New Listing Rules – Biotech
On 30 April 2018, new Hong Kong Stock Exchange Listing Rules came into effect aimed at broadening Hong Kong’s listing regime to attract the listings of companies in high-growth emerging and innovative sectors.
Amongst other things, the Listing Rule changes allow the listing on the Stock Exchange of pre-revenue biotech companies.
The Stock Exchange published its Consultation Conclusions on a Listing Regime for Companies from Emerging and Innovative Sectors (Consultation Conclusions) on 24 April 2018, which followed the Consultation Paper released in February 2018.
Chapter 18A was added as a new chapter in the Listing Rules which provides for the listing of pre-revenue Biotech companies which meet a new HK$1.5 billion market capitalisation requirement and other additional biotech company specific listing criteria.
New guidance letters also came into effect on 30 April 2018.
The first listing applications under the new Listing Rules were filed in early May 2018. The PRC’s Ascletis Pharma Inc., which develops and commercialises innovative drugs against HCV, HIV and HBV, was the first biotech company to make an application.
New Rules for Listing Pre-revenue Biotech Companies
The Exchange has added a new Chapter 18A to the Main Board Listing Rules for the listing of biotech companies which cannot meet the Main Board’s financial eligibility tests. Guidance on the factors the Exchange considers in determining listing applicants’ eligibility and suitability for listing under the new rules is set out in a new Guidance Letter HKEx-GL92-18 “Suitability for Listing of Biotech Companies” (the Biotech Guidance Letter)
The aim of the Listing Rule changes for pre-revenue biotech companies is to attract listings of China’s new generation of biotech companies amid growing competition from the US and Chinese stock exchanges.
It is hoped that the rule changes will allow the Exchange to overtake NASDAQ within 5 years in terms of the number and market capitalisation of Chinese Biotech listings.
Nine biotech IPOs on the Hong Kong Stock Exchange in the year to 17 April 2019 raised US$3.8 billion raising Hong Kong’s market share from 6% to 33%, although it remains a long way behind the US Nasdaq which listed 57 new biotech firms raising a combined US$5.97 billion – half the global market. In IPO funds raised, Hong Kong’s Main Board was the second largest market for biotech listings after Nasdaq and ahead of Shenzhen’s ChiNext and Korea’s Kosdaq.
Six of the world’s top 10 biotech IPOs in 2018 listed on the Hong Kong Stock Exchange. These included the top two: Shanghai medical tech platform WuXi AppTec raised US$1.06 billion and cancer drug developer Beigene which raised US$902.58 million.
Higher Hong Kong valuations are apparently another key attraction of Hong Kong listing.
The Listing Rule changes aim to attract more listing applicants from the high-growth tech and biotech sectors. The Hong Kong market had been dominated in the past by old economy and low growth sectors, notably the financial and property sectors. The financial requirements for listing on the Exchange have acted as a bar to listing biotech companies whose R&D costs typically mean that they do not make profits for some time.
Definition of “Biotech Companies”
Biotech Companies are defined as companies primarily engaged in the research and development (R&D), application and commercialisation of Biotech products, processes or technologies.
The definition of Biotech is “the application of science and technology to produce commercial products with a medical or other biological application”.
Expected market capitalization
Biotech Companies are required to have a minimum expected market capitalisation of HK$1.5 billion at listing (Listing Rule 18A.03(2)).
Suitabality for listing
In addition to the general requirement that the Exchange must consider the listing applicant and its business to be suitable for listing on the Exchange, Biotech companies must meet the following requirements set out in the Biotech Guidance Letter to be considered suitable for listing under new Chapter 18A:
development of at least one Core Product beyond the concept stage. The Exchange considers a Core Product to have been developed beyond the concept stage if it has met the developmental milestones specified for the relevant type of product in paragraph 3.3 of the Biotech Guidance Letter.
The Biotech Guidance Letter set out a summary of the stages at which different Biotech products are regarded as being beyond the concept stage:
Pharmaceutical (small molecule drugs)
For Core products that are new pharmaceutical (small molecule) drugs, the applicant must demonstrate that:
a) it has completed Phase I clinical trials – i.e. clinical trials on human subjects categorised as Phase 1 by the US Food and Drug Administration (the FDA) (or an equivalent process by another Competent Authority (Competent Authorities are the FDA, the China Food and Drug Administration and the European Medicines Agency)); and
b) the relevant authority has no objection to the commencement of Phase II (or later) clinical trials. Phase II trials are those on human subjects as categorised by the FDA or other Competent Authority.
For Core products that are pharmaceutical (small molecule drug) products which are based on previously approved products (e.g. the 505(b)(2) application process of the US FDA), the applicant must demonstrate that it has successfully completed at least one clinical trial conducted on human subjects, and that the relevant Competent Authority has no objection for it to commence Phase II (or later) clinical trials.
For Core Products that are new biologic products, the applicant must demonstrate that it has completed Phase I clinical trials and the relevant Competent Authority has no objection for it to commence Phase II (or later) clinical trials; and
for Core Products that are biosimilar, the applicant must demonstrate that it has completed at least one clinical trial on human subjects, and the relevant Competent Authority has no objection for it to commence Phase II (or later) clinical trials to demonstrate bio-equivalency.
Medical Devices (including diagnostics)
For Core Products that are medical devices (which include diagnostic devices), the applicant must demonstrate that:
the product is categorised as Class II medical device (under the classification criteria of the relevant Competent Authority) or above;
it has completed at least one clinical trial on human subjects (which forms a key part of the application required by the Competent Authority or the Authorised Institution being an institution, body or committee duly authorised or recognised by a Competent Authority or the European Commission for conducting, assessing and supervising clinical trials in the relevant clinical fields. The Exchange has the discretion to recognise other institutions or bodies as Authorised Institutions); and
either the Competent Authority or the Authorised Institution has endorsed or not expressed objection for the applicant to proceed to further clinical trials; or the Competent Authority (or, in the case of member(s) of the European Commission, an Authorised Institution) has no objection for the applicant to commence sales of the device.
Other Biotech Products
The Exchange considers other Biotech products on a case-by- case basis to determine if the applicant has demonstrated that the product has been developed beyond the concept stage by reference to factors referred to in paragraph 3.3 of the Biotech Guidance Letter and whether there is an appropriate framework or objective indicators to make an informed investment decision regarding the listing applicant.
A determination to accept such a listing would be a modification that may only be made with the SFC’s consent under Listing Rule 2.04. For applicants eligible to list under Chapter 18A, references to “Core Products” refers to the Biotech Product of the relevant listing applicant.
primary engagement in R&D for developing its Core Product(s);
engagement in the R&D of its Core Products for a minimum of 12 months prior to listing (and in the case of a Core Product which is in-licensed or acquired from third parties, the listing applicant must be able to demonstrate R&D progress since the in-licensing acquisition);
the primary reason for listing must be the raising of finance for R&D to bring its Core Product(s) to commercialisation;
the applicant must have registered patent(s), patent application(s) and/or intellectual property in relation to its Core Product(s);
if the applicant is engaged in R&D of pharmaceutical (small molecule drugs) products or biological products, there must be a pipeline of those potential products; and
prior meaningful third party investment (being more than just a token investment) from at least one sophisticated investor at least six months before the proposed listing, and that investment continuing at listing.
In the case of a spin-off listing from a parent company, the Exchange may not insist on compliance with this requirement where the applicant can otherwise demonstrate a reasonable degree of market acceptance for its R&D and Biotech Product.
The Exchange assesses on a case-by-case basis whether an investor is a “sophisticated investor” for these purposes by reference to factors such as net assets and assets under management, relevant investment experience, and the investor’s knowledge and expertise in the relevant field. The Biotech Guidance Letter (paragraph 3.2(g)(i)) gives the following as examples of sohisticated investors:
a dedicated healthcare or Biotech fund or an established fund with a division/department that invests in the biopharmaceutical sector;
a major pharmaceutical/healthcare company;
a venture capital fund of a major pharmaceutical/healthcare company; and
an investor, investment fund or financial institution with minimum assets under management of HK$1 billion (increased from the HK$500,000 originally proposed).
Whether a third party investment is meaningful is assessed case-by-case taking into account the nature of the investment, the amount invested, the size of the stake and timing of the investment. As an indicative benchmark, the Exchange gives the following as examples of investment amounts that are typically considered to be “meaningful investments”:
where market capitalisation is HK$1.5 billion – HK$3 billion, 5% or more of the applicant’s issued share capital on listing;
where market capitalisation is HK$3 billion – HK$8 billion, 3% or more; and
where market capitalisation is greater than HK$8 billion, 1% or more.
Biotech Company listing applicants must have a track record of operating in their current line of business of at least 2 financial years prior to listing under substantially the same management (Listing Rule 18A.03(3)).
Ownership Continuity and Control
The Exchange reviews any change in the applicant’s ownership within 12 months prior to the date of the listing application in assessing the applicant’s suitability for listing (Paragraph 4.1 of the Biotech Guidance Letter).
An applicant must have available working capital to cover at least 125% of the group’s costs for at least 12 months from the date of publication of the listing document (after taking into account the IPO proceeds) (Listing Rule 18A.03(4)). These costs should substantially consist of (a) general, administrative and operating costs, and (b) R&D costs. The Exchange expects a substantive portion of the IPO proceeds to be applied to these costs.
Subscription of shares by existing shareholders
Biotech Companies which list under Chapter 18A are expected to have significant ongoing funding needs to bring their Core Product(s) to commercialisation.
Existing shareholders in Biotech Company listing applicants may wish to continue to participate in post-listing fundraisings to prevent their shareholdings being diluted.
Given the likely funding needs of Biotech Companies and the important role played by existing shareholders in providing continuing funding, existing shareholders are allowed to participate in a Biotech Company’s IPO, provided that the company complies with the public float requirements of Listing Rule 8.08(1) and Listing Rule 18A.07.
Public Float – Restriction on cornerstones
Shares allocated to cornerstone investors are not taken into account in determining whether a Biotech Company has met the minimum 25% initial public float requirement under Listing Rule 8.08(1) on initial listing and up to the expiry of the six-month lock up period for cornerstone investors.
Existing shareholders are allowed to subscribe for IPO shares to avoid their shareholdings being diluted under HKEx Guidance Letters 43-12 and 85-16. Existing shareholders who cannot satisfy the conditions under current guidance for subscribing for IPO shares, can participate in the IPO of a Biotech Company as a cornerstone investor.
IPO shares subscribed by existing shareholders do not count towards the public float. However, shares subscribed before the IPO by existing shareholders who are not core connected persons or not recognised as a member of the public under Listing Rule 8.24 count towards the public float.
Due to concerns on the restrictions on cornerstone investors raised by respondents to the Consultation Paper, the Exchange allowed some flexibility for Biotech Companies whose market capitalisation exceeds the minimum HK$1.5 billion required.
Biotech listing applicants are required to have a minimum public float of 25% representing HK$375 million of public float at listing. That public float must be achieved without including subscriptions by the company’s existing shareholders and subscriptions by cornerstone investors.
Provided a listing applicant can meet this requirement, cornerstone investments and existing shareholders’ subscriptions can be included in determining the company’s public float, provided that the existing shareholders and cornerstone investors are not core connected persons of the company or otherwise are not recognised as members of the public under Listing Rule 8.24.
Connected Person’s Post-Listing Anti-Dilution rights
Respondents to the Consultation Paper raised concerns that substantial shareholders (i.e. holders of 10%) of Biotech Companies would be prevented by the Exchange’s connected transaction rules from avoiding dilution of their shareholdings by subscribing for shares in a post-listing share offering.
They considered this could be problematic for Biotech Company listing applicants that are likely to have significant ongoing funding needs to develop Core Product(s) to commercialisation and that existing investors would likely want to participate in post-listing fund raisings to prevent a dilution of their shareholdings.
A substantial shareholder is a “connected person” under Chapter 14 of the Listing Rules. Although there is an exemption for issues of new shares to existing shareholders, this only applies to pro rata issues to existing shareholders.
Thus, a non-pro rata issue to a connected person would be conditional upon shareholders’ approval and any shareholder with a material interest in the transaction would be required to abstain from voting.
While the Exchange acknowledges that Biotech companies are likely to have significant ongoing funding needs, it also notes that an issue of shares to a substantial shareholder is allowed provided it is approved by shareholders who do not have a material interest in the transaction. It does not therefore propose to change the Listing Rules at this stage, but will monitor developments and consider whether a further review is necessary in future.
Enhanced disclosure requirements
Biotech applicants must provide enhanced risk disclosure in listing documents, including information relating to:
their strategic objectives;
details of each Core Product, including:
a description of the Core Product;
details of any relevant regulatory approval required and/or obtained for each Core Product;
a summary of material communications with the relevant Competent Authority in relation to its Core Product(s) (unless disclosure is not permitted under applicable laws or regulations, or the directions of the Competent Authority);
the stage of research and development for each Core Product;
development details by key stages and its requirements for each Core Product to reach commercialisation, and a general indication of the likely timeframe, if the development is successful, for the product to reach commercialisation;
all material safety data relating to its Core Product(s), including any serious adverse events;
a description of the immediate market opportunity of each Core Product if it proceeds to commercialization and any potential increased market opportunity in the future (including a general description of the competition in the potential market);
details of patent(s) granted, registered and applied for in relation to the Core Product(s) (unless the applicant is able to demonstrate to the satisfaction of the Exchange that such disclosure would require the applicant to disclose highly sensitive commercial information) or an appropriate negative statement;
in the case of a Core Product which is biologics, disclosure of planned capacity and production related technology details; and
to the extent that any Core Product is in-licensed, a clear statement of the issuer’s material rights and obligations under the applicable licensing agreement;
a statement that no material unexpected or adverse changes have occurred since the date of issue of the relevant regulatory approval for a Core Product (if any). Any material changes must be prominently disclosed;
a description of any Approved Products owned by the listing applicant and the length of unexpired patent protection period and details of current and expected market competitors;
details of the Biotech Company’s R&D experience including:
details of its operations in laboratory R&D;
the collective expertise and experience of key management and technical staff; and
its collaborative development and research agreements;
details of the relevant experience of the Biotech Company’s directors and senior management in the research and development, manufacturing and commercialisation of Biotech Products;
the salient terms of any service agreements between the listing applicant and its key management and technical staff;
measures (if any) that the applicant has in place to retain key management or technical staff (e.g. incentivisation arrangements and/or non-compete clauses), and the safeguards and arrangements that the applicant has in place, in the event of the departure of any of its key management or technical staff;
a statement of any legal claims or proceedings that may have an influence on its research and development for any Core Product;
disclosure of specific risks, general risks and dependencies, including:
potential risks in clinical trials;
risks associated with the approval process for its Core Product(s); and
the extent to which its business is dependent on key individuals and the impact of the departure of key management or technical staff on the applicant’s business operations;
if relevant and material to the Biotech Company’s business operations, information on:
project risks arising from environmental, social, and health and safety issues;
compliance with host country laws, regulations and permits, and payments made to host country governments in respect of tax, royalties and other significant payments on a country by country basis
its historical experience of dealing with host country laws and practices, including management of differences between national and local practice; and
its historical experience of dealing with the concerns of local governments and communities on the sites of its research and trials, and relevant management arrangements;
an estimate of cash operating costs, including costs related to R&D and clinical trials incurred in the development of the Core Products and costs associated with:
direct production costs, including materials (if it has commenced production);
product marketing (if any);
non-income taxes, royalties and other governmental charges (if any);
contingency allowances; and
any other significant costs.
if the applicant has obtained an expert technical assessment, that assessment should be included in the listing document where relevant and appropriate; and
listing documents must include a prominent warning statement in respect of each Core Product that it may not ultimately be successfully developed and marketed.
In particular, Biotech Companies are required to: (a) set out the components of cash operating costs separately by category; (b) explain the reason for any departure from the list of items to be included under cash operating costs; and (c) discuss any material cost items that should be highlighted to investors;
Financial Report Disclosure
Biotech Companies must disclose in their annual and half-year reports details of R&D activities including:
details of the key stages of each of its Core Products under development to reach commercialisation and a general indication of the likely timeframe for it to reach commercialisation;
a summary of expenditure incurred on R&D activities; and
a prominently disclosed warning that a Core Product may not ultimately be
successfully developed and marketed.
The Exchange has the power to suspend dealings in the shares of a Biotech Company which does not maintain sufficient operations or assets as required by Listing Rule 13.24, or may cancel its listing under Listing Rule 6.01.
The Exchange can also give a company up to 12 months to comply with Listing Rule 13.24, after which its listing will be cancelled if it is still in breach (Listing Rule 18A.09).
Prohibition on fundamental change in business
Listed Biotech Companies require the Exchange’s consent for any acquisition, disposal or other transaction or arrangement (or a series of such transactions) that would result in a fundamental change to the company’s principal business activities as described in its listing document (Listing Rule 18A.10).
Stock names of listed Biotech Companies have the marker “B” at the end of their name (Listing Rule 18A.11).
Meeting the Main Board financial eligibility tests
Once a listed Biotech Company is able to satisfy the financial eligibility tests under Listing Rule 8.05, Listing Rule 18A.09 to Listing Rule 18A.11 cease to apply (i.e. sufficiency of operations, Exchange’s consent requirement for material change in business and stock marker requirement).
Biotech companies are a new sector for Hong Kong listings having previously been prevented from listing by the financial eligibility requirements for profits, revenue and cash flow. The first listings of Biotech companies are expected to occur as early as summer 2018 and there is already a pipeline of Biotech companies that have expressed an interest in listing in Hong Kong. Applicants have been able to submit listing applications since 30 April 2018.
New Rules for Listing Companies with WVR Structures
Companies with WVR structures have been prevented from listing in Hong Kong by the Listing Rules “one share one vote” principle. As a result, many Chinese tech companies, which typically adopt WVR structures, have listed instead on the New York Stock Exchange or Nasdaq, which allow the listing of WVR companies. The loss of Alibaba Group’s IPO to New York in 2014 triggered a long and contentious debate on WVR listings and several consultations.
Under the new Listing Rules, WVR structures are allowed but only for new listing applicants in high growth and innovative sectors.
Since 30 April 2018, issuers have been able to submit a formal listing application.
Hong Kong’s ranking as the world’s top IPO-fund raising market in 2018 was due to the listing of technology companies including China Tower which raised US$7.5 billion and Beijing-based smartphone maker, Xiaomi Corporation, the first company to list on HKEx with a WVR structure, which raised US$5.4 billion. Online food delivery service Meituan-Dianping also raised US$4.2 billion in its Hong Kong IPO.
Definition of WVR
Weighted voting rights are defined as the voting power attached to (i) a share of a particular class that is greater or superior to the voting power attached to an ordinary share or (ii) another governance right or arrangement, which is disproportionate to the beneficiary’s economic interest in the equity securities of the issuer.
Under the new Listing Rules only a company with a share-based WVR structure (i.e. falling within paragraph (i)) are allowed to list on the Exchange.
A company which has a board-based WVR structure, which gives certain persons control of the board which is disproportionate to their equity stake in the company, are not able to list in Hong Kong.
A listing applicant with a WVR structure must demonstrate to the Hong Kong Stock Exchange that it is eligible and suitable for listing. According to the new Guidance Letter HKEx-GL93-18 on Suitability for Listing with a WVR Structure (the WVR Guidance Letter), a WVR-structured company must have the following characteristics in order to be considered suitable for listing with a WVR structure:
Innovative company: the applicant must be an “innovative” company, that is a company that would normally possess more than one of the following characteristics:
its success is attributable to the application of new technologies, innovations, and/or a new business model to its core business, which differentiates the applicant from existing players;
research and development (R&D) significantly contributes to its expected value and comprises a major activity and expense;
its success is attributable to its unique features or intellectual property; and/or
it has an outsized market capitalisation/intangible asset value relative to its tangible asset value.
The Stock Exchange acknowledges that what is considered “innovative” depends on the state of the relevant industry(ies) and market(s), which may change as technology, industries and markets develop and change.
A WVR-structured company may qualify for listing where it has a new and “innovative” business model; but such business model may cease to be “innovative” when adopted by numerous industry players over time, so that WVR-structured companies adopting the same business model in the future may not necessarily qualify for listing.
The superficial application of new technology to an otherwise conventional business does not satisfy the suitability criteria. For example, where a retail business merely develops an online sales platform, this would not be suitable for listing with a WVR structure unless it demonstrates other distinctive features.
Success of the company: the applicant is required to have a track record of high business growth, as can be objectively measured by operational metrics, for example business operations, users, customers, unit sales, revenue, profits and/or market value (as appropriate), and it is expected that its high growth trajectory will continue;
Contribution of WVR holders: each WVR beneficiary must have been materially responsible for the business’ growth, through his/her skills, knowledge and/or strategic direction in circumstances where the company’s value is largely attributable or attached to intangible human capital;
Role of WVR holders: each WVR beneficiary should be a director at listing, and an individual who has an active executive role within the business and has materially contributed to the business’ ongoing growth; and
External validation: the applicant must have previously received meaningful third party investment (more than a token investment) from one or more sophisticated investors.
There are no bright line tests as to the meaning of sophisticated investor or meaningful investment. A sophisticated investor is defined in the WVR Guidance Letter as an investor that the Exchange considers to be sophisticated by reference to factors such as net assets or assets under management, relevant investment experience, and the investor’s knowledge and expertise in the relevant field. In the Consultation Conclusions, the Exchange stated that in determining whether an investment is “meaningful”, it will examine the nature and timing of the investment, the amount invested, and the size of the stake taken up.
The sophisticated investor(s) must retain an aggregate 50% of their investment at listing for at least six months after listing (there are exceptions for de minimis investments by specific investors where the main investors are in compliance).
An applicant that is a spin-off from a parent company would not normally be required to demonstrate that it has received third party investment.
According to the WVR Guidance Letter, the Stock Exchange exercises its discretion to determine a WVR-structured listing applicant as being suitable to list sparingly. All relevant circumstances are considered in making the suitability determination.
The previously-mentioned factors are neither exhaustive nor binding; and even where an applicant demonstrates these characteristics, this does not necessarily mean that the applicant meets the suitability criteria.
The Exchange retains the discretion to reject a listing application, including the right to reject an applicant where its WVR structure is an extreme case of non-conformance with governance norms, for example if ordinary shares carry no voting rights.
Listing applicants with WVR structures are required to have either:
a market capitalisation of at least HK$40 billion at listing; or
a market capitalisation of at least HK$10 billion at listing and at least HK$1 billion of revenue in the most recent audited financial year.
Ring-fencing and anti-avoidance
Only new applicants with a WVR structure are considered for listing. The Exchange maintains the discretion to reject a listing application where it believes that the issuer has acted intentionally to avoid this rule or in a manner which has the effect of avoiding it.
Listed issuers are restricted from increasing the proportion of WVR shares to above the proportion in issue at listing.
WVR beneficiaries may allot, issue or grant shares carrying WVRs with the Exchange’s approval only in certain circumstances (a pro rata offering to all shareholders or a pro rata issue of securities to all shareholders by way of scrip dividends or a stock split or other capital reorganisation) and where such corporate action does not result in an increase in the proportion of shares holding WVRs.
Where a WVR beneficiary does not take up any part of a pro rata offer, the shares or rights not taken up can be transferred to another person provided that such transferred rights only entitles the transferee to an equivalent number of ordinary shares.
Where a listed issuer reduces the number of shares in issue, the WVR beneficiaries should reduce their WVRs proportionately, if the reduction in issued shares would otherwise result in an increase in the proportion of shares carrying WVRs.
Issuers are not permitted to change the terms of a class of shares carrying WVRs to increase the WVRs carried by that class; however issuers may reduce WVRs with the Exchange’s approval, in addition to complying with any requirements under law.
WVR beneficiaries are required to be natural persons and directors at listing, and as such are subject to fiduciary duties to the issuer.
The suitability requirements in relation to WVR beneficiaries are set out in the previously-mentioned WVR Guidance Letter, including that the beneficiary must be an individual who has an active executive role within the business and has materially contributed to the growth of the business through his/her skills, knowledge and/or strategic direction.
A beneficiary’s WVRs cease in certain circumstances:
1.where the WVR beneficiary dies or ceases to be a director; or
2.where the Stock Exchange deems the WVR beneficiary to be incapacitated for the purpose of performing his/her duties as a director or to no longer satisfy the Listing Rules’ requirements of a director.
This “event-based sunset” provision means that WVRs will not continue for an unlimited period of time.
All beneficiaries of WVRs must collectively beneficially own at least 10% of the underlying economic interest in the applicant’s total issued share capital at listing.
This requirement does not continue after listing.
A shareholding below 10% may be accepted by the Stock Exchange on a case by case basis, if such interest represents a very high amount in absolute dollars terms, for example where the applicant’s expected market capitalisation is above HK$80 billion.
The proposed 50% ceiling on WVR beneficiaries’ total interest was removed in the Consultation Conclusions given concerns that WVR beneficiaries may lose control where the issuer expects that it will require significant post-listing funding and/or a significant proportion of shares must be set aside for employee incentivisation. These concerns meant that the 50% cap might have limited Hong Kong’s competitiveness for WVR listings.
Connected person and core connected person
A WVR beneficiary and any vehicle through which such beneficiary holds shares carrying WVRs are deemed to be connected to the listed issuer and core connected persons of the issuer (if not already otherwise connected persons or core connected persons, respectively).
Ownership continuity and control
In relation to questions raised in the consultation as to how an applicant with a WVR structure may comply with the Listing Rules’ ownership continuity and control requirements, the Exchange states in the Consultation Conclusions that an applicant may be able to rebut a presumption that there has been a change in ownership continuity and control, by demonstrating that there was no material change in influence on management notwithstanding the technical change in controlling shareholder(s) resulting from an increase in voting power conferred by the WVR structure.
Limits on WVR power
WVRs must be attached only to a class of equity securities, and such class is ineligible for listing.
In the Consultation Conclusions, the Stock Exchange clarified that it normally expects that only one share class will carry WVRs;
however applications by companies with more than one class holding WVRs will be considered on an individual case basis where there is sufficient justification based on individual circumstances for having multiple classes and the WVR structure is not an extreme case of non-conformance with governance norms.
A WVR structure may only confer enhanced voting power on a beneficiary on resolutions tabled at general meetings (apart from the matters that the Listing Rules require to be decided on a one vote per share basis).
The rights attached to WVR shares are required to be the same in all other respects to the rights attached to the company’s ordinary shares.
WVR beneficiaries must not be entitled to more than ten times the voting power of ordinary shares.
WVR shareholders must be permitted to cast 10% or more of the votes that are eligible to be cast on resolutions at general meetings.
Non-WVR shareholders’ rights
Non-WVR shareholders holding 10% or more of voting rights on a one vote per share basis must be able to convene an extraordinary general meeting (EGM) and add resolutions to the EGM agenda.
Resolutions on the following matters may only be made on a one vote per share basis and WVR beneficiaries may not be able to exercise their WVRs:
changes to the issuer’s constitutional documents, however framed;
variation of rights attached to any class of shares;
the appointment or removal of an independent non-executive director;
the appointment or removal of auditors; and
the voluntary winding-up of the issuer.
WVR shareholders’ rights
In response to consultation feedback, a new provision has been included to prevent non-WVR holders from being able to remove or modify WVR structures.
Under Chapter 8A, the WVRs attached to a share class may be varied only where the holders of that class consent as specified in the regulations and/or laws of the issuer’s jurisdiction of incorporation.
Where such approval is not included in the regulations and/or laws, the Exchange requires the issuer to include such approval in its constitutional documents to the extent not prohibited under the laws of its jurisdiction of incorporation.
Restriction on transfer of WVR shares
The WVRs attached to a WVR beneficiary’s shares cease if the WVR beneficiary transfers to another person his/her beneficial ownership of, or economic interest in, the WVR shares, or the control over the voting rights attached to such shares.
A limited partnership, trust, private company or other vehicle is permitted to hold the WVR shares on behalf of the beneficial owner, provided that such arrangement does not result in a circumvention of the restriction on transfer of WVR shares. Where a vehicle holding WVR shares no longer complies with this rule, the beneficiary’s WVRs must cease.
In the Consultation Conclusions, the Exchange clarified that the following arrangements do not result in WVRs ceasing:
partnership – where the terms of the partnership expressly stipulate that the voting rights attached to the shares are solely dictated by the WVR beneficiary;
trust – where the purpose of the trust is for estate planning and/or tax planning purposes, and the WVR beneficiary in substance retains an element of control of the trust and any immediate holding companies or, if not permitted in the relevant tax jurisdiction, retains a beneficial interest in the WVR shares; and
private company or other vehicle – where at all relevant times the WVR beneficiary wholly owns and controls the vehicle.
In relation to stock borrowing, according the Consultation Conclusions, in exceptional circumstances, the Exchange may consider granting a waiver where an issuer justifies the need for stock borrowing using WVR shares.
Conversion of WVR shares into ordinary shares
Where there is a conversion of WVR shares into ordinary shares, the conversion must take place on a one-to-one ratio. Issuers must obtain approval from the Exchange for the listing of shares that are issuable upon conversion of its shares carrying WVRs.
A WVR-structured issuer must have a stock marker “W” at the end of its stock name.
An issuer is required to prominently disclose a warning (“A company controlled through weighted voting rights”) on the front page of its corporate documents (its listing document, periodic financial reports, circulars, notifications and announcements), and to describe prominently in its listing document and periodic financial reports the WVR structure, its rationale and risks for shareholders.
WVR beneficiaries must also be identified in listing documents and interim and annual reports.
WVR-structured issuers must also disclose in their listing documents and interim and annual reports the impact of a potential conversion of WVR shares into ordinary shares on their share capital, as well as all circumstances in which the WVRs will cease.
Enhanced corporate governance
WVR-structured issuers are required to establish a Corporate Governance Committee (CGC), comprising only of independent non-executive directors (INEDs) and chaired by an INED.
The CGC must perform the corporate governance duties set out in the terms of reference of Code Provision D.3.1 of the Corporate Governance Code and Corporate Governance Report (Appendix 14 to the Listing Rules) and on the following terms:
review and monitor whether the listed issuer is operated and managed for the benefit of all its shareholders;
to confirm annually that the WVR beneficiaries have been directors throughout the year and that no matters have occurred that would result in cessation of any WVRs;
to confirm annually whether or not the WVR beneficiaries have complied with certain Chapter 8A restrictions throughout the year, including on reduction of shares, transfer of WVR shares and resolutions requiring one vote per share;
to review and monitor the management of conflicts of interests, and make a recommendation to the board where there is a potential conflict of interest between (i) any WVR beneficiary and (ii) the issuer and/or subsidiary of the issuer and/or shareholders of the issuer (as a group);
to review and monitor all risks related to the issuer’s WVR structure, including connected transactions between (i) any WVR beneficiary and (ii) the issuer and/or subsidiary of the issuer, and to make a recommendation to the board in relation to any such connected transaction;
to make a recommendation to the board in relation to the appointment or removal of the compliance adviser;
to seek to ensure effective and on-going communication between the issuer and its shareholders, especially in relation to the requirements concerning the issuer’s shareholder communication policy (such policy is mandatory for WVR-structured issuers); and
to report on the work of the CGC on at least a half-yearly and annual basis covering all areas of its terms of reference, including disclosure of its recommendations specified in points (d)-(g) above, on a comply to explain basis.
According to the Consultation Conclusions, the CGC may invite members of management to attend CGC meetings, as required.
The Corporate Governance Report must include a summary of the CGC’s work and disclosure of any significant events, to the extent possible.
Chapter 8A mandates certain provisions of the Corporate Governance Code and Corporate Governance Report governing the role of INEDs. WVR-structured issuers must establish a nomination committee responsible for making recommendations to the board on the nomination of directors. The committee must comprise a majority of INEDs and be chaired by an INED. Chapter 8A also mandates retirement of INEDs by rotation at least once every three years (although INEDs are eligible for re-appointment at the end of the three year term).
An issuer is required to engage a compliance adviser permanently from the date of listing. The issuer should consult with, and where necessary, seek advice from its adviser in the usual circumstances set out in Listing Rule 3A.23, as well as on any matters related to the WVR structure, transactions in which any WVR beneficiary has an interest, and where there is a potential conflict of interest between (i) the issuer, a subsidiary of the issuer and/or shareholders of the issuer (as a group) and (ii) the WVR beneficiaries.
An applicant’s directors, senior management and company secretary must undergo training on WVR Listing Rules and WVR associated risks.
The requirement that advisers should undertake such training was removed in the Consultation Conclusions.
WVR beneficiaries are required to give an undertaking to the issuer that they will comply with the relevant WVR safeguards.
Companies must give effect to the safeguards under Chapter 8A by including them in their articles of association or equivalent document. This allows shareholders to take civil action against the company in order to enforce the WVR safeguards.
3. PRC Foreign Investment Law
Pursuant to the draft PRC Foreign Investment Law, issued in January 2015, companies in control, or de facto control, by a Chinese citizen would not be subject to foreign investment restrictions.
According to the WVR Guidance Letter, if the draft Foreign Investment Law were to be implemented, a WVR-structured issuer with WVR beneficiaries who are PRC citizens may potentially use WVRs to demonstrate compliance with the draft PRC Foreign Investment Law in that the WVR beneficiaries have de facto control of an issuer that is in an industry subject to foreign ownership restrictions.
The applicant should disclose the risk that its WVRs may decrease and consequently that it may not be able to comply with the PRC Foreign Investment Law.
Corporate WVR beneficiaries
WVR beneficiaries must be natural persons. The Hong Kong Stock Exchange stated in its Consultation Conclusions that it would launch a new consultation by 31 July 2018 to explore the option of allowing corporate entities to hold WVRs. The consultation paper would seek comments as to whether, and if so, on what basis corporate entities should be allowed to benefit from WVRs.
However, at the end of July 2018, the Stock Exchange announced its decision not to launch a corporate WVR consultation. It stated that given that the current WVR regime has only recently been implemented, the Stock Exchange considers that it should deliberate further the extended WVR regime and should continue to engage with stakeholders to develop a broader consensus.
Where there is any breach of the requirements of Chapter 8A, the Stock Exchange may, in its absolute discretion:
direct a trading halt, suspend dealings or cancel the listing of the issuer;
impose disciplinary sanctions; or
withhold approval for a listing application or the issuance of a circular.
New Concessionary Route for Secondary Listing
An Overseas Issuer (an issuer incorporated or otherwise established in a jurisdiction outside Hong Kong) which is already listed on another stock exchange, may secondary list on the Main Board under Chapter 19 of the Listing Rules. The Exchange/SFC Joint Statement on the Listing of Overseas Issuers however prevents a secondary listing on the Exchange of issuers whose “centre of gravity” is in China.
The Consultation Paper proposed creating a new concessionary route to secondary listing for Chinese issuers under a new Chapter 19C. Chapter 19C came into effect on 30 April 2018 and allows a company primary listed on a Qualifying Exchange to secondary list on the Exchange (Qualifying Issuers). Qualifying Exchanges include NYSE, NASDAQ and the “premium listing” segment of LSE’s Main Market. Chapter 19C is not restricted to issuers incorporated or established overseas, and applies to both Overseas Issuers and Hong Kong incorporated issuers.
Grandfathered and Greater China Issuer Definition
A Greater China Issuer is defined as a Qualifying Issuer with its centre of gravity in Greater China. The Exchange considers the following non-exhaustive factors when determining whether a Qualifying Issuer has its centre of gravity in Greater China:
whether the issuer is listed in Greater China;
the issuer’s jurisdiction of incorporation;
the issuer’s history;
where the issuer is headquartered;
the issuer’s place of central management and control;
where the issuer’s main business operations and assets are located;
the location of the issuer’s corporate and tax registration; and
the nationality or country of residence of the issuer’s management and controlling shareholder.
A Non-Greater China Issuer means a Qualifying Issuer that does not have its centre of gravity in Greater China.
Chapter 19C differentiates between companies which have primary listed on or before 15 December 2017 and after 15 December 2017 (the date the New Board Concept Paper Conclusions were published) in order to deter issuers from listing on a Qualifying Exchange and then seeking a secondary listing in Hong Kong in order to circumvent Hong Kong’s primary listing requirements.
A Grandfathered Greater China Issuer is a Greater China Issuer primary listed on a Qualifying Exchange on or before 15 December 2017, whereas a Non-Grandfathered Greater China Issuer is a Greater China Issuer that was primary listed on a Qualifying Exchange after 15 December 2017.
Qualifications for listing
A Qualifying Issuer is required to be eligible and suitable for listing. The Exchange would normally regard a Qualifying Issuer as suitable for secondary listing where it is an innovative company. The “innovative company” requirements are the same as those for issuers with a WVR structure.
A Qualifying Issuer is required to have a record of good regulatory compliance of at least two full financial years on a Qualifying Exchange. A Qualifying Issuer (excluding a Non-Greater China Issuer without a WVR structure) must have:
a market capitalisation of at least HK$40 billion at listing; or
a market capitalisation of at least HK$10 billion at listing and at least HK$1 billion of revenue in its most recent audited financial year
A Non-Greater China Issuer which does not have a WVR structure must have an expected market capitalisation of at least HK$10 billion at the time of secondary listing in Hong Kong.
Centre of gravity
Under the 2013 SFC and Exchange Joint Policy Statement regarding the Listing of Overseas Companies (“2013 JPS”), an application for secondary listing from an overseas company with its “centre of gravity” in the Greater China region would not be approved. Under the new concessionary route of Chapter 19C, Greater China Issuers may apply for secondary listing in Hong Kong.
Under Chapter 19C, waivers from the Listing Rules which are already automatically granted to eligible listed companies seeking secondary listing under the 2013 JPS are codified, including connected transactions, notifiable transactions and the Corporate Governance Code, and all Qualifying Issuers may enjoy such waivers.
Non-Greater China and Grandfathered Greater China Issuers are required to demonstrate, to the Exchange’s satisfaction, how applicable domestic laws, rules and regulations and their constitutional documents, in combination, satisfy key shareholder protection standards set out in Chapter 19C. An issuer may be required to amend its constitutional documents.
Any provisions in a Qualifying Issuer’s constitutional documents relating to its governance that are unusual compared with normal practices in Hong Kong and are specific to the issuer (rather than a consequence of the laws and regulations to which it is subject), and how such provisions affect its members’ rights, [C6] must be prominently disclosed in listing documents. Examples of such provisions include, without limitation, “poison pill” arrangements and provisions imposing restrictions on quorums for board meetings.
VIE Structures Contractual Arrangements
Companies often use Contractual Arrangements (i.e. VIE structures) to indirectly own and control businesses operating in an industry sector that is subject to foreign investment restrictions under PRC law.
Listing Decision HKEx-LD43-3 sets out the Stock Exchange’s approach to Contractual Arrangements, including that such arrangements should be narrowly tailored to achieve the issuer’s business purpose and minimise the potential for conflict with applicable PRC laws and regulations.
An issuer may also be required, on an individual case basis, to demonstrate that it is able to comply with the draft PRC Foreign Investment Law (if the law is implemented). Issuers listed on Qualifying Exchanges which have Contractual Arrangements may not satisfy the Exchange’s current guidance in all respects.
Under the new Guidance Letter HKEx-GL94-18 on Suitability for Secondary Listing as a Qualifying Issuer under Chapter 19C (Secondary Listing Guidance Letter), Grandfathered Greater China Issuers and Non-Greater China Issuers may secondary list with their existing Contractual Arrangements in place and are not required to demonstrate that they are able to comply with the draft PRC Foreign Investment Law. Issuers are required to comply with the disclosure requirements specified in the listing decision, and to provide the Exchange with a PRC legal opinion that their Contractual Arrangements comply with PRC laws, rules and regulations.
Where a WVR-structured issuer applying for Chapter 19C listing uses WVRs to demonstrate compliance with the draft PRC Foreign Investment Law, and such WVRs do not exist indefinitely, the applicant should disclose the risk that its WVRs may decrease, and that it may not be able to comply with the PRC Foreign Investment Law as a result.
Qualifying Issuers with a WVR structure seeking a Chapter 19C secondary listing must satisfy the Chapter 19C (rather than Chapter 8A) eligibility and suitability criteria.
There is no requirement on Non-Greater China Issuers and Grandfathered Greater China Issuers to comply with the ongoing WVR safeguards, excluding the disclosure requirements.
The requirement that the Stock Exchange only considers listing with a WVR structure from new applicants does not apply to listing applicants which seek secondary listing under the new concessionary route.
Non-Grandfathered Greater China Issuers
Non-Grandfathered Greater China Issuers are not granted the concessions from the equivalence requirement, Contractual Arrangements or WVR companies. A Non-Grandfathered Greater China Issuer seeking secondary listing under Chapter 19C must vary its constitutional documents to satisfy the key shareholder protection standards (as applicable), and ensure that its WVR structure complies with the primary listing requirements under Chapter 8A, including ongoing WVR safeguards and disclosure requirements.
The Secondary Listing Guidance Letter requires a Non-Grandfathered Greater China Issuer seeking a secondary listing under the new concessionary route to comply with Listing Decision HKEx-LD43-3. If the PRC Foreign Investment Law comes into effect, it may also be required, on a case by case basis, to demonstrate that it is able to comply with the legislation.
Foreign Private Issuers
A Qualifying Issuer that is classified in the United States as a Foreign Private Issuer under the US Securities Act of 1933 and the US Securities Exchange Act of 1934 must prominently disclose in its Hong Kong listing document the exemptions from US obligations that it enjoys resulting from its status as a Foreign Private Issuer, and that, for this reason, investors should exercise care when investing in the issuer.
Currently, under Practice Note 22, a new applicant must submit its Application Proof to the Exchange for publication on the Exchange’s website. However, a new applicant which has been listed on a recognised overseas exchange for at least five years and has a significantly large market capitalisation at the time of filing its listing application, may make a confidential filing of its Application Proof.
In response to consultation feedback, Practice Note 22 has been amended so that a new applicant seeking listing under Chapter 19C may make a confidential filing.
Migration of the bulk of trading to Hong Kong
Where the majority of trading in a Greater China Issuer’s shares migrates to the Exchange’s markets on a permanent basis, the issuer will be regarded as having a dual-primary listing, and will no longer enjoy the benefit of automatic waivers (see “Automatic Waivers” above). A majority of trading moves to Hong Kong on a permanent basis if at least 55% of the total worldwide trading volume in dollars, of those shares over the issuer’s most recent financial year, takes place on the Exchange’s markets.
Issuers will have a twelve-month grace period to comply with the relevant Listing Rules. Continuing transactions will not have to comply with the Listing Rules for three years from the date of the Exchange’s notice of its decision that the majority of trading has migrated permanently to Hong Kong.
Migration of the bulk of trading to Hong Kong
Where the majority of trading in a Non-Greater China Issuer’s shares migrates to Hong Kong, the issuer will continue to benefit from the automatic waivers.
If the majority of trading in the shares of a Non-Greater China Issuer with a WVR structure or a Grandfathered Greater China Issuer with a WVR structure migrates to Hong Kong, the issuer will not be required to comply with the ongoing WVR safeguards, except for the disclosure requirements.
There is no requirement on Grandfathered Greater China Issuers and Non-Greater China Issuers to amend their Contractual Arrangements if the majority of trading in their shares moves to Hong Kong.
 SCMP. “Hong Kong plans to overtake Nasdaq as listing destination of choice for Chinese biotech firms”. 22 March 2018. http://www.scmp.com/business/money/markets-investing/article/2138478/hong-kong-plans-overtake-nasdaq-listing-destination