Holding out? Don't even think about it...

Recent decisions of the Hong Kong Court of Final Appeal (CFA) and lower courts in Securities and Futures Commission and C.L. Management Services Limited and Another concerning convictions under the Securities and Futures Ordinance (SFO) are notable as making it easier for the Securities and Futures Commission (SFC) to pursue unlicensed activity. The decisions also serve as a timely reminder of the SFC’s focus on senior management accountability.

Holding out

The decisions concern C.L. Management Services Limited (D1), an unlicensed entity, entering into “Professional Financial Consultation Services Agreements” (Agreements) with three separate clients, under which D1 was engaged as an “exclusive financial advisor” in relation to potential listing applications on the Stock Exchange of Hong Kong for each client. D1 entered into the Agreements at the instigation of its sole owner and director Clarea Au Suet Ming (D2, together Ds).

The prosecution alleged that Ds contravened section 114 of the SFO, which provides that “no person shall (a) carry on a business in a regulated activity; or (b) hold himself out as carrying on a business in a regulated activity” and that a person who does so without reasonable excuse commits an offence.

At first instance, D1 was convicted of holding itself out as carrying on business in advising on corporate finance (Type 6 regulated activity). D2 was convicted of the same offence by reason of section 390(1) of the SFO, which provides that where an offence by a company is proved to have been – among others – aided, abetted, counselled, or procured by an officer of the company, the officer and the company are both guilty of the offence.

On appeal, the Court of First Instance (CFI) rejected Ds’ argument that the prosecution had failed to prove that D1 intended to hold itself out. As a matter of statutory construction, the offence was one of strict liability in which the presumption of mens rea had been displaced. Accordingly, there was no need for the prosecution to prove D1’s state of mind.

On appeal to the CFA, the CFA rejected Ds’ argument again, albeit for different reasons. In essence, the CFA found that holding out had been proved by the prosecution showing what D1 had contractually promised (i.e. that it would provide advice on corporate finance) and there could be no doubt that D2 – who executed the Agreements on D1’s behalf after a process of negotiation and agreement – had caused D1 to hold itself out. The question of whether the offence required proof of mens rea was therefore left for another day, although the CFA did not dispute the CFI’s interpretation.

The decisions will make it easier for the SFC to pursue unlicensed activity as:

• the SFC should be able to secure a conviction for holding out simply by proving that an unlicensed defendant contractually agreed to provide a regulated activity (this also helpfully confirms the market’s current interpretation of “holding out”); and

• until the CFI’s decision is distinguished or overturned, it would appear that the offence of holding out is a strict liability offence, such that there is no need to prove intent.

Senior management

The case against D2, as the director of D1, serves as a timely reminder of the SFC’s and indeed global regulators’ focus on the accountability of senior management.

The SFC already requires that front-line managers of firms it regulates be licensed as “responsible officers”. However, following on from the implementation of the Senior Managers Regime in the UK in March 2016, the Hong Kong press has recently reported that the SFC is planning to require licensed corporations to identify and disclose to the SFC their “managers in charge” – individuals responsible for the day-to-day running of key functions – and their responsibilities, regardless of whether they are part of the front office.

We understand from public reports that the regime will extend to executives in support functions including IT, operations, compliance, and risk management, and include persons based overseas who are responsible for key functions for the Hong Kong business.

We will provide an update on the proposals once information is publicly available.

With thanks to Herman Chan, a trainee in Allen & Overy’s Hong Kong office, who kindly assisted with the preparation of this blog post.