1. Principle based test
Rule 14.06(6) sets out the principle based test which allows the Hong Kong Stock Exchange to treat an acquisition or a series of acquisitions of assets constituting an attempt to achieve a listing of the target assets and a means to circumvent the requirements for new applicants under the Listing Rules (that is, a reverse takeover).
This listing rule, which sets out the principle based test, will, subject to the outcome of the consultation, include the following amendments, and will become Rule 14.06B:
- An acquisition or a series of acquisitions of assets covers proposed and completed acquisitions. Note that there is no prescribed fixed time period when assessing arrangements or transactions that would constitute a series (see LD109-2017).
- The six assessment criteria (sets out in GL78-14) in deciding whether the transaction would be considered a reverse takeover.
- the size of the acquisition targets relative to that of the listed issuer;
- the nature and scale of the listed issuer’s business before the acquisition(s) (eg whether it is a listed shell);
- any fundamental change in the listed issuer’s principal business(es) (eg the existing business would be discontinued or become very immaterial to the enlarged group’s operations after the acquisition(s));
- any change in control (as defined in the Takeovers Code) or de facto control of the listed issuer (other than at the level of its subsidiaries). Indicative factors for a change in de facto control includes (a) any substantial change in the listed issuer’s board of directors and key management; (b) any change in its single largest substantial shareholder; and (c) any issue of restricted convertible securities (that is, convertible securities with a conversion restriction mechanism to avoid triggering a change in control under the Takeovers Code) to a vendor as the consideration for an acquisition;
- the quality of the acquisition targets (eg whether it can meet the trading record requirements for listings, or whether it is unsuitable for listing (eg, an early state exploration company));
- other transactions or arrangements (historical, proposed or intended) which, together with the acquisition(s), form a series of arrangements to list the acquisition targets (eg, changes in control/de facto control, acquisitions, disposals or termination of original business; greenfield operations; equity fundraisings related to or for the development of newly acquired businesses). The Hong Kong Stock Exchange may regard acquisitions and other transactions or arrangements as a series if they take place in a reasonable proximity to each other or are otherwise related. The Hong Kong Stock Exchange does not intend to unduly restrict business expansion or diversification by listed issuers that take place over a reasonable period (usually three years or more) and will not normally consider that a transaction or arrangement outside the three-year period as part of the series, unless there are specific concerns about circumvention of the reverse takeover rules (eg proposing a transaction shortly after the three-year period and which accordingly is likely to have been in contemplation within the three-year period). In addition, since the series of transactions or arrangements (completed or proposed) would be treated as if it were one transaction, it is not required for the proposed transaction or the last completed transaction to be an acquisition to trigger the reverse takeover rules. See paragraphs 44 to 51 of the consultation paper for details. Note that, under the reverse takeover rules, an acquisition below the size of a very substantial acquisition may be considered a reverse takeover.
2. Bright line tests
The bright line tests refer to the two specific forms of a reverse takeover, namely (1) an acquisition or a series of acquisitions of assets constituting a very substantial acquisition where there is or which will result in a change in control (as defined in the Takeovers Code); or (2) very substantial acquisition(s) of assets (individually or in aggregate) from the new controlling shareholder and its associates within 24 months following a change in control (as defined in the Takeovers Code).
Under the consultation paper, it is proposed that the 24-month period is changed to 36-month period.
3. Restriction on material disposal
A listed issuer may not carry out a material disposal (or distribution in specie) of its existing business (1) when there is a proposed or intended change in control (as defined in the Takeovers Code) of the listed issuer (other than at the level of its subsidiaries); or (2) for a period of 36 months from a change in control (as defined in the Takeovers Code), unless the remaining group, or the assets acquired from the new controlling shareholder (and his associates) and any other person(s), would meet the requirements under Rule 8.05 (or Rule 8.05A or 8.05B).
The Hong Kong Stock Exchange may apply this restriction rule to a material disposal (or distribution in specie) by a listed issuer of its existing business (1) when there is a proposed change in the single largest substantial shareholder of the listed issuer; or (2) for a period of 36 months from such change.
4. Extreme transactions
Extreme very substantial acquisitions will be renamed extreme transactions.
An extreme transaction is an acquisition or a series of acquisitions of assets (the acquisition targets) by a listed issuer (proposed and/or completed), which individually or together with other transactions or arrangements, may, by reference to the factors set out in Note 1 to Rule 14.06B, have the effect of achieving a listing of the acquisition targets, but the listed issuer can demonstrate to the satisfaction of the Hong Kong Stock Exchange that it is not an attempt to circumvent the requirements for new applicants set out in Chapter 8 of the Listing Rules and that:
- a. the listed issuer has been operating a principal business of a substantial size, which will continue after the transaction; or
b. the listed issuer has been under the control of a large business enterprise for a long period (normally not less than 3 years), and the transaction forms part of a business restructuring of the listed issuer and would not result in a change in control (as defined in the Takeovers Code) of the listed issuer (other than at the level of its subsidiaries); and
- the satisfaction of the requirements referred to in paragraph 5 below are satisfied.
As general guidance, “a principal business with substantial size” may include a principal business with annual revenue or total asset value of HK$1 billion or more, excluding any revenue or assets not attributable to the listed issuer’s original principal business e.g. any significant investments or surplus cash of the listed issuer, and any revenue or assets attributed to a newly acquired or developed business. The Hong Kong Stock Exchange would also take into account the listed issuer’s financial position (e.g. whether the listed issuer has a very small net asset value or in a net liabilities position), the nature and operating model of the listed issuer’s business and its future business plans in assessing whether its principal business is of substantial size.
The disclosure requirements applicable to a new applicant have to be complied with.
A financial adviser (a person licensed or registered under the Securities and Futures Ordinance for Type 6 regulated activity and permitted under its licence or certificate of registration to undertake the work of a sponsor) has to be appointed to perform due diligence on the assets subject to the acquisitions (and any assets and businesses subject to a series of transactions and/or arrangements, if any).
The transaction will be presented to the Listing Committee for its determination on whether the transaction should be an extreme transaction or a reverse takeover. The classification is subject to the completion of the financial adviser’s due diligence work on the target business and its submission of a declaration to support the view that the target business is able to meet the new listing requirements. Failure to provide sufficient information for the Hong Kong Stock Exchange to make a determination may result in a ruling that the transaction is a reverse takeover.
5. Additional requirements for a reverse takeover and an extreme transaction
||Acquisition targets (1), (2)
||Acquisition targets (1)
|Rule 8.04 (suitability for listing)
|Rule 8.05 (or Rule 8.05A or 8.05B) (track record requirements)
|New listing requirements in Chapter 8 (other than Rule 8.05)
- The assets acquired and/or to be acquired.
- Where a listed issuer has failed to comply with Rule 13.24 (that is, to carry on a sufficient level of operations or to have sufficient assets to maintain its listing) and proposes a reverse takeover, each of the acquisition targets and the enlarged group must meet all the new listing requirements set out in Chapter 8. Note that the carve-out for Rule 8.05 is not included in such circumstances.
6. Financial information
If an extreme transaction or a reverse takeover involves a series of acquisitions, which may have taken place over a few years, the current Listing Rules do not provide guidance on how the track record of the acquisitions would be determined and the financial information to be presented.
The circular or listing document must contain pro forma income statements for all the acquisition targets in the series of acquisitions (where applicable, would include any new businesses developed by the listed issuer that form part of the series) for the track record period (that is, the three financial years before the issue of the circular or listing document).
Paragraphs 76 to 78 set out an example where a listed issuer completed an acquisition of Target A in FY2015 and proposed an acquisition of Target B in FY2017 forming a series of acquisitions. The track record period with reference to the acquisition of Target B in FY2017 is FY2014 to FY2016.
Pro forma income statements of Target A and Target B are required.
In addition, the new Rule 4.30 requires that the unadjusted information must be derived from the accountants’ reports of the acquisition targets. In the above example, the listed issuer must produce the accountants’ reports for Target A and Target B for the track record period (that is, FY2014 to FY2016).
7. Large scale issue of securities
Where a listed issuer proposes a large scale issue of new shares (including any warrants, options or convertible securities) for cash to acquire and/or develop a new business, which, in the opinion of the Hong Kong Stock Exchange, is a means to circumvent the new listing requirements and to achieve a listing of the new business, the Hong Kong Stock Exchange may refuse to grant listing approval for the new shares. The Hong Kong Stock Exchange will not normally apply this anti-avoidance provision to an issue of securities if, taking into account the proceeds from the issue, less than half (50%) of the listed issuer’s assets would consist of cash as a result of the fundraising, unless there are specific concerns about circumvention of the rule.