On 20 March 2015, the Hong Kong Court of Final Appeal (CFA) allowed the appeal by Pacific Sun Advisors Limited and its Chief Executive Officer, Mantel, Andrew Pieter (the Appellants), which effectively confirmed their earlier acquittal by the Magistrate of offences relating to the issuing of advertisements to promote a collective investment scheme1 (CIS) without the authorization of the Securities and Futures Commission (SFC) contrary to section 103 of the Securities and Futures Ordinance (SFO).

The CFA decision will affect how the SFC continues to regulate CIS as well as the issuance of advertisement regarding all investment products in general. Since it is not an offence to launch or sell a CIS that has not been authorised, the law attempts to protect the investing public by regulating the advertising of the investment products as distinct from their subsequent sale. The CFA decision is relevant in that it concerns the interpretation of an exclusion under section 103(3)(k) of the SFO which applies if the securities (or CIS) are or are intended to be disposed of only to professional investors2. This bulletin gives a summary of the CFA decision and its implication to businesses.

Background

In November 2011, a press release which announced the launch of a fund was sent by the Appellants via email to various recipients. The Appellants’ website also published three documents relating to the fund.

The fund constitutes a CIS. The press release and the documents published on the Appellants’ website constitute advertisements to the public. The advertisements did not expressly state that the CIS was only for professional investors and were not authorized by the SFC. The Appellants were charged by the SFC but were acquitted by the Magistrate, who found that the fund was or was intended to be available solely to professional investors and was not one for investment by the general public. As such, the exemption under section 103(3)(k) of the SFO applied.

The SFC appealed to a judge in the Court of First Instance who ruled in favour of the SFC. The judge ordered the matter to be remitted back to the Magistrate for re-trial. The Appellants appealed to the CFA against the judge’s decision.

Separately, the re-trial took place and the Appellants were convicted. The company was sentenced to a fine of HK$20,000 and Mr Mantel was sentenced to two concurrent terms of 4 weeks’ imprisonment suspended for 12 months. An application to appeal against conviction was made which was stayed pending the result of the appeal to the CFA.

The Arguments of the Parties and the Ruling of the CFA

The SFC contended that for exemption under section 103(3)(k) of the SFO to apply, the advertisement must expressly state that the investment product is or is intended to be disposed of only to professional investors. The SFC submitted that it was at the point of issue of the advertisement that the protection was required, as distinct from and prior to any actual sale activity. The SFC further submitted that this was consistent with the SFC’s duty to exercise regulatory oversight, by way of the grant of authorisation for the issue of an advertisement, to ensure that the contents of advertisements are accurate and not misleading so far as practicable.

The Appellants contended that the exemption applies if, as a matter of fact, the relevant investment product is or is intended to be sold only to professional investors. The Appellants submitted that the burden will be on the person issuing the advertisement to prove such fact, for example by proving that there is a screening process to exclude persons who are not professional investors.

The CFA ruled in favour of the Appellants and stated that:

  1. The presence of express wording in the advertisement might go towards satisfying the burden of establishing that the exemption applies, but the opposite by no means follows;
  2. The exemption cannot properly be claimed merely because an advertisement states that a particular investment product is intended only for professional investors; and
  3. The exemption goes to the substance of the investment and it is therefore necessary for a person claiming its benefit to demonstrate that the relevant investment is in fact intended solely for professional investors.

The ruling means that it is not a requirement under section 103(3)(k) of the SFO for advertisement be seen by its terms that it is confined to professional investors to the exclusion of other members of the investing public. Furthermore, the carrying out of a screening process to ensure that all investors investing in the CIS are professional investors is a fact (if established by evidence) relevant to the determination of the issue.

Comments

The CFA decision means advertisements of CIS can legally be issued to the general public without first obtaining authorisation from the SFC provided that the issuer only intends to sell them to professional investors. Given that offender of section 103(1) of the SFO is liable to a fine at level 6 and to imprisonment for 6 months, firms that want to rely on the exemption under section 103(3)(k) of the SFO must take extra care to document and evidence in great detail their intention to sell the investment to professional investors only. Independent legal advice should be obtained in case of any doubt.

It should however be noted that whether or not a firm is entitled to rely on the exemption is a question of fact which the firm has the burden of proof and which is to be ultimately answered by the Court. In practice, firms that decide not to seek authorisation from the SFC by taking advantage of the above position may face the risk of a full-blown investigation by the SFC. It is because the SFC would only be able to determine whether or not the exemption applies after such investigation.

A battle is lost as the CFA decision means unauthorized advertisement that may be unsuitable for retail investors can now be legally issued to the general public. The SFC has however stated that it would study the CFA decision to “determine whether there could be any proposal to amend section 103 of the SFO”.