IPO Resurgence in Hong Kong

Case Study 1

Use of Cayman Islands and British Virgin Islands (BVI) trusts in connection with a listing on the Hong Kong Stock Exchange.

By Richard Grasby, Partner and Head of Trusts and Private Wealth, Maples and Calder, Hong Kong

Hong Kong is one of the world's largest financial centres for initial public offerings (IPOs). Hong Kong was the global leader for IPOs in 2009-11, dropping to fourth in 2012. However, it seems that the Hong Kong market is resurging – mainly due to renewed confidence in the Chinese economy.

According to the Financial Times[1], in November 2013, 13 companies filed their listing documents with the Hong Kong Stock Exchange and were hoping to raise more than US$6 billion. Many of the companies being listed are themselves incorporated in the Cayman Islands or BVI and are also owned via structures containing other Cayman Islands and BVI entities. The BVI estimates that 40 per cent of its financial services business has ties to Asia.

In emerging markets such as China, it is very common for businesses to be closely held or controlled – often by a single individual (the ‘Founder’). Using one or more trusts can have major advantages for all concerned with the IPO. This is an area of growth in Hong Kong at present and due to the familiarity and confidence with the jurisdictions, many of the trusts are set up in the Cayman Islands or BVI.

Let us take the following case study using the Cayman Islands as an example[2]:

Mr Wong owns 80 per cent of a Cayman Islands company (‘Listco’). A private equity fund (‘Fund’) –also based in the Cayman Islands –has just acquired the other 20 per cent. Both Mr Wong and Fund are hoping for a listing of Listco in Hong Kong.

Mr Wong has a wife and two adult children who both work in the business.

Mr Wong is considering two trusts – one to benefit him and his family (‘Family Trust’) to hold 78 per cent of Listco and the other to benefit the employees of Listco (‘EBT’) to hold two per cent of Listco[3]. The trustee will be a licensed trust company (‘Trustee’) based in the Cayman Islands. The ownership structure (pre-listing) would be as set out in Fig 1.

How will the trusts be of benefit?

Family Trust – Mr Wong

The Family Trust will be of benefit to Mr Wong since it will result in the legal ownership of the shares in Listco being in the hands of the Trustee and not in the name of Mr Wong. As far as Listco is concerned, the Trustee is the shareholder. This insulates the share ownership in the event of anything happening to Mr Wong. For example, in the event of Mr Wong's death, where he to remain the shareholder, the 80 per cent shareholding would be frozen until such time as appropriate persons obtained the authority of the Cayman Islands' court[4] to deal with the shares. The shares would not be able to be voted or sold until such authority had been granted. This period could be several months or more.

Equally where Mr Wong to lose capacity – permanently or temporarily- until someone had proper authority from the court, the shares would be frozen. Having the Trustee as the owner of the shares avoids the impact of such traumatic events on the shares and enables action to be taken.

Equally, under the Family Trust, Mr Wong can give the Trustee the ability to delay and restrict distributions to his family members – including future generations - and to make provision for charity or philanthropic purposes[5].

On the death of Mr Wong, without a trust, his widow and any adult children would inherit sizeable wealth and it is likely that the 80 per cent shareholding would be broken up among the family.

The Family Trust would be structured to make use of the Cayman Islands reserved powers legislation such that persons other than the Trustee with suitable knowledge of the business (Mr Wong and his adult children would be obvious candidates) are able to give directions to the Trustee as to how to vote or dispose of the shares in Listco. This meets with the wishes of Mr Wong (who will usually wish to retain a significant degree of control), the Trustee (who does not want to be responsible for investment decisions) and the market (who wish to see Mr Wong and the existing management in control).

This separation of ownership and control is a useful feature of the common law trust structure.

Family Trust – Fund

The Fund also likes the fact that the majority shareholder is the Trustee. The Trustee is not going to die, lose capacity, get divorced, act impulsively or disappear as could be the case with an individual. The Trustee is going to take proper advice and stand behind its obligations and promises. This is of comfort to the Fund.

EBT

The EBT will benefit those employees who satisfy the eligibility criteria. A loyal and well-motivated workforce will be of benefit to Listco and this will increase the value of the holdings of the Family Trust, the Fund and, post listing, the investors at large.

Case Study 2: 

Use of Cayman Islands statutory mergers to effect take-private transactions of companies listed on the New York Stock Exchange and Nasdaq Global Markets

By Richard Spooner, Of Counsel, Corporate Team, Maples and Calder, Hong Kong

In addition to their popularity as listing vehicles in Hong Kong, Cayman Islands companies also continue to be the listing vehicle of choice for Chinese businesses wishing to list in the United States, whether on the New York Stock Exchange or the Nasdaq Global Market. Any buyer wishing to take such a company private will therefore need to consider and understand the Cayman Islands legal framework under which such an acquisition can be effected.

2013 saw a number of such take privates of Cayman companies listed in the US, such as the high profile Focus Media deal, and that trend looks likely to continue throughout 2014. Almost all such transactions have been effected by means of a statutory merger, which is a relatively simple and quick procedure (particularly compared to the traditional mechanism, which was a court-supervised scheme of arrangement).

What is a merger?

In essence, a merger is a procedure between two (or more) constituent companies, whereby one such constituent company is subsumed into the other (which becomes the surviving company) – the undertaking, property and liabilities of both constituent companies automatically vest in the surviving company, whilst the non-surviving company ceases to exist.

How can a merger be used to take a company private?

In the take private context, the bidder incorporates a new Cayman Islands company (‘Merger Sub’) for the sole purpose of merging with and being subsumed into the listed company (‘Listco’), the latter of which survives the process and de-lists.

Under the Companies Law of the Cayman Islands, the terms of the merger may provide that the shares of each constituent company may be converted into or exchanged for different types of property, including cash or shares in the surviving company or any other company. In a take private, the terms of the merger will most commonly provide that the shares of Listco will be cancelled in exchange for a specified cash consideration. (Alternatively, if the bidder is itself a listed company, the consideration may include shares in the bidder.) Simultaneously, each share in Merger Sub will be converted into one share in the surviving company.

Once the merger becomes effective, the Surviving Company therefore will be wholly owned by the bidder, whilst the former Listco shareholders will receive the stipulated consideration (cash, or cash plus shares in the bidder).

Procedure

The procedures to implement a merger are set out in the Cayman Islands Companies Law. In summary, these are as follows:

1. The directors approve a plan of merger, which sets out the terms and conditions of the merger, including the manner of converting the shares of the constituent companies into cash, shares of the surviving company or other property.

2. The plan of merger must then be approved by a special resolution of the shareholders of the Listco, voting as one class, which requires a two-thirds majority of the votes cast at a general meeting.

3. Once approved by the shareholders, the plan of merger is then filed with the Cayman Islands Companies Registrar. The merger will become effective once the plan of merger has been registered by Registrar, who will issue a certificate of merger to that effect. The Merger Sub will be struck off and cease to exist.

4. In the case of US Listcos, the shares consideration will be paid to the ADS depositary, who will in turn pay such amounts to the ADS holders in consideration for the cancellation of their ADSs. The ordinary shares will be delisted from the relevant US exchange.

Once approved and effective, the terms of the merger will be binding on all shareholders of the constituent companies, even those who vote against it. To protect the interests of shareholders who dissent from the merger, the Companies Law provides them with a right to receive the fair value of their shares (which, if not agreed, will be determined by the Cayman court), provided they give notice of their objection and follow certain procedures.

The position of creditors is protected by requirements that the constituent companies are and will be solvent, that the merger must be bona fide and not intended to defraud unsecured creditors, and that the consent of any secured creditors must be obtained.

There is no requirement for the merger to be approved by the Cayman court (unlike a scheme of arrangement), and provided the requisite shareholder approvals have been obtained (and other procedures complied with), the merger can be expected to be made effective without objection by the Companies Registry. As a result, the Cayman Islands statutory merger regime provides a modern and simple mechanism for implementing takeovers involving Cayman Islands companies.

 

[1] 4 December 2013

[2] Could equally be BVI.

[3] Before listing- post listing the figures will be reduced.

[4] Assuming the register of Listco is held in the Cayman Islands.

[5] This would require a special ("STAR") trust.