Perspectives on GEM Listing Reform
Release Date: 2023-11-05
To: The Stock Exchange of Hong Kong Limited ("SEHK")
Subject: Perspectives on GEM Listing Reform
November 5, 2023
Dear SEHK,
Through this open letter, we wish to present our insights regarding the proposed reforms for the GEM listing. Our thoughts are aligned with a recent report from Oriental Daily, echoing the opinions shared by several Legislative Council members concerning the current state of Hong Kong's stock market:
"Lam Shing Keung Criticizes SFC and HKEx for Hindering SME Listings, Stating Stock Market Severely Hit 'Won't Last Long'"
- Legal sector legislator Lam Shing Keung Ambrose criticized the HKEx for its unilateral changes to listing rules, suggesting the market is now dominated by HKEx rather than being market-driven. He highlighted the "big chicken doesn't eat small rice" approach by regulators, where SMEs face numerous non-essential queries during listing applications, including questions on profitability projections and alternatives like listing in Singapore. This has resulted in a fearful atmosphere among companies regarding Hong Kong listings, with the GEM being perceived as "Hong Kong's shame."
- Accounting sector legislator Wong Chun Edmond Shek described the treatment of SMEs by regulators as predatory, imposing numerous barriers that deter them from listing in Hong Kong. He noted industry insiders comparing the difficulty of listing in Hong Kong to the challenge of winning an Olympic gold medal, advising clients to seek listings elsewhere.
- Financial services legislator Lee Wai Hung Robert pointed out the disparity in how HKEx handles SMEs versus larger firms, with the latter facing fewer hurdles and faster listing processes, thereby curtailing SME opportunities.
Our perspectives on the GEM listing reform are as follows:
1. Misconception of GEM as "Hong Kong's Shame"
The SEHK attributes the decline in GEM listings and fundraising since 2019 to COVID-19 and competition from other venues like the Beijing Stock Exchange. We propose that SEHK provide comprehensive data from 2019 through 2022 to substantiate these claims. We believe the issues with GEM stem from SEHK's policy missteps rather than external factors.
2. Misguided Competition with the Beijing Stock Exchange
Labeling the Beijing Stock Exchange as a competitor is a strategic mistake. Hong Kong's unique position as an international capital hub under "one country, two systems" attracts mainland companies seeking foreign investment, a competitive advantage over other Chinese cities. Therefore, the focus should be on international competitors like Singapore Exchange and NASDAQ.
3. The Role of Hong Kong SMEs in GEM
Despite claims of supporting local SMEs, SEHK's actual policies contradict this intent, as outlined in the consultation document.
4. The Problematic GL68-13A Guidance Letter
The GL68-13A guidance letter outlines seven characteristics associated with "shell companies," which often apply to SMEs. This guidance has led to unfair scrutiny and hurdles for SMEs, discouraging them from listing. This letter appears to serve as a barrier against Hong Kong SMEs rather than a tool for ensuring market integrity.
5. The Importance of Listing Motivation
The reasons for listing should be determined by market forces, with regulators ensuring compliance with listing eligibility. The focus should not be on questioning the applicant's motivations, as market dynamics will naturally determine the viability of a listing.
6. Recommendations for Reform
While we acknowledge the need for past measures to combat "shell activities," it's time for regulators to review these policies. With "shell activities" dwindling, the focus should shift to supporting quality SMEs.
7. Comprehensive Reform Needs
The SEHK operates as a monopoly in listing matters, which calls for deeper reform. While we support the proposed reforms, they are insufficient on their own. A shift towards a truly market-driven system with clear, nondiscriminatory rules is essential.
8. Industry Voices and Appeals
The listing process supports numerous sectors in Hong Kong's economy. Unreasonable policies that drive companies to list overseas have far-reaching negative impacts.
Finally, our recommendations for GEM listing reforms should also be applied to the main board, as Hong Kong's fundraising capabilities are lagging behind regional competitors. We urge SEHK to embrace reform, addressing the criticisms and leading Hong Kong's securities market into a new era of prosperity.
For further inquiries about this letter, please contact me at (Phone: 6102-9568 / Email: chairman@hksfpa.org).
Best regards,
Mofiz Chan
Chairman
Hong Kong Securities and Futures Professionals Association
Subject: Perspectives on GEM Listing Reform
November 5, 2023
Dear SEHK,
Through this open letter, we wish to present our insights regarding the proposed reforms for the GEM listing. Our thoughts are aligned with a recent report from Oriental Daily, echoing the opinions shared by several Legislative Council members concerning the current state of Hong Kong's stock market:
"Lam Shing Keung Criticizes SFC and HKEx for Hindering SME Listings, Stating Stock Market Severely Hit 'Won't Last Long'"
- Legal sector legislator Lam Shing Keung Ambrose criticized the HKEx for its unilateral changes to listing rules, suggesting the market is now dominated by HKEx rather than being market-driven. He highlighted the "big chicken doesn't eat small rice" approach by regulators, where SMEs face numerous non-essential queries during listing applications, including questions on profitability projections and alternatives like listing in Singapore. This has resulted in a fearful atmosphere among companies regarding Hong Kong listings, with the GEM being perceived as "Hong Kong's shame."
- Accounting sector legislator Wong Chun Edmond Shek described the treatment of SMEs by regulators as predatory, imposing numerous barriers that deter them from listing in Hong Kong. He noted industry insiders comparing the difficulty of listing in Hong Kong to the challenge of winning an Olympic gold medal, advising clients to seek listings elsewhere.
- Financial services legislator Lee Wai Hung Robert pointed out the disparity in how HKEx handles SMEs versus larger firms, with the latter facing fewer hurdles and faster listing processes, thereby curtailing SME opportunities.
Our perspectives on the GEM listing reform are as follows:
1. Misconception of GEM as "Hong Kong's Shame"
The SEHK attributes the decline in GEM listings and fundraising since 2019 to COVID-19 and competition from other venues like the Beijing Stock Exchange. We propose that SEHK provide comprehensive data from 2019 through 2022 to substantiate these claims. We believe the issues with GEM stem from SEHK's policy missteps rather than external factors.
2. Misguided Competition with the Beijing Stock Exchange
Labeling the Beijing Stock Exchange as a competitor is a strategic mistake. Hong Kong's unique position as an international capital hub under "one country, two systems" attracts mainland companies seeking foreign investment, a competitive advantage over other Chinese cities. Therefore, the focus should be on international competitors like Singapore Exchange and NASDAQ.
3. The Role of Hong Kong SMEs in GEM
Despite claims of supporting local SMEs, SEHK's actual policies contradict this intent, as outlined in the consultation document.
4. The Problematic GL68-13A Guidance Letter
The GL68-13A guidance letter outlines seven characteristics associated with "shell companies," which often apply to SMEs. This guidance has led to unfair scrutiny and hurdles for SMEs, discouraging them from listing. This letter appears to serve as a barrier against Hong Kong SMEs rather than a tool for ensuring market integrity.
5. The Importance of Listing Motivation
The reasons for listing should be determined by market forces, with regulators ensuring compliance with listing eligibility. The focus should not be on questioning the applicant's motivations, as market dynamics will naturally determine the viability of a listing.
6. Recommendations for Reform
While we acknowledge the need for past measures to combat "shell activities," it's time for regulators to review these policies. With "shell activities" dwindling, the focus should shift to supporting quality SMEs.
7. Comprehensive Reform Needs
The SEHK operates as a monopoly in listing matters, which calls for deeper reform. While we support the proposed reforms, they are insufficient on their own. A shift towards a truly market-driven system with clear, nondiscriminatory rules is essential.
8. Industry Voices and Appeals
The listing process supports numerous sectors in Hong Kong's economy. Unreasonable policies that drive companies to list overseas have far-reaching negative impacts.
Finally, our recommendations for GEM listing reforms should also be applied to the main board, as Hong Kong's fundraising capabilities are lagging behind regional competitors. We urge SEHK to embrace reform, addressing the criticisms and leading Hong Kong's securities market into a new era of prosperity.
For further inquiries about this letter, please contact me at (Phone: 6102-9568 / Email: chairman@hksfpa.org).
Best regards,
Mofiz Chan
Chairman
Hong Kong Securities and Futures Professionals Association
Attachment: Response to GEM Listing Reform Consultation Document
Response to the Consultation Paper on GEM Listing Reform
Question 1
Do you agree that an alternative eligibility test should be introduced to enable the listing of high growth enterprises substantively engaged in R&D activities on GEM?
Please give reasons for your views.
Position: Agree
Reason:
The initial purpose of establishing GEM was to assist the development of Hong Kong's technology industry and SMEs, encouraging more direct investment and entrepreneurial funding into smaller enterprises. Therefore, GEM's listing requirements should be more lenient than the Main Board, making it easier for issuers to raise funds for innovation and technology, and serve as a stepping stone to the Main Board. Introducing new criteria to allow various types of companies, including those heavily involved in R&D but lacking sufficient operational cash flow, to list would positively impact fundraising efforts.
Question 2
If your answer to Question 1 is “Yes”, do you have any comments on the proposed thresholds for the alternative eligibility test as set out in paragraphs 63 to 75 of the Consultation Paper?
Please give reasons for your views.
Position: Yes, with Concerns
Reason:
1. The new eligibility criteria focus solely on spending ratios without detailing whether the exchange also considers the issuer's research activities and outcomes. Investors generally expect the issuer's research expenditures to yield direct research results and bring benefits and value to the company. Lacking such considerations may lead some companies to embellish their activities to qualify for listing. Post-listing, they might struggle to attract investors due to a lack of substantial outcomes, leaving investors unaware of the true nature of innovative companies, resulting in low stock liquidity.
2. According to GEM's new eligibility criteria proposal, the minimum threshold is similar to a P/S ratio of about 2.5 times, while the historical average Price/Sales (P/S) ratio for Nasdaq Capital Market issuers is about 2.5-2.8 times (excluding deviations in 2019, 2020, and 2021). Compared to international markets, the minimum market value threshold for GEM applications at HKD 250 million is relatively high, especially for companies that may not be profitable and lack net operating cash flow. Therefore, it is suggested to lower the relevant standards to attract more companies to list in Hong Kong and avoid repeating the pitfalls of new listing rules like 18A and 18C.
Question 3
Do you agree with the proposal to reduce the post-IPO 24 month lock-up period imposed on controlling shareholders of GEM issuers to 12 months as set out in paragraph 76 of the Consultation Paper?
Please give reason for your views.
Position: Disagree
Reason:
As a listing platform for smaller, high-growth SMEs, GEM's controlling shareholders and senior management are often key to the successful development of such enterprises. The post-listing lock-up period represents the controlling shareholders' commitment to developing related businesses or assets, thereby increasing investor confidence and promoting the long-term prosperity of GEM.
Recommendation:
Different lock-up period arrangements for different categories:
1. Controlling Shareholders: Management controlling shareholders are crucial to the company's future development, especially for start-ups that haven't established a profit base. To prevent some companies from selling shares immediately after listing, it is recommended that controlling shareholders not transfer any shares in the first full fiscal year post-listing. Subsequently, the annual transferable shares should not exceed 25% of their holdings;
2. Strategic Investors, Senior Management, or Core Employees: For strategic investors, senior management, or core employees acquiring shares through strategic placements, it is recommended to shorten the post-listing lock-up period from 24 months to 12 months, requiring them not to sell shares in the first full fiscal year post-listing.
Question 4
Should any other existing eligibility requirement for a listing on GEM be amended?
If so, please state the requirement(s) that should be amended and give reasons for your views.
Position: Yes
Reason:
It is recommended to amend Rule 2.09 of the GEM Listing Rules to clarify compliance and acknowledgment of listing standards when reviewing listing applications, removing subjective terms targeting prospective listing companies, such as "barely meeting the listing eligibility requirements" or "low market value"; it is suggested to establish clear test standards to allow prospective listing companies to clearly understand the specific reasons their business is unsuitable for listing.
Question 5
Do you agree with the proposed consequential and housekeeping amendments to the reverse takeover and extreme transaction Rules as set out in paragraphs 81 and 82 of the Consultation Paper?
Please give reasons for your views.
Position: Disagree
Reason:
The current rules are too strict for issuers. Common corporate actions like asset injections, acquisitions, business transformations, or introducing new shareholders are generally seen as shell activities. Retail investors holding related shares may suffer investment losses because the company cannot transform its business or introduce new shareholders.
It is suggested to use discretion and approval rights wisely, seriously considering whether each listed company's acquisition proposal is reasonable and fair to retail investors. This would allow issuers genuinely needing business restructuring to improve their operations to transform, while also providing retail investors an exit opportunity, ultimately balancing strict regulation and market efficiency.
Question 6
Do you agree with the Exchange’s proposal to remove GEM’s compliance officer requirement as set out in paragraph 85(a) of the Consultation Paper?
Please give reasons for your views.
Position: Agree
Reason:
The role and functions of the Compliance Officer significantly overlap with the longstanding responsibilities of the board directors, and deleting the relevant provisions can reduce the issuer's cumbersome execution procedures.
Question 7
Do you agree with the Exchange’s proposal to shorten the period of engagement of GEM issuers’ compliance advisers and to remove the additional obligations currently imposed on a GEM issuer’s compliance adviser as set out in paragraphs 85(b) and 86 of the Consultation Paper?
Please give reasons for your views.
Position: Disagree
Reason:
Both the Singapore Exchange's Catalist and the AIM of the London Stock Exchange have established designated advisers to assist in regulating issuers. The continuous responsibility of issuers is to be guided and advised by sponsors. Compliance advisers represent retail investors, assisting issuers in adhering to corporate governance and compliance matters, playing a crucial role in maintaining issuer standards and market confidence.
It is recommended to adopt a disclosure-based regulatory model instead of pre-regulation, with compliance advisers assisting issuers in fulfilling relevant responsibilities, while the exchange ensures issuers can promptly provide sufficient information to investors. Therefore, we have reservations about shortening the compliance adviser's term and deleting the current additional responsibilities of GEM compliance advisers.
Question 8
Should any other continuing obligation currently applicable to a GEM listed issuer also be removed?
If so, please state the requirement(s) and give reasons for your views.
Position: No opinion
Question 9
Do you agree with the Exchange’s proposal to remove quarterly financial reporting as a mandatory requirement for GEM issuers and instead introduce it as a recommended best practice in GEM’s Corporate Governance Code?
Please give reasons for your views.
Position: Agree
Question 10
Do you agree with the Exchange’s proposal to align the timeframes for GEM issuers to publish their annual reports, interim reports and preliminary announcements of results for the first half of each financial year with those for the Main Board, as set out in paragraphs 94 and 95 of the Consultation Paper?
Please give reasons for your views.
Position: Agree
Question 11
Do you agree that a streamlined mechanism should be introduced to enable qualified GEM issuers to transfer their listing to the Main Board?
Please give reasons for your views.
Position: Agree
Reason:
Simplifying the transfer process is a major attraction of GEM and an essential factor for its success. Introducing this mechanism will significantly reduce the cost of transferring from GEM, enhancing GEM's market value as a platform for nurturing SMEs and increasing its attractiveness.
Question 12
If your answer to Question 11 is “Yes”, do you agree with the removal of the requirement for the appointment of a sponsor for the purpose of a streamlined transfer as set out in paragraph 108 of the Consultation Paper?
Please give reasons for your views.
Position: Agree
Reason:
The requirement should be limited to applicants whose principal business and/or controlling shareholders have not undergone significant changes since listing on GEM.
Question 13
If your answer to Question 11 is “Yes”, do you agree with, for the purpose of a streamlined transfer, the removal of the requirements for a “prospectus standard” listing document and other requirements as set out in paragraphs 111 to 114 of the Consultation Paper?
Please give reasons for your views.
Position: Agree
Reason:
Prospective listing companies have already undergone rigorous due diligence procedures during the listing process. Post-listing, companies need to comply with strict continuous listing requirements and delisting rules under the GEM rules. This process will reduce the cost of transferring from GEM.
Question 14
If your answer to Question 11 is “Yes”, do you agree with the track record requirements for a streamlined transfer applicant as set out in paragraphs 117 to 118 of the Consultation Paper?
Please give reasons for your views.
Position: Disagree
Reason:
The proposal may lead to unfair treatment. It implies that GEM issuers effectively need a five-year business track record (the existing two-year track record requirement under GEM rules plus the three full accounting years post-GEM listing mentioned in the proposal) to apply for transfer, which is stricter than the three-year track record requirement for Main Board applicants.
Question 15
If your answer to Question 11 is “Yes”, do you agree with the daily turnover and volume weighted average market capitalisation requirements for a streamlined transfer applicant as set out in paragraphs 120 to 133 of the Consultation Paper?
Please give reasons for your views.
Position: Disagree
Reason:
These requirements are unfair to issuers already listed on GEM. The consultation lacks proposals to activate GEM's trading volume and market value. The responsibility for these requirements should lie with the exchange, not the issuers. The exchange should consider how to activate the trading volume and market value of existing GEM issuers before implementing these requirements.
Question 16
If your answer to Question 15 is “Yes”, should the Minimum Daily Turnover Threshold for the Daily Turnover Test be set at:
(a) HK$100,000;
(b) HK$50,000; or
(c) another figure (please specify)?
Please give reasons for your views.
Position: Not applicable
Question 17
If your answer to Question 11 is “Yes”, do you agree with the proposed compliance record requirement for a streamlined transfer applicant as set out in paragraph 134 of the Consultation Paper?
Please give reasons for your views.
Position: Agree
Question 18
Do you agree with the proposed modification to the existing compliance record requirement for a transfer from GEM to the Main Board as set out in paragraph 136 of the Consultation Paper?
Please give reasons for your views.
Position: Agree
Reason:
The Exchange proposes to eliminate the requirement for applicants to have "never been subject to disciplinary action by the Exchange for serious or potential serious breaches of the Listing Rules," given that the investigation results are not yet determined, and applicants should not be deemed to have violated regulations before a final decision is made.
Question 19
Do you agree that the Exchange should exempt GEM transferees to the Main Board from the Main Board initial listing fee?
Please give reasons for your views.
Position: Agree
Reason:
This helps reduce overall listing costs and encourages eligible GEM issuers to transfer to the Main Board.