Due to the uncertainties brought by Sino-US trade frictions and the negative impacts caused by recent scandals of some Chinese companies, a secondary listing in Hong Kong becomes quite attractive to the China-based and US-listed issuers. For these Chinese companies, such a secondary listing is an attestment to their investment value in another established capital market and a significant step towards a global financing strategy.
A few Chinese Internet giants have already landed in Hong Kong’s capital market, including our client – JD.com, setting off a new upsurge of secondary listings in Hong Kong by China-based, US-listed companies. This article aims to sort out the challenges issuers face along this journey based on our practices and observations, with an expectation to provide some inspiration for the companies in their planning of capital market strategy.
The first challenge is a more stringent compliance review. US securities authorities insist on full disclosure when reviewing the listing applications. To speak specifically, Chinese lawyers are only required to discuss the compliance of the domestic operations and assets of Chinese applicants, and the applicants are required to fully disclose the related risks in their prospectus. The risks entailed by investing in the applicants are to the judgment of the market. There are laws imposing severe punishment on the issuers who commit fraud, such as misrepresentation during listing.
While the compliance review approach adopted by Hong Kong securities authorities is more similar to that for domestic listing. The Hong Kong Stock Exchange (HKEX) trusts the compliance opinions of the Chinese regulatory authorities more when reviewing the application. In addition to their own opinions on the compliance of companies, Chinese lawyers need to cite the compliance certifications issued by the competent authorities on the domestic operations of the applicants. In the case that the applicants have violations before the applications, apart from corrections by the domestic companies, the HKEX also requires specific clarifications by Chinese domestic authorities that such violations have no material adverse effects on the business records and future operations of these companies. A US listing, based on the principle of information disclosure, does not entail such work. Thus, Chinese companies need to invest more in compliance when seeking Hong Kong listings to comply with the requirements of the HKEX.
The second risk is related to the high reorganization costs for some companies. According to HKEX-LD43-3 rules, under the framework of Chinese foreign investment laws, the applicants shall directly own the largest shareholding interests in the Chinese domestic businesses and obtain the authorities’ approval in this regard before submitting the listing applications. Only when the authorities deny such approval on statutory grounds can the applicants adopt contractual arrangements such as a variable interest entity (VIE) to control Chinese domestic entities. If the domestic structures are not in line with the above-mentioned requirements, a reorganization is needed before submitting the listing application.
When applying for the secondary listing in Hong Kong, China-based applicants, which control Chinese domestic businesses through a VIE structure and have been listed in a qualified exchange before 15 December 2017, are exempted from the application of the HKEX-LD43-3 rules, i.e., no need to conduct a reorganization. However, such an exemption does not extend to the applicants listed overseas after 15 December 2017. These applicants still need to conduct a reorganization, according to the rules, converting the contractually controlled shareholding interests, which is not limited or forbidden by foreign investment law, to direct holding. Generally, compared with IPO applicants, the secondary listing applicants have larger assets and more complicated shareholding structures. Thus, the cost related to reorganization will be significantly higher. Most of the China-based and US-listed companies listed after 15 December 2017 are not qualified for a secondary listing, so how the HKEX would adjust the policies regarding these companies is not clear yet.
There are other challenges, such as those caused by the existing weighted voting rights (WVR), and information disclosure arrangements. Up to now, successful secondary listing cases in Hong Kong are rare. The HKEX has large discretion as to the grant of waivers from the Hong Kong Listing Rules. Therefore, Chinese companies shall have a sound and reasonable plan, and full assessment of the risks and costs from the perspective of Chinese laws before deciding on a secondary listing in Hong Kong.