On 19 June 2020, the Securities and Futures Commission ("SFC") commenced proceedings in the Market Misconduct Tribunal ("MMT") against Tianhe Chemicals Group Limited ("Tianhe") (Stock Code: 1619) and its executive director, Wei Xuan ("Wei"), under section 277 of the Securities and Futures Ordinance ("SFO") for allegedly issuing Tianhe's listing prospectus in which the company's revenue was overstated.
The s.277 proceedings are being conducted in parallel with an earlier application made by the SFC on 2 June 2020 under section 213 of the SFO to seek orders from the Court of First Instance to restore all the public shareholders of Tianhe to the position before their subscriptions or purchases of Tianhe's shares (the "Restoration Proceedings").
By way of background, Tianhe was a company listed on the Main Board of Stock Exchange of Hong Kong Limited ("SEHK") engaged in the manufacture and sale of chemical products. Morgan Stanley Asia Limited, UBS AG, UBS Securities Hong Kong Limited and Merrill Lynch Far East Limited (the "Sponsors") were the joint sponsors of the initial public offering ("IPO") of Tianhe in Hong Kong.
Last year, the SFC reprimanded and fined the Sponsors for their failure to conduct due diligence. For details regarding the IPO of Tianhe and the SFC's action against the Sponsors, please refer to our newsletter published in April 2019.
By way of commencing the present MMT proceedings and Restoration Proceedings, the SFC is also seeking to penalise Tianhe and Wei by paying damages to the public shareholders.
Background and issues
Tianhe issued its prospectus on 9 June 2014 for its IPO which raised net proceeds of approximately HK$3.52 billion. The SFC alleges that Tianhe's prospectus contained materially false or misleading information regarding its sales revenue and profits for its track record period for the financial years from 2011 to 2013, which was likely to induce subscriptions for or purchases of the shares of Tianhe and/or to increase the share price of Tianhe in Hong Kong.
The SFC's investigation revealed that about 53% of Tianhe's total track record revenue of RMB12.6 billion disclosed in the prospectus was overstated. Each of Tianhe and Wei was reckless or negligent as to whether the information stated in Tianhe's prospectus was false or misleading as to a material fact or was false or misleading through the omission of a material fact.
The MMT is required to conduct proceedings and determine (a) whether any market misconduct has taken place; (b) the identity of any person who has engaged in the market misconduct; and (c) the amount of any profit gained or loss avoided, if any, as a result of the market misconduct found to have been perpetrated. At the same time, by way of the Restoration Proceedings the SFC is also seeking orders to restore the public shareholders to the position before their subscriptions or purchases of Tianhe's shares.
The liability under section 277(1) of the SFO
The SFC's action under the MMT was brought pursuant to section 277 of the SFO. This section provides that liability arises where a person discloses, circulates or disseminates false or misleading information which is likely to induce subscription, sale or purchase of securities, or dealings in futures, or increase, reduce, maintain or stabilise price, and the person knows or is reckless or negligent as to whether it is false or misleading. Such liability extends to the persons who authorise or are concerned in the disclosure, circulation or dissemination of false or misleading information.
The SFC's case is premised on its findings that the overstated financial performance in Tianhe's prospectus for its IPO was likely to induce the subscription, or the sale or purchase in Hong Kong of the shares of Tianhe by another person or to increase the price of Tianhe's shares. The SFC took the view that each of Tianhe and Wei was reckless or negligent as to whether the information stated in Tianhe's prospectus was false or misleading as to a material fact or was false or misleading through the omission of a material fact. Accordingly, they have or may have engaged in market misconduct under section 277(1) of the SFO.
The order sought under section 213 of the SFO
Section 213 of the SFO creates a statutory cause of action vested in the SFC, as a regulator, to bring an action on behalf of investors who have sustained losses from market misconduct. It is intended to benefit the collective interests of investors by providing civil remedies for those who may have sustained relatively small losses and thus may be deterred by the cost and other considerations from instituting legal proceedings by themselves.
The orders sought under the Restoration Proceedings include making restitutionary payments to or repurchasing the shares from the public investors, and/or an order to pay damages to the public shareholders. Of note is that the orders sought by the SFC are against both Tianhe and Wei, as section 213 of the SFO provides that a person who has aided or abetted the contraventions, as well as a person who was merely involved in the market misconduct in some way can also be made held liable.
Similar proceedings against another former listed company
The SFC has found among others that the turnover and plantation assets stated in the prospectus of another former listed company, China Forestry Holdings Company Limited ("China Forestry"), were overstated by over 92% and 87% respectively, which were materially false or misleading and likely to induce another person to subscribe for China Forestry's shares. The SFC has similarly commenced proceedings under section 277(1) of the SFO and restoration proceedings pursuant to section 213 of the SFO against China Forestry and its executive directors.
As at the time of writing, there has not been any decision made in the MMT proceedings against China Forestry. Given the striking resemblance between the two cases, it is very likely that the case of Tianhe will proceed in the similar course as China Forestry. It remains to be seen how the cases of China Forestry and Tianhe will conclude.
The recent actions taken by the SFC demonstrate its proactive steps in bringing legal actions against listed companies and their directors in the event of any findings of market misconduct. The directors of a listing applicant should ensure that all the information provided in the prospectus is "true, accurate and complete", otherwise they could be held fully responsible for the misleading information contained therein.
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.