12 June, 2015
On 21 May 2015, the Securities and Futures Commission (SFC) launched a new public register of cold shoulder orders. The register is intended to facilitate compliance by intermediaries with cold shoulder orders and will enable them to more readily identify clients or potential clients who are subject to such an order.
Intermediaries should take steps to ensure that they monitor the register. While knowingly assisting in the breach of a cold shoulder order could always have given rise to disciplinary action, the introduction of the register makes it more likely that the SFC will also take action against intermediaries for inadvertent or unintentional breaches where they do not have adequate controls in place to monitor the register and identify trading instructions that might be in breach of a cold shoulder order.
Cold Shoulder Orders
A cold shoulder order is an order which prohibits a person from dealing, whether directly or indirectly, in Hong Kong's financial markets for the duration of the order. Cold shoulder orders can be imposed by:
a) the Takeovers Executive and the Takeovers and Mergers Panel (Takeovers Panel) under sections 12.2(c) and 12.3 of the Introduction to the Codes on Takeovers and Mergers and Share Buy-Backs;
b) the Market Misconduct Tribunal (MMT) under sections 257 and 307N of the Securities and Futures Ordinance (SFO); and
c) Hong Kong's Courts under section 303 of the SFO. Cold shoulder orders imposed by the MMT or the Courts under sections 257, 303 and 307N of the SFO have a maximum duration of five years. There is no maximum duration for orders made by the Takeovers Executive or Takeovers Panel, but they must be for a "stated" period and therefore cannot be open-ended. Where a cold shoulder order has been made, the person subject to it is only permitted to enter into specific trades with the consent of the Courts (if the MMT or a Court made the order), or with the consent of the Takeovers Panel.
The SFC has publicly stated that it considers the Court of First Instance also has the ability to make cold shoulder orders under sections 213 and 214 of the SFO, which provide the Court with broad powers to make remedial orders for breaches of the SFO and for corporate governance failings in listed companies. The SFC's interpretation of these provisions with respect to cold shoulder orders has not been confirmed by the Courts. If the SFC's interpretation is correct, because neither provision expressly refers to cold shoulder orders or applicable time limits, it remains unclear what the maximum duration of an order under these sections could be.
As they have the effect of shutting a person out of the market for their duration, cold shoulder orders are not granted as a matter of course. They are considered not to be punitive in nature, but are instead made for the purpose of ensuring that other market participants are not exposed to the trading activities of those who have demonstrated that they are not willing to comply with Hong Kong's laws.
The New Register And The Risks For Intermediaries
The new register is easily accessible on the SFC's website and contains a list of current cold shoulder orders. At present, the list consists of only three names, two of which belong to defendants in the Tiger Asia insider dealing case. With the current list being so small, it suggests that the SFC will continue to seek cold shoulder orders regularly as part of its enforcement efforts.
Intermediaries should be aware of the potential consequences for failing to take heed of the register. In its circular dated 21 May 2015, which coincided with the launch of the register, the SFC stated that any licensed corporation or registered person who assistsin the breach of a cold shoulder order may face liability for doing so. However, the circular does not otherwise provide details of what the SFC's approach to enforcement will be for this issue.
The pathway to potential liability for breaching a cold shoulder order made by the Takeovers Executive or Takeovers Panel is clear-cut. Cold shoulder orders made via this route are not directed at the individuals who are being cold shouldered, but instead require all licensed corporations, licensed representatives and registered institutions or relevant individuals conducting regulated activities not to act or continue to act for the specified person, or knowingly assist in a breach of the order. Paragraph 12.4 of the Introduction to the Codes on Takeovers and Mergers and Share Buy-Backs provides that non-compliance with such a cold shoulder order might result in disciplinary action.
In contrast, cold shoulder orders issued by the Courts and MMT are directed at the person who is being cold shouldered. Such orders do not expressly require intermediaries or others not to trade with the cold shouldered person, and there are no specified consequences for doing so. Notwithstanding this, for a licensed intermediary to intentionally assist in a breach of a cold shoulder order would show a disregard for the integrity of the market and could result in potential disciplinary action for misconduct under section 194 of the SFO.
The introduction of the new register, however, potentially opens another avenue of enforcement for the SFC. As the register lists the names of parties subject to current cold shoulder orders in a convenient and easily accessible location, the SFC may take the view that inadvertent or unintentional breaches of a cold shoulder order could have been prevented if the intermediary had in place adequate systems and controls to monitor the register and detect trading instructions that are in potential breach of a cold shoulder order. Recent enforcement actions under section 194 of the SFO for technical breaches of rules and inadequate systems and controls suggest that the SFC would be willing to initiate disciplinary proceedings on this basis.
Also of note is that the SFC's circular states that its view is that, in general, the existence of a cold shoulder order applies to orders placed in Stock Connect, other markets or automated trading systems "outside Hong Kong". That view arguably conflicts with the wording of sections 257, 303 and 307N of the SFO which are expressly limited to activities "in Hong Kong".
In light of the circular, intermediaries should take steps to ensure that they have systems and controls in place for monitoring the register and identifying trading instructions that would be in potential breach of a cold shoulder order. This could be achieved by placing persons subject to a cold shoulder order (and, where known, any entities under their control) on an internal watch list and/or cross-checking new clients' identities with the register. Although the SFC's view on the extra-territoriality of cold shoulder orders is not free from doubt, care should also be taken to ensure that an intermediary licensed or registered in Hong Kong does not facilitate trades in any market with a person who is subject to a cold shoulder order.
For further information, please contact:
Ben Hammond, Partner, Ashurst
Gareth Hughes, Partner, Ashurst
James Comber, Ashurst