Review of disclosure in annual reports by the Exchange

Transcription

1 Review of disclosure in annual reports by the Exchange March 2018 In brief The Stock Exchange of Hong Kong Limited (the Exchange ) has recently released Review of Disclosure in Issuers Annual Reports to Monitor Rule Compliance Report 2017 covering listed issuers annual reports for financial year ended between January and December As part of the ongoing monitoring and compliance activities since 2012, the Exchange has been reviewing issuers annual reports focusing on Listing Rules compliance, corporate conduct and disclosure of material events and developments. This annual review is to give meaningful recommendations and guidance to issuers on specific areas to focus on when preparing their annual reports. In detail The Listing Rules, in particular Appendix 16 to the Main Board Listing Rules / Chapter 18 to GEM Listing Rules, set out minimum information an issuer must include in its annual reports. The Exchange also encourages issuers to provide additional information that is relevant to shareholders and investors, and to improve transparency and accountability. Every year, the Exchange will select specific disclosure areas to focus on, based on the findings and observation in previous years and the latest market trends and development of issuers. This year, seven areas were under review. The Exchange s findings and recommendations are summarised below. 1. Fundraising through issue of equity / convertible securities and subscription rights Issuers are required to report on their fundraisings conducted during the financial year in their annual reports1. In addition, the Exchange sets out disclosure recommendations in the Guidance Letter (GL80-15) on the dilution impact upon conversion of the outstanding convertible securities in the annual and interim reports. This includes: (i) the number of shares that may be issued upon full conversion of the outstanding convertible securities; (ii) the dilutive impact on the then number of issued shares of the issuer and respective shareholdings of the substantial shareholders of the issuer; (iii) the dilutive impact on earnings per share; (iv) an analysis on the financial and liquidity position of the issuer, discussing its ability to meet its redemption obligations under the convertible securities; and (v) an analysis on the issuer s share price at which it would be equally financially advantageous for the security holders to convert or redeem the convertible securities based on their implied internal rate of return (and therefore the security holders

2 to convert or redeem the convertible securities based on their implied internal rate of return (and therefore the security holders would be indifferent as to whether the convertible securities are converted or redeemed) at a range of dates in the future. As part of the Exchange s annual reports review programme, the Exchange has been focusing on the disclosure on fundraising and updates on the use of proceeds in the issuers annual reports since The Exchange encourages issuers to disclose detailed breakdown of the actual application of proceeds in table form, comparing the actual application against each different uses as previously disclosed, and the expected timeframe for application of the unutilised proceeds. 2. Updates on material asset impairments and results of performance guarantee after acquisitions As required under paragraph 32 of Appendix 16 to the Main Board Listing Rules / to the GEM Listing Rules, issuers should disclose in the management discussion and analysis section ( MD&A ) of their annual reports material factors underlying their results and financial position. This includes the reasons for, and the circumstances leading to, any material assets impairments, if any. In general, the Exchange found that issuers announced the material impairments by way of profit warning announcements and discussed the matters giving rise to the impairments in their annual reports. Where an asset impairment is supported by an independent valuation, the Exchange recommended that the following disclosure to enhance shareholders understanding: (i) details of the value of inputs used for the valuation together with the basis and assumptions; (ii) the reasons for any significant changes in the value of the inputs and assumptions from those previously adopted; (iii) the valuation method and the reasons for using that method; and (iv) an explanation of any subsequent changes to the valuation method adopted. For profit guarantee given to the issuers under acquisitions, issuers should, irrespective of whether the profit guarantee was given by a connected person or an independent third party, publish an announcement and disclose in its next annual report regarding the performance of the acquired business and whether the performance guarantee is met. If the performance guarantee is not met, the issuer should disclose how it would enforce the obligation of the guarantor under the acquisition agreement. 3. Continuing connected transactions Besides the disclosure requirements under Chapter 14A to the Main Board Listing Rules / Chapter 20 to the GEM Listing Rules, Guidance Letter GL73-14 provides guidance to issuers on establishing pricing policies in agreements for continuing connected transactions and internal controls to monitor these transactions, and to independent non-executive directors ( INEDs ) on their roles in reviewing the transactions compliance with the terms of agreements and the connected transaction Rules. In order for the INEDs to perform their reviews on internal control measures and to make their confirmations in the annual reports under 14A.55 to the Main Board Listing Rules / to the GEM Listing Rules, INEDs should ensure that they have sufficient information, this could include: (i) Information to support that the issuer has in place adequate internal control procedures to comply with the connected transactions Rules, such as internal guidelines which require the operation teams to conduct the continuing connected transactions in accordance with the terms of framework agreements, including the pricing policy and mechanism, within the annual cap limits, and on normal commercial terms, or internal approval procedures that require multiple-level and/or cross-department approvals to ensure independent assessment of connected transactions. (ii) Information related to the assessment of the appropriateness and effectiveness of the internal control procedures. Findings and recommendations from internal audit function on the internal control procedures, if any. Otherwise, the issuer can appoint external professional parties to review the internal control procedures and provided reports to the INEDs for their information and review. (iii) Information related to the underlying continuing connected transactions. This includes vouchers, quotations, invoices, receipts for the relevant transactions and related price or market trend data to support that the terms of the individual continuing connected transactions were comparable to those of third parties. Findings from sample checking by the internal audit can also be provided to the INEDs for their consideration. The Exchange also noted that many issuers failed to confirm in their annual reports whether their 2

3 related party transactions were connected transactions under the Rules. Without this statement, the shareholders would not know whether the issuers have reviewed and properly identified all connected transactions and complied with the Rule requirements. 4. Disclosure in business review and significant securities investments in the MD&A The Exchange made recommendations in the following areas to enhance issuers disclosure in the MD&A for shareholders and investors assessment of the issuers businesses and financial performance: (i) Principal risks and uncertainties affecting the issuers Issuers should discuss specifically how the major risk areas would affect their business operations, the potential financial impact, and whether they had undertaken any measures to manage the risk areas. (ii) Environmental policies and performance and compliance with the relevant laws and regulations Issuers should provide meaningful information on the specific legal or regulatory requirements that are applicable to the issuers and include more detailed disclosures, including whether and how the laws or regulations in question would have a material implication or impact on their operations and, where applicable, the historical compliance record and details of the non-compliance. (iii) Key relationship with employees, customers and suppliers Sufficient information concerning the issuers key relationship with its stakeholders can improve transparency and minimise unnecessary speculation or misconception on the issuer s business and financial performance. Issuers should disclose meaningful information on their key stakeholders such as the background of the major customers / suppliers and their length of relationship with the issuers, the credit terms granted to / by these customers / suppliers, details of subsequent settlement, the underlying risks associated with their major customers / suppliers and the measures undertaken to mitigate such risks. (iv) Financial key performance indicators ( KPIs ) Issuers should disclose the reasons for selecting certain KPIs to measure their performance, how they are linked with their objectives, and what trend each of the KPIs represented. The Exchange also encourages issuers to disclose additional commentary in the MD&A, including efficiency indicators, industry specific ratios and an overview of trends in the issuers industry and business. (v) Significant securities investments Issuers which hold significant securities investments as part of their asset portfolio should disclose breakdown of their major investments held, their performance during the year, and meaningful information on their investment strategy and future prospects. Investment strategy could include discussion on their investment objectives, industry focus and other factors that would be considered for investment decision to facilitate shareholders understanding of the potential exposure, benefits and risks of future investments. 5. Financial statements with auditors modified opinions Issuers with auditors modified opinions on their financial statements should enhance their disclosure in annual reports for shareholders to better understand the audit modifications. Disclosure should include: (i) details of the modifications and their actual or potential impact on the issuers financial position; (ii) management s position and basis on major judgmental areas (such as basis for impairment or valuation of assets), and how the management s view is different from that of the auditors; (iii) audit committee s view towards the modifications, and whether the audit committee reviewed and agreed with the management s position concerning major judgmental areas; and (iv) issuers proposed plans to address the modifications. In particular for issuers whose modifications remained unresolved and were brought forward from the previous financial years, issuers should timely update their action plans for addressing the audit modifications, timetable for implementation and the progress update. 6. Contractual arrangements adopted by issuers Guidance Letter GL77-14 sets out, among others, disclosure guideline for issuers who use contract-based arrangements or structures to indirectly own and control its businesses and operating entities (the Contractual Arrangements or Structured 3

4 Contracts ). The recommended disclosures include: (i) particulars of the operating entity and its registered owners, and a summary of the major terms of the Structured Contracts; (ii) a description of the operating entity s business activities and their significance to the issuer; (iii) appropriate quantitative information including revenue and assets subjected to the Structured Contracts; (iv) the extent to which the Structured Contracts related to requirements other than the foreign ownership restriction; (v) the reasons for using the Contractual Arrangements, the risks associated with the arrangements and the actions taken by the issuer to mitigate the risks; (vi) any material changes in the Contractual Arrangements and/or the circumstances under which they were adopted, and their impact on the issuer group; and (vii) any unwinding of the Structured Contracts or failure to unwind when the restrictions that led to the adoption of the Structured Contracts are removed. For Contractual Arrangements tailored to address requirements other than the foreign ownership restriction (the Other Requirements ), the issuers should disclose details of the Other Requirements and the proposed action plans for meeting such requirements and the status update thereof in their annual reports. The Exchange also reminded issuers that the PRC government published a revised Foreign Investment Industries Guidance Catalogue (the Catalogue ) in June 2017 which released certain businesses from the foreign ownership restriction. As the Contractual Arrangements adopted by issuers must be narrowly tailored to address the foreign ownership restriction, issuers should assess any implications arising from changes to the Catalogue on the continued use of the Structured Contracts from time to time. Where the issuers businesses are no longer subject to the foreign ownership restriction, issuers should unwind the Structured Contracts and comply with the relevant PRC laws and regulations as soon as practicable. 7. Issuers listed in 2015 and 2016 Annual report disclosure of newly listed issuers has always been the focus of the Exchange s annual report review programme since (i) Profit forecasts and material changes in financial results The Exchange noted that a large majority of the new issuers issued profit warning or positive profit alert announcements disclosing the expected changes to the profit or loss and the major reasons for such changes. The Exchanges reminded all new issuers that profit warning or positive profit alert announcement that repeats facts previously disclosed in the prospectus is not encouraged. If there has been a significant change in the facts and circumstances since the IPO prospectus was issued, the issuer may be required to make an announcement under the Inside Information Provision. Newly listed issuers and their compliance advisers should observe and follow the guidance published in the SFC Corporate Regulation Newsletter of April (ii) Changes in the use of IPO proceeds Where there are changes to the use of IPO proceeds disclosed in the prospectus, issuers should explain any material changes by way of announcement timely and properly, and in their annual reports. (iii) Undertakings provided by major shareholders Where major shareholder gave a non-competition undertaking to a new issuer for the purpose of establishing a clear delineation between the issuer s business and that of the major shareholder, the new issuer is encouraged to disclose information regarding the compliance with the noncompetition undertaking by the major shareholder, as well as the steps taken to confirm compliance (i.e. the INEDs review of the confirmation provided by the major shareholder). (iv) Fulfilment of conditions or undertakings imposed before listing In some cases, the Listing Committee imposed specific conditions on, or required undertakings to be provided by, a listing applicant before listing. The newly listed issuer should disclose its compliance with such conditions or undertakings in its annual reports after listing. (v) Non-compliance with the Listing Rules after listing The Exchange noted an increasing number of new issuers that breached the Rules after listing. The breaches included noncompliance with notifiable/ connected transaction requirements and failure to maintain the minimum public float requirement. The Exchange reminded the newly listed issuers to observe the Rule requirements and consult with their compliance 4

5 advisers 2 in a timely manner to ensure compliance with the Rules. (vi) Post-listing development of the newly listed issuers and reverse takeover concern The Exchange noted an increase in new issuers engaging in activities involving changes in major shareholders, the boards of directors and their major businesses through a series of transactions or arrangements. In October 2017, the Exchange published a listing decision (LD ) about a new issuer involving in such transactions that raised concerns whether those transactions together represented an attempt to conduct a reverse takeover. The Exchange will continue to closely monitor these issuers and where justified, apply the reverse takeover Rules in extreme cases. For full version of the Review of Disclosure in Issuers Annual Reports to Monitor Rule Compliance Report 2017, please refer to attached link: Annual-Disclosure/rdiar_2017.pdf?la=en Below table also illustrates areas covered by the Exchange in their annual report review programme. Areas Report Adoption of HKFRS 10/IFRS 10 Biological assets Connected transactions/ Continuing connected transactions Contractual arrangements Financial statements with auditors modified opinions Fund raising activities through issue of equity or convertible securities or subscription rights Impairment of intangible assets arising from material acquisition Impairment of material asset Investment company (Ch 21 to MB) Material changes after acquisition MD&A Key Stakeholders MD&A KPIs MD&A Laws and regulation compliance MD&A Risks MD&A Significant securities investments Mining company (Ch 18 to MB / Ch 18A to GEM) Newly listed issuers Reliance on key customers Results of performance guarantees on acquisition Share award schemes Share option schemes Significant changes to financial performance Notes: 1. Paragraphs 10(1) and (2), 11 and 32 of Appendix 16 to the Main Board Listing Rules / 18.11, 18.12, and to the GEM Listing Rules 2. 3A.23 to the Main Board Listing Rules / 6A.23 to the GEM Listing Rules 5

6 Let s talk For any enquiries on our services, please directly contact your PwC engagement team or below contact. Loretta Chan Partner Tax Corporate Services loretta.wm.chan@hk.pwc.com This content is for general information purposes only, and should not be used as a substitute for consultation with professional advisors PricewaterhouseCoopers Limited. All rights reserved. PwC refers to the Hong Kong member firm, and may sometimes refer to the PwC network. Each member firm is a separate legal entity. Please see for further details.