Jurisdiction - Hong Kong
Reports and Analysis
Hong Kong – Stock Exchange Publishes Guidance On Pre-IPO Investments.

3 November, 2012


The Hong Kong Stock Exchange recently published two guidance letters on pre-IPO investments. The first (Guidance Letter GL43-12) consolidates previous guidance on pre-IPO investments generally and the second (Guidance Letter GL44-12) provides guidance on the Stock Exchange’s current practice regarding convertible instruments issued pre-IPO. These guidance letters provide a welcome consolidation of the Stock Exchange’s policy and clarify the current parameters for pre-IPO investments.


The 28 day/180 day timing requirement remains unchanged


The Interim Guidance (originally issued by the Stock Exchange in October 2010 now embodied in the January 2012 Guidance Letter GL29-12) remains unchanged. This sets out the overriding requirement that, except in exceptional circumstances, all pre-IPO investments must be completed either (a) at least 28 clear days before the date of first submission of the first listing application form or (b) 180 clear days before the first day of trading of the new applicant’s shares.

Completion, for these purposes, means when the funds are irrevocably settled and received by the listing applicant. In calculating the clear days, the listing application filing date, the first trading day and the date of completion of the investment must be excluded.

Listing applicants seeking pre-IPO investors where the terms are more favourable than that which will be available to the IPO investors need to ensure that any investment is funded and completed sufficiently in advance of the listing application filing. Where the listing timetable slips, companies seeking investment after the first listing application filing need to work backwards from the expected listing date to ensure that the funding is received at least 180 clear days before the first trading day.

Certain special rights commonly sought in pre-IPO investments not permitted to survive listing


Irrespective of the timing of the pre-IPO investment, Guidance Letter GL43-12 sets out the Stock Exchange’s guidance as to which special rights commonly sought in pre-IPO investments would be allowed to survive listing, given the general principle under the Listing Rules that all shareholders should be treated fairly and equally. The below table summarises the guidance:


Special right

Permitted to survive listing?

Price adjustment provisions (eg guaranteed discount to the IPO price or adjustment linked to the market capitalisation)


Put or exit options, where the investor has the right to put back its shares to the applicant or its controlling shareholder

Disallowed (except in circumstances where the listing does not take place)

Compensation if a “qualified IPO” does not take place within a specified time frame

Allowed, where the compensation amount is set out in, or can be derived from, the investment agreement

Disallowed, where the compensation amount is not set out in or cannot be derived from, the investment agreement

Right to nominate a director

Disallowed – directors should be subject to retirement by rotation and re-appointment in accordance with the constitutional documents following listing

Veto rights over major corporate actions of the applicant


Anti-dilution rights


Anti-dilution rights exercisable at the time of listing are allowed where:

(i) The allocation is necessary to give effect to pre-existing contractual rights of the investor

(ii) Such contractual entitlement and the number of shares to be subscribed by the investor are fully disclosed in the prospectus and allotment results announcement; and

(iii) The subscription will be at the IPO offer price

Profit guarantee (where the investor may be entitled to compensation if the applicant’s profit fails to meet a certain level)

Disallowed – if settled by the applicant or linked to the market price or market capitalisation of the shares

Allowed – if settled by a shareholder (provided the compensation is not linked to the market price or market capitalisation of the shares)

Negative pledges

Disallowed (unless they are widely accepted provisions in loan agreements which are not egregious and do not contravene the Listing Rules’ principle of fair treatment of shareholders)

Consent rights for certain corporate actions

Disallowed (unless the terms are not egregious and do not contravene the fundamental principles of fairness to the disadvantage of other shareholders)

Exclusivity rights and no more favourable terms (eg a restriction on issue of shares to a competitor of the investor or on preferential terms to those granted to the investor)

Disallowed (unless the agreement is modified to include an explicit “fiduciary out” to enable the directors to properly exercise their fiduciary duties and ignore the relevant term where it is in the best interests of the applicant)

Information rights

Allowed provided the information is made available to the public at the same time (or a safe harbour under Listing Rule 13.09 applies)

Representation in senior management/attendance rights

Allowed, subject to board review and directors’ fiduciary duties

Right of first refusal/tag along rights granted by the controlling shareholder


Guidance on convertible instruments


Guidance Letter GL44-12 sets out the Stock Exchange’s guidance for dealing with convertible instruments, including convertible or exchangeable bonds, notes or loans and convertible preference shares. The primary concern of the Stock Exchange is once again to ensure that all shareholders are treated fairly and equally. The guidance focuses on the following four areas:


  • The conversion price and conversion price reset – The conversion price should be either a fixed dollar amount or the IPO price. The Stock Exchange has indicated that it would be concerned by a price based on a guaranteed discount to the IPO price, or any linkage of the conversion price to the market capitalisation of the shares. Similarly, the Stock Exchange would expect any conversion price reset mechanism (such as one based on the lower of a fixed price and the floating market price) to be removed.
  • Mandatory or partial conversions – Partial conversion of convertible instruments will only be permitted by the Stock Exchange if all atypical rights are terminated after listing. This is to avoid a pre-IPO investor enjoying special rights through continuing to hold a small amount of the convertible instruments after partial conversion.
  • Redemptions and early repayments – The Stock Exchange does permit convertible instruments to provide holders with an early redemption option at a price where the holder would receive a fixed internal rate of return on the principal amount being redeemed and for the same rate to apply at maturity. The Stock Exchange views the internal rate of return as compensation for the investment and risk undertaken by the holder.
  • Disclosure requirements in the prospectus and subsequent interim and annual reports – The Stock Exchange sets out its expectations on the additional disclosure that should be included in the prospectus to explain the impact of the convertible instrument on the applicant (including if early redemption was required). It also sets out the disclosure required in the interim and annual reports of the applicant to enable investors to understand the dilution effect on the shares in the event of conversion of the outstanding convertible instruments.




Whilst much of the guidance above is not new, these recent Guidance Letters are a helpful consolidation of the Stock Exchange’s policy surrounding pre-IPO investments. They set out clear parameters on the Stock Exchange’s requirements for pre-IPO investments and the terms that will be acceptable to the Stock Exchange.


For further information, please contact:


Andrew Tortoishell, Partner, Herbert Smith Freehills


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