This country-specific Q&A provides an overview to tax laws and regulations that may occur in Hong Kong.
The views and opinions set forth herein are the personal views or opinions of the authors; they do not necessarily reflect views or opinions of the law firm with which they are associated.
This Q&A is part of the global guide to Corporate Governance. For a full list of jurisdictional Q&As visit http://www.inhouselawyer.co.uk/practice-areas/corporate-governance/
What is the typical organizational structure of a company and does the structure typically differ if the company is public or private?
Under the Companies Ordinance (Chapter 622 of the laws of Hong Kong) (“Companies Ordinance”), five types of companies can be formed: (1) private companies limited by shares; (2) public companies limited by shares; (3) companies limited by guarantee without a share capital; (4) private unlimited companies with a share capital; and (5) public unlimited companies with a share capital. Except for companies limited by guarantee without a share capital, a Hong Kong company typically comprises of shareholders, board of directors (the board), senior management and employees. Shareholders are owners of the company whose interest is directly protected and managed by the board. Normally, the board delegates its day-to-day management responsibilities, from business operations to personnel management, to the senior management.
Below is a table summarizing the number of shareholders and directors required for companies limited by share capital:
Private companies limited by shares
One (1) natural director (i.e. an individual) who must not also be the company secretary.
No maximum number of directors, but can be restricted by a company in its articles of association.
Private unlimited companies with a share capital
Public companies limited by shares
Nil (25% of the total number of issued shares of a listed company must be held by retail investors (i.e. the public)).
Two (2) directors, one of whom may also be the company secretary, but must not be a body corporate.
Public unlimited companies with a share capital
A private company can have corporate or natural directors (i.e. an individual) with a minimum of one natural director. Public companies and private companies which are members of a group of companies of which a listed company is a member, however, are not allowed to appoint body corporates as directors so as to ensure transparency and accountability. Public companies normally have executive and non-executive directors, and in particular, listed companies must have at least three independent non-executive directors. The law does not limit the maximum number of directors, but this can be restricted by a company in its articles of association.
Who are the key corporate actors (e.g., the governing body, management, shareholders and other key constituencies) and what are their primary roles? How are responsibilities divided between the governing body and management?
Various parties involved in the management and operation of a company play roles, to a greater or lesser extent, in ensuring good corporate governance practices. These parties range from shareholders, the board, senior management, company secretary and auditors.
- Shareholders: As the owners of a company, shareholders have to make sure decisions made are in their and the company’s best interests. Shareholders are required to hold annual general meeting (“AGM”) or pass resolutions to determine material decisions such as the appointment and removal of directors and auditors, the variation of rights of different classes of shares, the consideration and approval of the accounts, reports of the directors and auditors and other documents annexed to the accounts, and the declaration of final dividends issued out of a company’s distributable profits. These may be prescribed by the articles of association of the company.
- The Board: The board generally bear the ultimate responsibility to manage and supervise the company and to protect the interests of shareholders. All decisions made by directors should pass through the board at meetings held with the necessary quorum. The board and the company’s senior management are closely tied to each other but the board will usually delegate some of its powers to the senior management and appoint executives to manage the day-to-day business operations.
- Senior Management: Senior management is formed by executives responsible for managing different functions of a company. Chief executive officer (CEO) is responsible for setting forth the strategic direction of a company whereas chief operations officer (COO) and chief financial officer (CFO) are responsible for operational and financial controls respectively. Other functions include human resources management, risk management and information technology management. Subject to the nature of a company, executives may also be appointed to manage the business functions of a company.
- The Company Secretary: The company secretary is responsible for ensuring a smooth operation of a company and compliance of relevant regulations and procedures. The company secretary is responsible for maintaining the corporate registers and other corporate records of the company and preparing documents and filings with the Hong Kong Registrar of Companies (“Companies Registry”). The company secretary is also responsible for attending meetings and general meetings and keeping a record of the minutes.
- External Auditors and Internal Audit System: External auditors appointed at AGM must be certified public accountants qualified to be appointed under the Professional Accountants Ordinance (Chapter 50 of the Laws of Hong Kong). Internal audit function is not required for private companies but sizeable companies often conduct internal review on compliance and audit, whereas listed companies are required to establish an internal audit function, and if not, to review the need for one on an annual basis and to disclose the reasons for its absence in the companies’ Corporate Governance Report (paragraph C.2.5 of the Corporate Governance Code [as defined below]).
What are the sources of corporate governance requirements?
The corporate governance requirements in Hong Kong are not set out in one single document but scattered in many laws, rules, regulations, codes and guidelines. The primary statute that governs entities formed and registered as companies is the Companies Ordinance and the Companies (Winding Up and Miscellaneous Provisions) Ordinance (Chapter 32 of the laws of Hong Kong) (“C(WUMP)O”). Listed companies are also subject to the non-statutory Rules governing the Listing of Securities on the Stock Exchange of Hong Kong Limited in respect of listing on the Main Board (“Main Board Listing Rules”) and Growth Enterprise Market, a platform for growth companies that do not fulfill the profitability or track record requirements for the Main Board (“GEM Board”) (“GEM Listing Rules”) (together with the Main Board Listing Rules, “Listing Rules”). Some of the major codes prescribed under the Listing Rules include the Corporate Governance Code and Corporate Governance Report set forth in Appendix 14 of the Main Board Listing Rules and Appendix 15 of the GEM Listing Rules (“Corporate Governance Code”), the Model Code for Securities Transactions by Directors of Listed Issuers set forth in Appendix 10 of the Main Board Listing Rules, and the Environmental, Social and Governance Reporting Guide set forth in Appendix 27 of the Main Board Listing Rules and Appendix 20 of the GEM Listing Rules.
The Securities and Futures Commission (“SFC”) is one of the financial regulators in Hong Kong responsible for regulating the securities and futures market with licensing, investigative and disciplinary powers. Listed companies are therefore also required to comply with the Securities and Futures Ordinance (Chapter 571 of the laws of Hong Kong) (“SFO”) and other codes published by the SFC including but not limited to the Guidelines on Disclosure of Inside Information. Pursuant to Part XV of the SFO, substantial shareholders, directors and chief executives of a listed company are required to disclose their interests in the listed company upon the occurrence of certain events or the entering of certain types of transactions such as the acquisition of interest. This will be further discussed in Question 16.
Other than general corporate governance requirements, a number of non-statutory guidelines have also been published for directors who form the governing body of a company, including A Guide on Directors’ Duties published by the Companies Registry, the Director’s Handbook published by the Stock Exchange of Hong Kong Limited (“Hong Kong Stock Exchange”), and the Guidelines for Directors and the Guide for Independent Non-Executive Directors, and Guidelines on Corporate Governance for SMEs in Hong Kong published by the Institute of Directors in Hong Kong.
Aside from the above external sources of corporate governance requirements, private and public companies should always pay attention to its own constitutional documents, i.e. articles of association.
What is the purpose of a company?
The predecessor Companies Ordinance required the memorandum of association adopted by a company to contain an object clause. Such requirement was abolished when the existing Companies Ordinance came into effect on March 3, 2014.
Is the typical governing body a single board or comprised of more than one board?
Unlike other common law jurisdictions, companies incorporated under the Companies Ordinance are required to have a unitary board structure. The board will consist of all the directors of the company including executive and non-executive directors, which bear the ultimate responsibility to manage and supervise the company and to protect the interests of shareholders. All decisions made by directors should pass through the board at meetings held with the necessary quorum. The board and the company’s senior management are closely tied to each other but the board will usually delegate some of its powers to the senior management and appoint executives to manage the day-to-day business operations.
How are members of the governing body appointed and removed from service?
The appointment and removal of directors is pursuant to the Companies Ordinance and the articles of association of a company. For listed companies, rules in relation to disclosure and announcement should also be complied with.
- Appointment of the Directors: The selection and appointment process of directors is not provided by the Companies Ordinance, but subject to the provisions of the articles of association. Table A in Schedule 1 to the predecessor Companies Ordinance (then Chapter 32 of the laws of Hong Kong) stipulates the appointment of first directors by at least a majority of founding shareholders (Clause 77), and thereafter, as provided by the Model Articles of Association prescribed in Schedule 2 to the Companies (Model Articles) Notice (Chapter 622H of the laws of Hong Kong) (“Model Articles”), by an ordinary resolution, or by a decision of the board if such appointment is only made to fill a casual vacancy or to reach the minimum number of directors (Article 22). The right to appoint directors may also be given contractually. In some share subscription transactions, a shareholders’ agreement may be entered into by the parties as one of the transaction documents to give the share subscriber right to nominate directors by giving notice to the share issuance company.
- Removal of the Directors: A director may be removed by an ordinary resolution at a general meeting, but not in writing, before the end of his term of office (sections 462(1), 548(6) of the Companies Ordinance), with a special notice given by the shareholder proposing this resolution to the company and the other shareholders at least 28 days before the general meeting (“Special Notice”), and if not practicable, to the other shareholders at least 14 days before the general meeting (sections 462(4), 578 of the Companies Ordinance).
If the company is a listed company, it shall, pursuant to the Corporate Governance Code, adopt a formal and transparent procedure for the appointment of new directors. For instance, non-executive directors should be appointed for a specific term, subject to re-election (paragraph A.4.1 of the Corporate Governance Code), and every director, including those appointed for a specific term, should be subject to retirement by rotation at least once every three years (paragraph A.4.2 of the Corporate Governance Code). If an independent non-executive director has served on the board for more than 9 years, justification of further appointment should be given by the board to the shareholders (paragraph A.4.3 of the Corporate Governance Code).
A listed company is also subject to disclosure requirements for any appointment and removal of directors. According to rule 13.51 of the Main Board Listing Rules and rule 17.50 of the GEM Listing Rules, the company shall, as soon as practicable, publish an announcement regarding any changes in its directorate and according to rule 2.07C of the Main Board Listing Rules, submit to the Hong Kong Stock Exchange through the HKEx-EPS a ready-to-publish electronic copy of the document for publication on the Hong Kong Stock Exchange’s website. Moreover, when appointing a new director, the company shall procure him/her to sign and lodge with the Hong Kong Stock Exchange as soon as practicable after his/her appointment a declaration and undertaking in the form set out in the Listing Rules, with his/her details, including, but not limited to, his/her full name, positions held with the company or other members of the company’s group and experience as directors of public companies in the last three years and other major appointments and professional qualifies, in the announcement; and when removing a director, the company must disclose in the announcement the reason(s) of removal such as his/her disagreement with the board (rule 13.51(2) of the Main Board Listing Rules; rule 17.50(2) of the GEM Listing Rules).
Who typically serves on the governing body and are there requirements that govern board composition or impose qualifications for directors regarding independence, diversity or succession?
Although the Companies Ordinance does not set out any requirement in respect of board composition, the Corporate Governance Code requires the board of a listed company to have a balance of skills, experience and diversity to fit the business needs of the company. A listed company should maintain a balanced composition of executive, non-executive directors and independent non-executive directors so that the board has a stronger level of independence (paragraph A.3 of the Corporate Governance Code). Board diversity here is made up of numerous elements including but not limited to the directors’ gender, age, cultural and educational background, or professional experience, subject to the circumstances of each company.
- Independence: Independence is of utmost importance to some of the board committees. Rule 3.13 of the Main Board Listing Rules and rule 5.09 of the GEM Listing Rules set out factors that will be taken into account by the Hong Kong Stock Exchange when determining independence. For instance, independence is more likely to be questioned if the director holds more than 1% of the number of issued shares of the listed company, has received an interest in any securities of the listed company as a gift, or by means of other financial assistance, from a core connected person or the listed company itself, has a material interest in any principal business activity, or is involved in any material business dealings with the listed company, its holding company or their respective subsidiaries or with any core connected persons of the listed company, or when a non-executive director has served on the board for more than 9 years (paragraph A.4.3 of the Corporate Governance Code). Listed companies are also required to have at least three independent non-executive directors who represent at least one-third of the board (rules 3.10, 3.10A of the Main Board Listing Rules; rules 5.05, 5.05A of the GEM Listing Rules), and to establish an audit committee comprising non-executive directors only, with a majority of independent non-executive directors (rule 3.21 of the Main Board Listing Rules; rule 5.28 of the GEM Listing Rules). Similar provision is provided by the Corporate Governance Code where the nomination committee of the board is required to comprise a majority of independent non-executive directors (paragraph A.5.1 of the Corporate Governance Code).
- Qualification: Listed companies are required to have at least one independent non-executive director who possess appropriate professional qualifications or accounting or related financial management expertise. The Hong Kong Stock Exchange would expect such person to have experience with internal controls and in preparing or auditing comparable financial statements or experience reviewing or analyzing audited financial statements of public companies (rule 3.10 of the Main Board Listing Rules; rule 5.05 of the GEM Listing Rule).
- Succession: Every director of a listed company, including those appointed for a specific term, should be subject to retirement by rotation at least once every three years. For those directors appointed to fill a casual vacancy, they should be subject to election by shareholders at the first general meeting after appointment (A.4.2 of the Corporate Governance Code).
In July 2018, the Stock Exchange has announced certain amendments to the Listing Rules and the Corporate Governance Code with effect from January 1, 2019 (Hong Kong Stock Exchange, “Consultation Conclusions – Review of the Corporate Governance Code and Related Listing Rules”, July 2018). In particular, the nomination committee (or the board) will now be required to have a policy concerning diversity of the board members, and shall disclose the policy on diversity or a summary of the policy in the corporate governance report. The board is also required to explain how an individual contributes to the diversity of the board when the board proposes to elect an individual as an independent non-executive director at the general meeting.
What is the common approach to the leadership of the governing body?
The Corporate Governance Code provides that a board is usually led by a chairperson who is responsible for (1) managing the board by ensuring the board works effectively and performs its responsibilities, that all key and appropriate issues are discussed by it in a timely manner, that good corporate governance practice and procedures are established, and that the board acts in the best interests of the company; and (2) engaging the rest of the directors in the board by encouraging all directors to make a full and active contribution to the board’s affairs, ensuring that directors receive, in a timely manner, adequate information which must be accurate, clear, complete and reliable, and that all directors are properly briefed on issues arising at board meetings. However, the chairperson should not act as the chief executive of the listed company simultaneously unless a waiver has been sought from the Hong Kong Stock Exchange (paragraph A.2 of the Corporate Governance Code).
The Companies Ordinance does not require a board to appoint a chairperson, except in the case of a board meeting or a general meeting (section 586 of the Companies Ordinance).
What is the typical committee structure of the governing body?
The Listing Rules and the Corporate Governance Code require all listed companies to form audit committee, remuneration committee and nomination committee (rules 3.21, 3.25 of the Main Board Listing Rules; rules 5.28, 5.34 of the GEM Listing Rules; paragraph A.5.1 of the Corporate Governance Code). Paragraph D.2 of the Corporate Governance Code requires listed companies to form board committees, including but not limited to, remuneration committee, nomination committee, audit committee and risk committee, with specific written terms of their authority and duties. Each of the committees is responsible for determining different types of policy as follows.
- Remuneration Committee: Responsible for determining the policy in relation to the remuneration of executive directors, assessing performance of executive directors and approving the terms of executive directors’ service contracts.
- Nomination Committee: Responsible for determining the policy for nominating directors, reviewing the structure, size and composition (including the skills, knowledge and experience) of the board, and identifying individuals suitably qualified to become board members and selecting and recommending candidates for directorship. If the nomination committee has a policy concerning diversity, the nomination committee should also determine any measurable objectives set for implementing the policy, and progress on achieving those objectives.
- Audit Committee: Responsible for reviewing the quarterly (if relevant), half-yearly and annual financial results, of the company, as well as the risk management and internal control systems and the effectiveness of internal audit function of the company, if they are not addressed by separate risk committee.
- Risk Committee: Responsible for reviewing the company’s risk management and internal control systems and the effectiveness of its internal audit function.
How are members of the governing body compensated?
Directors are usually given monetary and non-monetary compensation for their services. Directors may be granted options of new shares and new securities as non-monetary compensation, and if they are directors of a listed company, shareholders’ approval has to be obtained and certain requirements have to be satisfied pursuant to rules 17.03, 17.04(1) of the Main Board Listing Rules and rules 23.03, 23.04(1) of the GEM Listing Rules. In other scenarios, directors’ emolument is not necessarily required to be approved by the shareholders under the Companies Ordinance, but the Model Articles provides that emoluments of the directors’ qualifying services, which may take any form, shall be determined by the company at a general meeting (Article 28). If the company is a listed company, formal and transparent procedure has to be adopted when setting policy on executive directors’ remuneration and all directors’ remuneration packages, and when reviewing and approving remuneration proposal. Paragraph B.1.1 of the Corporate Governance Code also requires the remuneration committee of a company to consult the chairman of the board and/or the chief executive officer about the remuneration proposals for other executive directors, and if necessary, seek independent professional advice.
As required by section 383 of the Companies Ordinance, when preparing financial statements, a company should disclose in the notes to the financial statements, the information prescribed by Companies (Disclosure of Information about Benefits of Directors) Regulation (Chapter 622G of the laws of Hong Kong), including but not limited to the aggregate amount of the emoluments paid to or receivable by the directors in respect of their qualifying services, and if any such emoluments consist of a benefit otherwise than in cash, the nature of that benefit, and the aggregate amount of the payments or benefits in respect of the termination of directors’ services made or provided to or receivable by the directors or former directors of the company.
Are fiduciary duties owed by members of the governing body and to whom are they owed?
As prescribed by common law, the Companies Ordinance, A Guide on Directors’ Duties and the Director’s Handbook, directors of a Hong Kong company owe common law fiduciary duties and statutory duty of care, skill and diligence to the company as a whole, its shareholders and to a lesser degree, parties like employees and creditors (especially when the company is insolvent and the shareholders have no remaining financial interest). A Guide on Directors’ Duties sets out the following 11 general principles of duties expected of a director:
- Duty to act in good faith for the benefit of the company as a whole;
- Duty to use powers for a proper purpose for the benefit of members as a whole;
- Duty not to delegate powers except with proper authorization and duty to exercise independent judgement;
- Duty to exercise care, skill and diligence [Note: a director is required by section 465 of the Companies Ordinance to exercise reasonable care, skill and diligence determined objectively by the general knowledge, skill and experience that may reasonably be expected of a person carrying out the functions of a director, and subjectively by the general knowledge, skill and experience that the director has];
- Duty to avoid conflicts between personal interests and interests of the company;
- Duty not to enter into transactions in which the directors have an interest except in compliance with the requirements of the law;
- Duty not to gain advantage from use of position as a director;
- Duty not to make unauthorized use of company’s property or information;
- Duty not to accept personal benefit from third parties conferred because of position as a director;
- Duty to observe the company’s constitution and resolutions; and
- Duty to keep accounting records.
The Director’s Handbook published by the Hong Kong Stock Exchange requires directors to adhere to duties of a similar nature when performing their functions. Different from A Guide on Directors’ Duties, the Director’s Handbook also require directors of a listed company to be answerable to the company for the application or misapplication of its assets and to disclose fully and fairly his interests in contracts with any company within the group which the company belongs to.
Do members of the governing body have potential personal liability? If so, what are the key means for protecting against such potential liability?
Directors may incur civil and criminal liabilities if they have breached (or threatened to breach) statutory, common law or equitable principles of directors’ duties. If the directors of a company engage in improper acts such as making secret profits from transactions, diverting or usurping corporate opportunities, misappropriating company’s assets and exercising directorate power for improper purposes, the shareholders may bring a claim against the wrongdoing director by common law or the Companies Ordinance if they can demonstrate that they have suffered losses. The Companies Ordinance permits the shareholders of a company to present a petition to the Court of First Instance in Hong Kong if the company’s affairs have been conducted in a manner unfairly prejudicial to the interests of the shareholders generally or of one or more shareholders (sections 724, 725 of the Companies Ordinance).
To protect directors against potential liability, directors are advisable to declare their interests before making any corporate decisions, and keep in mind their obligations to comply with the fiduciary duties. Companies should also provide trainings to directors from time to time to clarify the statutory and common law duty of care, skill and diligence with a view to provide clear guidance to directors, and more prudently, take out insurance of its directors or directors against the damages that may arise from liability in connection with any negligence, default, breach of duty or breach of trust in relation to the company and the legal costs that may incur in defending the directors in any civil and criminal proceedings (section 468(4) of the Companies Ordinance). Pursuant to the Corporate Governance Code, listed companies should arrange appropriate insurance cover in respect of legal action against its directors (paragraph A.1.8 of the Corporate Governance Code).
How are managers typically compensated?
This varies from one company to another but managers are typically compensated by salary, bonus and even stock options. For listed companies, the remuneration policy and proposals of management is usually reviewed and approved by the remuneration committee of the board with reference to corporate goals and objectives. The remuneration committee would also make recommendations to the board on the remuneration packages. Similar to directors, chief executive of listed companies may be granted options of new shares and new securities as non-monetary compensation upon obtaining shareholders’ approval and satisfying certain conditions under the Listing Rules (rules 17.03, 17.04(1) of the Main Board Listing Rules; rules 23.03, 23.04(1) of the GEM Listing Rules).
How are members of management typically evaluated?
This varies from one company to another based on the internal policies of a particular company. Senior management and executives often report to the board so their performance will usually be evaluated by the board on a periodic basis.
Do members of management typically serve on the governing body?
Members of management are not prohibited from serving on the board. However, unless a waiver is obtained from the Hong Kong Stock Exchange, the roles of chairman and chief executive of a listed company should not be performed by the same individual, and there should be a clear division of responsibilities to ensure a balance of power and authority, so that power is not concentrated in any one individual (paragraph A.2.1 of the Corporate Governance Code).
What are the required corporate disclosures, and how are they communicated?
All companies are required to make certain specified disclosures to the Companies Registry. Companies are required to, in respect of every year except the year of incorporation, deliver its Annual Return (which contains particulars such as the address of registered office, details of shareholders, directors and company secretary) to the Companies Registry for registration within 42 days after the anniversary of the date of the company’s incorporation in that year (section 662 of the Companies Ordinance). Between the filings of annual return, companies are required to inform the Companies Registry upon the occurrence of certain events such as change of directors, allotment and issuance of shares and alteration of articles of association, within the period prescribed by the Companies Ordinance. On top of the above, a company must make its company records, including any register, index (such as index of shareholders’ names), agreement, memorandum, minutes or other documents but does not include accounting records, available for inspection by any person entitled to inspect those records under a relevant provision, during business hours. Pursuant to the Company Records (Inspection and Provision of Copies) Regulation (Chapter 622I of the laws of Hong Kong), the Court of First Instance may make an order to compel any non-compliant company to permit an immediate inspection by the person of the company records concerned at the time, for the duration and in the manner prescribed by the Court.
Listed companies and their corporate actors are subject to more disclosure obligations. Listed companies are required to disclose their annual report which contains discussion and analysis of the group’s performance, inside information, financial statements, half-yearly report and for companies listed on the GEM Board, also quarterly report. When a listed company entered into certain types of transactions, for instance, notifiable transactions classified according to the size of the transaction using five different percentage ratios (Chapter 14 of the Main Board Listing Rules and Chapter 19 of the GEM Listing Rules), and connected transaction entered into with connected persons such as directors, substantial shareholders, their associates and subsidiaries of the listed company (Chapter 14A of the Main Board Listing Rules and Chapter 20 of the GEM Listing Rules), it is required to submit to the Hong Kong Stock Exchange a size tests checklist in respect of the transactions, and to disclose the transaction details by way of an announcement and/or a circular and submit to the Hong Kong Stock Exchange through HKEx-EPS a ready-to-publish electronic copy of the document for publication on the Hong Kong Stock Exchange’s website.
Upon the occurrence of certain types of events, substantial shareholders of a listed company are also required by the SFO to disclose their interests, and short positions, in any voting shares of a listed company, and for directors and chief executives, to disclose their interests, and short positions, in any shares in a listed company (or any of its associated corporations) and their interests in any debentures of the listed company (or any of its associated corporations), by completing relevant Forms for Filing Disclosure of Interests (“DI Forms”). Completed DI Forms shall be submitted via an electronic filing systems and the disclosure information will be published on the Hong Kong Stock Exchange website under “Shareholdings Disclosure”.
How do the governing body and the equity holders of the company communicate or otherwise engage with one another?
The board and the shareholders of a company should communicate with each other from time to time, and if not practicable, at the AGM of the company. At other times, the board should make corporate records and minutes of a company available for shareholders’ inspection, and provide audited accounts comprising of the financial statements, reports of the directors and auditors for shareholders to review prior to the AGM and to approve at the AGM.
Are dual or multi-class capital structures permitted and how common are they?
There is no restriction on dual or multi-class capital structures for private companies but listing applicants have long been required to adhere to the principle of proportionality between the voting power and equity interest of shareholders, which is commonly known as the “one-share, one-vote” principle.
There has been heated debate in Hong Kong over the past few years as to whether dual or multi-class capital structure should be permitted for companies planning to go public. In 2014, Alibaba Group, one of the tech giants in China, picked New York over Hong Kong for its initial public offering partly because multi-class capital structure for listed companies was banned in Hong Kong. After years of discussion, the Stock Exchange has, in April 2018, announced to amend the Main Board Listing Rules permitting listing applicants to deviate from the classic one-share, one-vote principle, which took effect on April 30, 2018 (Hong Kong Stock Exchange, “Consultation Conclusions – A Listing Regime for Companies from Emerging and Innovative Sectors”, April 2018). Listing applicants now seeking to elect dual or multi-class capital structures are expected to comply with the Main Board Listing Rules and in particular, the recently-introduced Chapter 8A of the Main Board Listing Rules. Chapter 8A provides that any listing applicant is required “to demonstrate the necessary characteristics of innovation and growth and demonstrate the contribution of their proposed beneficiaries of weighted voting rights to be eligible and suitable for listing with a WVR [weighted voting rights] structure as set out in guidance published on the [Hong Kong Stock] Exchange website and amended from time-to-time.” Listing applicant seeking to list with a weighted voting right structure should also ensure that “all holders of listed securities are treated fairly and all holders of listed securities of the same class are treated equally”.
The change of rules is definitely an advantage for companies that have shares with different voting rights, including some of the global leading and most influential technology companies. Xiaomi Corp (HKEx stock code: 1810), one of the world’s leading technology company and mobile devices manufacturer, listed in Hong Kong in July 2018 as the first listed company in Hong Kong with weighted voting rights. The second one is Meituan Dianping (HKEx stock code: 3690), a food delivery service platform in China. The company was listed on the Hong Kong Stock Exchange in September 2018 with a market capitalization of about HK$400 billion (US$51 billion).
What percentage of public equity is held by institutional investors versus retail investors?
When a company goes public, the Hong Kong Stock Exchange requires at least 25% of the company’s total number of issued shares to be held by the public, including but not limited to retail investors, at all times so as to maintain an open market in its securities. If the listing applicant has more than one classes of securities apart from the class of securities for which listing is sought, so long as the total securities of the listing applicant held by the public at the time of listing is at least 25%, the class of securities sought to be listed can be not less than 15% of the listing applicant’s total number of issued shares, if the expected market capitalization at the time of listing of is not less than HK$125,000,000 for companies seeking to list on the Main Board, and HK$45,000,000 for companies seeking to list on the GEM Board (rule 8.08 of the Main Board Listing Rules and rule 11.23 of the GEM Listing Rules). For companies seeking to list on the GEM Board, the Hong Kong Stock Exchange may, at its discretion, accept a lower percentage of between 15% and 25% in case the company has an expected market capitalization at the time of listing of over HK$10,000,000,000, and the Hong Kong Stock Exchange is satisfied that the number of securities concerned and the extent of their distribution would enable the market to operate properly with a lower percentage (rule 11.23 of the GEM Listing Rules).
What matters are subject to approval by the shareholders and what are the typical quorum requirements and approval standards? How do shareholders approve matters (e.g., voted at a meeting, written consent)?
Shareholders are allowed to make decisions by an ordinary resolution (a simple majority vote, i.e., voted by more than 50% of shareholders present at a shareholders’ meeting) or a special resolution (a not less than 75% majority vote by shareholders present at a shareholders’ meeting). While the day-to-day management of a company’s affairs vests in the board, the articles of association of a company may reserve power for the shareholders to direct the directors to take or refrain from taking specified action by special resolution. The Companies Ordinance and the C(WUMP)O prescribes certain powers that are specifically given to the shareholders, including:
- to change the company’s name by a special resolution (section 107 of the Companies Ordinance);
- to alter the articles of association or objects by a special resolution (section 88-89 of the Companies Ordinance);
- to alter the articles of association in respect of the maximum number of shares a company can issue by ordinary resolution; (section 88 of the Companies Ordinance)
- to approve non-pro rata allotment of shares by an ordinary resolution (section 141 of the Companies Ordinance);
- to authorise a reduction of share capital by a special resolution (section 226 of the Companies Ordinance);
- to remove directors prior to the expiration of their term of office by an ordinary resolution requiring Special Notice (section 462 of the Companies Ordinance);
- to remove auditors prior to the expiration of their term of office by an ordinary resolution requiring Special Notice (section 419 of the Companies Ordinance);
- to authorise a company to purchase its own shares out of capital by a special resolution (section 260 of the Companies Ordinance);
- to give financial assistance in connection with the acquisition of the company’s shares by an ordinary resolution or by unanimous shareholders’ approval subject to certain prescribed procedures (sections 284, 285 of the Companies Ordinance); and
- to voluntarily wind up a company by a special resolution pursuant to the C(WUMP)O (section 228 of C(WUMP)O).
The aforesaid matters are usually dealt with in the AGM or in general meetings which can be convened by way of a physical meeting, a telephone or video conference, or by appointing a proxy if a shareholder cannot attend in person (section 584 of the Companies Ordinance). Unless the articles of association provide otherwise, two members present or by proxy shall be a quorum, and in a one-member company, one member present in person or by proxy shall be a quorum (section 585 of the Companies Ordinance). During the meeting, shareholders are allowed to vote on one or more resolutions on show of hands, a demand on poll, or by way of proxy (section 588 of the Companies Ordinance).
For listed companies, shareholders’ approval at a general meeting may be required for notifiable transactions under Chapter 14 of the Main Board Listing Rules and Chapter 19 of the GEM Listing Rules depending on the category of the notifiable transaction. Any shareholder and his close associates must abstain from voting if such shareholder has a material interest in the transaction (rule 14.33 of the Main Board Listing Rules; rule 19.33 of the GEM Listing Rules). Connected transactions under Chapter 14A of the Main Board Listing Rules and Chapter 20 of the GEM Listing Rules must be conditional on shareholders’ approval at a general meeting held by the listed company. Any shareholder who has a material interest in the transaction must also abstain from voting on the resolution (rule 14A.36 of the Main Board Listing Rules; rule 20.34 of the GEM Listing Rules).
In a typical shareholders’ agreement, each existing shareholder prior to the share subscription may be required to procure others and the company to ensure prior written consent of a particular shareholder is obtained before the completion of a certain type of transaction. For matters that require approval by an ordinary resolution or a special resolution, the vote of a particular shareholder in favour of such resolution may also be required. In some cases where one or more minority shareholders are also parties to the shareholders’ agreement, they may be given power, by rotation, to appoint and maintain in office a director for a certain percentage of the total issued shares that the minority shareholders hold in aggregate, and veto rights against certain reserved matters.
Are shareholder proposals permitted and what requirements must be met for shareholders to make a proposal?
Shareholders of a company have the power to make proposal by way of a written resolution or as a resolution to be moved at general meetings. Section 551 of the Companies Ordinance provides that if a resolution that may properly be moved is proposed by a shareholder as a written resolution, the shareholder may request the company to circulate that resolution with one statement of not more than 1,000 words on the subject matter of the resolution. On the other hand, section 576 of the Companies Ordinance provides that if the shareholder would like a resolution to be moved at the AGM or any general meeting, the shareholder may propose to have the notice of the resolution included in the notice of the AGM or general meeting which is to be given at least 21 days before the AGM, and at least 14 days before any general meetings of a limited company.
May shareholders call special meetings or act by written consent?
Pursuant to section 569 of the Companies Ordinance, unless otherwise provided by the articles of association of a company, any two or more shareholders representing at least 10% of the total voting rights of all the shareholders having a right to vote at general meetings, may convene a general meeting if the directors fail to convene general meetings or if there are not sufficient or even no directors.
Section 548 of the Companies Ordinance allows anything that may be done by a resolution passed at a general meeting of a company, including those matters that require an ordinary resolution or a special resolution under the Companies Ordinance, to be done, without a meeting and without any previous notice, by a written resolution of the shareholders so long as all documents required to be laid at the AGM are provided to the shareholders on or before the circulation date of the written resolution (section 612 of the Companies Ordinance). Nonetheless, this provision does not apply to a resolution on the removal of an auditor or a director before the end of the auditor’s or the director’s term of office.
Is shareholder activism common and what are the recent trends?
Shareholder activism is not common in Hong Kong because there is no class action system that allows one or more named plaintiffs to lodge a claim on behalf of a “class” of people who claim to have suffered a common injury. Although the Law Reform Commission of Hong Kong published a report in May 2012 proposing the introduction of a mechanism for class actions in Hong Kong, no actual timetable has been introduced by the government. Nevertheless, there are signs of rise in shareholders activism in recent years. Regulators such as the Hong Kong Stock Exchange has taken steps to reform regulations to protect minority shareholders. On May 4, 2018, the Stock Exchange announced amendment to the Listing Rules (Hong Kong Stock Exchange, “Consultation Conclusions – Capital Raisings by Listed Issuers”, May 2018) which are “aimed at restricting abusive practices relating to capital raisings by listed issuers [listing applicants] and protecting the interests of minority shareholders” and upholding “fair and equal treatment of all shareholders”. Some of the changes include requiring minority shareholders’ approval for all open offers, unless the new shares are to be issued under the authority of an existing general mandate and requiring listing applicants to disregard any excess applications made by the controlling shareholders and their associates in excess of the offer size minus their pro-rata entitlements.
What is the role of shareholders in electing the governing body?
Please refer to Question 6 of this Guide.
Are shareholder meetings required to be held annually or otherwise, and what information needs to be presented?
An AGM is helpful for maintaining good corporate governance because it provides the shareholders an opportunity to question the directors and management, and handle various types of corporate matters, including without limitation to the appointment or removal of auditors (sections 396 & 419 of the Companies Ordinance) and directors (sections 460 & 462 of the Companies Ordinance), as well as the approval of financial statements (section 429 of the Companies Ordinance).
Pursuant to section 610 of the Companies Ordinance, every private company is required to be hold AGM each year nine months after the end of its accounting reference period to which the financial year is to be determined, and for other companies, six months. If the accounting reference period is the company’s first such period and is longer than 12 months, a private company must hold the AGM nine months after the anniversary of the company’s incorporation or 3 months after the end of that accounting reference period, and in the case of other companies, 6 months and 3 months respectively. However, a company may dispense with the requirement of AGM by way of a resolution passed by all shareholders who are entitled to vote (section 613 of the Companies Ordinance). If the company fails to hold the AGM which has not been dispensed with within the specified periods, any shareholder can apply to the court to call the AGM.
According to paragraph E.1 of the Corporate Governance Code, a listed company should hold AGMs or other general meetings to allow communication between the board and the shareholders. An AGM is usually held to approve the audited financial statements and the reports of the directors and auditors, the final dividend and any bonus issue of shares, directors’ emoluments and so on. The chairperson of the board should attend the AGM and should also invite the chairpersons of the audit committee, remuneration committee, nomination committee and any other committees to attend. Pursuant to the Listing Rules, a listed company should arrange for the notice to shareholders on AGMs to be sent at least 20 clear business days before the meeting and to be sent at least 10 clear business days for all other general meetings. Where such notice is published in the newspapers, it must be of a size of not less than 8 centimeters by 10 centimeters (three inches by four inches approximately) (rule 13.37 of the Main Board Listing Rules), and must state that the notice is available for viewing on the Hong Kong Stock Exchange’s website and the listed company’s own website with details as to where on these websites such notice can be found (rule 2.07C of the Main Board Listing Rules).
Do any organizations advise or counsel shareholders on whether to approve matters?
For certain types of transactions, the circular to be despatched to shareholders may include letters from the board providing recommendation as to how to vote, which is usually based on advice from financial advisors.
What role do other stakeholders, including debt holders, employees, suppliers and customers and the government, typically play in the corporate governance of a company?
Apart from the governing body and shareholders, other stakeholders of a company also contribute to the long-term performance and sustainability of the company and shareholder value. The OECD (Organisation for Economic Co-operation and Development) Principles of Corporate Governance (2015) states that, “the competitiveness and ultimate success of a corporation is the result of teamwork that embodies contributions from a range of different resource providers including investors, employees, creditors, customers and suppliers, and other stakeholders. Corporations should recognise that the contributions of stakeholders constitute a valuable resource for building competitive and profitable companies. It is, therefore, in the long-term interest of corporations to foster wealth-creating co-operation among stakeholders. The governance framework should recognise the interests of stakeholders and their contribution to the long-term success of the corporation.” It is therefore in the best interest of the company to consider the views, needs and expectations of the stakeholders when making business decisions.
- Government and regulators: Hong Kong adopts a “top-down” approach where the government and regulators such as the Hong Kong Stock Exchange and the SFC provide most of the initiatives in regulating corporate governance and improving corporate governance standards. For instance, the Hong Kong Stock Exchange announcement on May 4, 2018 regarding the amendment of Listing Rules provides an avenue for minority shareholders to step up after years-long advocacy in Hong Kong (please refer to Question 23). After the amendment, unless the new shares are to be issued under the authority of an existing general mandate, minority shareholders’ approval is required for all open offers. Listing applicants are also required to disregard any excess applications made by the controlling shareholders and their associates in excess of the offer size minus their pro-rata entitlements.
- Creditors: Agreements entered into between the company and the creditors often disallow transactions that may jeopardize the interest of creditors, and may provide creditors with veto rights against transactions of over a certain amount. If a company disregards those relevant clauses when making certain decisions, an event of default may occur resulting in a creditor’s demand of full repayment before the due date. A company should therefore take into account the undertakings to creditors especially when it comes to making a potential large-sum transaction.
- Employees: A company generally provides employees with employee handbooks and trainings which require employees to fulfill compliance obligations, and may even set up a whistleblower policy for employees to report corruption and/or other misbehaviors within the company. With a good corporate governance system, employees will have a stable and healthy work environment where they can focus on providing quality work. In some companies that provide employee share option scheme or permit employee representation in the board, employees may take a more active role in the corporate governance of the company.
- Suppliers and customers: Long-term supplier and customer relationship is of vital importance to the sustainability of a company. Good corporate governance system allows a company to make timely payment to suppliers and timely delivery of quality products to customers. To enhance the communication between the company and suppliers and/or customers, the departments responsible for dealing with suppliers or customers should constantly conduct interview with them and provide them with an effective channel of complaint.
What consideration is given to environmental and social issues, including climate change, sustainability and product safety issues, and are there any legal disclosure obligations regarding the same?
Although there is no law imposing corporate social responsibility obligation on Hong Kong companies, companies, in particular public companies, are often encouraged to consider the environmental and social aspects when making corporate decisions. Listed companies are required to publish Environmental, Social and Governance Report (“ESG Report”) every year just as they are required to publish annual reports. When preparing the ESG Report, they are required to comply with the Environmental, Social and Governance Reporting Guide (“Guide”) set forth in Appendix 27 of the Main Board Listing Rules and Appendix 20 of the GEM Listing Rules. Under the Guide, a listed company must report on the “comply or explain” provisions, or provide reasons in its ESG Report if the company does not report on one or more of these provisions. It is also encouraged, but not required, to report on the recommended disclosures of the Guide. Some of the subject areas and aspects covered in the Guide include policies on the environment and natural resources, emissions, employment, health and safety work environment and prevention of occupational hazards, as well as development and training.
How are the interests of shareholders and other stakeholders factored into decisions of the governing body?
The board is expected to act in the best interest of the company and its shareholders. Shareholders, and employees who have subscribed for share option, will be given opportunities to voice out their opinions at the AGM. For other stakeholders which may not have the opportunity to directly communicate with the board, the senior management or executives responsible for a particular corporate function should actively obtain the views of the relevant stakeholders by means of periodic meetings and interviews. Although the board may have delegated the decision-making power of certain matters to committees and the senior management, they should always communicate with the function or personnel responsible to understand the needs of different stakeholders.
Do public companies typically provide earnings guidance on either a quarterly or annual basis?
Companies listed on the Main Board and GEM Board are subject to financial disclosure requirements. A company listed on the Main Board is required to provide to its shareholders, its annual report including its annual accounts and the consolidated financial statements (if any) not less than 21 days before its AGM and in any event not more than four months after the end of the financial year to which they relate, and an interim report in respect of the first six months of each financial year not later than three months after the end of that period of six months (Chapter 13 of the Main Board Listing Rules). On the other hand, a company listed on the GEM Board is required to provide annual report not more than 3 months after the date upon which the financial period ended, a preliminary announcement of results for each of the first 6 month of each financial year not later than 45 days after the end of such period, and a quarterly report in respect of each of the first 3 and 9 month periods of each financial year not later than 45 days after the end of such period (Chapter 17 of the GEM Listing Rules).
According to rule 13.05(2) of the Main Board Listing Rules, rule 17.06(2) of the GEM Listing Rules and section 307B of the SFO, listed companies and their directors are required to disclose inside information as soon as reasonably practicable after the information has come to the listed companies’ knowledge, and to simultaneously make an announcement on the information (rule 13.09(2)(a) of the Main Board Listing Rules; rule 17.10(2)(a) of the GEM Listing Rules). Listed companies are therefore, required to publish profit alert or profit warning announcements as soon as the directors are aware of the financial performance prior to the publication of the financial statements to the public, or otherwise, subject to sanctions by the SFC. On November 29, 2018, the SFC announced the commencement of proceedings in the Market Misconduct Tribunal against Health and Happiness (H&H) International Holdings Ltd (HKEx stock code: 1112) (“Health and Happiness”) for failing to disclose price sensitive information as soon as reasonably practicable. Health and Happiness was alleged to only disclose the deterioration of financial performance to the public until July 23, 2015 when the company and Luo Fei, the Chairman, Chief Executive Officer and Executive Director of Health and Happiness, have actually learned of the information from the consolidated management accounts of the company in mid-June 2015 (SFC, “SFC commences MMT proceedings against Health and Happiness (H&H) International Holdings Ltd and its Chairman for late disclosure of inside information”, November 29, 2018).
May public companies engage in share buybacks and under what circumstances?
In Hong Kong, companies are allowed to repurchase their own shares so long as they are in compliance with the Codes on Takeovers and Mergers and Share Buy-backs published by the SFC which aims to provide fair treatment to shareholders who are affected by the share buybacks. The Hong Kong Stock Exchange provides daily Share Repurchases Report on its website which provides details of share buybacks transactions including the name of the listed company, the number of securities purchased on that day and the securities purchased on the Hong Kong Stock Exchange in the year to date. Share buybacks are often commented as an indication that the current share price of a company is discounting its real earnings growth potential and will signal an upcoming market rebound. For instance, the Hang Seng Index has rebounded 29 percent over the next 12 months after the Index had fallen to the lowest in the past three years, following a jump in share buybacks in January 2016. As of July 2018, about 123 listed companies have sought to repurchase their shares from the Stock Exchange, as compared to 158 listed companies in the year of 2017 (Bloomberg, “Surging Hong Kong Stock Buybacks May Set Stage for Rebound”, July 26, 2018).
What do you believe will be the three most significant issues influencing corporate governance trends over the next two years?
Upcoming trends of corporate governance in Hong Kong is likely to be influenced by the following three regulatory and legislative changes.
- Permitting weighted-voting rights capital structure: The permission of weighted-voting rights capital structure in Hong Kong as mentioned in Question 18 is expected to bring significant impact to listing applicants, especially for those in the technology or innovative field where founders would wish to hold a class of share that enables them to retain control of the listed company.
- Tightening the independence requirement of non-executive director: The Hong Kong Stock Exchange has announced amendments to the Listing Rules with effect from January 1, 2019 to tighten the independence requirement of non-executive director (Hong Kong Stock Exchange, “Consultation Conclusions – Review of the Corporate Governance Code and Related Listing Rules”, July 2018). After the amendment, the level of independence of a director will be questioned if an individual or his/her immediate family member “is or was a director, partner or principal of a professional adviser which currently provides or has within two years [Note: as compared to the previous one year] immediately prior to the date of his proposed appointment provided services, or is or was an employee of such professional adviser who is or has been involved in providing such services during the same period”.
- Requiring the disclosure of country-by-country report: Pursuant to the standard formulated by the OECD, the Inland Revenue (Amendment) (No. 6) Ordinance 2018 gazetted on July 13, 2018 requires multinational enterprise group to file country-by-country reports if the group has constituent entities or operations in two or more jurisdictions, and where the consolidated group revenue for the preceding accounting period is at least EUR750 million (or HK$6.8 billion). By requiring multinational enterprise groups to disclose financial information relating to the global allocation of the income and the taxes paid, and a list of all the constituent entities for which financial information is reported, including the jurisdiction of incorporation of each of the constituent entities (if different from the tax jurisdiction of residence) and the main business activities carried out by that entity, the level of corporate transparency will be highly increased to prevent tax avoidance.