Jurisdiction - Hong Kong
Corporate/M&A
Stephenson Harwood
Selling Placing Shares Before Completion Of Placement May Constitute Illegal Short Selling.

30 September, 2013

 

 

The Securities and Futures Commission (“SFC”) has warned investors and other market participants who sell placing shares before completion of a placement that they could face criminal prosecution for illegal short selling.

 

Short selling is when a person sells an asset that he does not own, with the intention of buying it to transfer to the purchaser at a later date.

 

If the price of the asset falls, the seller can make a profit. In Hong Kong, “covered” short selling of certain listed shares is allowed, provided the seller has an exercisable right to vest the shares in the purchaser i.e. the seller must have formally “borrowed” the shares, usually from a bank that holds them in custody for other investors. “Naked” short selling is banned in Hong Kong. The prohibition on naked short selling is set out in section 170 of the Securities and Futures Ordinance (“SFO”) which makes it a criminal offence for a person to sell securities at or through a recognised stock market (i.e. the Stock Exchange of Hong Kong (“HKSE”)) unless at the time the person sells the shares:

 

(a) he has, or where he is selling as an agent, his principal has; or

(b) he believes and has reasonable grounds to believe that he has or, where is he selling as an agent, that this principal has, a presently exercisable and unconditional right to vest the securities in the purchaser of them.

 

A breach of section 170 of the SFO carries a maximum penalty of HK$100,000 fine and two years’ imprisonment upon conviction.

 

On 25 July 2013, a retail investor was found guilty of illegal short selling by the Magistrates Courts in a case prosecuted by SFC. The investor had sold excess rights shares of China Properties Investment Holdings (“China Properties”), a company listed on the HKSE, after he had applied for the shares but before he had received the shares or any confirmation of the number of excess rights shares that would be issued to him. The court fined the investor HK$3,000 and ordered him to pay investigation costs to the SFC.

 

On 1 August 2013, the SFC issued a press release warning investors and intermediaries that they could face criminal prosecution for illegal short selling if they sell placing shares before completion of a placement. The SFC takes the view that a placement of shares before its completion is subject to various conditions which may or may not be fulfilled, in particular, the Listing Committee of the HKSE may not grant, or may withdraw, listing approval of, and permission to deal in, the placing shares. A person will not have reasonable grounds to believe that he had an exercisable right to vest placing shares in a purchaser, as the issue of such placing shares remains conditional until completion of the placement. Sellers cannot rely on oral or written confirmations from their placing agents about the quantity of placing shares they would be allotted as guarantees for receiving the same number of placing shares on the completion date of the placement to settle the trades. In its press release, the SFC also reminds SFC licensees and SFC registered persons that should they commit illegal short selling, they may face disciplinary action as well as criminal prosecution. A copy of the SFC’s press release is available here.

 

Since the date of the SFC’s warning, the Magistrates Courts have convicted Premium Stars Investments Limited (“Premium Stars”) of illegal short selling after an SFC investigation found that Premium Stars had sold 68,000,000 excess rights shares to be issued by China Properties after it had applied for them. Premium Stars sold the shares before it received confirmation of the allocation and quantity of excess rights shares to be allocated to it. Premium Stars was fined HK$3,000 and ordered to pay costs. Another case concerning illegal short selling of shares in China Properties has been adjourned by the Magistrates Courts for a pre-trial review.

 

In light of the SFC’s warning, market participants should review their short selling procedures to avoid being subject to potential prosecution and/or disciplinary action and to minimise any reputational risks.

 

In addition to the prohibition on naked short selling, Hong Kong’s short selling restrictions also include the following:

 

  • short selling is only allowed for more liquid shares which are determined by the HKSE. A current list of designated securities eligible for short selling is available here on the SFC’s website;
  • short sales cannot take place at a price less than the best current ask price. This is known as the “uptick” rule;
  • to make a short position easily identifiable, exchange participants are required to put a marker on each short selling order when they submit it to the HKSE for execution;
  • weekly reporting to the HKSE of short positions in certain shares which reach prescribed thresholds being the lower of (i) 0.02 per cent. of the company’s listed shares and (ii) HK$30 million. A list of specified shares subject to the weekly reporting requirements is available here on the SFC’s website. A breach of the reporting requirements could constitute a criminal offence, punishable by a maximum penalty of HK$100,000 fine and two years’ imprisonment upon conviction.

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For further information, please contact:

 

Hilda Chiu, Partner, Stephenson Harwood

Hilda.Chiu@shlegal.com

 

Kathryn Brogan, Stephenson Harwood

Kathryn.Brogan@shlegal.com

 

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