (Xin Chu Lian  No. 13) published jointly by PRC General Administration of Press and Publication, National Copyright Administration, and National Office of Combating Pornography and Illegal Publications on 28 September 2009.