The major Hong Kong conglomerates are in the grips of spin-off fever. Cheong Kong, Henderson Land, New World Development and Wai Kee Holdings have all streamlined their operations in the past year through the use of spin-offs.
Spin-offs refer to a publicly listed company (the parent) separately listing its subsidiary whose business is clearly independent from that of the parent. Spin-offs reduce large operations down to sizes which are more commercially manageable, usually through segregating the company's China operations from the rest of its business.
There are distinct advantages to a spin-off. These are:
- Enables investors to assess and invest in the business of the subsidiary independently from the other business of the parent.
- Raises new capital without increasing borrowing levels or incurring interest charges.
- Increases the subsidiary's ability to acquire new assets or businesses by using its securities as consideration.
- Develops an independent identity engaged in a separate business.
- On a separate listing, the parent can concentrate on its core business and reduce its gearing/leverage ratio.
Stock Exchange of Hong Kong requirements
The Stock Exchange of Hong Kong (the SEHK), the securities regulatory body, requires that spin-offs involving a separate listing of a subsidiary from an existing listed company must follow the rules governing the Listing of Securities (the Listing Rules). The following are some of the concerns of the SEHK:
- Shareholders of the parent must consent to the spin-off if the subsidiary represents 15% or more of the consolidated net tangible assets or pre-tax trading profits of the parent.
- The parent must not compete against the subsidiary after the spin-off.
- The subsidiary must meet basic conditions before listing as outlined in Chapter 8 of the Listing Rules, including an adequate trading record of not less than three financial years while under substantially the same management with minimum profit requirements (although infrastructure companies meeting certain requirements have been exempted from the three-year requirement).
- The parent must comply with disclosure and duty of confidence regulations under the Listing Rules.
The parent may encounter the following commercial and legal issues in spinning-off its relevant interests into the subsidiary:
- If the interests are in joint venture companies, reorganization often requires approval from the joint venture partners.
- If the interests are located in China, reorganization encompasses a wide body of complex problems associated with central and local government approval, and Chinese laws and regulations.
- Approval may also be required from banks who financed the underlying projects.
There are a number of other considerations that the parent should keep in mind.
- The market may not adequately absorb the new issue, which may be due to poor market conditions or other companies issuing stakes in similar businesses on or about the same time.
- The newly listed subsidiary may be incorporated in Hong Kong, but tax-havens Bermuda and the Cayman Islands have become increasingly common for incorporating a Hong Kong listed company.
- If the subsidiary is involved in businesses similar to the parent or its other subsidiaries, it may be necessary to remove these businesses from the subsidiary to ensure that a clear demarcation is drawn between the scope of business of the subsidiary and that of the parent after the spin-off. If these businesses involved Chinese interests, removing these businesses from the subsidiary involves complex legal, commercial and tax issues, all of which may require consent by the Chinese joint venture partners and approval of the Chinese authorities.
- The parent may also provide support services to the subsidiary, including the transfer of management and employees to the subsidiary. These related party arrangements need to be entered into on normal arm's length commercial terms. However, the parent may apply to the SEHK to dispense with disclosure and approval requirements under the Listing Rules.
Anne W Y Chen and Damien N W Yeow
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