HKSI Paper 5: Connected Transactions and Notifiable Transactions

Chapters 14 and 14A are examined together but apply differently. The commonest error is applying Chapter 14 percentage ratio thresholds to a transaction that is also a connected transaction.

Notifiable transactions: Chapter 14

Five percentage ratios: assets, profits, revenue, consideration and equity capital. Each is the transaction figure divided by the issuer's corresponding figure.
Classification by the highest ratio: below 5% (share transaction), 5% to 25% (discloseable, announcement), 25% to 100% (major, plus circular and shareholders' approval), 100% or more (very substantial, with additional requirements and possible reverse takeover consequences).
Disposals are classified on the same ratios; a very substantial disposal also needs shareholders' approval.

Connected transactions: Chapter 14A

A connected person includes a director, chief executive or substantial shareholder (10% or more) of the listed issuer or any of its subsidiaries, and their associates; a holding company, fellow subsidiary or subsidiary of the holding company; and anyone who was a director in the past 12 months.
Requirements: normal commercial terms or better, fair and reasonable, announcement, independent financial adviser opinion, independent shareholders' approval by poll with interested shareholders abstaining, and annual caps for continuing connected transactions.
De minimis exemptions: all percentage ratios below 0.1% (fully exempt); all ratios below 5% and consideration below HK$3 million (exempt from circular and independent shareholders' approval).

Worked example

A listed issuer buys an office from its chairman's private company for HK$20 million. The consideration ratio is 3% and the assets ratio is 2%. Under Chapter 14 this would only be a share transaction. But because the counterparty is a connected person, Chapter 14A governs: the 5% and HK$3 million exemption fails because consideration is at least HK$3 million, so announcement, circular, IFA opinion and independent shareholders' approval are all required.

Traps that cost marks

Forgetting that connected persons extend to subsidiaries of the issuer, not just the issuer itself.
Using Chapter 14 thresholds to size a connected transaction.
Omitting annual caps and the auditors' annual review for continuing connected transactions.
Overlooking the 12-month look-back for former directors.

Takeovers Code and Mergers and Acquisitions Regulation

The Takeovers Code is administered by the SFC, not the Exchange. Questions test the mandatory offer trigger, the pricing rule and the privatisation mechanics.

Scope and administration

The Hong Kong Code on Takeovers and Mergers is issued by the SFC and administered by the Takeovers Executive, with the Takeovers and Mergers Panel and the Takeovers Appeal Committee hearing reviews.
It applies to public companies in Hong Kong and to offers for them. It is not subsidiary legislation, but breaches attract SFC action and possible Exchange sanctions.

Mandatory offer rules

General Principle 1: all holders of the same class must be treated equally.
Acquiring 30% or more of the voting rights triggers a mandatory general offer for all shares. A holder between 30% and 50% who acquires a further 2% within 12 months also triggers a mandatory offer.
Offer price must be at least the highest price paid by the offeror or any concert party during the offer period and the six months before it (Rule 26.3).
Firm intention announcement; offer document within 21 days of the announcement; offer open at least 28 days; the offer must become unconditional within 60 days.
Whitewash: Executive consent plus independent shareholders' approval lets a transaction proceed without a mandatory offer, for example a rights issue or subscription by a controlling shareholder.
No frustrating action without shareholders' approval; special deals and off-market arrangements favourable to some shareholders are prohibited.

Privatisation

Scheme of arrangement: approved by 75% in value and a majority in number of shareholders present and voting, then sanctioned by the court.

Worked example

An investor holds 28% and buys 3% on-market from an unrelated party. It crosses 30%, so a mandatory general offer for all shares follows. The offer price must be at least the highest price paid in the six months before the offer period, which includes the 3% purchase price and any higher price paid earlier in that window, even if that earlier purchase was small.

Traps that cost marks

Confusing the 30% trigger with the 2%-in-12-months creep rule.
Applying the highest-price rule only to the offer period.
Assuming the Executive can be bypassed for a partial offer or a whitewash.
Forgetting the court sanction step in a scheme of arrangement.

Companies Ordinance Requirements

The Companies Ordinance (Cap. 622) supplies the corporate law machinery, while the Listing Rules add listed-company obligations on top. Questions test whether you know which rulebook supplies which requirement.

Cap. 622 essentials

Effective 3 March 2014. Shares have no par value, and the former prohibition on financial assistance was removed.
Directors: at least one director must be a natural person, and a public company must have at least two directors. The statutory duty of care, skill and diligence is in section 465, alongside the general law fiduciary duties.
Distributions: only out of profits available for distribution (section 297).
Capital reduction: the court-free procedure requires a special resolution and a solvency statement signed by all directors (sections 211 to 225).
Meetings: AGM within six months of the financial year end; 21 days' notice for the AGM and 14 days for other general meetings; private companies can use written resolutions.
Registers: significant controllers register and register of directors' interests must be maintained.
Mergers and exits: schemes of arrangement under sections 670 to 674; compulsory acquisition of dissenting minorities at the 90% level.

Interaction with the Listing Rules

The Companies Ordinance governs the mechanics of meetings, capital, distributions and schemes. The Listing Rules impose additional listed-issuer requirements such as circulars, independent shareholders' approval and connected transaction controls. Complying with one does not satisfy the other.

Worked example

A Hong Kong-incorporated listed issuer wants to reduce share capital to write off accumulated losses. The Companies Ordinance route is a special resolution plus a solvency statement signed by all directors, with the solvency test based on the company being able to pay its debts in the following 12 months. The Listing Rules then add a circular and shareholders' approval, and the Exchange should be consulted on timing.

Traps that cost marks

Assuming par value still exists in Hong Kong.
Assuming financial assistance remains prohibited for Hong Kong companies.
Thinking a solvency statement needs only a majority of directors; all must sign.
Treating Companies Ordinance compliance as sufficient for a listed issuer.

Share Buy-backs and Capital Raisings

This domain tests mandate arithmetic and the interaction between the Listing Rules, the Companies Ordinance and takeover regulation when an issuer buys back or issues shares.

Share buy-backs

General mandate: an ordinary resolution authorising on-market buy-backs of up to 10% of issued shares, renewable annually.
Price restriction: an on-market buy-back may not be made at more than 5% above the average closing price for the five preceding trading days.
Timing restrictions: no buy-backs in the one month before a results announcement, during a Model Code blackout, or where the buy-back would push the public float below 25%.
Treasury shares: since 11 June 2024, repurchased shares may be held in treasury instead of being cancelled. Treasury shares carry no voting rights, are excluded from the public float, and a resale of treasury shares is treated like a new issue needing mandate cover or specific approval.
An off-market buy-back requires specific shareholder approval and, where a connected person is involved, Chapter 14A applies.

Capital raisings

Issue mandate: up to 20% of issued shares, refreshed at the AGM; a placing within the mandate needs no shareholder approval.
A specific mandate is needed to exceed the 20%, requiring independent shareholders' approval; a placing to a connected person is a connected transaction and may need a whitewash.
Rights issues are offered pro rata to all shareholders, are not counted against the general mandate, and may be underwritten; open offers, convertible bonds and consideration issues each have their own rules.
Large discounts and top-up placings attract Exchange and SFC scrutiny, with full disclosure of use of proceeds.

Worked example

An issuer has 1,000 million shares and a 20% general mandate, equal to 200 million shares. It wants to place 250 million new shares. Only 200 million are covered by the mandate; the remaining 50 million require a specific mandate with independent shareholders' approval, or the placing must be scaled back to 200 million. If the placee is a 12% shareholder, Chapter 14A adds a connected transaction analysis.

Traps that cost marks

Mixing the 10% buy-back mandate with the 20% issue mandate.
Assuming treasury shares can be voted or count towards the public float.
Thinking a rights issue consumes the general mandate.
Overlooking that a placing to a substantial shareholder is a connected transaction.

Market Misconduct, Inside Information and Enforcement

The final domain ties the substantive offences to the enforcement machinery: which conduct is civil market misconduct before the MMT, which is criminal, and how the Part XIVA disclosure duty works.

Market misconduct: Part XIII

Civil market misconduct heard by the MMT: insider dealing (section 270), false trading (274), price rigging (275), disclosure of information about prohibited transactions (276), disclosure of false or misleading information inducing transactions (277), and stock market manipulation (278).
Criminal counterparts sit in sections 291 to 299, with penalties on indictment of up to HK$10 million and 10 years' imprisonment.
MMT orders include a cold shoulder order for up to five years, disqualification for up to five years, a cease and desist order, disgorgement, costs, and a fine of up to HK$10 million or three times the profit gained or loss avoided.

Inside information: Part XIVA

A listed corporation must disclose inside information as soon as reasonably practicable (section 307B); directors must take all reasonable measures to ensure proper disclosure systems.
Inside information is specific, not generally known, and likely materially to affect the price.
Safe harbours (section 307D) include incomplete proposals or negotiations, trade secrets, legal or regulatory restrictions, and circumstances where disclosure would breach a legal duty.
An MMT fine for breach of the disclosure duty can be up to HK$8 million, and directors may be disqualified.

Enforcement toolkit

SFC investigations, section 213 court orders (injunctions, disgorgement, disqualification up to five years, cold shoulder orders), section 214 petitions for unfair prejudice, and disciplinary action against licensed persons.
Part XV disclosure of interests: substantial shareholders at 5% or more, and directors and chief executives, must notify interests, generally within three business days.

Worked example

A finance director tells a friend about an undisclosed takeover approach; the friend buys shares. Both the tipper and the tippee are insider dealers. The MMT may impose fines, cold shoulder orders and disqualification. Separately, if the issuer failed to disclose the approach as soon as reasonably practicable, it may face a section 307B breach, subject to any available safe harbour.

Traps that cost marks

Assuming the civil regime requires proof of intent; the MMT test is lower than the criminal standard.
Forgetting the Part XIVA safe harbours.
Confusing MMT proceedings with criminal prosecution.
Overlooking the separate Part XV disclosure deadlines.