Hong Kong: Mergers & Acquisitions Comparative Guide

1 Deal Structure

1.1 How are private and public M&A transactions typically structured in your jurisdiction?

Private M&A transactions in Hong Kong are typically structured as either share purchases or asset purchases. Share deals are more commonly seen due to their relative simplicity, as all of the target's assets, liabilities and obligations will in effect pass to the buyer automatically. By contrast, the buyer acquires only specific assets and liabilities in an asset purchase, complicating the documentation. Additional asset-specific formalities may also need to be adhered to on an asset purchase.

Public M&A transactions in Hong Kong usually take the form of a takeover offer or a scheme of arrangement.

Takeover offers can be voluntary or mandatory. A voluntary general offer involves an offeror making an offer to all shareholders of the target to acquire their shares.

A mandatory general offer involves the person that has triggered the offer obligation making an offer to all of the shareholders of the target to acquire their shares in return for cash (or a cash alternative of equal value). The Code on Takeovers and Mergers requires a mandatory offer when:

• a person (together with its concert parties) acquires 30% or more of the voting rights of a Hong Kong listed company; or

• a person (together with its concert parties) that holds between 30% and 50% of the voting rights of a listed company acquires additional voting rights which increase its holding by more than 2% from the lowest percentage holding held by it in the previous 12-month period.

A scheme of arrangement is a statutory procedure requiring the approval of the court. Schemes of arrangement are commonly used for going-private transactions. A scheme of arrangement can be used only if the laws of the target's place of incorporation make appropriate provision. It typically involves the target entering into an arrangement with its shareholders to cancel (in return for cash) all those shares not held by the offeror. New shares in the target are then issued to the offeror, giving the offeror 100% ownership. Alternatively, a scheme of arrangement could be structured as a transfer scheme, which would involve all shares of the target not owned by the offeror being transferred to the offeror upon the scheme becoming effective.

1.2 What are the key differences and potential advantages and disadvantages of the various structures?

A key advantage of share purchases is the simplicity of transferring the target's entire business without the need to identify and individually transfer each of the target's assets and liabilities. The existing employees, contracts, licences and permits will remain in place, albeit that change of control consents may be required. However, the buyer will automatically inherit any historic liabilities that may exist in the target.

In circumstances where the buyer would prefer to cherry pick certain of the target's specific assets and leave unwanted assets and liabilities with the seller, an asset purchase may be preferable. However, each transferring asset will need to be identified and a mechanism implemented for its transfer (eg, assignments and novations, registrations).

Further, stamp duty is payable on transfers of shares at the effective rate of 0.2% (rising to 0.26% from 1 August 2021) of the consideration or (if higher) the value of the shares being transferred, as compared to a much higher rate of stamp duty on the purchase of certain types of assets (eg, immovable property) (please see question 4.3 for further information).

For public M&A transactions, a key distinction between takeover offers and schemes of arrangement is that a scheme is ‘all or nothing'. This is attractive to an offeror which is interested in achieving 100% control of the target. If the offeror fails to achieve the requisite approval threshold, the scheme will fail. Takeover offers, however, typically enable the offeror to gain control of the target more quickly, albeit not necessarily 100% control, and provide the offeror with greater flexibility.

1.3 What factors commonly influence the choice of sale process/transaction structure?

Key factors that should be considered when choosing between a share deal and an asset deal include the following.

Target company's liabilities: The buyer assumes the historic liabilities of the target in a share deal; whereas with an asset deal, a business comprising specified assets can be acquired while other unwanted assets and liabilities can be excluded.

However, a transfer of business is subject to the Transfer of Businesses (Protection of Creditors) Ordinance (Cap 49) (TOBO) which, as its default position, attaches any liabilities of a transferring business to a transferee in addition to the transferor, with the transferee of a ‘business' becoming liable on the basis set out in TOBO for the debts and obligations associated with that business for a period of one year after the date on which the transfer takes effect. It is not possible to contract out of TOBO, but there is a mechanism under TOBO whereby the transferee can avoid assuming the liabilities of the transferring business if it has given notice of the transfer to creditors of the business in accordance with the procedures detailed in TOBO in a prescribed period before closing and no creditor comes forward. Additionally, a transferee may rely on the statutory indemnity under TOBO from the transferor for the amounts for which it is liable under TOBO, which is often supplemented by a contractual indemnity in the transaction documents.

Taxation: A buyer may be required to pay less stamp duty under a share purchase than under an asset purchase if the target owns immovable property. Stamp duty is payable on transfers of shares at the effective rate of 0.2% (rising to 0.26% from 1 August 2021) of the consideration or (if higher) the value of the shares being transferred. However, stamp duty is payable on the purchase of immovable property at a much higher rate of up to 8.5% (please see question 4.3 for further information).

Transfer of assets and employees and impact on documentation: An asset deal allows flexibility to accommodate scenarios where the seller does not wish to sell, or the buyer does not wish to purchase, certain assets. However, the process of transferring each asset or liability by delivery or by way of a documented transfer (eg, novation) is more complex than a share deal. There is no automatic transfer of employees in the context of a business transfer under Hong Kong law, so an existing employment relationship must be terminated and a new relationship established; whereas employees will continue to be employed by the target in a share deal.

2 Initial steps

2.1 What documents are typically entered into during the initial preparatory stage of an M&A transaction?

The main documents typically entered into during the initial preparatory stage of an M&A transaction are:

• a non-disclosure agreement (which may be called a confidentiality agreement);
• an exclusivity agreement; and
• a letter of intent (also known as a term sheet or memorandum of understanding).

Non-disclosure agreements restrict potential buyers in the way they hold and may use confidential information, including information which the buyer receives through its due diligence exercise and the fact of the transaction itself. They also typically include a non-solicitation clause with regard to the target and/or the seller's key employees, customers and suppliers.

Under an exclusivity agreement, the seller agrees to discontinue marketing and to stop actively looking for other potential buyers for a prescribed period of time, during which the prospective buyer does its due diligence and seeks to conclude a deal. Often, however, the exclusivity agreement is included as a term of the letter of intent.

Letters of intent are typically not legally binding, with the exception of provisions such as exclusivity, confidentiality and governing law, which generally are binding. The key terms of the proposed transaction are set out in this document, including:

• details of the shares or assets to be acquired;
• consideration;
• other commercial terms;
• conditions precedent;
• due diligence arrangements;
• responsibility for costs and expenses;
• the timetable of the transaction;
• the governing law; and
• the dispute resolution mechanism.

2.2 Are break fees permitted in your jurisdiction (by a buyer and/or the target)? If so, under what conditions will they generally be payable? What restrictions and other considerations should be addressed in formulating break fees?

Break fees are permitted in Hong Kong public M&As, subject to the board of the target and the target's financial adviser confirming to the regulatory authority which supervises public M&A in Hong Kong, the Securities and Futures Commission (SFC), in writing that each of them believes that the break fee is in the best interests of shareholders. A break fee must be de minimis – normally no more than 1% of the offer value. The arrangement must be fully disclosed in the offer announcement and the offer document sent to all target shareholders.

Break fees are not common in Hong Kong private M&As. According to our Asia M&A deal points study 2020, a break fee appeared in only 12% of deals. The value of the break fee ranged from less than 0.01% to 6.64% as a percentage of deal value, demonstrating that the value is mostly down to commercial negotiation.

2.3 What are the most commonly used methods of financing transactions in your jurisdiction (debt/equity)?

M&A transactions in Hong Kong are typically financed by debt or equity, or a combination of both. The decision depends on various factors, including:

• the availability of cash;
• the terms of any available debt package;
• potential tax issues; and
• the buyer's own preferences.

For early stage investments, where the transaction is backed by a financial investor such as a private equity fund, the investment may take the form of convertible instruments or convertible preference shares, which give the investor some downside protection in the form of a liquidation preference and priority in the payment of dividends in the short to medium term, but also the ability to convert into ordinary shares to maximize upside potential in the medium to longer term, assuming that the target prospers.

2.4 Which advisers and stakeholders should be involved in the initial preparatory stage of a transaction?

In private M&A transactions, the buyer and seller will each engage Hong Kong legal counsel to coordinate the transaction. If the transaction involves matters governed by the laws of other jurisdictions, local counsel will be engaged. Other key advisers include accountants and tax advisers. Financial advisers may also be engaged in the context of particularly large or complex transactions, or where their transaction management skills may be beneficial. The buyer may also engage relevant industry experts during the course of its due diligence process. Additionally, an insurance broker should be engaged if the use of warranty and indemnity insurance is being considered. For management buy-out transactions, the management team will engage their own legal counsel to help protect their interests and negotiate their employment and incentive package going forward.

In public M&A transactions, the offeror must engage a financial adviser – in particular, to provide confirmation to the SFC that the offeror has sufficient resources available to implement the proposed offer in full. Occasionally the target will engage its own financial adviser too, although this is not mandatory. Pursuant to the Takeovers Code, an independent committee of directors of the target company must be established and an independent financial adviser appointed to advise the committee, among other things, on the fairness and reasonableness of the offer. As in private M&A transactions, legal advisers will be engaged; and PR consultants, accountants and tax advisers may be retained.

2.5 Can the target in a private M&A transaction pay adviser costs or is this limited by rules against financial assistance or similar?

Financial assistance issues will arise if the target is a Hong Kong incorporated company and it, or its subsidiary, pays any adviser costs that should have properly been paid by the seller or the buyer.

This is because there is a general prohibition on a Hong Kong incorporated company, or any of its subsidiaries, giving assistance – whether directly or indirectly – which is financial and is either:

• for the purpose of acquiring shares in the target; or
• where the shares have been acquired and a resulting liability has been incurred for the purpose of acquiring those shares, for the purpose of reducing or discharging the liability so incurred.

Financial assistance is not comprehensively defined in the Companies Ordinance (Cap 622), but it can take a variety of forms, such as a gift, guarantee, waiver or loan.

Although there are exceptions from the general prohibition, specialist advice should always be sought before relying on any of them, because breach of the general prohibition could otherwise result in the target, and every responsible person of the target, committing a criminal offence.

If the exceptions cannot be, or are not, relied upon, then the target could follow one of three alternate routes to authorize the financial assistance (the ‘whitewash' procedures). These are providing:

• assistance not exceeding 5% of the paid-up share capital and reserves of the target;
• assistance with unanimous shareholder approval; or
• assistance approved by ordinary resolution.

In each case, before the assistance is given, the directors must resolve, among other things, that:

• the assistance is in the best interests of the target; and
• the terms and conditions under which the assistance is to be given are fair and reasonable to the target.

The directors will also need to issue a solvency statement. In each case, the parties must strictly adhere to the procedures of the relevant route.

3 Due diligence

3.1 Are there any jurisdiction-specific points relating to the following aspects of the target that a buyer should consider when conducting due diligence on the target? (a) Commercial/corporate, (b) Financial, (c) Litigation, (d) Tax, (e) Employment, (f) Intellectual property and IT, (g) Data protection, (h) Cybersecurity and (i) Real estate.

The scope of due diligence in a private M&A context and its focus will depend on various factors, including:

• the proposed acquisition structure;
• the target's industry; and
• the buyer's risk appetite and areas of concern.

As a minimum, the scope of due diligence will typically cover areas such as:

• the seller's title to the target or the assets;
• the target's title to assets, liabilities and key contracts;
• the target's financing arrangements;
• regulatory and licensing matters;
• litigation;
• insolvency issues; and
• compliance with law.

The standard public searches are set out in question 3.2.

It is impossible to provide a complete list of points for every scenario. Specific legal advice should always be obtained. The following points cover some Hong Kong-specific matters that a buyer may note:

• As in other jurisdictions, the acquisition structure will influence the due diligence process. In Hong Kong, as noted in question 1.3, additional considerations arise on asset deals which may necessitate additional due diligence, in particular because:

• the Transfer of Businesses (Protection of Creditors) Ordinance attaches business liabilities to a transferee on an asset deal (unless a particular procedure is followed); and
• there is no automatic transfer of employees.

• Certain documents or information, which might be expected to be disclosed to the public or registered with the Companies Registry, are not disclosed or registered. These include the target's financial statements and the identity of the target's significant controllers.
• Hong Kong has its own data protection law (the Personal Data (Privacy) Ordinance (Cap 486)). However, given that Hong Kong is also a major international finance centre, with many businesses having ties to the European Union, a buyer may also need to consider the EU General Data Protection Regulation, given its extraterritorial reach in certain circumstances.
• For real estate, among other things, the seller is under a duty to ‘show' and ‘give' good title (unless agreed otherwise). This involves producing the original title documents and answering any requisitions about potential defects as to title.

3.2 What public searches are commonly conducted as part of due diligence in your jurisdiction?

Public searches commonly conducted on Hong Kong companies include a search of the Companies Registry, which provides:

• incorporation details;
• information on share capital, shareholders, officers, registered office and charges (but not the financial statements) of companies incorporated in Hong Kong; and
• certain limited information on companies registered as non-Hong Kong companies.

It is also common to conduct:

• litigation searches to determine whether particular companies have been subject to, or are in the process of, proceedings in the Hong Kong courts; and
• solvency searches, to find out whether companies are in the process of being compulsorily wound up.

With regard to real property, information available from the Land Registry includes property particulars, which provide details of (among other things) owners and encumbrances. In relation to intellectual property, the online database of the Intellectual Property Department is available to establish the registered owners and other particulars of trademarks, patents and registered designs.

3.3 Is pre-sale vendor legal due diligence common in your jurisdiction? If so, do the relevant forms typically give reliance and with what liability cap?

Most well-advised sellers will typically carry out a high-level pre-sale vendor legal due diligence exercise to consider the transaction structure, ensure that the target's affairs are in order and rectify issues where this is not the case.

That said, pre-sale vendor legal due diligence where the results are provided to potential buyers is common only in an auction process with multiple potential bidders, where the costs of carrying out the work are justified by the benefits of accelerating the process, avoiding multiple (overlapping) information requests and having the opportunity to explain legal issues or complexities in relation to the business and/or the transaction. The relevant vendor legal due diligence report will typically be issued on a non-reliance basis, be limited in scope and subject to caveats. Therefore, a prudent bidder will typically also carry out its own due diligence to confirm and supplement the report.

At the end of the process, it is common for the successful buyer (and its finance provider) to request, and be granted the right, to rely on the report. If so, the amount of the liability cap will generally be a matter for negotiation and be subject to certain limitations under applicable law and professional duties.

4 Regulatory framework

4.1 What kinds of (sector-specific and non-sector specific) regulatory approvals must be obtained before a transaction can close in your jurisdiction?

Essentially, there are no regulatory restrictions on the transfer of shares in a Hong Kong incorporated company unless the target's business relates to a regulated industry, such as the telecommunications/broadcasting, banking, insurance and securities sectors.

Hong Kong's merger control regime applies only to M&A transactions in the telecommunications industry which involve an undertaking that directly or indirectly holds a ‘carrier licence'. Any merger in such circumstances which has, or is likely to have, the effect of substantially lessening competition in Hong Kong is prohibited under the ‘merger rule' in the Competition Ordinance (Cap 619).

In the banking industry, the Hong Kong Monetary Authority should be consulted on an M&A transaction involving a Hong Kong bank, a restricted licence bank or a deposit-taking company. Further, formal Hong Kong Monetary Authority approval is required under the Banking Ordinance (Cap 155) to acquire a prescribed shareholding in a Hong Kong incorporated bank, a restricted licence bank or a deposit-taking company. In addition, changes in substantial shareholders and senior personnel of regulated entities, including banks, insurance companies and securities companies, are generally subject to notification and/or approval requirements with the applicable regulators.

Under the Insurance Ordinance (Cap 41), there are statutory processes for the transfer of long-term insurance businesses and general insurance businesses with the approval of the Insurance Authority and, in the case of long-term insurance business, the court.

4.2 Which bodies are responsible for supervising M&A activity in your jurisdiction? What powers do they have?

There is no single body responsible for supervising all M&A activity in Hong Kong. However, in addition to the bodies set out in question 4.1, elements of M&A are likely to fall within the supervisory remit of certain bodies.

As noted in question 2.2, the Securities and Futures Commission (SFC) is the regulatory authority which supervises public M&A in Hong Kong. The SFC can impose various sanctions for non-compliance with the Code on Takeovers and Mergers, which is the principal regulation governing public M&A in Hong Kong, including public censures and cold shoulder orders.

For M&A involving Hong Kong listed groups, the listed company will need to comply with the requirements of the Rules Governing the Listing of Securities on The Stock Exchange of Hong Kong Limited, which are regulated by The Stock Exchange of Hong Kong Limited. The Stock Exchange of Hong Kong Limited has various powers which it can take against a listed company and its controllers (among others), including:

• issuing public and private censures;
• requiring a breach to be remedied; or
• in extreme cases, suspending or cancelling a company's listing.

As noted in question 4.1, the Competition Ordinance (Cap 619) prohibits mergers that substantially lessen competition in Hong Kong. However, this prohibition applies only to certain mergers concerning ‘carrier licences'. The Competition Commission and Communications Authority share concurrent jurisdiction. If the transaction is deemed to contravene the prohibitions, it can be halted or unwound if it has already completed.

4.3 What transfer taxes apply and who typically bears them?

Stamp duty is payable on transfers of shares at the effective rate of 0.2% of the consideration or (if higher) the Stamp Office's assessment of the value of the shares being transferred. To assist the Stamp Office with its assessment, a pack of supporting documents, including accounts of the target, must accompany an application to determine the amount of stamp duty that is payable. It is common for the seller and the buyer to each bear 0.1%, subject to the parties' negotiation. With effect from 1 August 2021, the stamp duty rate will increase from 0.1% to 0.13% of the consideration or value of the shares being transferred, payable by each of the seller and the buyer respectively.

Relief exists for intra-group transfers where a 90% common ownership threshold applies.

Stamp duty is currently payable on the purchase of immovable property at the effective rate of 7.5% to 8.5%, depending on value.

5 Treatment of seller liability

5.1 What are customary representations and warranties? What are the consequences of breaching them?

Under Hong Kong law, representations and warranties are distinguishable legal terms; unlike in the United States, where the terms are used interchangeably. Breaches of warranties give rise to claims for damages; while breaches of representations give rise to claims in tort for misrepresentation, the remedies for which include damages and rescission.

Asian (including Hong Kong) sale and purchase agreements often contain a shorter, less detailed warranty schedule than international equivalents, focusing on fundamental warranties. This often leads to a shorter disclosure letter and occasionally no disclosure letter at all. However, where sophisticated international parties are involved, the extent of the warranty schedule and the rigour applied to the negotiation of warranties and the disclosure exercise generally are comparable to the highest international standards. In a standard sale and purchase agreement, it is common for the seller to give warranties in relation to the following:

• title to shares or assets being sold;
• constitution and structure of the target;
• the power and authority of the seller to enter into the agreement and sell the shares/assets;
• compliance with laws and permits;
• financial matters, including the target's accounts, borrowing and other arrangements;
• ownership and condition of assets;
• material contracts;
• environmental matters;
• employees, retirement schemes and other benefits;
• insurance;
• IP rights, information technology and data privacy matters;
• litigation; and
• tax.

5.2 Limitations to liabilities under transaction documents (including for representations, warranties and specific indemnities) which typically apply to M&A transactions in your jurisdiction?

The monetary caps on liability and the time limits for bringing claims are quite consistent with international standards:

• approximately 100% of the purchase price and three years for title warranties;
• approximately 30% of the purchase price and 18 to 24 months for general warranties; and
• approximately 30% to 50% of the purchase price and six to seven years for tax warranties.

More detailed analysis can be found in our Asia M&A deal points study 2020. The story is the same with regard to de minimis and aggregate or basket thresholds, which track the internationally accepted rule of thumb of 0.1% of the purchase price for de minimis and 1% of the purchase price for the basket, although they are sometimes completely absent. Other seller limitations on liability are comparable to international standards where sophisticated international parties are involved. However, on smaller, domestic deals, these limitations are often less extensive than customary and even occasionally non-existent.

Where disclosure is made, the concept of ‘fair disclosure', based on traditional English law principles, is typically applied and specifically defined in the sale and purchase agreement.

The popularity of warranty and indemnity insurance continues to grow steadily in Asia, particularly in the context of private equity-driven auction sales, where increasingly the seller takes a ‘no recourse' position, rendering the policy the buyer's sole recourse for breach of warranty.

5.3 What are the trends observed in respect of buyers seeking to obtain warranty and indemnity insurance in your jurisdiction?

Warranty and indemnity (W&I) insurance has developed rapidly in Asia in the last decade and is now a reasonably well-established feature of deal making, with numerous insurers competing to offer the product across virtually all markets and industry sectors within the region. W&I insurance is particularly popular among private equity sellers, but knowledge and adoption of the product are growing generally. The increased competition, accompanied by a more aggressive and sophisticated approach from brokers and greater familiarity on all sides with the risks involved in the relevant Asian markets, has improved the position for insureds (the majority of which are on the buy side), manifested in pricing having begun to reduce, broader coverage and increased insurer risk appetite.

Many market observers anticipate a greater role for W&I insurance in the short to medium term as a result of the recovery of M&A activity post-COVID-19, but also due to the expected increase in distressed M&A activity, where W&I insurance can help to get deals done which might otherwise fail. For instance, some insurers are willing to underwrite a set of synthetic warranties covering the key issues for which a buyer might seek comfort, should a seller (eg, a distressed seller or incumbent insolvency practitioner) be unwilling or unable to offer any warranty protection, or at least insufficient protection from the buyer's perspective.

5.4 What is the usual approach taken in your jurisdiction to ensure that a seller has sufficient substance to meet any claims by a buyer?

Where there is concern that, following closing, the seller may be unable to meet buyer claims such as warranty claims, checks could be carried out on the seller's economic substance to give comfort. If the results are unsatisfactory, the usual methods to ensure that a seller can meet buyer claims include:

• seeking a guarantee from another party (typically the seller's parent or occasionally a bank);
• deferring payment of the purchase price for a period (known as ‘retention') or paying funds into an escrow account for a period of time, with any claims being offset against such deferred/escrow amounts. Given the associated costs, escrows generally appear on higher value deals. Retention is quite infrequently used, however; or
• using W&I insurance whereby the buyer will seek recourse for warranty breaches against the policy rather than the seller. As noted in question 5.3, W&I insurance is now a well-established feature of deal making, particularly among the private equity community – in part because it allows a private equity seller to achieve a clean exit from an investment, enabling it to distribute proceeds to its investors promptly and to wind up the fund at the end of its life with no concerns around residual liabilities, while giving the buyer recourse in case of breach of warranty.

5.5 Do sellers in your jurisdiction often give restrictive covenants in sale and purchase agreements? What timeframes are generally thought to be enforceable?

Restrictive covenants (eg, non-compete and non-solicitation clauses) are relatively common in private M&A sale and purchase agreements.

However, the general position under Hong Kong law is that restrictive covenants are unenforceable due to being restraints of trade and against public policy, unless it can be demonstrated that they serve to protect legitimate business interests (eg, protection of goodwill), while also being no wider than reasonably necessary to do so in terms of scope, duration and geographical area.

Although many practitioners consider a duration of two or three years to be enforceable, what is reasonable in each case will depend on the relevant facts and, in particular, the legitimate business interests which the restrictive covenants ostensibly seek to protect. Generally, the longer the duration (or the wider the scope or geographical area), the less likely it is that the restrictive covenant will be enforceable.

5.6 Where there is a gap between signing and closing, is it common to have conditions to closing, such as no material adverse change (MAC) and bring-down of warranties?

Where there is a gap between signing and closing (often in order to obtain specific regulatory approvals and other consents), a buyer can seek conditions such as that there has been no MAC and/or no breach of warranty in the interim period. Such conditions are common in the United States, but are typically seen only in a minority of Hong Kong private M&A transactions. That said, the use of such conditions has increased in recent years, particularly in the COVID-19 world.

The ‘no breach of warranty' condition is less common than simply repeating warranties (or just certain fundamental warranties) at, or in the period up to and including, closing. A seller may resist such repetition and argue that the risk in the target should pass at signing. If the parties agree to repetition of warranties, another consideration is whether further disclosure against those warranties should be permitted. Where further disclosure is permitted, the repetition may have little benefit for the buyer without a termination right in the event of any such breach. However, if disclosure is not permitted, then the seller may be exposed to liability in damages for breach of warranty for something outside of its control.

‘No MAC' conditions have been in the spotlight recently, given the impact of COVID-19. However, where such a condition has been included, a party must satisfy a high evidential burden to establish that a MAC has occurred. This is because public policy favours the enforcement of signed agreements and is consistent with the principle of risk in the target passing at signing. Therefore, a buyer has a better chance of being able to rely on a ‘no MAC' condition if it is tightly drafted, well defined and covers certain specific conditions (which then arise). Case law, albeit mainly from other common law jurisdictions (which is persuasive authority in Hong Kong), also further clarifies the limits of such conditions – for example, a MAC condition is unlikely to be successfully invoked if the circumstances were known to the buyer prior to signing or the target is not suffering disproportionately to the market generally.

6 Deal process in a public M&A transaction

6.1 What is the typical timetable for an offer? What are the key milestones in this timetable?

As noted above, public M&A transactions in Hong Kong are typically structured as a takeover offer or a scheme of arrangement (and references to ‘offer' in these responses refer to both structures). An offer typically takes three to six months to complete from the date on which the offer is announced. Offers structured as schemes of arrangement generally take longer to complete than offers structured as takeover offers, due to the involvement of the court and the requirement to convene a target meeting.

There are certain timing requirements prescribed in the Takeovers Code with respect to various key milestones. These key milestones are as follows:

• An offer period will ordinarily commence with the announcement of a firm intention to make an offer (commonly referred to as a ‘Rule 3.5 announcement').
• The offer document typically needs to be posted by the offeror to the shareholders of the target within 21 days of the Rule 3.5 announcement.
• An ‘offeree board circular' must be posted by the target within 14 days of the offer document. However, typically on a takeover offer and always on a scheme, the offeror and the target will jointly publish a composite offer and response document, which must be posted within 21 days of the Rule 3.5 announcement.
• A takeover offer must initially be open for acceptance for at least 21 days from the posting of the offer document, although in practice this period is often extended.
• To the extent that a takeover offer is subject to a minimum acceptance condition (which will be the case for all takeover offers where the offeror and persons acting in concert with it hold less than 50% of the target's voting rights at the time of the Rule 3.5 announcement), upon such condition being fulfilled (referred to as the offer becoming ‘unconditional as to acceptances'), the offer must remain open for further acceptances for a period of not less than 14 days.
• The last date on which a takeover offer can be declared unconditional as to acceptances is 60 days after posting of the offer document. If a takeover offer has other conditions, those must be satisfied within 21 days of the first closing date or the date on which the takeover offer becomes unconditional as to acceptances (whichever is the later); and after that, the takeover offer must be declared wholly unconditional or will otherwise lapse.
• Shareholders must be paid their consideration within seven business days of the date on which the takeover offer becomes or is declared unconditional or the date of receipt of a duly completed acceptance, whichever is later. In the case of a scheme, shareholders must be paid their consideration within seven business days of the scheme becoming effective.

6.2 Can a buyer build up a stake in the target before and/or during the transaction process? What disclosure obligations apply in this regard?

Yes, an offeror may build up a stake in the target before and during the offer period. This may affect the type and minimum level of consideration that an offeror must offer (please see question 6.7 below for further details).

As to disclosure:

• if the offeror or any of its associates effect any dealings in the target's shares during the offer period, then subject to certain limited exceptions, such dealings must be publicly disclosed in accordance with the requirements of the Takeovers Code; and
• under the Securities and Futures Ordinance (Cap 571), a person (excluding a director or chief executive of a listed company) must make prescribed public disclosure where he or she becomes interested in 5% or more of a listed company's voting shares and subsequent disclosure thereafter, including where his or her interest crosses (upwards or downwards) over a whole percentage number. Directors and chief executives must make prescribed public disclosure for any dealing in the shares of the listed company of which they are an officer. Offerors should be aware that stakebuilding may trigger a disclosure requirement under Hong Kong's disclosure of interest regime.

Additionally, for takeover offers in relation to Hong Kong incorporated companies, under the Companies Ordinance, if during the offer period the offeror acquires (or enters into a contract to unconditionally acquire) any shares other than by acceptances of the offer, those shares will not be regarded as "shares to which the offer relates". The consequence of this is that those shares will not be counted for the purposes of determining whether the threshold required to exercise compulsory acquisition rights has been met.

6.3 Are there provisions for the squeeze-out of any remaining minority shareholders (and the ability for minority shareholders to ‘sell out')? What kind of minority shareholders rights are typical in your jurisdiction?

For takeover offers for Hong Kong incorporated companies, the Companies Ordinance contains provisions which allow an offeror which has (by virtue of acceptances of the takeover offer) acquired or contracted unconditionally to acquire 90% of the shares in the relevant target to which the offer relates to compulsorily acquire the remainder of the shares by giving notice to the minority shareholders. The notice to the minority shareholders must be given within three months of the end of the offer period or within six months of the takeover offer being made (whichever is the earlier).

In addition to the requirements imposed by local laws, an offeror must also comply with the Takeovers Code in exercising any squeeze-out rights towards a company listed in Hong Kong. Under the Takeovers Code, except with the Securities and Futures Commission's (SFC) consent, any compulsory acquisition right may be exercised by an offeror only if it has obtained acceptances and purchases of at least 90% of the ‘disinterested shares' of the listed company (ie, those shares which are not owned by the offeror or persons acting in concert with the offeror) within four months after the initial offer document is posted.

Not all companies listed in Hong Kong are incorporated in a jurisdiction which gives an offeror compulsory acquisition rights (eg, no such rights exist for companies incorporated in China).

Minority shareholders that remain investors in a target following a takeover offer have a limited set of rights. To the extent that the target has not been delisted, the minority shareholder will still have the protections and rights provided under the Listing Rules. Separately, minority shareholders will continue to have the statutory rights prescribed in the target's place of incorporation. For example, as regards Hong Kong incorporated companies, under the Companies Ordinance:

• a minority shareholder that has not accepted a takeover offer before the end of the offer period can require the offeror to acquire its shares, if the offeror has (by virtue of acceptances of the takeover offer) acquired, or contracted unconditionally to acquire, some but not all of the shares to which the offer relates, and at any time before the end of the offer period, the shares controlled by the offeror represent at least 90% of the shares in the target. This sell-out right can be exercised by a minority shareholder only within three months of the end of the offer period or the date of the notice given by the offeror to the minority shareholder regarding the latter's ‘sell-out' right (whichever is later); and
• a minority shareholder can apply to the court for relief where it considers that the company's affairs are being or have been conducted in a manner which is unfairly prejudicial to its interests.

6.4 How does a bidder demonstrate that it has committed financing for the transaction?

The offeror and its financial adviser will need to complete a cash confirmation exercise for the purpose of establishing that the offeror has sufficient financial resources to comply with its offer obligations. The specifics of the exercise will depend on how the offer is being financed (eg, acquisition financing, internal cash reserves or alternate structure). Under the Takeovers Code, the financial adviser is expected to observe the highest standard of care to satisfy itself of the adequacy of resources, including the performance of due diligence. This exercise will need to be completed not only when the consideration is in cash (or includes an element of cash), but also when the consideration consists of or includes any other assets, except new securities to be issued by the offeror.

Before the SFC will permit a Rule 3.5 announcement to be issued, the financial adviser to the offeror will need to privately confirm to the SFC that sufficient resources are available to the offeror to satisfy full acceptance or implementation (as applicable) of the offer. An equivalent statement must be included in the Rule 3.5 announcement.

Similarly, before the SFC will permit the publication of the offer document/composite document, the offeror and its financial adviser will need to complete a bring-down cash confirmation exercise. The financial adviser to the offeror will also need to confirm privately to the SFC and state in the offer document/scheme document that sufficient resources are available to the offeror to satisfy full acceptance of the offer.

Market participants should also note that:

• the cash confirmation exercise will need to be repeated to the extent the offeror proposed to increase the consideration payable for the offer; and
• to the extent that an offer obligation would be triggered by an acquisition of shares (eg, an investor enters into a sale and purchase agreement to acquire a stake which will result in it acquiring 30% of the Hong Kong listed company's voting rights), the SFC's practice is to require the cash confirmation exercise to cover the acquisition as well as the subsequent offer.

6.5 What threshold/level of acceptances is required to delist a company?

The threshold/level of acceptance required to delist a listed company depends on how the transaction is structured.

An offeror can make a voluntary takeover offer conditional on shareholders approving the delisting. Under the Takeovers Code, a delisting condition will need to satisfy the following requirements:

• It must be approved by at least 75% of the votes attaching to the disinterested shares cast (in person or by proxy) at the meeting of the holders of the disinterested shares;
• The number of votes cast against the resolution must not be more than 10% of the votes attaching to all disinterested shares; and
• The offeror must be entitled to exercise, and exercise, its rights of compulsory acquisition. The SFC may waive this requirement where the target is incorporated in a jurisdiction which does not provide compulsory acquisition rights to an offeror.

In addition, a company's listing can be voluntarily withdrawn if:

• for a takeover offer, the offeror becomes entitled to exercise a right of compulsory acquisition and exercises such right. Broadly, this would require the offeror to acquire 90% of the disinterested shares of the target; or
• the company is privatised by way of a scheme of arrangement. Under the Takeovers Code, a privatisation by way of a scheme of arrangement requires approval by at least 75% of the votes attaching to the disinterested shares cast (in person or by proxy) at the meeting of the holders of the disinterested shares and the number of votes cast against the resolution being not more than 10% of the votes attached to all disinterested shares.

6.6 Is ‘bumpitrage' a common feature in public takeovers in your jurisdiction?

No, bumpitrage is not common in public takeovers in Hong Kong, as most issuers are controlled by a small number of controlling shareholders. The success of public takeovers in Hong Kong is usually determined by whether the proposal is supported by the controlling shareholders.

6.7 Is there any minimum level of consideration that a buyer must pay on a takeover bid (eg, by reference to shares acquired in the market or to a volume-weighted average over a period of time)?

If the offeror (or any of its concert parties) has made any purchases of the target's shares in the three months before the offer period, the offer must be made on terms that are no less favourable than those offered in such prior purchases. If, during the offer period, the offeror (or any of its concert parties) purchases any shares in the target, the offeror will be obliged to increase its offer price to not less than the highest price paid for such purchases.

A voluntary offer may not normally be made at a price that is substantially below the market price of the target's shares. For these purposes, an offer price at more than a 50% discount to the lesser of the closing price of the target's shares on the day before the Rule 3.5 announcement or the previous five-day average closing price will normally be considered as "substantially below the market price of the shares in the target company".

For a mandatory offer, the offer price must be no less than the highest price paid by the offeror (or any of its concert parties) for shares in the target during the offer period or in the preceding six months.

6.8 In public takeovers, to what extent are bidders permitted to invoke MAC conditions (whether target or market-related)?

MAC conditions are commonly included in public M&As in Hong Kong. However, it is unlikely that the SFC would permit an offeror to invoke such a condition, as the Takeovers Code restricts subjective conditionality and also provides that an offeror cannot invoke any condition, other than an acceptance condition, unless the circumstances which give rise to the right to invoke the condition are of material significance to the offeror in the context of the offer.

The Takeover Panel in the United Kingdom has set a very high bar for an offeror to invoke a MAC condition to lapse an offer. In a recent decision in relation to Moss Bros Group PLC, the UK Takeover Panel refused to allow the offeror, which cited the impact of COVID-19 on the target's business, to invoke the MAC condition to lapse its offer for all the shares in Moss Bros. This decision, coupled with previous decisions by the UK Takeover Panel, emphasises that an offeror will be able to invoke a MAC condition only in very limited circumstances. We would expect the SFC and the Takeovers Panel in Hong Kong to take a similar stance regarding an offeror's ability to invoke a MAC condition on a public M&A deal.

6.9 Are shareholder irrevocable undertakings (to accept the takeover offer) customary in your jurisdiction?

Yes, irrevocable undertakings from shareholders are relatively common. The offeror may approach a very restricted number of sophisticated investors which have a controlling shareholding to obtain an irrevocable undertaking. A ‘very restricted number' means no more than six. In all other circumstances, the SFC must be consulted before any approach is made to a shareholder to obtain an irrevocable undertaking. If the SFC consents to an offeror approaching shareholders before an offer period has commenced, the SFC will normally impose certain conditions, including limiting the number of shareholders to be approached to six and only allowing the approach to be made within a limited time period before publication of the Rule 3.5 announcement. If an offer period has already commenced, there is normally no restriction on the number of shareholders that may be approached, subject to them not being provided with any non-public information.

Any information that may be provided to the shareholders approached should be confined to details that either are already public or would eventually be contained in the Rule 3.5 announcement. If shareholders are approached before the publication of the Rule 3.5 announcement, they will have to agree to be insiders and be subject to all the rules and regulations applicable to insiders before any information is exchanged.

7 Hostile bids

7.1 Are hostile bids permitted in your jurisdiction in public M&A transactions? If so, how are they typically implemented?

Yes, hostile bids are permitted in Hong Kong public M&A transactions. A hostile bid will be structured as a takeover offer rather than a scheme of arrangement, as a takeover offer does not require the support of the target. However, hostile bids are uncommon in Hong Kong, principally because a large proportion of listed companies in Hong Kong have controlling shareholders. In 2020, just four hostile takeover attempts were announced in Hong Kong and the three hostile takeovers which were subject to conditions lapsed because the acceptance conditions were not satisfied. Without the support of the controlling shareholders, it is often very difficult to achieve control through a hostile takeover offer in Hong Kong.

7.2 Must hostile bids be publicised?

Hostile bids in Hong Kong must be announced in accordance with the Takeovers Code. The board of the target must make an announcement when a firm intention to make an offer is notified to the board of the target from a serious source, irrespective of the attitude of the board to the offer.

In addition, a target will be required to make an announcement regarding whether there is a firm intention to make an offer if, following an approach from a potential hostile bidder, there is market rumour or speculation about a possible offer for the target or there is undue movement in the target's share price or share turnover. The hostile bidder may or may not need to be named in such announcement.

7.3 What defences are available to a target board against a hostile bid?

A target board has a limited set of defences against a hostile bid. Following the issue of an offer document, the board of the target or its independent committee must state in a circular to shareholders whether it considers the terms of the offer to be fair and reasonable and whether it recommends that shareholders should accept the offer. This view will be based on the advice of an independent financial adviser, which must also be set out in the circular. Accordingly, in the context of a hostile bid, this is the target's opportunity to explain to shareholders, where the independent board committee comes to such view, why they should vote against the takeover offer.

Separately, a target could also look for a ‘white knight' investor. A voluntary takeover offer made by a hostile offeror will usually include a 90% acceptance condition (to the extent that the target is incorporated in a jurisdiction which has a compulsory acquisition regime). If satisfied, the offeror can then acquire all of the remaining shares through a statutory procedure. As a takeover defence, the board of the target could seek out a white knight to acquire a shareholding of 10% or more to ensure that the offeror is unable to satisfy the acceptance condition and acquire all the shares of the target. This acceptance condition will often be waived, so while this may not prevent an offeror from obtaining statutory control, it may go some way to dissuading a hostile offeror.

The Takeovers Code imposes limitations on the defensive action that a target board can take. Once a hostile bid has been communicated to the board of a target (or the board has reason to believe that a hostile bid is imminent), the target is prohibited from taking any prescribed "frustrating action" without the prior approval of shareholders at a general meeting. For example, there are restrictions on:

• issuing shares, options or warrants;
• selling or acquiring material assets;
• entering into contracts outside of the ordinary course; or
• conducting a buyback.

8 Trends and predictions

8.1 How would you describe the current M&A landscape and prevailing trends in your jurisdiction? What significant deals took place in the last 12 months?

There has been a large increase in the number of privatisations (often by way of scheme of arrangement) of listed companies over the past year in Hong Kong. Controlling shareholders (which characterise the Hong Kong Stock Exchange) have privatised major listed companies; two key deals include the privatisations of Wheelock & Co and Li & Fung (both controlled by their respective Hong Kong founding families). The value of the Wheelock & Co transaction alone was HK$48 billion. We have also seen a number of Chinese state-owned enterprises looking to privatise listed companies in Hong Kong – for example, COFCO's privatisation of China Agri-Industries Holdings Limited.

Additionally, as governments around the world start to withdraw their financial support for businesses struggling to cope with the effects of the COVID-19 pandemic, we may see an increase in distressed M&A activity, in terms of both public and private M&A.

Private equity buyers are also expected to be a regular feature on the M&A landscape, particularly given their significant amounts of undeployed capital, which they will be under pressure to utilise. We therefore expect to see an active M&A market in the next 12 months.

8.2 Are any new developments anticipated in the next 12 months, including any proposed legislative reforms? In particular, are you anticipating greater levels of foreign direct investment scrutiny?

We do not expect there to be any material legislative developments over the next 12 months; nor do we expect there to be a greater focus on foreign direct investment. Hong Kong remains open to foreign direct investment (though certain investment into regulated businesses, whether by a Hong Kong or foreign investor, requires approval by the relevant regulatory authority).

9 Tips and traps

9.1 What are your top tips for smooth closing of M&A transactions and what potential sticking points would you highlight?

In Hong Kong private M&A transactions, the use of warranty and indemnity insurance can certainly assist with the smooth running of a transaction (please see question 5.3 for further information). While the introduction of an insurer does mean that the transaction will be analysed in detail by another set of legal advisers, this could bridge the gap in negotiations regarding the seller's post-closing liability. It is advisable to get the insurer involved at an early stage to ensure that its review and policy exclusions do not delay the transaction timetable.

It will normally be beneficial to perform some due diligence in person and have face-to-face interactions (especially with the management of the target). This facilitates a more comprehensive due diligence exercise and helps to build rapport between the parties. However, this may now be difficult due to COVID-19, although the parties may be able to use video technology as an alternative.

Regulatory approvals are a potential sticking point and it is very important to identify any required regulatory approvals as early as possible. In the context of public M&As, the Securities and Futures Commission (SFC) reiterated in the December 2020 edition of its Takeovers Bulletin that a Rule 3.5 Announcement must contain all conditions. The use of a generic regulatory condition (eg, "all regulatory approvals") will be considered inadequate disclosure. In the Takeovers Bulletin, the SFC warned that if a particular regulatory approval is not specifically disclosed in a Rule 3.5 announcement, the SFC may not:

• allow the generic regulatory condition to be invoked, in which case an offeror will risk having to proceed with an offer in breach of other legal or regulatory requirements; or
• consent to an extension of an offer period to accommodate the time required to obtain the omitted regulatory approval.

Given the complexities about arranging a physical signing (particularly for cross-border deals), parties could consider using an electronic signature platform (eg, DocuSign) to facilitate a smooth signing or closing process.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.