Hong Kong has long been known as adopting a “light touch” approach to regulation. Nevertheless, Hong Kong’s principal financial regulator, the Securities and Futures Commission (“SFC”), has recently adopted a noticeably more robust approach aimed at ensuring that the territory maintains its reputation as one of Asia’s leading jurisdictions in respect of transparent and efficient flow of market information. This article summarises recent developments in what has been a very busy year for the regulator.
Seeking civil remedies in relation to insider trading
On 23 February 2012, Hong Kong's Court of Appeal overturned a first instance decision to strike out proceedings initiated by the SFC against a hedge fund, Tiger Asia Management LLC (“Tiger Asia”), and its officers and gave the SFC authority to pursue sanctions against Tiger Asia.
By way of background, section 213 of the Securities and Futures Ordinance (“SFO”) allows the Court, on the application of the SFC, to make a broad range of orders, including: (i) restraining orders, (ii) orders requiring restorative steps to be taken to put the parties to the transaction in the position in which they were before the transaction was entered into, (iii) the appointment of an administrator of property and (iv) declarations that contracts are void and any ancillary order the Court considers necessary. The SFC can use this paver where there has been a contravention of the SFO’s rules or where it appears that a contravention has occurred. Until recently, the SFC had not often invoked section 213.
The SFC commenced proceedings against Tiger Asia in August 2009, seeking remedial orders and an injunction in relation to allegations that the hedge fund broke Hong Kong’s insider-dealing and market-manipulation laws when it traded shares of Bank of China Ltd and China Construction Bank Corp. In particular, the SFC alleged that the hedge fund traded on inside information from bankers that were arranging share sales in the two Chinese banks.
In the Court of First Instance, Tiger Asia had argued that the Court had no jurisdiction under section 213 of the SFO without a pre-existing criminal conviction or determination by the Market Misconduct Tribunal (“MMT”). In overturning the lower court decision in favour of Tiger Asia, the Court of Appeal noted that section 213 "...provides valuable tools to the Commission to protect the investing public which is an important objective of the SFO..." and "...much needed ammunition to the Commission to protect investors."
The decision has substantially broadened the SFC’s existing powers as it confirms that the SFC can bypass criminal or MMT proceedings and apply directly for section 213 orders against parties even if they are located overseas (while retaining the option to bring a criminal prosecution at a later stage).
On 18 April 2012, the Court of Appeal granted leave for Tiger Asia to take its case to the Court of Final Appeal. The matter is expected to be heard later this year.
Disclosability of communications with other regulators
On 17 April 2012, the Hong Kong Court of First Instance dismissed an application for judicial review initiated by a financial institution (named ‘X’ under an anonymity order) which was being investigated by the SFC.
The challenge concerned decisions made by the SFC to refuse disclosure of certain documents requested by X through its solicitors. In particular, these documents included those relating to the referral of the case to the SFC by the Hong Kong Monetary Authority (“HKMA”) and various internal documents and working papers created by staff of the HKMA.
The application was refused on the basis that the SFC had pinned itself to a specific case and identified the nature of the charge which X was facing. Further, it had identified the reasons why it proposed to impose a penalty and the statements and documents upon which it would rely in support of its reasons. The Court held that, even in the event that the SFC was subconsciously affected by what it had heard from the HKMA, X retained the right to appeal the SFC’s decision to the Securities and Futures Appeals Tribunal and accordingly refused to grant the applicant any relief.
Ensuring the quality of information available to investors
In May 2012, the SFC announced a proposal to impose criminal penalties on bankers or firms who fail to ensure proper due diligence in IPOs where this has resulted in untrue statements being included in prospectuses. Under the SFC’s proposal, bankers would face fines of as much as HK$700,000 (GBP £60,000) and prison terms of as long as three years.
The SFC concluded its consultation on 12 December 2012. Unsurprisingly, the proposals dealing with civil and criminal prospectus liability received mixed responses with general support from buy-side market participants and opposition from sponsors and law firms.
In its conclusions, the SFC addressed criticism that more junior staff in sponsor firms might be subject to criminal prosecution. The SFC clarified that it was proposing that criminal liability would only apply to a sponsor firm unless there was evidence that an individual in the sponsor’s firm had colluded in the making of an untrue statement in a prospectus, or where a director or other officer had participated in or consented to the commission of the offence. The SFC’s proposals will require statutory amendments which are expected to come before Hong Kong’s Legislative Council for consideration.
Challenging refusal of auditors to hand over working papers
In August 2012, the SFC commenced proceedings in the Hong Kong courts against Ernst & Young Hong Kong (“Ernst & Young”) for failing to produce to the SFC specified accounting records relating to its work as the reporting accountant and auditor for Standard Water Limited.
Ernst & Young had resigned as auditor of Standard Water in March 2010 after discovering "inconsistencies" in its documentation. Standard Water later withdrew its listing application. The SFC had issued a formal notice to Ernst & Young seeking the audit working papers and underlying accounting documents relating to Standard Water. Ernst & Young did not comply with this request on the basis that it did not have the relevant records which were held in Mainland China by its joint venture partner in the Mainland, Ernst & Young Hua Ming (“EY Hua Ming”). The SFC then sought the assistance of the relevant authority in the Mainland using its standing arrangements for mutual assistance in investigatory matters. However, EY Hua Ming also declined to produce the records to the relevant Mainland authority as requested. Ernst and Young has maintained that, if it was to comply with the SFC’s notice, it could be in violation of China's state secrecy laws. The proceedings are ongoing.
The Hong Kong regulator is now taking a very activist approach to regulation which it is supplementing by efforts to increase its legislative powers. There is also a clear trend of the SFC pursuing criminal charges in those cases where it assesses that the evidence is strong enough to warrant a criminal conviction. These criminal prosecutions are now often accompanied by civil proceedings aimed at recovering assets on behalf of investors.