Proposed reforms of Hong Kong’s GEM board

The Stock Exchange of Hong Kong (SEHK) began consulting the public in September 2023 on proposals to reform the board of the Growth Enterprise Market (GEM) after observing a significant decline in the number of new listings and the amount of funds raised on the GEM since 2019.

The proposals include:

• Introducing an alternative eligibility test;
• Creating a streamlined main board transfer mechanism; and
• Ending mandatory quarterly reporting requirements for GEM issuers.

History of GEM

The SEHK introduced the GEM board in 1999 to provide emerging growth companies with a capital platform separate from the main board. In 2008, the process of transferring companies to the main board was eased by dropping the requirement that sponsors conduct intensive due diligence in the transfer process.

The “stepping stone” role of the GEM board was ended in 2018 with the cancellation of the streamlined mechanism. The GEM was repositioned as a standalone board for small to medium-sized enterprises, but with stricter financial eligibility requirements. The SEHK noticed in 2021 some commentators’ views that the GEM had lost its listing platform functions in recent years.

New alternative eligibility test

Currently, a GEM listing applicant must have a record of at least two financial years with positive cash flow of at least HKD30 million (USD3.85 million) generated from its ordinary and usual course of business.

This requirement may be taken to reflect the applicant’s profitability during the two years. Also, the minimum market capitalisation at the time of listing is HKD150 million, with listed securities of at least HKD45 million in public hands.

By comparison, the Beijing Stock Exchange (BSE) requires a listing applicant with an expected market capitalisation of between RMB200 million (USD28 million) and RMB400 million to have a minimum net asset value of RMB50 million and a profit of RMB15 million for each of the previous two years, or RMB25 million for the previous year. The BSE uses research and development (R&D) spending as a listing criterion for an applicant with market capitalisation exceeding RMB800 million.

The Nasdaq Capital Market (known as the Nasdaq SmallCap Market before September 2005) requires a minimum net asset value of USD4 million and a market capitalisation of USD50 million.

The SEHK proposes a new financial eligibility test in addition to the current qualifications. Under the new test, the applicant must have:

• An adequate trading record of at least two financial years;
• Revenue of at least HKD100 million in aggregate for the two most recent financial years, with year-on-year growth during the two years;
• Incurred R&D expenditure of at least HKD30 million in aggregate for the two financial years prior to listing, with the R&D expenditure in each year being at least 15% of its total operating expenditure; and
• An expected market capitalisation of at least HKD250 million at the time of listing. This allows companies with high growth potential but no profit (thus no positive cash flow) to be listed on the GEM.

Streamlined main board transfer

In this consultation, the SEHK suggested a mechanism for GEM-listed companies to be transferred to the main board without having to appoint a sponsor to conduct due diligence, which is described as a “streamlined mechanism”. Nevertheless, the transfer applicant must:

• Meet all main board listing requirements;
• For the three full financial years prior to the transfer, fulfil the SEHK’s requirement on ownership continuity and control, with no fundamental change in its principal business;
• Have reached a minimum daily turnover threshold of either HKD100,000 or HKD50,000 on at least 50% of the trading days during a period of 250 trading days immediately preceding the transfer application until the transfer to the main board (i.e. the reference period);
• Have a volume weighted average market capitalisation during the reference period that can meet the minimum market capitalisation requirement of the main board (currently HKD500 million); and
• Not have been held to have committed a serious breach of any SEHK listing rules in the 12 months preceding the transfer application and until the transfer to the main board, and not be the subject of any investigation by the SEHK or any ongoing disciplinary proceedings in relation to a serious breach or potentially serious breach of any listing rules.

The additional requirements seem to be aimed at preventing the use of the GEM as a stepping stone to achieve main board listing for any company that is not intended to maintain its principal business or ownership/control in the short run, or for any GEM issuer that fails to achieve a certain level of trading volume and market capitalisation.

In addition, the SEHK proposes to align the GEM’s periodic reporting requirements with those of the main board by removing quarterly reporting as a mandatory requirement for GEM issuers.

Outlook

When the SEHK in 2021 concluded the amendments to the main board profit requirements, it suggested that applicants that could not fulfil the amended requirements may apply for GEM listing. Yet, the GEM experienced no IPO in 2022. Hopefully, these reform proposals may be met with positive market reactions and a growing number of listing applications on the GEM.

Rossana Chu is the managing partner at LC Lawyers