Licensing Exam Paper 1 (Topic 1) PDF

Licensing Exam Paper 1 Topic 1 TOPIC 1 - OVERVIEW 1. FINANCIAL PRODUCTS AND SERVICES, AND THEIR 2 REGULATION 1.1 Introduction...

Licensing Exam Paper 1 Topic 1 TOPIC 1 - OVERVIEW 1. FINANCIAL PRODUCTS AND SERVICES, AND THEIR 2 REGULATION 1.1 Introduction 2 1.2 Objectives of Hong Kong’s Regulatory Framework 3 1.3 Philosophy and systems of Regulation 3 1.4 Relevance and Impact of Past Regulatory Problems 4 2. REGULATORY AUTHORITIES 5 2.1 Roles of the Government Hierarchy 5 2.2 Financial Regulators in Hong Kong 6 3. SECURITIES AND FUTURES COMMISSION (SFC) 10 3.1 Regulatory Functions and Structure 10 3.2 Directors, Committees, Tribunals and Panels 11 3.3 Functions of the SFC’s Operational Units 13 3.4 Disciplinary Powers, Actions, Proceedings and Penalties 15 3.5 Interaction with Local and Overseas Regulators and the 16 International Organization of Securities Commissions 4. HONG KONG EXCHANGES AND CLEARING LIMITED 17 5. PARTICIPANTS AND INTERMEDIARIES IN THE HONG KONG 18 FINANCIAL MARKET © ExecutiveKnowledge Go to Examinator.online for Topic 1 Practice Questions 1  Licensing Exam Paper 1 Topic 1 1. FINANCIAL PRODUCTS AND SERVICES, AND THEIR REGULATION 1.1 Introduction  Hong Kong is an international financial centre, providing a wide range of financial products and services for the investment industry, including an avenue for price discovery and investment liquidity  Products and services include: Products Services  Futures and options  Securities dealing  FX products  Futures trading  Mutual funds  FX trading  Unit and investment trusts  Virtual asset trading  Certificates of deposit  Financial advising  Money market products  Corporate finance  Gold market products  Underwriting  Company shares  Mergers and acquisitions  Debentures  Venture capital  Warrants  Investment/portfolio  Convertible securities management  Investment banking  Commercial banking  Credit rating services  Money lending  Gold trading  Insurance/insurance broking  The need for efficient, well-organized markets, overseen by independent professional regulators, has resulted from:  Growth and sophistication of financial products and services  Flows of large amounts of wealth  Proliferation of malpractices  In addition to regulation, financial regulators also:  Encourage development of new products and services  Help improve the quality and skills of financial market professionals  Help educate the investing public The Hong Kong Securities Institute (HKSI) provides educational and examination facilities © ExecutiveKnowledge Go to Examinator.online for Topic 1 Practice Questions 2  Licensing Exam Paper 1 Topic 1 1.2 Objectives of Hong Kong’s Regulatory Framework  The common objectives of Hong Kong’s financial regulators are: 1. To maintain Hong Kong’s position as a leading financial centre by ensuring regulations enable proper supervision of financial markets 2. To operate financial regulations of an acceptable international standard 3. To be market-friendly, open, approachable, fair and effective 4. To ensure that the legal framework of financial regulation is certain, adequate and fairly enforced 5. To encourage a sound technical infrastructure so that the Hong Kong financial markets interlink with global settlement and clearing systems 6. To promote confidence in the financial markets, internationally and locally 1.3 Philosophy and Systems of Regulation  Share offers and listing matters can be referred to as merit-based or disclosure- based. Merit-based Regulation  Objective is to screen out undesirable players and undesirable offerings  Ensure a fair balance between promoters and investors  Provides the investing public with a fair balance between risks and returns  It has been claimed that the HK Listing Rules are merit-based, although they are primarily a system of disclosure Disclosure-based Regulation  The focus is on maximizing disclosure and provision of information regarding public offerings  UK and US are disclosure-based  HK New Companies Ordinance (NCO) is disclosure-based and has legal force  the idea is that maximum disclosure is required to enable investors to make their own investment decisions Risk-based Approach  regulation is weighted towards the areas that pose the greatest risk to the markets and participants © ExecutiveKnowledge Go to Examinator.online for Topic 1 Practice Questions 3  Licensing Exam Paper 1 Topic 1 1.4 Relevance and Impact of Past Regulatory Problems 1891  First stock exchange in Hong Kong formed 1973  Five Hong Kong stock exchanges, including futures exchange  Exchanges virtually unregulated  Stock Exchange Control Ordinance enacted banning any further exchanges  Market crash led to the Securities Ordinance and Protection of Investors Ordinance 1987  Market crash led to a review of the regulatory framework  Ian Hay Davison appointed as Chairman of the Securities Review Committee Broad Points Stated by Davison Committee The need for:  Systemic stability  An orderly and smooth-functioning market which is fair and free from manipulation and deception  Adequate investor protection  Practitioner-based regulation – operated by professionals with an industry or regulatory background  Checks and balances on the system, with the exchanges being supervised by a commission that was independent of government  Market participants to be represented on exchanges and clearing houses  The structure recommended by the Davison Committee has functioned since 1989 and remains basically unchanged  The SFO is largely a consolidation of ten diverse ordinances regulating the securities, futures and leveraged foreign exchange industries © ExecutiveKnowledge Go to Examinator.online for Topic 1 Practice Questions 4  Licensing Exam Paper 1 Topic 1 2. REGULATORY AUTHORITIES 2.1 Roles of the Government Hierarchy Chief Executive Secretary Chief Secretary for Financial Secretary for Justice Administration C Office of the Independent Department of Secretary for Hong Kong Ombudsman Commission Justice Financial Services Monetary Against Corruption and the Treasury Authority Figure 1: The Government and Financial Services Closest regular contact between SFC and Government The Chief Executive  Appoints the SFC Chairman, Deputy Chairman (optional), CEO, executive directors and non-executive directors  Determines SFC officers’ terms and conditions  May give written directions to SFC on how it should meet its objectives and perform its functions  SFC submits budget to Chief Executive for approval The Financial Secretary  Primary duty is to oversee policy formulation and implementation in financial, monetary, economic, trade and employment matters  Chairman of the Exchange Fund Advisory Committee (governing body of the HKMA)  Has effective overall authority over SFC  Can require the SFC to provide him with information on its principles, practices and policy  SFC submits annual report and financial statements to Financial Secretary  May appoint inspectors and investigators to look into problematic companies © ExecutiveKnowledge Go to Examinator.online for Topic 1 Practice Questions 5  Licensing Exam Paper 1 Topic 1 2.2 Financial Regulators in Hong Kong HKMA* Insurance Authority* Privacy Commissioner Registrar of for Personal SFC Companies* Data MPFA* ICAC CCB * covered in this section Figure 2: The SFC and its regulatory counterparts (including some enforcement agencies) 2.2.1 Hong Kong Monetary Authority (HKMA) 1. Headed by a Chief Executive with several deputies 2. Manages the Exchange Fund 3. Manages Hong Kong’s monetary policy 4. Required to maintain currency stability 5. Ensures the safety and stability of the banking system 6. Promotes the efficiency, integrity and development of the financial system 7. Supervises the banking system 8. Under the SFO and the Banking Ordinance, Authorized Financial Institutions (AFI’s), which are regulated by the HKMA and include banks, have to be registered with SFC as registered institutions if they wish to carry out an SFC-regulated activity 9. HKMA is frontline regulator of AFIs and takes the leading role in vetting applications for registration with the SFC and in supervising their SFC- regulated activities, including on-site inspection 10. HKMA applies all SFC criteria in supervising AFIs registered with the SFC © ExecutiveKnowledge Go to Examinator.online for Topic 1 Practice Questions 6  Licensing Exam Paper 1 Topic 1 Supervision of Intermediaries – Registered or Licensed? SUPERVISED BY HKMA SUPERVISED BY SFC Authorised Financial Institutions (AFIs) Firms performing SFC-regulated activities (NOT AFIs) Performs an SFC Does NOT perform an regulated activity SFC regulated activity Must register with the SFC Must be licensed by the SFC REGISTERED INSTITUTIONS LICENSED CORPORATIONS INTERMEDIARIES The HKMA: The SFC:  May refer cases of suspected  May suspend or revoke registrations malpractice to the SFC of AFI’s reported by the HKMA, as well as issue public or private  May remove the names of AFI reprimands and impose fines employees from the register maintained under the Banking Ordinance A Memorandum of Understanding has been signed between the HKMA and the SFC clarifying their roles and responsibilities to minimize any overlaps Figure 3: Analysis of HKMA and SFC supervision of Intermediaries © ExecutiveKnowledge Go to Examinator.online for Topic 1 Practice Questions 7  Licensing Exam Paper 1 Topic 1 The Ten SFC-regulated Activities 1. Dealing in securities 2. Dealing in futures contracts 3. Leveraged foreign exchange trading 4. Advising on securities 5. Advising on futures contracts 6. Advising on corporate finance 7. Providing automated trading services 8. Securities margin financing 9. Asset management 10. Providing credit rating services 2.2.2 Insurance Authority  Principal functions are to regulate and supervise the insurance industry in Hong Kong  Major duties and powers include:  Issues licenses for insurance intermediaries, including insurance brokers and agents  Conducting supervisions and investigations  Commencing prosecutions under the Insurance Ordinance 2.2.3 Mandatory Provident Fund Schemes Authority (MPFA)  The MPFA has responsibility for:  Registering MPF schemes and approving pooled investment funds  Overseeing and making rules/guidelines for the administration and management of the above  Ongoing monitoring of compliance by MPF products with the MPFSO  Investigating alleged breaches of the MPFSO  Approving trustees and regulating their affairs and activities  Dealing with complaints about MPF products and approved trustees, referring them to the SFC and other regulators, where necessary © ExecutiveKnowledge Go to Examinator.online for Topic 1 Practice Questions 8  Licensing Exam Paper 1 Topic 1  Certain responsibilities of the MPFA interlink with those of the SFC. The relevant SFC responsibilities are:  Vetting and authorizing MPF products and related marketing materials in accordance with the SFC Code on MPF Products and relevant ordinances  Registering and approving investment managers and continued monitoring of their conduct  Supervising activities of investment advisors and securities dealers providing services relating to MPF products  Investigating alleged breaches of the SFC Code on MPF Products and taking enforcement action  Dealing with complaints referred by the MPFA  The MPFA and SFC have an MOU coordinating their respective responsibilities 2.2.4 The Chinese Gold and Silver Exchange Society  Runs a market now focused on bullion trading in tael gold and kilo gold  The Society is NOT directly regulated  Promotes paper gold schemes, which are classified as Collective Investment Schemes, which are, in turn, regulated by the SFC 2.2.5 Registrar of Companies  Administers and enforces certain aspects of the: New Companies Ordinance, Companies (Winding Up and Miscellaneous Provisions) Ordinance; Limited Partnerships Ordinance, Trustee Ordinance, Registered Trustees Incorporation Ordinance and Money Lenders Ordinance  Maintains and makes available for public inspection financial and other returns made by companies  May strike off companies for failure to make returns or for not carrying on business  Does not directly regulate companies, but takes an active interest in corporate governance issues and may make recommendations  No direct link between SFC and Companies Registry © ExecutiveKnowledge Go to Examinator.online for Topic 1 Practice Questions 9  Licensing Exam Paper 1 Topic 1 3. SECURITIES AND FUTURES COMMISSION (SFC) 3.1 Regulatory Functions and Structure  SFC was created by law under the Securities and Futures commission Ordinance (part of the SFO)  The SFC is independent (not part of the Government machinery of the Civil Service or the ministerial system)  It reports to, and is accountable to, the Financial Secretary 3.1.1 Regulatory Objectives of the SFC  As stated in the SFO, the objectives of the SFC, in relation to the securities and futures industry, are:  Maintain and promote the fairness, efficiency, competitiveness, transparency and orderliness of the industry  Promote understanding by the public of financial services including the operation and functioning of the industry  Provide protection to the investing public  Minimize crime and misconduct in the industry  Reduce systemic risks in the industry  Assist the financial secretary in maintaining the financial stability of Hong Kong by taking appropriate steps in relation to the industry 3.1.2 Functions and Powers of the SFC  The functions and powers of the SFC are wide and set out in the SFO. The principal functions are to:  Take such steps as it considers appropriate to meet the first objective above  Supervise, monitor and regulate the activities of: (i) recognised exchange clearing houses, exchange controllers and investor compensation companies or persons carrying on regulated activities; and (ii) the activities of registered institutions that are regulated or to be regulated by the SFC under any relevant provisions  Promote, encourage and enforce the proper conduct, competence and integrity of persons carrying on regulated activities  Maintain and promote confidence in the industry  Cooperate with and provide assistance to other regulators  Secure appropriate degree of protection for the investing public © ExecutiveKnowledge Go to Examinator.online for Topic 1 Practice Questions 10  Licensing Exam Paper 1 Topic 1  Promote, encourage and enforce internal control and risk management systems by persons carrying on regulated activities, including registered institutions in the case of any regulated activities they conduct  Suppress illegal, dishonourable and improper practices in the industry  Other functions of the SFC include promoting:  Investor education  Investors’ understanding of investment products  Investors’ understanding of the importance of making informed investment decisions  Investors’ appreciation of the benefits of purchasing different types of financial services including investing in financial products through regulated persons  General duties of the SFC are to:  Help maintain Hong Kong’s position as an international financial centre  Facilitate innovation in financial products  Avoid restrictions on competition  Act in a transparent manner  Use its resources efficiently 3.2 Directors, Committees, Tribunals and Panels 3.2.1 Directors of the SFC  Directors of the SFC include the non-executive Chairman, CEO, as well as other executive and non-executive directors  The majority of SFC directors must be non-executive who are prominent persons from the industry or legal and accountancy professions as well as the securities and futures industry  Each of five executive directors supervise an operational division from the following:  Corporate Finance  Enforcement  Investment Products  Supervision of Markets  Intermediaries  Two support units are:  Legal Services Division  Corporate Affairs Division © ExecutiveKnowledge Go to Examinator.online for Topic 1 Practice Questions 11  Licensing Exam Paper 1 Topic 1 SFC Organization Chart Audit Advisory Committee Committee The Board Budget Regulatory Committee Committees Remuneration Committee Chief Executive CEO’s Officer Office Investment Committee Executive Committee Corporate Investment Supervision Enforcement of Intermediaries Finance Products Markets Legal Corporate Licensing Intermediaries Services Affairs Supervision Planning and Complaints Finance Human Information Administration Resources Technology Figure 4: SFC Organization Chart. Source: www.sfc.hk 3.2.2 Advisory Committee  Advises the SFC on policy matters concerning regulatory objectives and functions  No executive powers and does not police the SFC  Chaired by the SFC Chairman © ExecutiveKnowledge Go to Examinator.online for Topic 1 Practice Questions 12  Licensing Exam Paper 1 Topic 1 3.2.3 Committees, Tribunals and Panels  Examples of regulatory committees established by the SFC, to which it has delegated some of its functions, are:  Takeovers and Mergers Panel  Takeovers Appeal Committee  Products Advisory Committee  Investor Compensation Fund Committee  Academic and Accreditation Advisory Committee  Share Registrars’ Disciplinary Committee  The following tribunals and panels are independent of the SFC:  Securities and Futures Appeals Tribunal – statutory body with full-time members headed by a current or former judge appointed by the Chief Executive to hear appeals against decisions made by the SFC and two other members appointed by the Chief Executive  Leveraged Foreign Exchange Trading Arbitration Panel – hears disputes relating to leveraged foreign exchange trading  Process Review Panel – reviews and monitors the operational processes of the SFC, reporting suggested improvements to the Financial Secretary  Market Misconduct Tribunal – see Topic 9 3.3 Functions of the SFC’s Operational Units Five divisions, two departments. Here they are.  Corporate Finance Division:  Vets listing applications together with The Stock Exchange of Hong Kong  Monitors listed companies’ announcements to identify misconduct or irregularities  Administers the Codes on Takeovers and Mergers and Share Buy-backs and regulates takeovers, mergers and share buy-backs  Supervises listing-related activities of Stock Exchange (SE administers listing process)  Reviews and recommends changes to Listing Rules  Reviews/authorises prospectuses and marketing materials for unlisted shares/debentures © ExecutiveKnowledge Go to Examinator.online for Topic 1 Practice Questions 13  Licensing Exam Paper 1 Topic 1  Enforcement Division:  Monitors markets to detect market misconduct  Has the power to discipline regulated intermediaries, and those who are responsible, where they cease to be fit and proper or are guilty of misconduct  Inspects books and records of listed companies where impropriety is suspected which may involve directors, officers or substantial shareholders  Cooperates with domestic/overseas regulatory bodies in investigations  Investment Products Division:  Develops regulatory platforms, including those for authorization applications of investment products, so as to facilitate market growth and product innovation  Regulates and approves investment products that are offered to the public and subject to the SFO  Monitors disclosures and ongoing compliance of authorized investment products  Registers and regulates open-ended fund companies (OFCs)  Supervision of Markets Division:  Supervises conduct, operation and internal systems of the exchanges and clearing houses  Formulates policies to develop the market infrastructure and boosts links with Mainland China and international markets  Authorizes automated trading service providers  Regulates approved share registrars  Supervises and monitors activities of the Investor Compensation Company  Conducts market-related research to help formulate policies © ExecutiveKnowledge Go to Examinator.online for Topic 1 Practice Questions 14  Licensing Exam Paper 1 Topic 1  Intermediaries Division:  Licensing department  Intermediaries Supervision Department  Licensing Department:  Licenses corporations and individuals to enable them to carry out SFC-regulated activities  Issues codes and guidelines concerning the competence and suitability of corporations and individuals to remain licensed  Maintains a public register of licensed persons/registered institutions  Reviews continuing suitability of licensed corporations and individuals to be licensed  Intermediaries Supervision Department:  Supervises the business conduct of licensed corporations and individual licensees on an ongoing basis by conducting on-site inspection and off-site monitoring  Monitors financial integrity of licensed corporations  Communicates with intermediaries and industry on policy and regulatory issues  Processes applications for approval/waiver/modification of various requirements relating to intermediaries 3.4 Disciplinary Powers, Actions, Proceedings and Penalties 3.4.1 Disciplinary Powers of the SFC  The SFC may investigate suspected breaches of the SFO, subsidiary legislation, codes and guidelines:  Breaches of SFO and subsidiary legislation are legal offences. Serious cases may be referred to law enforcement agencies such as the Commercial Crime Bureau (CCB - part of the police force), or the Independent Commission Against Corruption (ICAC)  SFC can apply to the courts for an injunction to stop someone dealing with his assets or from carrying on his business, if it can be shown to be in the public interest  Codes and guidelines do not have the force of law and are not legally enforceable. Breaching the codes and guidelines may result in a licensed or registered person not being considered ‘fit and proper’ to remain licensed or registered © ExecutiveKnowledge Go to Examinator.online for Topic 1 Practice Questions 15  Licensing Exam Paper 1 Topic 1  The SFC has the power to:  Reprimand (privately or publicly)  Fine  Suspend or revoke a license or registration 3.4.2 Disciplinary Powers of Hong Kong Exchanges  The exchanges and clearing houses have disciplinary powers over participants, however they are more limited in scope than those of the SFC  Disciplinary powers relate mainly to trading, clearing and settlement infractions and listing matters 3.5 Interaction with Local and Overseas Regulators and the International Organization of Securities Commissions 3.5.1 Disclosure of Information by the SFC  The SFC is empowered to disclose confidential information to a number of persons and organizations, if it is in the public interest, or where it will help the recipient perform his functions and it is not against the public interest  The SFC may also provide information to an overseas authority or regulator who is subject to adequate secrecy provisions  The SFC has entered into a number of MOUs with local, Mainland and overseas regulators covering the provision of mutual assistance 3.5.2 IOSCO  The International Organization of Securities Commissions is a global group of securities regulators that promotes cooperation and high standards of regulation to maintain fair, efficient and sound markets  The SFC is an active member of IOSCO and is one of the small group of members of the influential Technical Committee  As of January 2023, IOSCO had over 230 members © ExecutiveKnowledge Go to Examinator.online for Topic 1 Practice Questions 16  Licensing Exam Paper 1 Topic 1 4. HONG KONG EXCHANGES AND CLEARING LIMITED A listed company on SEHK HK Exchanges and Recognized Exchange Clearing Ltd (HKEx) Controller Responsible for an orderly and fair market in securities and futures Administers listing traded on SEHK & HKFE process Stock Exchange of Hong Kong Futures Recognized Hong Kong Ltd (SEHK) Exchange Limited (HKFE) Exchange Companies Hong Kong Securities SEHK Options and HKFE Clearing Clearing Company Ltd Clearing House Ltd Corporation Ltd Recognized (HKSCC) (SEOCH) (HKCC) Clearing Houses  The board of HKEx is a mix of directors appointed by the Government (the majority) and those elected by shareholders  The SFC supervises and monitors the activities of all HKEx companies  All exchange companies and clearing houses are 100% owned subsidiaries of HKEx  Except in relation to the enforcement of their own listing, trading, clearing and settlement rules, the above entities are not responsible for front-line regulation of market participants, which is carried out by the SFC © ExecutiveKnowledge Go to Examinator.online for Topic 1 Practice Questions 17  Licensing Exam Paper 1 Topic 1 5. PARTICIPANTS AND INTERMEDIARIES IN THE HONG KONG FINANCIAL MARKET Retail Investors  Individuals, or small businesses and companies who invest in relatively small amounts of money for themselves rather than on behalf of anyone else  These investors need the most protection under the regulatory regime, as they are less sophisticated High Net Worth Individuals (HNWIs)  Usually serviced by private banks, which set a minimum asset level for such clients  HNWIs vary as to their level of investment experience – some may be recognized by the SFC as professional investors (see Topic 5 for more detail) Institutional Investors  Entities that make investments on behalf of others, such as pension funds, unit trusts and mutual funds, insurance companies, AFIs, private banks and fund managers Professional Investors (PIs)  Persons who are highly experienced in making investments and investment decisions. Under SFC regulations, PIs are not automatically provided the same level of regulatory protection as retail investors. Covered in more detail in Topic 5 Intermediaries  Intermediaries provide products and services to principals and investors. They include dealers, advisers, securities margin financiers and asset managers Principals  Principals act for themselves, are not agents, and include banks, insurance companies and market makers. However, such entities can act as agents for clients Providers of Professional Support  This group includes lawyers, accountants, auditors, valuers, financial analysts and other experts in finance-related matters © ExecutiveKnowledge Go to Examinator.online for Topic 1 Practice Questions 18  Licensing Exam Paper 1 Topic 2 TOPIC 2 - OVERVIEW 1. OUTLINE OF HONG KONG’S LEGAL SYSTEM 2 1.1 Sources of Hong Kong’s Laws 2 1.2 Independence of the Judiciary 3 1.3 Categories of Hong Kong’s Laws Relevant to Exam 3 1.4 Hong Kong’s System of Law Courts and Tribunals 5 2. COMPANIES ORDINANCE 7 2.1 Separate Legal Entity 7 2.2 Private, Public and Guarantee Companies 7 2.3 Listed Company 7 2.4 Articles of Association 8 2.5 Share Capital 8 2.6 Debentures 9 2.7 Meetings and Procedures 10 2.8 Powers of Shareholders 11 2.9 Directors and Officers 12 2.10 Qualifications, Powers, Duties and Liabilities of Directors 12 2.11 Audits and Investigations 14 2.12 Liquidations of Companies 15 © ExecutiveKnowledge Go to Examinator.online for Topic 2 Practice Questions 1 Licensing Exam Paper 1 Topic 2 1. OUTLINE OF HONG KONG’S LEGAL SYSTEM 1.1 Sources of Hong Kong’s Laws 1.1.1 Common Law  Not created by statute or by authority of sovereign, but developed in law courts  Authority derived from long usage and cemented by doctrine of precedence  Principles of development of common law in England have been adopted and extended in Hong Kong  Judges interpretation of common law and legislation form case law 1.1.2 Equity  Has developed its own case law, addressing issues of fairness and justness  Where there is a conflict between common law and equity, equity generally prevails  Remedies under equity, which apply in the financial services industry, include:  Injunctions: court orders prohibiting someone from doing something  Specific performance: court order that a person must carry out his part of the contract  Equitable rescission: aims to restore the parties to their original positions before the contract was entered into  Rectification: the court clarifies the contract when it does not properly record the intentions of the parties to it 1.1.3 Mercantile Law / Commercial Law  Various pieces of commercial law, including the Sale of Goods Ordinance and the Bills of Exchange Ordinance 1.1.4 Primary and Subsidiary Legislation  Primary legislation consists of Ordinances enacted by the Chief Executive, with the advice of LegCo (drafted by Government)  Subsidiary legislation is drafted by non-Government bodies, as delegated by LegCo, and referred to as Rules  SFC has extensive powers to make rules under SFO © ExecutiveKnowledge Go to Examinator.online for Topic 2 Practice Questions 2 Licensing Exam Paper 1 Topic 2 1.2 Independence of the Judiciary  Judiciary is completely independent of other parts of Government  Judges are not politically appointed; decisions based on interpretation of law  Judges are not pressurized by Government, LegCo, media or pressure groups 1.3 Categories of Hong Kong’s Laws Relevant to Exam 1.3.1 Criminal Law  Defines offences against the community and how persons may be investigated, charged, tried and punished  Punishment may include imprisonment  Case is brought by the State e.g. Department of Justice  Case has to be proved ‘beyond reasonable doubt’ and burden of proof is on the prosecutor 1.3.2 Civil Law  Provides remedies for individuals or businesses that have suffered loss from the actions of another person  Not primarily intended to punish wrongdoer  Plaintiff (injured party) brings action against defendant  Court order or award is made if plaintiff can prove claim on ‘balance of probabilities’ 1.3.3 Contract Law  A contract is an agreement between two or more persons creating obligations enforceable under law  Examples are:  Purchase or sale of security/futures contract  Acceptance by an investor of an IPO  Undertaking to manage a mutual fund  Purchase of a leveraged foreign exchange contract © ExecutiveKnowledge Go to Examinator.online for Topic 2 Practice Questions 3 Licensing Exam Paper 1 Topic 2 1.3.4 Law of Agency  Agency is a fiduciary relationship, created by express or implied contract, where the agent may act on behalf of the principal  Agent binds principal by words and actions  Stockbroker can be agent of client; account executive may be considered agent of employer  A principal is liable for the acts of the agent, who is a fiduciary…. 1.3.5 Fiduciary / Fiduciary Relationship  A person who owes another person duties of good faith, trust, confidence, honesty and care  The agent has a duty to act for the benefit of the principal 1.3.6 Law of Tort  In situations where no contract exists, a wrong or tort can occur when one party suffers a loss or damage from the actions of another  Financial advisers who are negligent in giving advice may be exposed to actions in tort 1.3.7 Employment Law  Under common law, an employer must provide an employee with: 1. Remuneration 2. Indemnity for expenses, losses and liabilities 3. A safe working environment  Under common law, an employee must demonstrate skills and competence, faithful service, obedience and confidentiality © ExecutiveKnowledge Go to Examinator.online for Topic 2 Practice Questions 4 Licensing Exam Paper 1 Topic 2 1.4 Hong Kong’s System of Law Courts and Tribunals 1.4.1 The Law Courts Chief Justice of the Court of Final Appeal The highest court in Hong Kong headed by the Chief Justice Court of Final Appeal Court of Appeal hears appeals in all civil and criminal cases arising from the Court of First Instance, District Court and Lands Tribunal High Court - Court of Appeal - Court of First Instance Court of First Instance has unlimited jurisdiction over criminal and civil cases. Hears appeals from tribunals and criminal appeals from Magistrates’ Courts District court considers more serious criminal District Court cases (except very serious cases, eg murder) and civil cases involving disputes up to HK$3m Magistrates’ courts deal with least serious Magistrates’ Court criminal offences and impose smaller sentences than District Court © ExecutiveKnowledge Go to Examinator.online for Topic 2 Practice Questions 5 Licensing Exam Paper 1 Topic 2 1.4.2 Administrative Tribunals  Established by the Government as needed, eg Market Misconduct Tribunal and Securities and Futures Appeals Tribunal  May require members to have a high level of knowledge of subject matter  The idea is to quicken the legal process  Need less strict levels of proof than courts  Fewer formal procedures; can complete hearings quickly 1.4.3 Arbitration  Business disputes can be resolved by arbitration  HK International Arbitration Centre was set up to provide domestic arbitration (both parties in HK) and international arbitration (one party is overseas)  Arbitration Ordinance provides statutory framework for arbitration  Arbitration is fast, cheap, informal and private  Used as a means of resolving disputes arising from leveraged foreign exchange trading © ExecutiveKnowledge Go to Examinator.online for Topic 2 Practice Questions 6 Licensing Exam Paper 1 Topic 2 2. COMPANIES ORDINANCE AND RELATED MATTERS The CO covers all areas regulated under the old CO, except the prospectus regime and the winding-up insolvency provisions which remain regulated under the old CO, now referred to as Companies (Winding Up and Miscellaneous Provisions) Ordinance 2.1 Separate Legal Entity  A company is:  A legal entity distinct from its members  A legal person and can make contracts, take legal action, sue and be sued, own property and commit crimes and torts  Has perpetual succession and will only cease if dissolved 2.2 Private, Public and Guarantee Companies There are 3 distinct types of companies. 2.2.1 Private Company  Restricts the right to transfer its shares  May not have more than 50 members  May not offer shares (or debentures) to the public  Is not limited by guarantee 2.2.2 Public Company  Does not restrict the right to transfer its shares  May have more than 50 members  Is not a guarantee company 2.2.3 Guarantee Company  Does not have share capital  Members liability is limited by the company’s articles to the amount that the members undertake to contribute to the assets of the company in the event of its being wound up 2.3 Listed Company  A company that has any of its shares listed on a recognized stock market © ExecutiveKnowledge Go to Examinator.online for Topic 2 Practice Questions 7 Licensing Exam Paper 1 Topic 2 2.4 Articles of Association  Considered to be the single constitutional document of a company, forming an agreement between the company and its members  Companies can adopt model articles of association provided in the Companies (Model Articles) Notice, consisting of four parts including matters relating to: 1. Officers, including powers, duties, appointments and disqualifications of directors and company secretaries 2. Members, including meetings and voting procedures 3. Capital, such as share capital, rights and dealings with shares and dividends 4. Miscellaneous provisions such as communications to and by the company and administrative arrangements 2.5 Share Capital  Under the NCO, shares in a company have no nominal value  No requirement for a company to have authorized capital  Companies are given the power under their articles to issue different classes of shares such as:  ordinary shares  preference shares  redeemable shares 2.5.1 Ordinary Shares  Also referred to as equity or common shares  Entitled to share in distribution of past and current profits, but rank after all other shareholders and creditors  Entitled to any assets/payout in a liquidation after all other creditors have been paid  From 30 April 2018, companies listed on the Stock Exchange of Hong Kong are permitted to issue shares with different voting rights. Previously, this was considered a violation of the one share one vote principle, however commercial considerations dictated the introduction of weighted voting rights – see Topic 8 for further coverage © ExecutiveKnowledge Go to Examinator.online for Topic 2 Practice Questions 8 Licensing Exam Paper 1 Topic 2 2.5.2 Preference Shares  Must be authorized in the company’s articles  Entitled to receive dividends at a fixed rate, with priority over ordinary shares  Participating preference shares have the right, not only to a fixed dividend, but also to share in some part of remaining distributable profits 2.5.3 Redeemable Shares  Redeemable preference and ordinary shares may be issued if authorized by articles of association  May be redeemed at the option of the shareholder or company  May only be issued if company has already issued shares that are not redeemable  Redemption must be paid out of distributable profits, the proceeds of a new share issue, or share capital  Redemption can only occur if shares are fully paid 2.6 Debentures  The term debenture in UK refers to corporate bonds backed by some form of security, whereas the US and Canada use the term to describe any type of bond  The holder of a debenture is a creditor of the issuing unit and receives interest at a fixed rate  For the purposes of the exam, debentures may be secured or unsecured  Debentures can be for a fixed term or irredeemable  Debenture holders rank before all types of shareholder 2.6.1 Secured and Unsecured Debentures  Debentures may be secured by a fixed or floating charge on specific assets of a company or all of them  An unsecured debenture ranks as an unsecured creditor; a secured holder has prior rights to the security © ExecutiveKnowledge Go to Examinator.online for Topic 2 Practice Questions 9 Licensing Exam Paper 1 Topic 2 2.7 Meetings and Procedures  Company meetings of shareholders provide the only opportunity for shareholders to exercise any control over the affairs of the company or take part in its operations  Companies Ordinance requires Annual General Meetings to take place  Companies are allowed to dispense with the requirement to hold AGMs by passing a written resolution or a resolution at a general meeting with unanimous shareholders’ consent  Other general meetings can be requested by directors, shareholders, and the court. 2.7.1 Annual General Meeting (AGM)  Companies must hold an AGM within the following periods:  Public companies: within 6 months of the accounting year-end  Private and Guarantee companies: within 9 months of the accounting year-end  The business of an AGM includes:  Consideration of annual accounts  Declaration of dividends  Election of directors to replace those retiring  Appointment of auditors  Questioning of directors by members 2.7.2 Resolutions  Resolutions may be passed by circularization and signed by all members, except for: Require ordinary  Removal of auditors before expiry of office resolutions at a  Removal of director before end of term of office general meeting 2.7.3 Special Resolution  Passed by at least 75% of members at a general meeting  14 days notice of the meeting is required  Printed copy of resolution must be lodged with Company Registrar within 15 days  Special resolution required for:  Reduction of share capital  Company liquidation  Alteration of articles of association © ExecutiveKnowledge Go to Examinator.online for Topic 2 Practice Questions 10 Licensing Exam Paper 1 Topic 2 2.7.4 Ordinary Resolution  a resolution passed by a simple majority of those present and voting at a shareholders’ meeting. Notice must be given 2.8 Powers of Shareholders 2.8.1 Powers Exercisable by Members in a General Meeting  Changes to articles of association and company name  Matters relating to buybacks  Issue of shares at a discount  Alteration of capital, including reduction  Variation of class rights  Corporate arrangements and reconstructions  Appointment and removal of auditors  Removal of directors  Disposal of company assets  Approval of payments for loss of office  Winding-up petitions under court order and voluntary winding-up 2.8.2 Protection of Members and Minority Shareholders  A company may vary the rights of the holders of a class of shares – the holders of at least 10% of the total voting rights of the shares of that class may petition the court to have the variation cancelled, if against their interests  An individual member may petition the court if the affairs of the company are being conducted in a manner prejudicial to the interests of the members generally 2.8.3 Protection of the Interests of Minority Shareholders (in relation to internal procedures)  Members with 5% of paid-up capital carrying voting rights, may ask the directors to call a meeting; if the directors refuse, the members may do so  100 members or 10% of the holders of issued shares may ask the Financial Secretary to appoint an investigator to look into the company’s affairs © ExecutiveKnowledge Go to Examinator.online for Topic 2 Practice Questions 11 Licensing Exam Paper 1 Topic 2 2.8.4 Judicial Protection of the Minority  In addition to statutory safeguards, a court may intervene to allow an individual member, or members, to bring an action:  To enforce some personal right (personal action)  To enforce a right of a group of members (joint action)  Where the alleged wrongdoers control the company so it’s not possible to bring the action in the company’s name (derivative action) 2.9 Directors and Officers 2.9.1 Directors  A director includes any person who occupies the position of director, by whatever name he is called  A public company must have at least 2 directors  A private company must have at least 1 director  Must be appointed by the members acting in general meeting 2.9.2 Shadow Directors  Persons in accordance with whose directions or instructions the directors of a company are accustomed to act 2.9.3 Officer  Per NCO, includes a director, manager or company secretary 2.10 Qualifications, Powers, Duties and Liabilities of Directors 2.10.1 Qualifications of Directors  Must be at least 18 years old  Must not be an undischarged bankrupt  Must not be disqualified by court order © ExecutiveKnowledge Go to Examinator.online for Topic 2 Practice Questions 12 Licensing Exam Paper 1 Topic 2 2.10.2 Powers of Directors  General powers to manage the business of a company are vested in the directors  Directors can exercise all the powers of the company except those otherwise required by the NCO, the articles, and any directions given by special resolution  Members in general meeting may only intervene in management if directors are:  Unwilling to act  Seeking approval to act beyond their powers  Acting in breach of their fiduciary duties  Under common law, directors should have board meetings with a proper quorum, passing resolutions that must be minuted 2.10.3 Duties of Directors  Directors have a fiduciary relationship with the company. They must act with the utmost good faith towards the company, act for the benefit of the company, exercise their powers for the proper purpose and not allow conflicts of interest to prevail  Directors must act with reasonable care, skill and diligence as reasonably expected of persons of their experience and knowledge  Directors are not required to give continuous attention to a company’s affairs  Directors are justified in relying on officials to whom duties are delegated 2.10.4 Liabilities of Directors  In relation to various offences, directors may incur liabilities due to:  Breaches of fiduciary duties  Failure to act with reasonable care, skill and diligence  Breaches of statutory duties  Failure to prepare financial statements when required to do so  If a director breaches his duties, the company:  May obtain an injunction to stop the action  May cancel a company contract if the director did not declare a personal interest in the contract  May force directors to account for profits wrongfully earned by dealing with the company’s property © ExecutiveKnowledge Go to Examinator.online for Topic 2 Practice Questions 13 Licensing Exam Paper 1 Topic 2 2.10.5 Financial Arrangements with Directors  Directors with a direct or indirect significant interest in a transaction, arrangement or contract with the company, must declare the nature and extent of the interest – as soon as reasonably practicable  Directors’ fees should be determined by the company in general meeting  A company cannot, directly or indirectly, without the approval of its members  Make a loan to a director of the company or a body corporate controlled by such a director  Enter into a guarantee or provide security for such a loan  Make a loan or guarantee to a company in which a director has a controlling interest 2.11 Audits and Investigations  Hong Kong companies are required to be audited on an annual basis  Investigations may be ordered by the Financial Secretary or the company may itself carry out a private investigation 2.11.1 Appointment of Inspectors by Financial Secretary  The Financial Secretary is required to appoint inspectors to investigate the affairs of a company if the court declares that an investigation should be carried out  The Financial Secretary may also order an investigation if:  An application is made by the specified number of members  Company passes a special resolution requesting such an appointment  He suspects that the company’s affairs have been conducted to the detriment of members/creditors  He suspects fraud or misconduct 2.11.2 Duty to Assist the Inspector  All present and past officers and agents of the company, including bankers, solicitors and auditors, are required to assist an appointed investigator  Exceptions are solicitors, who cannot be forced to provide privileged client information, and bankers, who do not have to provide information other than that relating to the company under inspection © ExecutiveKnowledge Go to Examinator.online for Topic 2 Practice Questions 14 Licensing Exam Paper 1 Topic 2 2.12 Liquidations of Companies 2.12.1 Compulsory Liquidation  A compulsory winding-up by the court  The liquidator is appointed and controlled by the court  A company may be wound up by the court if:  It has resolved to be wound up by special resolution  It does not commence business within a year of incorporation or has suspended business for a whole year  It has no members  It is unable to pay its debts  The Articles of Association stipulates liquidation on the occurrence of particular events  The court believe it would be just and equitable to wind up the company  Petitioners for a compulsory winding up may be:  The company  A creditor  Financial Secretary  Registrar of Companies, if company has breached CO or is breaking the law  Official Receiver, where there is already a voluntary winding up  SFC, if it is in the public interest (see Topic 3: 2.10.3) 2.12.2 Voluntary Liquidation  A voluntary winding up may be started by members or creditors  Fewer formalities than a compulsory winding up and therefore more popular  There are 3 situations where a voluntary winding-up can start:  When the period fixed for a company’s duration, as per the articles of association, comes to an end  The passing of a special resolution for winding up  A majority of directors pass a board resolution winding up the company, followed by the delivery of such a statement to the Registrar of Companies © ExecutiveKnowledge Go to Examinator.online for Topic 2 Practice Questions 15 Licensing Exam Paper 1 Topic 2 Members’ Voluntary Winding Up  If the directors are able to declare that the company can meet its debts within 12 months from the start of the winding up, a members’ voluntary winding up can proceed  This declaration must be made 5 weeks before the resolution to wind up the company Creditors’ Voluntary Winding Up  If the conditions for a members’ compulsory winding up cannot be met, a creditors’ winding up will proceed  A liquidator and a committee of inspection will be appointed to supervise the process © ExecutiveKnowledge Go to Examinator.online for Topic 2 Practice Questions 16  Licensing Exam Paper 1 Topic 3 TOPIC 3 - OVERVIEW 1. BACKGROUND TO THE SECURITIES AND FUTURES 2 ORDINANCE (2003) 1.1 Why Create the SFO? 2 1.2 Objectives of the SFO 2 2. STRUCTURE OF THE SFO 3 2.1 Part I - Preliminary 4 2.2 Part II – The SFC – its Constitution, Objectives, Functions, 5 Powers and Duties 2.3 Part III – Exchange Companies, Clearing Houses, 5 Exchange Controllers, Investor Compensation Companies and Automated Trading Services 2.4 Part IIIA – Over-The-Counter Derivative Transactions 5 2.5 Part IV – Offers of Investments 5 2.6 Part IVA – Open-ended Fund Companies 6 2.7 Part V – Licensing and Registration 6 2.8 Part VI – Capital Requirements, Client Assets, Records and 7 Audit Relating to Intermediaries 2.9 Part VII – Business Conduct of Intermediaries 8 2.10 Part VIII – Supervision and Investigations 9 2.11 Part IX – Discipline – Regulated Persons 10 2.12 Part X – Powers of Intervention and Proceedings 12 2.13 Part XI – Securities and Futures Appeals Tribunal 12 2.14 Part XII – Investor Compensation 13 2.15 Part XIII – Market Misconduct Tribunal 13 2.16 Part XIV – Offences Related to Dealings in Securities and 13 Futures Contracts 2.17 Part XIVA – Disclosure of Inside Information 13 2.18 Part XV – Disclosure of Interests 15 2.19 Part XVI – Miscellaneous 16 2.20 Part XVII – Repeals and Related Provisions 16 © ExecutiveKnowledge Go to Examinator.online for Topic 3 Practice Questions 1 Licensing Exam Paper 1 Topic 3 1. BACKROUND TO THE SECURITIES AND FUTURES ORDINANCE (2003) 1.1 Why Create the SFO?  It was recognized in the 1990s that Hong Kong needed a more efficient, modern and flexible financial regulatory regime.  The SFO was drafted to meet challenges being faced and replaced 10 previous ordinances which had been drafted at various times to meet needs as they arose  Reasons for overhauling Hong Kong’s financial legal framework included:  Expansion of new financial products and services  Entry of new market participants  Introduction of new trading methods  Enhanced global competition  Hong Kong’s role as a fund-raising centre for Mainland China  Hong Kong’s role as a regional financial centre in the Asia-Pacific zone  Hong Kong’s standing as an international financial market straddling London and New York 1.2 Objectives of the SFO  To provide a regulatory framework which:  Promotes a fair, orderly and transparent market  Is flexible enough to cope with new products and other innovations, and further advances in technological infrastructure  Is administered by a regulator with sufficient powers and discretion whose operations are transparent and who is accountable to the stakeholders through a system of adequate checks and balances  Is on a par with international standards and compatible with international practices, but tailored to meet local needs and circumstances © ExecutiveKnowledge Go to Examinator.online for Topic 3 Practice Questions 2 Licensing Exam Paper 1 Topic 3 2. STRUCTURE OF THE SFO Part Topic I Preliminary 1 and 3 II The SFC – its Constitution, Objectives, 1 Functions, Powers and Duties III Exchange Companies, Clearing Houses, 1 and 7 Exchange Controllers, Investor Compensation Companies and Automated Trading Services IIIA Over-the-Counter Derivatives Transactions 4 IV Offers of Investments 8 IVA Open-ended fund Companies 3, 4 and 5 V Licensing and Registration 3 and 4 VI Capital Requirements, Client Assets, Records 3 and 4 and Audit Relating to Intermediaries VII Business Conduct of Intermediaries 3 and 5 VIII Supervision and Investigations 3 IX Discipline 3, 4, 7 and 8 X Powers of Intervention and Proceedings 3 XI Securities and Futures Appeals Tribunal 1 and 3 XII Investor Compensation 3 XIII Market Misconduct Tribunal 9 XIV Offences Relating to Dealings in Securities and 9 Futures Contracts XIVA Disclosure of Inside Information 3 XV Disclosure of Interests 3 XVI Miscellaneous 3 and 6 XVII Repeals and Related Provisions N/A © ExecutiveKnowledge Go to Examinator.online for Topic 3 Practice Questions 3 Licensing Exam Paper 1 Topic 3 2.1 Part I - Preliminary  The provisions of the SFO have different applications to the following different classes of person:  Licensed corporation – corporations which are licensed and directly supervised by the SFC  Registered institution – AFIs directly supervised by the HKMA and registered with the SFC  Intermediary – collective term for licensed corporations and registered institutions  An associated entity of an intermediary which receives or holds, in Hong Kong, client assets of the intermediary Revision from Topic 1…… SUPERVISED BY HKMA SUPERVISED BY SFC Authorised Financial Institutions (AFIs) Firms performing SFC-regulated activities (NOT AFIs) Performs an SFC Does NOT perform an regulated activity SFC regulated activity Must register with the SFC Must be licensed by the SFC REGISTERED INSTITUTIONS LICENSED CORPORATIONS INTERMEDIARIES © ExecutiveKnowledge Go to Examinator.online for Topic 3 Practice Questions 4 Licensing Exam Paper 1 Topic 3 2.2 Part II – The SFC – its Constitution, Objectives, Functions, Powers and Duties  Dealt with in Topic 1 2.3 Part III – Exchange Companies, Clearing Houses, Exchange Controllers, Investor Compensation Companies and Automated Trading Services  The SFC supervises the following operators, as recognized in Part III, to ensure that they perform their regulatory functions and operations in accordance with the SFO:  Exchange controller – i.e. Hong Kong Exchanges and Clearing Limited  Exchange company – two are recognised: SEHK and HKFE  Clearing house – three are recognized: HKSCC; SEOCH; and HKCC  Investor compensation company – i.e. Investor Compensation Company Limited  Providers of automated trading services  Market operators (Exchange Controller, Exchange Companies, Clearing Houses and Investor Compensation Company) are immune from civil liability under Part III 2.4 Part IIIA – Over-The-Counter Derivative Transactions  Establishes the framework for the regulation of OTC derivative transactions, setting out requirements for the reporting, clearing and trading of specified OTC derivative transactions  Reportable information should be provided to the HKMA, while the SFC is empowered to make appropriate rules  Different parts of Part IIIA will be rolled out when the necessary legal and regulatory infrastructure is in place 2.5 Part IV - Offers of Investments  SFC is empowered to:  Authorize Collective Investment Schemes (CISs) i.e. mutual funds/unit trusts  Authorize structured products enabling them to be marketed to the public  Authorize the issue of adverts and other documents containing an offer to the public  Dealt with further in Topic 8 © ExecutiveKnowledge Go to Examinator.online for Topic 3 Practice Questions 5 Licensing Exam Paper 1 Topic 3 2.6 Part IVA – Open-ended Fund Companies (OFCs)  Enacted in July 2018, this Part enables investment funds to be established in Hong Kong in a corporate form – OFCs are a form of CIS  OFCs have limited liability with variable share capital, providing flexibility to meet investor applications and redemptions – primary purpose is to manage investments for the benefit of investors  It is an offence, punishable by fine/imprisonment, to carry on a business as an OFC without being registered by the SFC  Overseas corporate funds can re-domicile to Hong Kong, subject to a number of requirements, enabling the legal entity of the OFC to remain unchanged and all its existing contractual arrangements, resolutions and liabilities not being affected  Topic 4 covers the Securities and Futures (Open-ended Fund Companies) Rules  Topic 5 covers the SFC Code on Open-ended Fund Companies 2.7 Part V – Licensing and Registration  Intermediaries and their representatives must be licensed (or registered) by/with the SFC if they carry out a regulated activity.  Intermediaries must be incorporated  Representatives are individuals who engage in regulated activities on behalf of an intermediary  A single license regime operates whereby a person is granted one license/registration which will enable the holder to carry out one or more regulated activities  Dealt with further in Topic 4 The Ten SFC-regulated Activities 1. Dealing in securities 2. Dealing in futures contracts 3. Leveraged foreign exchange trading 4. Advising on securities 5. Advising on futures contracts 6. Advising on corporate finance 7. Providing automated trading services 8. Securities margin financing 9. Asset management 10. Providing credit rating services  The Financial Secretary can amend this list by notification in the Gazette © ExecutiveKnowledge Go to Examinator.online for Topic 3 Practice Questions 6 Licensing Exam Paper 1 Topic 3 2.8 Part VI – Capital Requirements, Client Assets, Records and Audit Relating to Intermediaries 2.8.1 SFC Empowerment for Making Detailed Rules  Part VI provides the SFC with powers to regulate certain aspects of intermediary activities:  Financial resources – Financial Resource Rules  Client assets – Client Securities Rules and Client Money Rules  Keeping of accounts and records – Keeping of Records Rules, Contract Notes Rules and Accounts and Audit Rules  Each set of rules is covered in detail in Topic 4 2.8.2 Associated Entity  The Client Securities Rules apply to intermediaries and their associated entities.  An associated entity (AE) of an intermediary is defined as a company which:  Is in a controlling entity relationship (>20% voting power) with the intermediary; and  Receives or holds client assets of the intermediary in Hong Kong  An AE is required to notify the SFC in writing within 7 business days of becoming or ceasing to be an AE  An AE cannot conduct any other business unless authorized in writing by the SFC 2.8.3 SFO Audit Provisions  The audit provisions apply to licensed corporations and their associated entities, but not to registered institutions  The main requirements relating to audits are in the SFO, although the contents of audited accounts and audit reports are given in the Accounts and Audit Rules  Audited accounts of a licensed corporation must be submitted to the SFC not later than 4 months after the end of the financial year, or the date of cessation of the business  Licensed corporations and any associated entities must appoint auditors within one month of being licensed – the appointment must be notified to the SFC within 7 business days  Removal or resignation of auditors should be notified to the SFC within 1 business day from giving notice of the required resolution  If an auditor becomes aware of a reportable matter, a written report must be made to the SFC as soon as practicable (or to HKMA if AE is an AFI). [A reportable matter is a failure to comply with a prescribed requirement and anything that adversely affects a financial position to a material extent or breaches the FRR] © ExecutiveKnowledge Go to Examinator.online for Topic 3 Practice Questions 7 Licensing Exam Paper 1 Topic 3 2.8.4 Appointment of Auditors by the SFC  The SFC may appoint an auditor to examine and audit a licensed corporation or any of its associated entities if: 1. The licensed corporation has failed to comply with the FRR 2. The licensed corporation/associated entity has failed to comply with a prescribed requirement or failed to submit audited accounts 3. An auditor has made a report on a reportable matter  The SFC may appoint an auditor if it receives a written report from a person alleging that a licensed corporation/associated entity:  Failed to account to him as a client for any client assets held; or  Failed to act in accordance with instructions given by the person as a client  An auditor appointed by the SFC has extensive powers to:  Question on oath officers, employees, agents and auditors of the target entity  Require all these plus recognized exchange companies, clearing houses and any persons holding client assets to produce records  Any person failing to comply with any auditor requirements will be committing an offence. A person also commits an offence by interfering with an audit by:  Deleting, destroying, mutilating, falsifying, concealing or making unavailable any records relating to the audit, or helping someone do so  Disposing of property relevant to the audit  Leaving, or attempting to leave Hong Kong 2.9 Part VII – Business Conduct of Intermediaries  SFO empowers SFC to make subsidiary legislation (Rules) to regulate the conduct of intermediaries and their representatives. SFC has not issued Rules, but has issued a number of codes of conduct  A failure to comply with a code of conduct is not a legal offence. However breaches will be taken into account:  By the SFC when considering whether an intermediary or its representative is fit and proper to remain licensed or registered  By the courts when hearing legal proceedings under the SFO  It is an offence for an intermediary or its representative to hold out that its/his abilities or qualifications have been endorsed or warranted by the Government or SFC  Five codes of conduct are covered in detail under Topic 5 © ExecutiveKnowledge Go to Examinator.online for Topic 3 Practice Questions 8 Licensing Exam Paper 1 Topic 3 2.10 Part VIII – Supervision and Investigations  There is a big difference between supervision and investigations!  The SFC has two main powers of investigation: 1. To make enquiries and obtain documents from listed corporations, intermediaries and their associated entities, and specific transactions 2. A general power to investigate possible breaches of the SFO, misfeasance and activities that are not in the public interest 2.10.1 Investigation of Listed Corporations  The SFC has powers to obtain records and documents, explanations and statements on oath  Persons who may be subject to an enquiry:  Directors and employees (past and present)  A related corporation  An AFI  An auditor  Any other person 2.10.2 Supervision of Intermediaries and Associated Entities  The SFC may conduct supervisory inspections to establish if intermediaries/associated entities are complying with SFO  The SFC may authorize a person to inspect the premises of a licensed corporation 2.10.3 Investigation of Specific Transactions  The SFC has the power to require specified persons to disclose information related to transactions in securities, futures contracts and CISs  The specified persons can be the parties with an interest in the transaction and any intermediary involved  Failure to comply with requests for information without reasonable excuse constitutes an offence © ExecutiveKnowledge Go to Examinator.online for Topic 3 Practice Questions 9 Licensing Exam Paper 1 Topic 3 2.10.4 Investigation of Possible Offences  A person under investigation is required to:  Provide documents and explanations  Meet an investigator and answer questions  Give the investigator all reasonable assistance  Support evidence with a statutory declaration  Make a statutory declaration that evidence is unable to be provided for reasons to be stated  If someone being investigated fails to comply with the requests of an SFC investigator, the SFC may apply to a magistrate for the issue of a warrant:  Authorizing specified persons, a police officer and others, as necessary, to assist in the execution of the warrant to enter specified premises, if necessary by force, at any time within 7 days  Requiring persons on the premises to produce any relevant documents  Prohibiting any person to erase, alter or remove any relevant documents  Authorizing the specified persons to search for, seize and remove any relevant documents and to retain such documents for 6 months (can be extended) 2.11 Part IX – Discipline – Regulated Persons  The disciplinary provisions in this part of the SFO relate to:  Licensed corporations, licensed representatives, responsible officers and persons involved in the management of licensed corporations;  Any person involved in the management of a licensed corporation, including managers-in-charge of core functions. Such individuals are not necessarily SFC licensed; and  Registered institutions, executive officers and persons involved in the management of registered institutions © ExecutiveKnowledge Go to Examinator.online for Topic 3 Practice Questions 10 Licensing Exam Paper 1 Topic 3  If a regulated person (any of the above) is guilty of misconduct, or is not a fit and proper person, the SFC may:  Revoke or suspend the license/registration in respect of all or part of the regulated activity  Revoke or suspend approval as a responsible/executive officer  Publicly or privately reprimand the regulated person  Prohibit the regulated person from applying for a license, registration, approval as a responsible officer, or entry in the HKMA register, or to act as an executive officer  Separately, or in addition, order the regulated person to pay a penalty up to the greater of HK$10million or 3 times any profit gained or lo