New Trading Suspension Rule: A Double-Edged Sword - Presentation to INED - Deloitte
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New Trading Suspension Rule: A Double-Edged Sword Presentation to INED 17 October 2019 Information Classification: Internal
What’s new about 13.50A (“new suspension rule”) Old regime New regime Suspension Suspension Trading Trading Issuer Regulator Issuer Regulator © 2019. For information, contact Deloitte China. For internal discussion only 3
Mainboard - 13.50A (GEM Listing Rule 17.48B) “The Exchange will normally require suspension of trading in an issuer’s securities if it publishes a preliminary results announcement for a financial year as required under rules 13.49(1) and (2) and the auditor has issued, or has indicated that it will issue, a disclaimer of opinion or an adverse opinion on the issuer’s financial statements. The suspension will normally remain in force until the issuer has addressed the issues giving rise to the disclaimer or adverse opinion, provided comfort that a disclaimer or adverse opinion in respect of such issues would no longer be required, and disclosed sufficient information to enable investors to make an informed assessment of its financial positions.” “This consultation was about improving the quality and reliability of financial information of issuers to safeguard market quality,” “The new Rule encourages issuers to maintain appropriate and effective risk management and internal control systems, and where necessary, requires them to act promptly to resolve issues with their auditors,” - David Graham, HKEX’s Head of Listing © 2019. For information, contact Deloitte China. For internal discussion only 4
Audit opinions that will trigger suspension Audit Opinion Unmodified Modified opinion Opinion Clean Opinion with Clean Qualified Disclaimer Adverse Emphasis of Matter © 2019. For information, contact Deloitte China. For internal discussion only 5
Example of disclaimer Material uncertainties related to issuer’s abilities to continue as a going concern Limitation of scope on valuation of assets due to lack of books and records and/or supporting documents, etc. • Failure to substantiate carrying amounts investment or other fixed assets • Certain books and records of the issuers being lost or inaccessible • Fire or natural disaster resulting in loss of primary evidence • De-consolidation of subsidiaries from the group’s consolidated financial statements as the issues were unable to exercise control over time and have no access to the books and records © 2019. For information, contact Deloitte China. For internal discussion only 6
Example of disclaimer Disclaimer Opinion (846) “… Management was not able to provide us with satisfactory explanations as to the commercial substance of these transactions, and provide us with adequate documentary evidences to support the nature and source of these receipts from and payments to the above company …” “… we have independently identified significant amounts of payments to and receipts from (including the payments and receipts described in the above sections) a number of companies ... Such payments and receipts were not supported by legitimate documentary evidence. …” “Given the above, together with our concerns on those transactions described in the sections … we have requested the board of directors of the Company to form an independent committee to commission an independent investigation on the authenticity and commercial substance of these transactions (the “Proposed Investigation”) …” © 2019. For information, contact Deloitte China. For internal discussion only 7
Example of resignation of auditor Auditors cease work and resign (1007) Before the deadline for publication of the audited account, the Auditors resigned. In the auditors’ letter of resignation, it was said: “We continue to have concerns about matters pervasive to the financial statements including (1) … transactions brought to the attention of management and acknowledged by them to be fraudulent; (2) unexplained differences between sales receipt notes …; (3) the explanation provided by management … for removing accounting records which were then not available to us continuously during the audit; (4) the validity and commercial substance of acquisition.” The HKEx imposed a resumption condition for the Company to conduct a forensic investigation on the audit issues (including the certain potentially fraudulent transactions). © 2019. For information, contact Deloitte China. For internal discussion only 8
Exemption #1: Going concern The disclaimer or adverse opinion relates solely to going concern Year 1 Year 2 Material uncertainties about Completed an equity the company’s ability to fundraising for repayment of continue as a going concern debts and working capital, and issued convertible bonds to material uncertainties about the settle certain amounts due to company’s ability to continue as a creditors going concern Improvement in the company’s operating performance during Disclaimer the year Clean Opinion with an emphasis of matter relating to the going concern issue © 2019. For information, contact Deloitte China. For internal discussion only 9
Exemption #2: Issue resolved the underlying issue is resolved before the issuer publishes the preliminary results announcement the audit issues would not have an ongoing effect on the issuer’s financial statements for the succeeding financial years Fire accident Loss of books and records Disclaimer Reconstruct accounting records Publication of financial results for the year © 2019. For information, contact Deloitte China. For internal discussion only 10
Other highlights Effective Date • Apply to preliminary annual results announcements for the financial years commencing on or after 1 September 2019 Longer remedial period • For issues remains unresolved outside the issuer’s control, HKSE may allow longer remedial period, with the duration of the period being determined on a case by case basis. Transitional Arrangement • Extend the remedial period to 24 months for the financial years commencing between 1 September 2019 and 31 August 2021 © 2019. For information, contact Deloitte China. For internal discussion only 11
New Trading Suspension Rule The proactive and reactive approaches How to prevent suspension Current Listing Rules and delisting? Main Proactive GEM • Board Identify and resolve the issues giving rise to disclaimer and or adverse opinions before publication of the preliminary results announcement. Suspension 18 months 12 months Reactive (Prescribed remedial period) • Identify and resolve the issues giving rise to disclaimer and or adverse opinions within 18 months (or 12 months for GEM issuers) Delist © 2019. For information, contact Deloitte China. For internal discussion only 12
Part II - Seeking a resumption © 2019. For information, contact Deloitte China. For internal discussion only 13
New delisting regime New delisting regime with an aim to delist prolonged suspended companies became effective on 1 August 2018: © 2019. For information, contact Deloitte China. For internal discussion only 14
Recent regulatory updates The objective of the new delisting rules (Para. 8 of GL95-18) © 2019. For information, contact Deloitte China. For internal discussion only 15
What is the new delisting regime? Old Regime New Regime Delist a company immediately without Delist a company immediately (LR 6.10) suspension (LR 6.10) Delist a company after a Specified Delist a company after a specified Remedial Period (LR 6..10) remedial period (with a specific 3-stage delisting procedures for PN 17 Delist a company for failure to remedy companies (being companies unable to the issues causing its suspension of comply with LR13.24)) (LR 6.10) trading, to re-comply with the rules and resume trading before the end of the prescribed remedial period of 18 months (the “Prescribed Remedial Period”). (LR 6.01A and 6.10A) © 2019. For information, contact Deloitte China. For internal discussion only 16
Other highlights of the new delisting regime Effective date: 1 August 2018. Transition period: Companies suspended for more than 12 months before August 2018: 31 July 2019. Companies suspended for less than 12 months before 1 August 2018: 31 January 2020. According to the monthly prolonged suspension status report of the HKEx (as at 30 September 2019) 18 suspended companies with PRP expired on 31 July 2019. At least 9 of them were delisted by the HKEx in August and September 2019 under the new LR6.01A for failure to resume trading by the end of the PRP. 11 suspended companies with PRP expiring on 31 January 2020. © 2019. For information, contact Deloitte China. For internal discussion only 17
Regulatory landscape © 2019. For information, contact Deloitte China. For internal discussion only 18
Recent regulatory updates Listed companies governance is one of the top enforcement priorities for regulators in Hong Kong: © 2019. For information, contact Deloitte China. For internal discussion only 19
Recent regulatory updates It was rare for the SFC to exercise its power to suspend, but this has changed in recent years: Year Companies suspended by the SFC 2010 - 30/03/ 2010: Hontex (0946) 2011 - Nil. 2012 - 22/08/2012: China High Precision (591) 2013 - 20/12/2013: Qunxing Paper (3868) 2014 - 14/02/2013: China Longevity Group Company Limited (1863) - 04/12/2014: Sijia Group (1863) 2015 - 15/07/2015: Hanergy (566) - 15/12/2015: Superb Summit (1228) 2016 - 20/01/2016: Changgang Dunxin Enterprise Company Limited (2229) - 16/04/2016: Sound Global (967) - 28/06/2016: Real Gold Mining (246) - 05/08/2016: National United Resources Holding (254) - 27/09/2016: Hua Han Health Industry Holdings (587) - 13/10/2016: China Fiber Optic Network (3777) 2017 - 22/02/2017: GME (8188) - 04/07/2017: Nationa Agricultural Holdings Limited (1236) - 08/05/2017: Huishan Dairy (6863) - 17/05/2017: CG Dunxin (2229) - 25/05/2017: Tianhe Chemicals (1619) - 06/06/2017: Lerado Financial Group Company Limited (1225) - 17/07/2017: China Household Holdings Limited (692) - 06/10/2017: New Ray Medicine International Holdings Limited (6108) - 09/11/2017: Tech Pro Technology Development Limited (3823) - 24/11/2017: First Credit Finance Group Limited (8215) - 27/11/2017: China Wah Yan Healthcare Limited (648) - 27/11/2017: Town Health International Medical Group Limited (3886) 2018 - 04/07/2018: Real Nutriceutical Group Limited (2010) - 20/11/2018: Hua Han Health Industry Holdings Limited (587) 2019 - 08/03/2019: China Ding Yi Feng Holdings Limited (612) - 29/05/2019: Combest Holdings Limited (8190) © 2019. For information, contact Deloitte China. For internal discussion only 20
Recent regulatory updates Many listed companies were suspended from trading as a result of certain issues or regulatory concerns: © 2019. For information, contact Deloitte China. For internal discussion only 21
Recent regulatory updates HKEx continued to focus on the four Enforcement Themes: © 2019. For information, contact Deloitte China. For internal discussion only 22
Regulatory environment Auditors Shareholders Regulators SFC HKEx Whistle-blowers Creditors Company/INEDs Suspension Trading Regulators resumed Company Auditors Sponsors Regulators to approve Delisting Auditors Investigation Creditors Forensic Restructuring accountants Company/INEDs PL/JL Liquidation White knight Controlling / major shareholders Company © 2019. For information, contact Deloitte China. For internal discussion only 23
Seeking a resumption © 2019. For information, contact Deloitte China. For internal discussion only 24
Seeking a resumption • Reasons for suspension − Material breaches of the LR − Fails to publish financial statements within time limit − Fails to maintain sufficient operation or assets − Fails to maintain sufficient public float − Receives disclaimer or adverse opinion (new suspension rule) • Depending on the underlying issues, the regulators will impose different resumption conditions on the company • The principle, however, remains the same: no resumption will be allowed unless and until all issues leading to the suspension have been properly resolved © 2019. For information, contact Deloitte China. For internal discussion only 25
Seeking a resumption • 3 key categories of suspension cases PN 17 companies/ Companies with material Companies with insufficient companies with insufficient irregularities (accounting/ public float operation or assets or in corporate irregularities) financial difficulties • Demonstrate that it has a • Accounting irregularities: • Devise a plan to restore the business that has substance and discrepancy between group required the minimum public is viable and sustainable in the account records and information float. longer term. obtained by auditors; concerns over authenticity of the • Placing of existing shares by the • If due to insufficient operation/ documents; concerns over the controlling or substantial assets, acquisition – Note: a commercial substance of certain shareholders; or placing of new suspended issuer that ceased to material transactions shares by the issuer. carry on the original principal business or to retain any • Corporate irregularities: fraud; material assets is a listed shell misappropriation of assets; other and any acquisition by it will be a fraudulent activities RTO and be treated as a new listing application. • Address the irregularities: (1) form a IBC; (2) forensic • If due to financial difficulties, investigation; (3) address audit undertake corporate action to concerns; (4) audit qualification; resolve the financial difficulties, (5) internal control review; (6) such as capital reorganization, remedial measures; (7) no equity fundraising and a scheme concern about management of arrangement. integrity; (8) disclose all material information and publish all financial statements. © 2019. For information, contact Deloitte China. For internal discussion only 26
Key criteria for resumption Forensic investigation Address Disclose auditor’s information to concern the market Demonstrate Take adequate appropriate internal control remedial action system Demonstrate the integrity and competence of directors © 2019. For information, contact Deloitte China. For internal discussion only 27
Case study Old PN 17 company: case study – Grande (186) Date Chronology of events 30/05/2011 - Suspended upon the presentation of creditors’ winding up 31/05/2011 - Provisional liquidation 08/09/2011 - Grande was placed in the 1st stage of delisting procedure 31/05/2012 - A resumption proposal was submitted but was rejected by the HKEx 05/07/2012 - Grande was placed in the 2nd stage of delisting procedure 25/09/2012 - Grande requested a review of the Listing Division’s decision to place it in the 2 nd stage of delisting procedure. Review not successful. 21/06/2013 - A resumption proposal was submitted but was rejected by the HKEx 11/07/2013 - Grande was placed in the 3rd stage of delisting procedure 12/09/2013 - A winding up order made against Grande 12/02/2014 - Grande submitted a resumption proposal to the HKEx 29/05/2015 - HKEx approved the resumption proposal, and made (among others) the completion of all transactions contemplated under the resumption proposal as one of the resumption conditions 30/05/2016 - Fulfilled all resumption conditions and resumed trading © 2019. For information, contact Deloitte China. For internal discussion only 28
Case study: PN 17 company Resumption Grande (186) Publication of material Total current liabilities information: outstanding financial over HKD 3.9 billion information Total assets around Internal control review: HKD1.3 billion internal control review, remedial measures, new CFO and Issues regarding Company Secretary amounts due to related Strengthening existing business: companies No acquisition, steps taken to strengthen its business Disclaimer Group Reorganization: liquidating certain Internal control issues subsidiaries: to improve financial position, and to address audit issues regarding certain subsidiaries. Scheme of arrangement: Bermuda and Hong Kong schemes: discharging of all claims (excluding intercompany debts), by cash and creditors shares Open offer: 5 offer shares for every 2 shares: raising Suspension proceeds of around HKD100 million for the Scheme Capital Reorganization: capital cancellation (unissued), capital reduction (reduce par value), increase authorized share capital: remove 1/3 accumulative losses, and enabling Open Offer and Scheme. © 2019. For information, contact Deloitte China. For internal discussion only 29
Case study Companies with material issues: case study – Kaisa (1638) Date Chronology of events Late 2014/ - The Company had liquidity issues. Loans defaulted. Many litigations were commenced early 2015 against the Company. CEO resigned. 08/03/2015 - Announced restructuring proposal. 31/03/2015 - Trading suspended as a result of its failure to publish the 2014 annual results. 29/04/2015 - Announced that auditors need additional audit evidence on certain matter for its 2014 audit. 23/07/2015 - HKEx imposed resumption conditions on the Company, which included, among others, demonstrating sufficient working capital and investigation of matters raised by the Company’s auditors in the course of the audit. 18/09/2015 - Auditors identified various audit issues. Auditors ceased work. The Company formed an independent committee to investigate matters. 10/06/2016 - Schemes for restructuring of offshore debts were sanctioned by HK and Cayman court 12/07/2016 - Offshore debts restructuring became effective. 15/07/2016 - Auditor resigned and new auditors appointed. 19/12/2016 - Forensic accountants published its findings. Recommended action against wrongdoers and remedial steps to be taken. 24/03/2017 - Internal control review completed. 26/03/2017 - Published the outstanding annual results for 2014 to 2016 27/03/2017 - All resumption conditions fulfilled. - Trading resumed. © 2019. For information, contact Deloitte China. For internal discussion only 30
Case study: material issues Resumption Kaisa (1638) Publication of the Serious liquidity issues Onshore debts outstanding financial (RMB49.6 billion) information: New auditors appointed, and published outstanding financial information. Offshore debts (USD2.9 billion) Internal control review: internal control Loan default; material review, various weaknesses identified and remedial measures implemented. litigation Material audit issues Forensic investigation of audit issues: Engage a forensic accountant to investigate audit issues: findings (a) certain former employees were involved in a scheme using fictitious agreements, substantial improper and unauthorized payments, incorrect accounting and collusion with third parties, to obscure the existence of certain borrowing agreements; (b) certain payment transactions were without clear business purposes or had no identifiable business purposes; (c) certain acquisitions were not properly authorized and approved. Recommended the Company to report the wrongdoing to the authorities and to implement remedial measures. Suspension Debt restructuring: Restructuring onshore debts by refinancing, restructuring offshore debts by scheme of arrangement: to improve the Company’s financial position © 2019. For information, contact Deloitte China. For internal discussion only 31
Seeking a resumption (Cont.) Example of a company no longer suitable for listing - False and misleading IPO prospectus: Hontex (946) Hontex (946) - 24/12/2009: Hontex was listed on the HKEx - 30/03/2010: SFC sought injunction to freeze IPO proceeds , alleging that Hontex materially overstated its turnovers and cash in the IPO prospectus. - 20/06/2012: SFC obtained a repurchase order, requiring Hontex to repurchase shares from 7,700 public shareholders. - 29/10/2012: Repurchase completed – 0.42% public float - 22/11/2012: LC decided to delist, on the basis of disclosure of false and misleading information in the IPO prospectus and lack of public float. - 23/09/2013: Delisted. © 2019. For information, contact Deloitte China. For internal discussion only 32
Seeking a resumption of trading (Cont.) Initial listing obtained by fraud: China Metal Recycling (773) Facts SFC v. China Metal Recycling (HCCW 210/2013) - 22/06/2009: China Metal was listed - First public interest winding up on the HKEx. - Justice Harris: “Although the economic - 28/01/2013: Trading suspended. interests of creditors and minority - 26/07/2013: SFC petitioned to wind shareholders are relevant in up the Company on public interest determining a petition such as the basis under section 212 of the SFO. present, as the authorities to which I SFC alleged that China Metal involved have referred make clear, the in a highly complex, sophisticated and overarching consideration is the dishonest scheme which inflated its broader interest of market participants performance, revenue (over HKD 8 as a whole. That interest requires that billion) and profit (over HKD 1 billion) serious misconduct is subject to dating back to the time of its IPO unequivocal censure. The appropriate prospectus in 2009. order in a case where a listing has been obtained by wholly dishonest - 26/02/2015: Winding up order made. fabrication of accounts would, in my - 04/02/2016: Delisted, on the basis view, almost invariably be a winding-up that it obtained its initial listing by order” fraud. © 2019. For information, contact Deloitte China. For internal discussion only 33
Preparing for investigations • A resumption of trading is unlikely to be the end of the matter • It usually marks the beginning of investigation by the regulators into the problematic companies and/or their officers for past breaches of rules and regulations • One of the enforcement objectives: to punish wrongdoers • It is important to bear in mind the likelihood of investigations and enforcement actions by the regulators, and to manage the relevant risks as appropriate © 2019. For information, contact Deloitte China. For internal discussion only 34
Investigations carried out by HKEx Issues under Investigations in 1H2019 No. of Investigations 120 100 80 60 40 20 0 2015 2016 2017 2018 1H2019 Main Board GEM No. of Directors subject to Director's duties Disciplinary Sanctions Failure to cooperate with an Exchange investigation 120 100 Inaccurate, incomplete and/or misleading disclosure in 80 corporate communication Failure to comply with procedural requirements in respect of 60 notifiable/connected transactions 40 Repeated breaches of the Listing Rules 20 Financial reporting - delays, or internal controls and corporate 0 governance issues 2015 2016 2017 2018 1H2019 Multiple themes ED NED INED Others Sources: HKEX website © 2019. For information, contact Deloitte China. For internal discussion only 35
Investigations carried out by SFC 250 200 150 100 50 0 13/14 14/15 15/16 16/17 17/18 Corporate disclosure Corporate misgovernance Insider dealing Intermediary misconduct Market manipulation Unlicensed activities 150 100 50 0 13/14 14/15 15/16 16/17 17/18 Prosecutions Civil proceedings Disciplinary proceedings Maket Misconduct Tribunal proceedings Sources: SFC Annual Report 2017-18 © 2019. For information, contact Deloitte China. For internal discussion only 36
More key takeaways … “No Mistake.” “No do-overs.” “Whatever it takes!” “Alright, we have a plan. Six Stones. Three teams. One Shot. Five years ago we lost. All of us. We lost friends. We lost family. We lost a part of ourselves. Today we have a chance to take it all back. You know your teams. You know your mission. Get the stones. Get them back. One round trip each. No mistakes. No Do-overs. Most of us are going somewhere we know, but that doesn’t mean we should know what to expect. Be careful. Look out for each other. This is the fight of our lives. We are going to win. Whatever it takes. Good Luck.” Steve Rogers, Avengers: Endgame https://youtu.be/nLRnHaf3t54 © 2019. For information, contact Deloitte China. For internal discussion only 37
© 2019. For information, contact Deloitte China. For internal discussion only 38
Juvenia Ho Joseph Chu Partner, Hong Kong Partner, Hong Kong/ Beijing Tel: +852 2852 1018 Tel: + 852 3919 0505/ +86 10 8588 4505 Email: juveniaho@deloitte.com.hk Email: Joseph.Chu@simmons- simmons.com Juvenia Ho is a Partner in Deloitte Forensic practice in Hong Joseph is a partner in the Dispute Resolution Group. He Kong. She has over 20 years of experience specializing in advises and represents clients in arbitration, banking, forensic accounting, financial/management fraud general commercial, tax and trust disputes and investigations, litigation support and fraud risk compliance investigations, with a particular focus on international review throughout Greater China . arbitration, regulatory investigations and cross-border litigation. Juvenia’s extensive forensic accounting experiences includes investigation into white collar crime, corruption particularly Joseph joined Simmons & Simmons as a partner in October in the context of Foreign Corrupt Practices Act and money 2013. He was admitted in Hong Kong in 2003, England in laundering, asset tracing inquiries, bribery & corruption risk 2008 and qualified as a lawyer in the PRC in 2012. He is one assessments. of the authors of Sweet & Maxwell’s Arbitration in Hong Kong: A Practical Guide, 2nd Edition, and was a contributing Juvenia’s investigative experiences cover a wide range of editor of Hong Kong Civil Procedure (the “White Book”). industries but in particular she has worked extensively in the Pharmaceutical, medical device, media & entertainment, Joseph has been recognized as “up and coming” in gaming, real estate, retail and manufacturing sectors. International Arbitration by Chambers Global in 2016. He has been described as “best known for his expertise Juvenia is also experienced in preparing accounting expert representing Mainland China-based businesses on cross- reports and exhibits for court hearing, in both civil and border arbitrations” and “knowing the Mainland China criminal cases for family/estate disputes, share placements market more than most” by Chambers Global. Joseph was and insider dealing. also identified by the Asian Legal Business in 2016 as one of the “Top 15 Rising Lawyers” in the PRC. © 2019. For information, contact Deloitte China. For internal discussion only 39
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