Hong Kong SFC amends the Codes on Takeovers and Mergers and Share Buy-backs

Introduction

On 21 September 2023, the Hong Kong Securities and Futures Commission (“SFC”) published the consultation conclusions (the “Conclusions”) on proposed amendments to the Codes on Takeovers and Mergers and Share Buy-backs (the “Codes”). The Conclusions related to the proposed amendments as discussed in the consultation paper published by the SFC on 19 May 2023 (the “Consultation”). All of the proposed amendments have been adopted (with minor modifications). The amendments to the Codes took effect from 29 September 2023 (the “Amended Codes”).

The Amended Codes provide further clarification and simplification to the rules and codification of various existing practices and decisions of the SFC in order to fully reflect current practices and increase market transparency and uniformity. The SFC also made use of this opportunity to introduce a number of miscellaneous amendments and green initiatives into the Amended Codes.

In this article, we highlight some of the key changes to the Amended Codes:

Key Amendments

1.  Expansion of the definition of “close relatives” in “acting in concert”

The Amended Codes introduce a broader definition of "close relatives". Previously “close relatives” was defined as “the person’s spouse, de facto spouse, children, parents and siblings”. That definition is now expanded and defined as the person's (1) spouse or de facto spouse, parents, children, grandparents and grandchildren; (2) siblings, their spouse or de facto spouse and their children; and (3) spouse’s or de facto spouse’s parents and siblings. Reference to a child also includes a person’s natural child, adopted child and stepchild.

Unless the relevant party can successfully establish to the Executive[1] that the presumption of “acting in concert” should be rebutted, the expanded definition of “close relatives” means that more potential parties are included in considering whether a party is “acting in concert”.

2.  Clarifying shareholders’ approval threshold for delisting as a result of an offer

As set out in Rule 2.2(c) of the Amended Codes, where a shareholders’ meeting is held under the Rules Governing the Listing of Securities on the Stock Exchange to consider a delisting proposal as a result of an offer, the resolution to approve the delisting must be subject to (among other things) the offeror being entitled to exercise, and exercising, its rights of compulsory acquisition.

For offeree companies incorporated in jurisdictions where compulsory acquisition is unavailable (for example, companies incorporated in the People’s Republic of China), under Note to Rule 2.2, the resolution to approve the delisting is subject to the offeror having received valid acceptances amounting to 90% of the disinterested shares (“90% Valid Acceptance Threshold”).

Note to Rule 2.2 of the Amended Codes expressly states that in order to determine whether the 90% Valid Acceptance Threshold has been met, purchases of shares of the offeree company made by the offeror and persons acting in concert with it (in each case of the disinterested shares) from the date of the announcement of a firm intention to make an offer will be counted towards the 90% Valid Acceptance Threshold.

3.  Arrangement and requirement of votes cast by holders of “disinterested shares” of a privatisation proposal under Scheme of Arrangement

The Consultation pointed out that the Codes are non-statutory in nature and designed to work alongside (and not to override) company legislation in different jurisdictions. Rule 2.10 of the Codes previously set out that a privatisation by way of a scheme of arrangement may only be approved by at least 75% of the votes attached to the disinterested shares that are cast at a duly convened meeting of the holders of disinterested shares (“Privatisation Proposal”). The Amended Codes have removed the requirement concerning “holders of disinterested shares” and only require the Privatisation Proposal to be approved at “a duly convened meeting of shareholders”.

Rule 2.10 of the Amended Codes has codified the following requirements concerning privatisation by way of scheme of arrangement:

• the scheme or the capital reorganisation is approved by at least 75% of the votes attaching to the disinterested shares that are cast either in person or by proxy at a duly convened meeting of shareholders; and
• the number of votes cast against the resolution to approve the scheme or the capital reorganisation at such meeting is not more than 10% of the votes attaching to all disinterested shares (together, the “Voting Thresholds”).

The Amended Codes provide that in calculating whether the Voting Thresholds are met, only votes cast by holders of “disinterested shares” should be counted. If the law governing a scheme of a company mandates that no shareholder (even if such shareholder is not a disinterested shareholder) should be deprived of the opportunity to vote on such a scheme, the offeror and its concert parties will be allowed to vote at a shareholders’ meeting held to consider the scheme of arrangement, however, their votes will not be counted for the purpose of calculating the Voting Thresholds. 

4.   Providing flexibility to restrictions applicable to the gathering of irrevocable commitments

Note to Rules 3.1, 3.2 and 3.3 of the Codes specified that when gathering irrevocable commitments before making an announcement of an offer, an offeror may approach a very restricted number of sophisticated investors who have a controlling shareholding to obtain an irrevocable commitment; but in all other cases the Executive must be consulted before any approach is made to a shareholder to obtain an irrevocable commitment in connection with an offer.

The Amended Codes have revised Note to Rules 3.1, 3.2 and 3.3 as follows:

• to delete the words “sophisticated investors who have a controlling shareholding”;
  
• to clarify that that an offeror does not have to consult the Executive in advance before approaching a shareholder with a material interest in an offeree company (a shareholder has a material interest in an offeree company if he and his concert parties control(s) directly or indirectly 5% or more of the voting rights of an offeree company) before making an announcement of an offer (“Shareholder with a Material Interest”);
• to specify that the Executive must be consulted where an offeror intends to approach shareholders other than Shareholder(s) with a Material Interest; and
  
• to specify that the maximum number of shareholders an offeror can approach in an offer is six (the “rule of six”). This number includes approaches made to both: (a) Shareholder(s) with a Material Interest; and (b) shareholders who do not have a material interest.

The SFC has also updated Practice Note 12 to provide further guidance on the operation of the rule of six - a shareholder and its concert parties will be counted as one shareholder and a list of shareholders approached by an offeror to the Executive is required to be submitted.

5.  Chain principle applicable to mandatory general offer

Pursuant to Note 8 to Rule 26.1 of the Codes, occasionally, a person or group of persons acting in concert acquiring statutory control of a company (the “First Company”) will thereby acquire or consolidate control of a second company (“Second Company”) because the First Company itself holds 30% or more of the voting rights of the Second Company, and this may trigger a mandatory general offer to be made to the independent shareholders of the Second Company (the “Chain Principle Offer”).

According to the former Note 8 to Rule 26.1, the Executive, in deciding whether such Chain Principle Offer is required, will consider the following:

• whether the holding in the second company is significant in relation to the first company. The assets and profits of the respective companies will be compared. Relative values of 60% or more will normally be regarded as significant (“Substantiality Test”); or
• whether one of the main purposes of acquiring control of the first company was to secure control of the second company (“Purpose Test”).

If either the Substantiality Test or the Purpose Test is satisfied, the Executive will require a Chain Principle Offer to be made by the relevant offeror.

Note 8 to Rule 26.1 of the Amended Codes has been amended as follows:

• to add market capitalisation of the respective companies as a parameter for comparison when determining the Substantiality Test (if both companies are listed companies); and
• to set out that where any calculation of the relative values of assets and profits may produce an anomalous result or is otherwise inappropriate, the relevant parties should provide further calculations by reference to at least the three most recent audited financial periods for the relevant companies, and where applicable, alternative tests, together with justification.

6.  Factors and considerations in making a put up or shut up order

As mentioned in the Consultation, the SFC has, upon application by an offeree company, issued “Put up or shut up” (“PUSU”) orders requiring a potential offeror to announce its firm intention to make an offer within a set time period (“Put Up”), or to announce that it will no longer proceed with an offer (“Shut Up”). The Codes were previously silent on PUSU orders.

A new Rule 3.9 has been added to the Amended Codes which provides that the Executive will take all relevant factors into account in deciding whether to issue a Put Up or Shut Up order to a potential offeror, including (without limitation):

• the current duration of the offer period;
• the reason(s) for the offeror’s delay in issuing a firm intention announcement;
• the proposed offer timetable (if any);
• any adverse effects that the offer period has had on the offeree company; and
• the conduct of the parties to the offer.

7.  Disclosure of offer price in talks announcement

In order to prevent the use of a talks announcement under Rule 3.7 of the Codes (“3.7 Announcement”) to test the market as well as to minimise the possibility of the trading price of the offeree company shares being affected by the announcement of incomplete negotiations (“Potential Offer”), the Executive has usually advised parties to take all necessary steps to maintain confidentiality of relevant information pertaining to the Potential Offer. Where confidentiality is preserved, there is no need for the offeree company to issue any 3.7 Announcement.  

The Amended Codes add a new note to Rule 3.7 which sets out that:

• the disclosure of an indicative offer price of a potential offer is not normally permitted to be made in the 3.7 Announcement save in exceptional circumstances; and
• where an indicative offer price of a potential offer is included in the 3.7 Announcement, the offer subsequently (if any) made by the potential offeror must be made on the same or better terms.

8.  Deduction of dividends from offer price

Note 11 to Rule 23.1 of the Amended Codes states that an offeror will not be permitted to reduce from the offer consideration any amount equivalent to a dividend which is subsequently paid or becomes payable by the offeree company to offeree company shareholders, unless it has specifically reserved in an announcement the right to do so. Where a dividend is subject to withholding or other deductions, the offer consideration should be reduced by the gross amount received or receivable by the offeree company shareholders.

Where an offeror has made a no increase statement, unless the offeror has stated that the offeree company shareholders will be entitled to receive all or part of a specified dividend in addition to the offer consideration, the offeror must reduce the offer consideration by an amount equal to that dividend so that the overall value receivable by the offeree company shareholders remains the same.

The key amendments to the Amended Codes set out above are for reference only. For details and the original text of the Conclusions, please refer to the following link: https://apps.sfc.hk/edistributionWeb/api/consultation/conclusion?lang=EN&refNo=23CP5

Should you have any questions or would like to discuss further, please reach out to the following members of our firm: Sheldon Tse, Gary Lock, Sheryl Cheung, Jeff Wong, Ruth Lau and Eugene Lau

Any reference to “Hong Kong” or “Hong Kong SAR” in this article shall be construed as a reference to “Hong Kong Special Administrative Region of the People’s Republic of China”.