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Hong Kong shows commitment in the protection of shareholders’ rights

Hong Kong is one of the world’s top financial centers with a large capital markets industry. It is also known as the top destination for companies to have their IPOs, which has created the need for the city to have a more robust governance framework and ensure the protection of shareholder rights.

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Due to the increasing popularity of newer shareholding and voting structures, it is necessary to enhance regulatory policies in line with global standards. In Hong Kong, shareholders in an incorporated company enjoy rights and powers set out in the Companies Ordinance.

This law requires certain companies incorporated in Hong Kong to keep registers of persons who have significant control to increase transparency of corporate beneficial ownership.

According to the Companies Ordinance, shareholders with 5 per cent of a company's voting rights can requisition a general meeting and put forward matters to be voted on. Certain important decisions, such as change of name,

amendments to articles of association and voluntary winding-up, can only be made with a 75 per cent supermajority approval.

Starting April 2023, the Companies Ordinance will permit fully virtual and hybrid general meetings.

Before 2022, the Stock Exchange of Hong Kong (SEHK) could reject the listing of a foreign company if it was not satisfied that the applicant's place of incorporation offered shareholder protection standards that were at least equivalent to those provided in Hong Kong.

More recently, after a consultation process, the SEHK adopted a revised listing regime for overseas issuers that removed the equivalence requirement and established a baseline level of shareholder protections that apply to all issuers (including Hong Kong and Chinese issuers).

Some of the protections included in the baseline are the right to receive notice of general meetings; members' rights to remove directors, requisition general meetings, speak and vote (except where the Listing Rules require that a member abstains from voting) at meetings, and to appoint proxies or corporate representatives, among other.

A key shareholder right under the Listing Rules is the right to vote on certain notifiable transactions and most related-party or connected transactions.

If a notifiable transaction exceeds a certain size relative to the issuer, shareholders' approval is required. In this case, shareholders' involvement is considered necessary, as the issuer is committing itself to a transaction that is not routine to its business but that has a substantial potential impact on its resources.

As for connected transactions, the complexity of the relevant rules is a unique feature of the Hong Kong regulatory regime. This is largely due to the prevalence of family or state-controlled issuers and crossholdings in the Hong Kong market.

To limit the risks that come with this structure, the Listing Rules cast a wide net on what constitutes a connected transaction and, subject to certain limited de minimis and other exceptions, requires these transactions to be approved by independent shareholders.

Issuers are required to form an independent board committee (IBC), constituted by independent non-executive directors (INEDs) only, and commission an independent financial adviser (IFA). The IBC and the IFA will then communicate their advice in a circular to shareholders, providing comments on the fairness of the transaction terms.

In the case of a takeover, there could be a conflict between directors and shareholders. The Hong Kong Code on Takeovers and Mergers (the Takeovers Code) builds in safeguards such that directors may not deny shareholders the opportunity to consider an offer unless shareholders' approval at a general meeting has been obtained.

The right to exit a company in the event of a consolidation or change of control is another significant one in the Takeovers Code.

Holding 30 per cent or more of a company's voting rights is regarded as having control of the company. Whenever a person (or a group of persons) acquires 30 per cent, or when a controller holding at least 30 per cent, but not more than 50 per cent, acquires a further 2 per cent of the voting rights in the company in any 12-month period, the Takeovers Code requires that a general offer be made to all other shareholders.

Regardless of the issuer's jurisdiction of incorporation, under the Companies Ordinance, shareholders of all Hong Kong listed issuers can bring unfair prejudice petitions and derivative actions. When the company's affairs have been conducted in a manner unfairly prejudicial to certain members, a shareholder can petition for relief.

The court can decide the relief it may grant, including buy-out orders. If directors act in breach of their fiduciary duties or duty of care to the company, shareholders can, with the leave of the court, bring statutory derivative actions against the wrongdoers in the name of the company.

To promote an investment culture in which investors actively communicate with management and speak and vote at general meetings, the Securities and Futures Commission (SFC) published in 2016 the Principles of Responsible Ownership.

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In general, shareholder participation in Hong Kong is rather low, mostly because of the concentrated shareholding structures in Hong Kong listed companies. Private settlements are more common and arrangements between issuers and activists include trade-offs on board composition in return for dropping demands or the signing of non-disparagement agreements.

The culture is slowly changing thanks to a regulatory atmosphere that encourages dialogue between investors and management and younger generations succeeding founders.

In 2018, the Listing Rules were amended to permit the listing of companies with a weighted voting rights (WVR) structure. However, this option is available only to companies that the SEHK considers to be innovative, and only an individual who is a director of the issuer and has contributed materially to the growth of its business is permitted to be a WVR beneficiary (except for in the case of certain grandfathered issuers with a close connection to Greater China and with a primary listing on a qualifying exchange).

There are safeguards in place to prevent the risks associated with managers who maintain majority control, such as requiring resolutions on the amendment of articles, variation of class rights, appointment, and removal of INEDs and auditors, and voluntary winding up to be approved on a one share, one vote basis.

Due to increasing competition from other financial centers, Hong Kong will have to balance easing of rules to maintain its attractiveness and enhancing corporate governance. With shareholding structures currently evolving, it is important to ensure transparency of beneficial ownership and strong protection of shareholder rights.

When there is concentrated ownership, like family-controlled businesses in Hong Kong, controlling stakeholders could have an incentive to make decisions that lead to diversion of company assets for personal gain at the expense of minority investors. The beneficial ownership regulation provides greater transparency and boosts Hong Kong’s reputation as an international financial center.

While considering expanding the WVR regime as well as increasing the listing of innovative new-economy companies, the policy makers must weigh in the impact of such structures on shareholder protection.

These would include providing considerations for prevention of misalignment of shareholder interests, shorter sunset clauses, preventing abuse of conflict of interest and better governance of management structures.

Increasing the transparency of corporate ownership is an important step to build trust and make Hong Kong an open and competitive place to invest and do business.


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