Corporate governance and directors' duties in Hong Kong: overview
A Q&A guide to corporate governance law in Hong Kong.
The Q&A gives a high level overview of board composition, the comply or explain approach, management rules and authority, directors’ duties and liabilities, transactions with directors and conflicts, company meetings, internal controls, accounts and audit, institutional investors and reform proposals.
To compare answers across multiple jurisdictions, visit the Corporate Governance Country Q&A tool.
The Q&A is part of the global guide to corporate governance law. For a full list of jurisdictional Q&As visit www.practicallaw.com/corpgov-guide
Corporate governance trends
Reform in company law
The new Companies Ordinance (Chapter 622 of the Laws of Hong Kong) (Companies Ordinance) has now been in force for more than two years since it came into operation on 3 March 2014. The Companies Ordinance contains new initiatives to facilitate business and cater for the needs of small and medium enterprises (SMEs). It has simplified the procedures for starting a business by, for example, removing the memorandum of association and the par or nominal value for shares. More SMEs can now prepare simplified financial statements and directors' reports.
According to the Companies Registry (www.cr.gov.hk/en/home/index.htm), a department of the Hong Kong Government responsible for providing services in relation to the incorporation of Hong Kong companies, registration of non-Hong Kong companies and filings required to be made by a Hong Kong company and a non-Hong Kong company, the transition to the new regime has been very smooth and it is encouraged that the business community has adopted the new measures under the Companies Ordinance, which aim to facilitate business and save costs, such as the alternative court-free procedure for reduction of capital and the new merger procedures.
The Companies Ordinance has strengthened Hong Kong's competitiveness and reinforced Hong Kong's position as an international financial and commercial centre through enhancing corporate governance, facilitating business and modernising Hong Kong's company law.
Reform in risk management and internal control of listed companies
Amendments to the Corporate Governance Code (CG Code) and Corporate Governance Report (CG Report) relating to the improvement of risk management and internal controls of listed companies have now come into effect for accounting periods that began on or after 1 January 2016. The main changes to the CG Code and the CG Report, which reflect the conclusions of an earlier consultation published by the Stock Exchange of Hong Kong Limited (SEHK), include the following changes:
Incorporating principles of risk management into the CG Code, where appropriate.
Defining the roles and responsibilities of the board and management.
Clarifying that the board has an ongoing responsibility to oversee the issuer's risk management and internal control systems.
Upgrading the provisions on the annual review of the effectiveness of the issuer's risk management and internal control systems, and related disclosures in the CG Report, from recommended best practices to code provisions (which the listed issuer should either comply with or give considered reasons for any deviation).
Upgrading the provision for the issuer to review the need for an internal audit function on an annual basis if it does not have one from a recommended best practice to a code provision.
Reform in the environmental, social and governance reporting guide
In December 2015, the SEHK published consultation conclusions on the proposed changes to the environmental, social and governance (ESG) reporting guide for listed companies (Appendix 27 to the Main Board Listing Rules) (ESG Guide) (see Question 5). These led to the following amendments to the ESG Guide and the Rules Governing the Listing of Securities on the Stock Exchange of Hong Kong Limited (Listing Rules):
Revising the introductory section of the ESG Guide to provide more guidance on ESG reporting in the ESG Guide and to be more in line with international standards.
Rearranging the ESG Guide into two subject areas: environmental and social.
Revising the wording of the general disclosures under the ESG Guide (where relevant), to be consistent with the requirements of a directors' report under the Companies Ordinance, which have now been incorporated into the Listing Rules for the financial years ending on or after 31 December 2015.
Upgrading the general disclosures under each of the aspects of the ESG Guide, from recommended disclosures to "comply or explain" provisions.
Upgrading the key performance indicators, or KPIs, in the "environmental" subject area to "comply or explain" provisions.
Requiring a statement in the annual report or ESG report as to whether the listed company has complied with the "comply or explain" provisions of the ESG Guide for the relevant financial year. The listed company must report on the "comply or explain" provisions and if it does not report on one or more of these provisions, it must provide reasons in the ESG report.
Revising the wording of the recommended disclosures to bring them more in line with international standards of ESG reporting by including a disclosure about the gender diversity of the workforce.
It is expected that listed companies could benefit from ESG reporting through better risk management, improved access to capital, greater capacity to meet supply chain demands and lower operational costs.
The amendments to the ESG Guide and the related Listing Rules are effective in two phases:
The amendments to the Listing Rules and the upgrade of the general disclosures under the ESG Guide (from recommended disclosures to "comply or explain" provisions), as well as the revised recommended disclosures, are effective for issuers' financial years commencing on or after 1 January 2016.
The upgrade of the KPIs in the "environmental" subject area of the ESG Guide (from recommended disclosures to "comply or explain" provisions) will be effective for issuers' financial years commencing on or after 1 January 2017.
Reform in winding up and insolvency law
The Companies (Winding Up and Miscellaneous Provisions) (Amendment) Ordinance 2016 (C(WUMP)(Amendment) Ordinance) was enacted in mid-2016, and, subject to certain exceptions, will come into force in February 2017. It aims to improve and modernise the corporate winding-up regime in Hong Kong by providing measures to increase creditors' protection and streamline and further enhance the integrity of the winding-up process and thus bring the Hong Kong regime more in line with other jurisdictions and enhance the confidence of investors and creditors.
These changes include, among others, the following:
To enhance creditors' protection, the court will have the power to set aside transactions at an undervalue entered into by a company within five years before the commencement of its winding up.
To streamline the winding up process, the C(WUMP)(Amendment) Ordinance introduces measures to simplify the proceedings of the committee of inspection by, for example, allowing remote attendance at meetings of the committee of inspection and allowing them to make decisions through written resolutions.
To enhance the integrity of the winding-up process, the C(WUMP)(Amendment) Ordinance provides that aggrieved parties may apply for a court order to enforce liabilities arising from the liquidator's wrongdoing or breach of duty, even though the liquidator has obtained a court order releasing him or her as a liquidator after completion of the relevant winding-up case. Currently a court order releasing the liquidator will discharge him or her from all liabilities in respect of any act done or default made by him or her in the administration of the company affairs or in relation to his or her conduct as a liquidator.
The main form of corporate entity used in Hong Kong is the limited liability company. A limited liability company can be a private company limited by shares, a public company limited by shares, or a company limited by guarantee without a share capital.
Private limited liability companies. This is the most common form of corporate entity used in Hong Kong. A private company must have at least one founder member taking at least one share. The maximum number of members is limited to 50. A private company's constitutional documents must contain provisions that restrict the right to transfer its shares, and a private company cannot offer its shares or debentures to the public. Subject to certain exceptions, a private company must include the word "limited" at the end of its name.
Public limited liability companies. A public company is a company other than a private company and a company limited by guarantee without a share capital. A public company may have more than 50 members. Under the Companies Ordinance, a public company can only be limited by shares, but not by guarantee. Public companies can offer their shares or debentures to the public and many, but not all of them have their shares traded on the Stock Exchange of Hong Kong Limited.
Companies limited by guarantee without a share capital. This form of company is primarily used for non-profit-making or charitable purposes.
The regulatory framework for corporate governance and directors' duties in Hong Kong comprises legislation, non-statutory rules, codes and guidelines published by the related regulatory bodies, the company's constitutional documents and case law, as explained below.
Companies Ordinance. This is the principal piece of legislation that applies to all companies incorporated in Hong Kong. Some of the provisions are equally applicable to non-Hong Kong incorporated companies that have established a place of business in Hong Kong.
Companies (Winding Up and Miscellaneous Provisions) Ordinance (C(WUMP)O). This piece of legislation mainly deals with corporate insolvency, prospectuses and disqualification of directors.
The Companies Registry administers various ordinances, principally the Companies Ordinance and the C(WUMP)O.
Securities and Futures Ordinance (Chapter 571 of the Laws of Hong Kong) (SFO). This applies to companies (wherever incorporated) whose shares are listed on the Stock Exchange of Hong Kong Limited (SEHK) (www.hkex.com.hk/eng/index.htm) and other private companies, institutions and intermediaries that participate in the securities and futures markets. The SEHK is both a stock exchange and a regulator of listed companies in Hong Kong. The SEHK administers the listing, trading and clearing rules.
The Securities and Futures Commission (SFC) (www.sfc.hk/web/EN/index.html) is an independent statutory body set up to regulate the securities and futures markets in Hong Kong. It derives a broad range of licensing, investigative, remedial and disciplinary powers from the SFO and its subsidiary legislation. It also administers the Codes on Takeovers and Mergers and Share Buy-backs (Takeovers Code and Share Buy-backs Code). The parties regulated by the SFC include the SEHK (including the stock and futures exchanges and associated clearing houses), financial market intermediaries and investors.
As a front-line market regulator, the SEHK works closely with the SFC to ensure orderly and fair markets. For example, in relation to the listing process, the SEHK vets the listing application through its Listing Division, which then works with its Listing Committee in relation to the approval of any listing application. Under the dual-filing regime, the SEHK is required to file the listing applicant's information with the SFC, who also has the right to reject a listing application. Also, the SEHK has the regulatory duty to ensure listed companies' compliance with the Listing Rules through adopting a number of practices such as monitoring share price movements and media coverage, vetting important draft announcements and documents, and setting and monitoring the corporate governance for listed companies, while the SFC supervises and monitors the SEHK's performance of such listing-related functions and responsibilities.
Companies' constitutional documents
Articles of association. For companies formed and registered under any predecessor of the current Companies Ordinance, a condition contained in the company's memorandum of association is to be regarded as a provision of the company's articles of association now. The model articles of association which a company may adopt include the following (collectively, Model Articles):
Schedule 1 to the Companies (Model Articles) Notice (Chapter 622H of the Laws of Hong Kong), for public companies limited by shares which are incorporated under the Companies Ordinance, or have otherwise adopted such Model Articles as their articles of association (Schedule 1 Model Articles).
Schedule 2 to the Companies (Model Articles) Notice, for private companies limited by shares which are incorporated under the Companies Ordinance or have otherwise adopted such Model Articles as their articles of association (Schedule 2 Model Articles).
Schedule 3 to the Companies (Model Articles) Notice, for companies limited by guarantee which are incorporated under the Companies Ordinance or have otherwise adopted such Model Articles as their articles of association (Schedule 3 Model Articles).
Non-statutory rules, codes and guidelines
A Guide on Directors' Duties. This non-statutory guide was published by the Companies Registry in July 2009 and was subsequently revised in March 2014 to reflect the new provisions in the Companies Ordinance. It outlines the general principles for a director of a company in the performance of his functions and exercise of his powers.
Takeovers Code and Share Buy-backs Code. These are non-statutory rules governing takeovers, mergers and share buy-backs affecting public companies in Hong Kong, companies with a primary listing of their equity securities in Hong Kong and REITs with a primary listing of their units in Hong Kong, subject to certain exceptions. These Codes are administered by the SFC.
The Listing Rules. These are the rules issued by the SEHK for companies listed on the Main Board and the Growth Enterprise Market (GEM) of the SEHK. There are two separate sets of rules, namely the Main Board Listing Rules and the GEM Listing Rules, for companies listed on the Main Board and GEM of the SEHK, respectively, but they are basically very similar. In addition to the Listing Rules, the SEHK has also issued, and may from time to time issue, interpretations of the Listing Rules, practice notes and guidance materials on listing matters.
Corporate Governance Code (CG Code) and Corporate Governance Report (CG Report). This is contained in Appendix 14 to the Main Board Listing Rules and Appendix 15 to the GEM Listing Rules. The CG Code sets out the principles of good corporate governance.
Guidelines on Disclosure of Inside Information. These are non-statutory, non-regulatory guidelines issued by the SFC to assist companies listed on the SEHK to comply with their obligations to disclose inside information under Part XIVA of the SFO.
Guidelines for Directors and the Guide for Independent Non-Executive Directors. These are non-statutory, non-regulatory guidelines issued by the Hong Kong Institute of Directors.
Terms of reference of the board committees of a company. The Listing Rules and the CG Code provide that listed companies must establish various board committees such as an audit committee and remuneration committee, with specific written terms of reference.
Institutional investors and other shareholder groups
Institutional investors and other shareholder groups provide guidelines to listed companies on good corporate governance practices. Those that hold a significant shareholding in companies can exert a direct influence on corporate governance, particularly in areas such as board composition.
Institutional Shareholder Services Inc (ISS), a global provider of corporate governance and responsible investment solutions, issued the 2016 Hong Kong Proxy Voting Guidelines to assist institutional investors by providing voting recommendations on the basis of responsible global corporate governance practices (see Question 14).
In addition, and in order to promote active shareholder engagement, the SFC published the consultation conclusions on the Principles of Responsible Ownership (Principles) on 7 March 2016, which aim to provide guidance on how investors should fulfil their ownership responsibilities in relation to investments in Hong Kong listed companies. The SFC has recognised that active shareholder engagement or responsible share ownership can help strengthen the corporate governance culture in Hong Kong, which is important for the overall health of the local financial market. The Principles are intended to apply to investors who invest money or hold shares on behalf of clients and other stakeholders to whom they are accountable, and therefore the investors captured by the Principles would mainly comprise institutional investors rather than individual and retail investors. The Principles include the following:
Investors should establish and report to their stakeholders their policies for discharging their ownership responsibilities.
Investors should monitor and engage with their investee companies.
Investors should establish clear policies on when to escalate their engagement activities.
Investors should have clear policies on voting.
Investors should be willing to act collectively with other investors when appropriate.
Investors should report to their stakeholders on how they have discharged their ownership responsibilities.
When investing on behalf of clients, investors should have policies on managing conflicts of interests.
The Principles are open for investors to adopt on a voluntary basis. Investors are encouraged to adopt the Principles by disclosing to their stakeholders that they have done so, or why certain aspects do not or cannot apply to them, while investors who do not think that the Principles are relevant or suitable for them at the outset are encouraged to explain why they have not been adopted and what alternative measures are in place. The SFC will monitor the Principles' reception and development to determine whether any amendments or the introduction of obligations may be necessary at a future stage.
There is no statutory corporate governance code in Hong Kong. However, companies listed on the Stock Exchange of Hong Kong Limited (SEHK) are subject to the Corporate Governance Code (CG Code), which was first introduced by the SEHK in 2005 and has since been amended from time to time. The CG Code covers the following areas:
Segregation of the roles of chairman and chief executive officer (CEO).
Appointment, re-election and removal of directors.
Responsibilities of directors.
Supply of information to directors.
Remuneration of directors and senior management and board evaluation.
Financial reporting, risk management, internal control and audit committee.
Delegation of management functions by the board and board committees and corporate governance functions.
Communication with shareholders and voting by poll.
The CG Code sets out the principles of good corporate governance and two levels of recommendations:
Recommended best practices.
The CG Code adopts the "comply or explain" approach. Listed companies must state whether they have complied with the code provisions set out in the CG Code for the relevant accounting period in their interim reports and annual reports. Where a listed company deviates from any of the code provisions, it must give considered reasons. In relation to the recommended best practices, listed companies are encouraged, but are not required, to state whether they have complied with them and give considered reasons for any deviation.
The Listing Rules require that listed companies include a Corporate Governance Report (CG Report) in their annual reports. The CG Report must contain the prescribed information regarding the corporate governance practices of the listed company. Any failure to comply with the mandatory disclosure requirements will be regarded as a breach of the Listing Rules and the SEHK may impose various sanctions, including:
Issuing a private reprimand, a public statement involving criticism or a public censure.
Requiring the breach to be rectified within a specified time period.
Suspending the trading in the shares of the listed company.
Cancelling the listing.
Since the introduction of the CG Code in January 2005, the SEHK has conducted regular reviews to monitor compliance by listed companies with the CG Code. According to the results of its most recent review published in September 2016, 97% of the listed companies that were subject to the review complied with 70 or more of the 75 code provisions in the then CG Code.
The CG Code now includes provisions to improve the risk management and internal controls of listed companies, and such amendments have become effective for listed companies' accounting periods that began on or after 1 January 2016 (see Question 1).
Corporate social responsibility and reporting
It is common for listed companies in Hong Kong to highlight their corporate social responsibility (CSR) efforts in their annual reports.
There is no statutory requirement governing CSR but various NGOs in Hong Kong lay down guidelines on CSR practices. For listed companies in Hong Kong, the Stock Exchange of Hong Kong Limited (SEHK) has published a reporting guide (ESG Guide) for them to report on environmental, social and governance (ESG) matters. Due to the recent amendments to the ESG Guide, all companies listed on the SEHK must now disclose ESG information on an annual basis and regarding the same period covered in their annual reports (see Question 1). The ESG report may be presented as information in the annual report, in a separate report, or on the listed company's website. Listed companies must state whether they have complied with the "comply or explain" provisions set out in the ESG Guide for the relevant financial year, and are encouraged to report on the recommended disclosures of the ESG Guide.
Board composition and restrictions
The Companies Ordinance adopts a unitary board structure for companies incorporated in Hong Kong.
The board of directors bears the ultimate responsibility for the management and operations of the company. Directors can exercise all the powers of a company except any power reserved to the shareholders, either under the Companies Ordinance or by resolution of the shareholders or by the company's articles of association. The board can establish board committees to deal with specific matters of the company, or delegate certain of its powers to the company's senior management and/or appoint a managing director or a CEO who will be responsible for the day-to-day management of the company's business.
The board comprises all of the directors of the company. The law does not distinguish between executive directors and non-executive directors. Each director is individually and collectively responsible for the management and operations of the company.
There is no statutory or regulatory requirement for a Hong Kong company to appoint an employee to its board of directors.
Number of directors or members
A private company must have at least one director while a public company (whether listed on the Stock Exchange of Hong Kong Limited (SEHK) or not) and a company limited by guarantee must have at least two directors. A company listed on the SEHK must have at least three independent non-executive directors, at least one of whom must possess appropriate professional qualifications, or accounting or related financial management expertise and must have independent non-executive directors representing at least one-third of its board. A director must normally be a natural person. However, a private company may have a body corporate as its director if the company is not a member of a listed group, provided that the company must have at least one other director who is a natural person. In any event, a private company must have at least one director who is a natural person. There is no statutory limit on the maximum number of directors, but a company can, in its articles of association, place a limit on the maximum number of directors.
A director must be at least 18 years' old. There is no upper limit on the age of a director.
There is no nationality restriction placed on directors.
There is no restriction on the gender of directors.
There is a code provision in the Corporate Governance Code that requires the nomination committee of a listed company to have a policy concerning diversity in the board. Listed companies are also required to disclose the policy or a summary of the policy in the Corporate Governance Report.
According to the CG Code, board diversity will differ according to the circumstances of each listed company, which should consider its own business model and specific needs. Board diversity can be achieved through factors like gender, age, cultural and educational background, or professional experience.
Other general restrictions or requirements
An undischarged bankrupt cannot act as a director. Also, any person who has been disqualified from acting as a director must not act as a director. Further, the company's articles of association may stipulate additional eligibility requirements for being a director. For example, Regulation 25 of the Schedule 2 Model Articles and Regulation 90 of the Table A Articles (which were set out in Schedule 1 to the predecessor of the current Companies Ordinance and could be adopted by companies incorporated under the predecessor Ordinance) stipulate that a person ceases to be a director if he becomes mentally incapacitated or becomes of unsound mind, respectively.
The Companies Ordinance does not distinguish between executive directors and non-executive directors nor does it recognise a specific role for supervisory directors. The Listing Rules and the Corporate Governance Code recognise the value and importance of non-executive directors and independent non-executive directors, who usually work on a part-time basis and advise on the strategy and policy of the company without being involved in the day-to-day operations.
Non-executive directors are subject to the same duties and liabilities as other directors. However, in determining whether a director has met the expected standard of care, skill and diligence, courts will generally consider a number of factors, which include the functions that are to be performed by the director concerned, whether he is a full-time executive director or a part-time non-executive director and his professional skills and knowledge.
A company is not legally required to have a minimum number of non-executive directors or independent non-executive directors. The Listing Rules require that every listed company must have at least three independent non-executive directors, at least one of whom must possess appropriate professional qualifications, or accounting or related financial management expertise, and must have independent non-executive directors representing at least one-third of its board (LR3.10(2), Listing Rules).
In assessing the independence of an independent non-executive director, the Listing Rules require a listed company to take into account, among other things, whether the director has any interest in, or any business relationship with, the listed company or its core connected persons.
Under the Corporate Governance Code, it could be relevant factor in the determination of their independence if a person has served more than nine years as a director of a listed company. If an independent non-executive director serves more than nine years, his or her continuing appointment should be subject to a separate resolution to be approved by shareholders. The explanatory papers to shareholders accompanying that resolution should include the reasons why the board believes he or she is still independent and should be re-elected.
The power of the company is vested in the board collectively. There are no other legal restrictions on the roles of individual board members, except that the sole director of a private company cannot be the company secretary of that company at the same time. Also, a private company which has only one director must not have as its company secretary a body corporate whose sole director is the sole director of the private company. The Corporate Governance Code contains a code provision that requires the positions of the chairman of the board and the CEO to be assumed by different persons.
Appointment of directors
The appointment of directors is governed by the Companies Ordinance and the company's articles of association. The ultimate authority for the appointment of directors lies with the shareholders of the company. Typically, the articles of association provide that directors are appointed by the shareholders at a general meeting. The board may from time to time appoint a director to fill a casual vacancy or as an additional director to the board. However, usually that director will only hold office until the next annual general meeting where he can stand for re-election.
In relation to listed companies, the Corporate Governance Code stipulates that any director appointed by the board to fill a casual vacancy must retire, and that director can stand for re-election, at the first general meeting after his appointment.
Removal of directors
A director may be removed pursuant to the Companies Ordinance or a specific provision in a company's articles of association. The Companies Ordinance provides that a company can by an ordinary resolution remove a director from his office before the end of his term of office. This resolution cannot be passed by written resolution of the shareholders. It must be passed by the shareholders at a general meeting at which the director concerned has the right to attend and speak. A shareholder proposing a resolution to remove a director must give a special notice of at least 28 days to the company, which it must then give the shareholders at least 14 days' notice of such resolution before the meeting at which that resolution is to be considered and passed.
Under the Companies Ordinance, any directors' service contract with a term which is stated to exceed or may exceed three years must be approved by the shareholders of the company.
The articles of association can contain provisions restricting the term of appointment of directors. Schedule 1 Model Articles and Table A Articles provide that at the annual general meeting of the company, one-third of the directors must retire from office. However, this requirement does not apply to companies that adopt Schedule 2 Model Articles and Schedule 3 Model Articles (private companies limited by shares and companies limited by guarantee), to reflect how small and medium sized companies operate.
In relation to listed companies, the Corporate Governance Code requires each director to be subject to retirement by rotation at least once every three years. The Listing Rules also require a listed company to obtain prior shareholders' approval for any director's service contract that either:
Is for a term of more than three years.
Can only be terminated on notice of more than one year or on payment of compensation of more than one year's pay.
Directors employed by the company
Directors need not be employees of the company.
In general, shareholders do not have a right to inspect directors' service contracts, subject to certain exceptions.
This is reinforced by the Model Articles, which provide that a person is not entitled to inspect any of the company's accounting or other records or documents just because he or she is a member, unless the person is authorised to do so by:
A court order under section 740 of the Companies Ordinance.
An ordinary resolution of the company.
However, under section 740 of the Companies Ordinance, on application by members representing at least 2.5% of the voting rights of all the members who have a right to vote at the company's general meetings at the date of application, or at least five members of the company, the court can authorise the applicant (or a person on behalf of the applicant) to inspect a company's records or documents if it is satisfied that the application is made in good faith and the inspection is for a proper purpose. A "record" for this purpose is defined as any record of information and includes any contract or agreement.
Directors are neither prohibited from holding nor required to own shares in the company. However, the Listing Rules prohibit directors of listed companies from dealing in the company's shares during certain blackout periods before the announcement of the company's results or when they are in possession of any inside information.
Part XV of the Securities and Futures Ordinance requires directors of listed companies to disclose their interests in the shares of the listed company of which they are directors.
Determination of directors' remuneration
Typically, the company's articles of association provide that directors' remuneration is determined by the company at the annual general meeting. It is common for the board to obtain a mandate from shareholders at a general meeting to authorise the board to fix the directors' remuneration.
The Listing Rules contain provisions that require listed companies to establish a remuneration committee chaired by an independent non-executive director for the purposes of, among other things, determining the remuneration packages of all executive directors and senior management, or making recommendations to the board on such remuneration packages. A majority of the members of the remuneration committee must be independent non-executive directors.
The Companies Ordinance requires a company to include in the notes to its financial statements details regarding directors' pay in accordance with the Companies (Disclosure of Information about Benefits of Directors) Regulation (Chapter 622G of the Laws of Hong Kong). The Listing Rules require that a listed company disclose in its financial statements details of its directors' pay on a named basis.
It is not a legal requirement for the directors' remuneration to be approved by the shareholders of the company, although the Model Articles contain a provision that states that the remuneration of the directors is determined by the company at a general meeting. The Listing Rules also require a listed company to obtain prior shareholders' approval for certain types of directors' service contracts (see Question 11).
General issues and trends
The long-awaited Financial Institutions (Resolution) Ordinance, which was passed by the Legislative Council on 22 June 2016 and was gazetted on 30 June 2016 (although not yet in force), will introduce a clawback order in respect of the remuneration of certain officers of financial institutions. This Ordinance will come into force on a date to be appointed by the Secretary for Financial Services and the Treasury, pending the passing of certain subsidiary legislation. This Ordinance aims to establish a local resolution regime to mitigate the risks posed by the non-viability of systemically important financial institutions to the stability of the local financial system. Such a regime is designed to comply with the latest international standards set by the international Financial Stability Board.
Under this Ordinance, the courts will have the ability to make a clawback order against an officer of certain financial institutions in relation to his remuneration if it is satisfied that:
The officer, in performing his functions, acted or omitted to act in a way that caused, or materially contributed to, the financial institution ceasing, or being likely to cease, to be viable.
The act or the omission was made intentionally, recklessly or negligently.
The period to be covered under such an order would normally relate to the three years immediately preceding the date on which the resolution of the financial institution was initiated and such period can extend for a further period of up to three years in the case of dishonesty. A clawback order is an order which states that one or both of the following must occur:
The officer must repay the remuneration received in respect of his services provided during the relevant period.
The officer ceases to be entitled to receive any such remuneration that the financial institution has agreed to give during the relevant period, but has not yet given.
Also, the Institutional Shareholder Services Inc (ISS) (a global provider of corporate governance and responsible investment solutions) has laid down voting recommendations in its 2016 Hong Kong Proxy Voting Guidelines in relation to remuneration, including directors' fees, equity compensation plans and employee stock purchase plans to assist investors in voting on the basis of responsible global corporate governance practices (see Question 3).
Management rules and authority
The conduct of business of the board of directors is regulated by the relevant provisions of the Companies Ordinance and the company's articles of association. The quorum for board meetings as well as the voting requirements for passing resolutions at board meetings are usually set out in the articles of association of the company but there is not usually any specific provision relating to notice period. For example, the Model Articles provide the following:
Length of notice for board meeting. There is no specific length of notice required for the holding of board meetings. Under common law, directors must be given reasonable notice of board meetings. What amounts to a reasonable notice depends on the circumstances.
Quorum for board meeting. Unless otherwise fixed by the directors, two directors constitute a quorum for a board meeting. However, the Schedule 2 Model Articles provide that if a private company has only one director, the director can make a decision that may be taken in a directors' meeting and has effect as if agreed in a directors' meeting, provided that the sole director must provide the company with a written record of the decision within seven days after the decision is made.
Voting requirements. Resolutions at the board meetings are decided by a majority of votes and, if the votes are equal, the chairman of the board meeting has a second or casting vote.
The CG Code provides that the board must meet regularly and board meetings must be held at least four times a year at approximately quarterly intervals. Notice of at least 14 days must be given of a regular board meeting of a listed company. For all other board meetings, reasonable notice must be given.
The directors are collectively and individually responsible for the management of the company and can exercise all the powers of the company for that purpose, subject to matters that are reserved to the general meeting as provided in the Companies Ordinance, the company's articles of association, by shareholders' resolution and, in relation to listed companies, the Listing Rules.
Shareholders may from time to time pass resolutions at a company general meeting to restrict directors' powers as they think fit.
In addition to the indoor management rule (that is known as the Turquand Rule), the Companies Ordinance provides a statutory protection for persons dealing with a company, such that in favour of a person dealing with a company in good faith, the power of the directors to bind the company will be deemed to be free of any limitation under the articles of association of the company, any resolutions of the company or any agreement between the members of the company. The doctrine of constructive notice has been abolished by the Companies Ordinance, so that a person is not taken to have notice of any matter merely because that matter is disclosed in the constitutional documents of the company or any resolutions or returns filed with the Registrar of Companies in Hong Kong.
The Model Articles contain provisions that allow directors to delegate any of their powers under the articles of association to a committee or committees of the board or a person (for example, a managing director). The board is not legally required to delegate specific responsibilities, although it is common for boards to appoint a CEO or a managing director and delegate to him certain powers of the board to handle the day-to-day management of the company.
The Listing Rules require listed companies to establish an audit committee comprising non-executive directors only and a remuneration committee comprising independent non-executive directors as a majority. The Corporate Governance Code contains code provisions that require a listed company to establish a nomination committee consisting of independent non-executive directors as a majority.
Directors' duties and liabilities
Directors' duties can be classified into two broad categories: fiduciary duties, and the duties of care, skill and diligence.
Fiduciary duties are derived from case law and remain uncodified. Fiduciary duties include the duties to:
Act in good faith in the interests of the company.
Exercise powers for a proper purpose.
Avoid conflicts between personal interests and interests of the company.
Not to make secret profits.
The Companies Ordinance codifies directors' duties of care, skill and diligence. It sets out a mixed objective and subjective test for the standard in carrying out a director's duty to exercise reasonable care, skill and diligence. Therefore, in deciding whether a director has breached the duties, both the general knowledge, skill and experience that may reasonably be expected of a person carrying out the functions of the director of the company (the objective limb) and the general knowledge, skill and experience of that particular director (the subjective limb) have to be considered. This standard also applies to a shadow director.
If a director fails to comply with these directors' duties, he may be liable to civil or criminal proceedings and may be disqualified from acting as a director. The Companies Registry has published a Guide on Directors' Duties, which sets out the following 11 general duties for a director in the performance of his functions and exercise of his powers:
Duty to act in good faith for the benefit of the company as a whole.
Duty to use powers for a proper purpose for the benefit of members as a whole.
Duty not to delegate powers except with proper authorisation and duty to exercise independent judgement.
Duty to exercise care, skill and diligence.
Duty to avoid conflicts between personal interests and interests of the company (see Question 28).
Duty not to enter into transactions in which the directors have an interest except in compliance with the requirements of the law.
Duty not to gain advantage from use of position as a director.
Duty not to make unauthorised use of company's property or information.
Duty not to accept personal benefit from third parties conferred because of position as a director.
Duty to observe the company's constitution and resolutions.
Duty to keep accounting records.
Under the predecessor of the Companies Ordinance, a director will only be liable if he "knowingly and wilfully" authorises or permits the non-compliance by the company. Both "knowingly" and "wilfully" require proof of the mental state of the director, which can be difficult and "wilfulness" requires a deliberate act. To step up the enforcement effort, under the Companies Ordinance, the threshold is lower for prosecuting officers or shadow directors of a company who are in default by introducing a new concept of "responsible person", who is an officer or shadow director of the company who authorises or permits, or participates in, the contravention or failure. This makes it easier for a director to be held liable for non-compliance with the Companies Ordinance, given that the requirement to prove the mental element has been removed.
Criminal liability applies to theft and fraud offences by a director. He may also be disqualified as a director and may be personally responsible for all relevant debts of the company where, for example, he is involved in the management of a company in contravention of a disqualification order, or he is involved in fraudulent trading, which is discovered in the course of the winding up of a company. In addition, the provisions of the Prevention of Bribery Ordinance (Chapter 201 of the Laws of Hong Kong) also apply to directors of a company. A director will commit an offence if he offers or accepts a bribe.
The Companies (Winding Up and Miscellaneous Provisions) Ordinance (C(WUMP)O) and the Securities and Futures Ordinance (SFO) impose various liabilities on directors of listed companies in relation to the issue of and dealing in securities and the provision of information relating to securities. These include:
Civil and criminal liabilities under the C(WUMP)O for any untrue statements in a prospectus.
Civil and criminal liabilities for engaging in any market misconduct offences under Part XIII and XIV of the SFO.
Civil liabilities for failing to procure the listed company to make timely disclosure of inside information under Part XIVA of the SFO.
Criminal liabilities under the SFO for providing false or misleading representations or information to the regulators.
Civil liability under the SFO for making a false or misleading public communication.
Criminal liability under the SFO for failing to make proper and timely disclosure for a director's interests in the shares and debentures of the listed company.
Directors of listed companies must also observe the relevant requirements under the Listing Rules for dealing in securities.
In the event of a winding-up, whether court-ordered or voluntary, a director will be criminally liable under sections 271 to 275 of the Companies (Winding Up and Miscellaneous Provisions) Ordinance (C(WUMP)O) if he or she is found to have, among others:
Failed to comply with the obligations imposed on him or her during the liquidation of the company.
Failed to deliver up the relevant property of the company to the liquidator.
Falsified the books of the company with an intention to defraud or deceive any person.
Made any material omission or false representation relating to the affairs of the company.
Given or concealed property of the company in liquidation with intent to defraud creditors.
Failed to keep books for the two years before the winding-up of the company.
Engaged in fraudulent trading.
If a director engages in fraudulent trading, which is discovered in the course of the winding up, the director may be subject to both civil and criminal penalties, and to a disqualification order. The civil remedy is that a court may, in appropriate circumstances, order that a director who was knowingly a party to the fraud to be personally responsible for all the debts of the company.
Although there is no specific concept of transactions at an undervalue in Hong Kong (although there is for personal bankruptcy), liquidators may pursue a director for misfeasance in relation to a disposal of assets below market value, or could bring an action against the director in the name of the company for breach of fiduciary duties in relation to the approval of the transaction.
Also, the C(WUMP)(Amendment) Ordinance will, when it comes into force in February 2017 (subject to certain exceptions), introduce the liability of directors in the case of share redemption or buy-back out of capital (see Question 1). Subject to certain conditions, if a company has carried out redemption or buy-back of its own shares out of its own capital and the winding up of such company commences within one year of such redemption or buy-back, then the directors who have signed the solvency statement are jointly and severally liable, with the shareholders who have received payment for the redeemed or bought-back shares, to contribute to the company's assets.
Environmental legislation covers a wide number of regulatory controls. These include:
Air pollution control.
Water pollution control.
Ozone layer protection.
Dumping at sea.
Environmental impact assessment.
Any contravention of the above environmental laws may render a director liable if the offence was committed with the consent or connivance of that director, or was attributable to his neglect or omission.
Health and safety
A company is liable for health and safety of its employees under common law as well as under various statutes. In particular:
The Occupational Safety and Health Ordinance (Chapter 509 of the Laws of Hong Kong) imposes certain obligations on employers or occupiers of premises in relation to the health and safety of those working at a workspace.
The Factories and Industrial Undertakings Ordinance (Chapter 59 of the Laws of Hong Kong) also imposes a general statutory duty on employers to ensure the health and safety at work of those persons employed by them at industrial undertakings.
When a company is convicted of any offence under either of these ordinances and that offence was committed with the consent or connivance of any of its directors, or was attributed to his neglect, the director will also be guilty of the offence.
The long-awaited Competition Ordinance (Chapter 619 of the Laws of Hong Kong), which introduced a cross-sector competition law regime in Hong Kong, finally came into full force on 14 December 2015.
The Competition Commission and the Competition Tribunal were established under the Competition Ordinance in January 2013 and August 2013 respectively. The Competition Ordinance aims to prohibit anti-competitive agreements and concerted practices, and abuse of any substantial degree of market power that have the object or effect of prevention, restriction or distortion of competition in Hong Kong; and anti-competitive mergers that have, or are likely to have the effect of substantially lessening competition in Hong Kong (initially in the telecommunications sector only). A disqualification order of up to five years can be made against a director if a company of which he is a director has contravened a competition rule as defined in the Competition Ordinance and the Competition Tribunal considers that his conduct renders him unfit to be concerned in the management of a company.
Other liabilities that directors can incur under specific laws include the following:
The Stamp Duty Ordinance (Chapter 117 of the Laws of Hong Kong) regulates stamp duty in Hong Kong. Any person (including a company) who intends to defraud the Hong Kong Government of any stamp duty commits an offence.
The Employment Ordinance (Chapter 57 of the Laws of Hong Kong) criminalises certain actions of an employer such as making illegal deductions from wages of his employees and late payment of wages of employees.
The Telecommunications Ordinance (Chapter 106 of the Laws of Hong Kong) prohibits any person who, by telecommunications, knowingly causes a computer to perform any function to obtain unauthorised access to any program or data held in a computer.
The offence of false accounting under the Theft Ordinance (Chapter 210 of the Laws of Hong Kong) also covers falsifying computer records.
When a company is convicted of any of these offences and the offence was committed with the consent or connivance of any of its directors, the director will also be guilty of the offence.
Generally, a director's liability cannot be restricted or limited if the director's liability arises from any negligence, default, breach of duty or breach of trust, and a company cannot indemnify a director against that liability.
A company can indemnify a director against liability incurred by him to a third party:
In defending any proceedings, whether civil or criminal, if judgment is given in his favour or in which he is acquitted.
In connection with any application for relief from his liability in respect of any negligence, default, breach of duty or breach of trust, provided that relief is granted to him by the court.
The company must disclose the permitted indemnity provision made for the benefit of its directors in the directors' report and allow inspection by members on request.
A company can obtain and buy for a director:
Insurance against any liability to any person for any negligence, default, breach of duty or breach of trust (excluding fraud) in relation to the company or an associated company.
Insurance against any liability incurred by him in defending any proceedings, whether civil or criminal, taken against him for any negligence, default, breach of duty or breach of trust (including fraud) in relation to the company or an associated company.
Under the Companies Ordinance, a shadow director is a person in accordance with whose directions or instructions the directors or a majority of the directors of the company are accustomed to act. This can include a parent company or a controlling shareholder whose instructions have always been followed by its subsidiary. However, a person is not considered a shadow director based on the fact that he has, in his professional capacity, given advice that the directors or the majority of the directors of the company have complied with.
A number of provisions in the Companies Ordinance are expressly stated to be applicable to shadow directors, although in some cases (for example, loans, quasi-loans and credit transactions with directors and contracts with a sole member who is also a director) a body corporate is not to be treated as a shadow director of any of its subsidiaries by reason only that the directors or a majority of the directors of the subsidiary are accustomed to act in accordance with its directions or instructions.
The provisions of the Securities and Futures Ordinance (SFO) also apply to shadow directors in the same way as to the formally appointed directors, because a director is defined under the SFO to include "a shadow director and any person occupying the position of director by whatever name called". The Listing Rules also define a director to include "any person who occupies the position of director by whatever name called".
Transactions with directors and conflicts
A director has a duty in common law to avoid conflicts between his personal interests and interests of the company. The Companies Ordinance requires that if a director of a company has a material interest in a transaction, arrangement or contract, or a proposed transaction, arrangement or contract, with the company that is significant in relation to the company's business, the director must declare the nature and extent of his interest to the other directors.
While the articles of association may allow a director to vote on the resolution approving a contract in which that director is interested after he has duly declared his interest in the contract, the Model Articles provide that any such director must abstain from voting on the relevant resolution and will not be counted in the quorum present at the meeting at which the resolution is proposed to be passed. The Listing Rules require that any director who has a material interest in a transaction must not be counted in the quorum of, and must not vote on the related resolution at, the relevant board meeting.
The Companies Ordinance introduced a new requirement for disinterested members' approval of certain transactions between a company and its directors. This requirement is applicable to public companies for three types of prohibited transactions, namely:
Loans, quasi-loans and credit transactions.
Payment for loss of office.
Directors' long-term employment.
For loans and quasi-loans and credit transactions, the disinterested members' approval requirement is extended to a private company or company limited by guarantee that is a subsidiary of a public company.
The Listing Rules provide that any transactions entered into between a listed company and its directors constitute connected transactions for the company and are, depending on the value of a given transaction, subject to the reporting, announcement and independent shareholders' approval requirements.
A director of a private company can buy or sell the shares of the company of which he is a director subject to any requirements set out in the articles of association.
A director of a listed company must observe the applicable requirements under the Listing Rules and the Securities and Futures Ordinance (SFO) when dealing in the shares of the listed company. The Listing Rules require that a director of a listed company must not deal in the shares of the company during the prescribed blackout periods before the announcement of the results of the company or when he is in possession of any inside information. If a director deals in the shares of the company when he is in possession of any inside information, he may attract civil and criminal liabilities under the SFO.
Disclosure of information
All companies must make available certain statutory registers and minutes of general meetings for inspection by shareholders. Subject to rules relating to protection of personal data and legal professional privilege, the court may grant orders allowing access to records or documents by shareholders. Shareholders are also entitled to receive the financial statements, directors' report and auditor's report from the company each year.
When offering securities to the public, companies must disclose various information as required by the provisions relating to the prospectus contained in the Companies (Winding up and Miscellaneous Provisions) Ordinance and the Listing Rules.
Listed companies are subject to further disclosure obligations under the Listing Rules and the Securities and Futures Ordinance, for example, disclosing inside information, large transactions with third parties and connected transactions, half-yearly results and quarterly reports (for companies listed on the Growth Enterprise Market (GEM)).
There are a number of requirements on companies to provide certain information to the public and regulatory bodies such as the Companies Registry, the Inland Revenue Department, the Stock Exchange of Hong Kong Limited and the Securities and Futures Commission.
Generally, a company must convene an annual shareholders' meeting for each financial year.
However, a company is not required to hold an annual shareholders' meeting under the following circumstances:
If everything that is required to be done at the meeting is done by a written resolution and copies of documents required to be laid at the meeting are provided to each shareholder on or before the date of circulation of the written resolution.
A single-member company is not required to hold an annual shareholders' meeting.
A written resolution or a resolution at a general meeting is passed by all members to dispense with the holding of annual general meetings.
A dormant company does not have to hold an annual shareholders' meeting.
Generally, the following matters are dealt with at the annual shareholders' meeting:
Laying of the company's accounts before the shareholders.
Appointing the company's auditors and determining their remuneration.
Retirement and re-election of directors and determining their remuneration.
Declaration of final dividends.
In the case of listed companies, granting general mandates to the directors to issue and repurchase shares.
An annual general meeting must be convened with at least 21 days' written notice. Any other general meetings must be convened with at least 14 days' written notice. This is reduced to seven days' written notice for an unlimited liability company.
If the company's articles of association require a longer notice period, then the notice of the longer period must be given.
An annual general meeting may be called with less than 21 days' notice, if all members entitled to attend and vote at the meeting agree. Other meetings may be called with less than 14 or seven days' notice if a majority in number of the members with the right to attend and vote at the meeting, and holding 95% of the total voting rights, agree to the short notice (section 571, Companies Ordinance).
A member proposing to remove an auditor or a director before the expiration of his term of office must give special notice of at least 28 days to the company. The company must give its members notice of such resolution along with the notice of the meeting at which such resolution is moved. If that is not practicable, the company must give the shareholders notice of the resolution by advertisement or in any other manner allowed by the company's articles of association, at least 14 days before the meeting.
Special notice is also required when a member proposes a resolution at a general meeting to:
Appoint and replace a director removed at the meeting.
Appoint any person as auditor, other than the retiring auditor.
Fill a casual vacancy in the office of auditor.
Re-appoint as auditor a retiring auditor who was appointed by directors to fill a causal vacancy.
Two members present in person or by proxy will be a quorum, unless a company's articles of association set out a different requirement. If a company has only one member, then one member present in person or by proxy will be a quorum.
Every member of a company has a right to vote at a general meeting, unless a company's articles of association provide otherwise. Schedule 1 Model Articles provide that a member of a public company limited by shares is not entitled to vote at a general meeting if a call or other sum payable by him has not been paid.
The Model Articles contain provisions regulating voting:
At any general meeting a resolution put to the vote is decided on a show of hands, unless either a poll is demanded in advance of the general meeting where it is to be put to the vote, or at a general meeting, before or on the declaration of the result of the resolution. Irrespective of the number of shares a member holds in a company, on a show of hands every member is entitled to one vote.
On a poll, each member is entitled to one vote for each share he holds in the company.
The Listing Rules require all votes of shareholders at a general meeting to be taken by poll except where the chairman, in good faith, decides to allow a resolution which relates purely to a procedural or administrative matter to be voted on by a show of hands.
A written resolution to which all members who would have been entitled to vote on the resolution have signified their agreement is regarded as a duly passed resolution. A member signifies agreement to a written resolution when the company receives from the member a document authenticated by him, indicating the member's agreement to the resolution.
The common law doctrine of unanimous consent or the so-called Duomatic principle is expressly preserved under section 547(3) of the Companies Ordinance. A company's articles may also specify alternative procedures for passing a resolution without a meeting, provided that the resolution has been unanimously agreed by all members who are entitled to vote on it under section 561 of the Companies Ordinance.
Under the Duomatic principle, if all the shareholders entitled to attend and vote at a general meeting actually agree on a particular decision which can be made at a general meeting, the decision is binding and effective without a meeting. In order for this principle to apply, it is necessary to have informed, unqualified and unanimous consent from all the shareholders entitled to attend and vote at a general meeting, which is a matter to be determined objectively. Under certain circumstances, this principle may be applicable for waiving certain formalities set out in the articles, shareholders' agreement or statutory provisions, provided that this has been unanimously agreed by the shareholders, and therefore it can be described as a principle of waiver of formalities.
However, there are well-established exceptions where the Duomatic principle cannot be applied. For example, where the transaction is not bona fide or honest, or where the company is in financial difficulties such that the transaction so authorised may jeopardise the interests of the creditors, or where the transaction must comply with certain statutory procedures which benefit and protect not just the shareholders, but also a wider group such as the creditors.
Subject to any provision in a company's articles of association, a members' meeting can be held using any technology that enables the members who are not together at the same place to listen, speak and vote at the meeting. The Model Articles provide that two or more persons who are not in the same place can attend a general meeting as long as they are able to communicate information or opinions to all those attending the meeting, and are able to exercise their rights to vote.
Certain company matters require a special resolution for shareholders' approval (see below for explanation), as required by the Companies Ordinance or the articles of association. These include:
Amending the company's articles of association, other than the article relating to the maximum number of shares a company may issue, which can be altered by an ordinary resolution.
Changing the name of a company.
A private company redeeming or buying back its own shares out of capital.
Reduction of share capital.
Winding up of a company, either by the court or a voluntary winding up.
A special resolution is a resolution passed at a general meeting or passed as a written resolution either:
On a show of hands, by at least 75% of the total number of members who are entitled to and do vote in person or by proxy on the resolution.
On a poll, by votes cast representing at least 75% of the total voting rights of all members who are entitled to and do vote in person or by proxy on the resolution.
An ordinary resolution must be passed at a general meeting or passed as a written resolution either:
On a show of hands, by a simple majority of the total number of members who are entitled to and do vote in person or by proxy on the resolution.
On a poll, by members representing a simple majority of the total voting rights of all members who are entitled to and do vote in person or by proxy on the resolution.
The directors of a company must convene a general meeting if they receive requests to do so from members of the company representing at least 5% of the total voting rights of all the members having a right to vote at general meetings. Failing this, the members who requested the meeting, or any of them representing more than one half of the total voting rights of such members, can themselves convene a general meeting at the company's expense (section 568(1), Companies Ordinance).
In addition, subject to the company's articles of association, if the company does not have any director or sufficient directors to form a quorum, any two or more members of the company representing at least 10% of the total voting rights of all the members having a right to vote at general meetings can convene a general meeting.
Either of the following can request the company to give to members of the company entitled to receive notice of the annual general meeting, notice of a resolution that may properly be moved and is intended to be moved at that meeting:
Shareholder(s) holding at least 2.5% of the total voting rights of all the shareholders having the right to vote on the resolution at an annual general meeting.
At least 50 shareholders having the right to vote on the resolution at an annual general meeting.
In addition, these shareholders can also require the circulation of a statement of no more than 1,000 words concerning the matters referred to in any proposed resolution, or the business to be dealt with at the general meeting.
Minority shareholder action
Any shareholder can bring a derivative action for misconduct committed against the company. Misconduct is defined as fraud, negligence, default in complying with any statutory provision or rule of law, or breach of duty.
There is a statutory remedy for any shareholder who complains that the affairs of the company have been conducted in a manner unfairly prejudicial to the interests of the shareholders generally or of one or more shareholders. That shareholder may apply to the court by petition and the court has power to:
Make an order to restrain the commission of the act or the continuation of the conduct.
Make an order that proceedings be brought in the name of the company.
Appoint a receiver or manager of the whole or part of a company's property or business.
Make orders for regulating the conduct of the company's affairs in the future, or for the purchase of the shares of any shareholder by other shareholders or by the company itself.
Award damages and interest to any shareholders where it is found that their interests have been unfairly prejudiced.
A shareholder can also apply to the court for an injunction against an individual or a director for any breach of the Companies Ordinance or a breach of the director's fiduciary duties, or a breach of the company's articles of association.
Shareholders need not have any minimum shareholding to be entitled to the above rights and remedies.
The court may also make an order to allow the shareholders to inspect a company's records or documents (under the circumstances referred to in Question 12) on application by:
Members representing at least 2.5% of the voting rights of all the members having a right to vote at the company's general meetings at the date of application.
At least five members of the company,.
Internal controls, accounts and audit
There are no specific statutory provisions relating to internal control of business risks other than those in respect of directors' specific duties.
The Corporate Governance Code (CG Code) sets out the principles and practices of good corporate governance for listed companies (see Question 4). One of the areas covered by the CG Code is internal control.
The code provisions in the CG Code set out some standards for internal control that require the directors to conduct, at least once annually, a review of the effectiveness of the internal control system that must cover all material controls such as financial, operational and compliance controls and risk management functions, and to report its review to shareholders.
All listed companies must set up an audit committee whose main functions include assisting the board of directors to provide an independent review of the effectiveness of the financial reporting process, internal control and risk management system of the company. The audit committee should also, among others (C3.3(g), (h) and (k), CG Code):
Discuss the risk management and internal control systems with management to ensure that management has performed its duty to have effective systems.
Consider major investigation findings on risk management and internal control matters, as delegated by the board or on its own initiative, and management's response to these findings.
Review the external auditor's management letter, any material queries raised by the auditor to management about accounting records, financial accounts or systems of control and management's response.
The company is primarily liable for the preparation of its financial statements. Directors must prepare and attach to the balance sheet of a company a report on the profit or loss of the company for the financial year and the state of the company's affairs as at the end of that year. Public companies and companies that do not qualify for simplified reporting must prepare a "business review" within the directors' report. Private companies can opt out by special resolution.
The business review has to include the following:
A fair review of the company's business.
A description of the principal risks and uncertainties facing the company.
Particulars of important events affecting the company that have occurred since the end of the financial year.
An indication of likely future development in the company's business.
Other items that are necessary to understand the development, performance or position of the company's business, for example:
an analysis using financial key performance indicators;
a discussion on the company's environmental policies and performance;
a discussion on compliance with relevant laws and regulations that have a significant impact on the company; and
an account of the company's key relationships with its employees, customers and suppliers and others that have a significant impact on the company and on which the company's success depends.
Directors must present the financial statements, directors' report and auditor's report at the annual general meeting of the company.
Directors must take all reasonable steps to ensure that a company's balance sheet and profit and loss account are audited to give a true and fair view of the state of affairs of the company and the profit and loss of the company.
Failure to comply with the above obligations may result in the directors being liable to a fine and imprisonment.
The Main Board Listing Rules require a listed company to send copies of the annual report and accounts to its shareholders within four months of the company's financial year-end, while the Growth Enterprise Market (GEM) Listing Rules require a company listed on the GEM to send such copies to its shareholders within three months of the company's financial year-end.
Under certain situations the company can send a summary financial report to its shareholders, but shareholders receiving a summary report can request a copy of the full financial report from the company.
The first auditor of a company may be appointed by the directors before the first annual general meeting, or in the case of a company which is not required to hold an annual general meeting for its first financial year, the first auditor for that first financial year may be appointed by the directors before the appointment period in relation to the next financial year. The first auditor holds office until the conclusion of the company's first annual general meeting.
In the case of a company which is not required to hold an annual general meeting in respect of its first financial year (by virtue of section 612(2) of the Companies Ordinance), the first auditor holds office until the end of the appointment period in relation to the next financial year. In the case of a company that is not required to hold an annual general meeting and does not hold one (by virtue of section 612(1) of the Companies Ordinance)(see Question 32), the first auditor holds office until the date that the written resolution is passed to approve matters that are required to be dealt with at an annual general meeting. If the directors do not appoint the first auditor, shareholders can appoint the first auditor at a general meeting.
Thereafter, a company's auditor must be appointed for each financial year at the annual general meeting of the company and the auditor holds office until the conclusion of the company's next annual general meeting.
An auditor can be removed before its term of office expires by an ordinary resolution at a general meeting. The shareholder proposing to remove an auditor must give the company special notice of at least 28 days before the meeting. The auditor has the right to make a written representation in relation to the resolution.
An auditor can also resign at any time by giving a notice to the company together with a statement that he is not aware of any circumstances connected with his resignation that should be brought to the attention of shareholders or creditors of the company, or if he is aware of any circumstances, a statement of these circumstances.
Any casual vacancy in the office of an auditor may be filled by appointment by the directors, failing which by shareholders at a general meeting.
The Corporate Governance Code requires that the terms of reference of the audit committee (which all listed companies must set up) include making recommendations to the board of directors on the appointment, re-appointment and removal of auditors.
Auditors must be certified public accountants qualified for appointment as auditors under the Professional Accountants Ordinance (Chapter 50 of the Laws of Hong Kong). They must not act as an auditor if they are either:
An officer or employee of the company.
A partner or employee of an officer or employee of the company.
These restrictions also extend to a company within the company's group.
There are no statutory restrictions on non-audit work that auditors can do for the company.
The Corporate Governance Code contains a code provision that the audit committee should develop and implement policies on the engagement of an external auditor to supply non-audit services. The audit committee should ensure that an external auditor's provision of non-audit services does not impair the independence and objectivity of the external auditor.
Auditors' liability to the company is based on a broad principle of using due skill and care and not acting negligently. Their liability is also regulated by their terms of engagement with the company. Generally, auditors have a potential common law liability to the company's shareholders and certain third parties.
Any auditor who knowingly or recklessly causes the auditor's opinion or statement relating to the following to be omitted from the auditor's report commits an offence and is liable to a fine not exceeding HK$150,000:
The auditor's opinion that the financial statements are not in agreement with the accounting records in any material respect.
The auditor's statement that it has failed to obtain all the information or explanations that, to the best of the auditor's knowledge and belief, are necessary and material for the purpose of the audit.
The Companies Ordinance prohibits any agreements that seek to exempt auditors' liability to the company in respect of negligence, default, breach of duty or breach of trust in relation to the company, or provide an indemnity for an auditor of the company or associated company against any auditors' liability in connection with any negligence, default, breach of duty or breach of trust in relation to the company or associated company.
A company secretary must be resident in Hong Kong, that is, an individual who ordinarily resides in Hong Kong or a company with a registered office or place of business in Hong Kong.
The company secretary plays an important role in the administration of the company. The main duties of a company secretary are to ensure that the company complies with relevant regulations and procedural matters, including:
Maintaining the company's registers.
Sending out notices of meetings.
Attending, recording and keeping minutes of meetings.
Filing forms and documents with the Companies Registry.
The Corporate Governance Code also lays down guidelines for directors to seek the advice of the company secretary with a view to ensuring that board procedures and all applicable laws, rules and regulations are followed.
Hong Kong Department of Justice Bilingual Laws Information System
Description. This website sets out all the current ordinances and subsidiary legislation of the Hong Kong Special Administrative Region, in both English and Chinese. This website is an official website and is maintained by the Department of Justice of the Hong Kong Government.
Paul Westover, Partner (Head of Corporate)
Professional qualifications. Solicitor, Hong Kong, 1991; solicitor, England and Wales, 1987
Areas of practice. Corporate finance; venture capital investments; joint ventures and inward investment into the PRC; mergers and acquisitions (particularly cross-border M&A (both equity and assets) and related due diligence); structuring and formation of investment funds; advising GPs and managers on follow-on investments; general corporate and commercial advice; venture capital investments; insolvency-related restructuring; sports events and sponsorship.
Non-professional qualifications. LLB, Kingston University, 1987; Company law lecturer, University of Hong Kong: topics include, private equity transactions, restructuring, director's duties and liabilities and due diligence
Yolanda Chung, Associate
Professional qualifications. Solicitor, Hong Kong, 2013
Areas of practice. Mergers and acquisitions; joint ventures; corporate restructuring; corporate finance; commercial agreements; corporate compliance and general commercial matters; advising listed issuers on share placements, and notifiable and connected transactions; compliance under the Listing Rules and the Securities and Futures Ordinance.
Advising Hong Kong listed and private companies on general corporate and regulatory compliance matters.
Acting for Hong Kong listed companies and private companies in connection with acquisitions and disposals.
Advising in respect of various corporate finance transactions for Hong Kong listed companies, including major transactions, disclosable transactions, connected transactions, share placings, share subdivision and change of company name.
Advising Hong Kong private companies on general corporate and commercial matters, including share subscription, share transfer, share buybacks, amalgamation and advice on obligations under the Companies Ordinance.
Non-professional qualifications. JD, Chinese University of Hong Kong, 2009; PCLL, Chinese University of Hong Kong, 2010
Gigi Ng, Associate
T +852 3166 6944
Professional qualifications. Solicitor, Hong Kong, 2017
Areas of practice. Initial public offerings; mergers and acquisitions (including cross-border acquisitions and the related due diligence); joint ventures; corporate restructuring; corporate finance; advising listed issuers on the issue and listing of debt securities, placing of shares and convertible securities, and notifiable and connected transactions; compliance under the Listing Rules and the Securities and Futures Ordinance; general corporate and commercial matters; commercial agreements and corporate documentation.
Non-professional qualifications. BBA (Law) (Accounting major), The University of Hong Kong, 2011; LLB, The University of Hong Kong, 2013; PCLL, The University of Hong Kong, 2014