I am pleased to introduce the sixth issue of the “The Exchange”. This issue features an analysis of the quality of the Hong Kong market where its key elements – issuers, investors, intermediaries, infrastructure and information – are discussed from the viewpoint of quality. Maintaining a quality market reinforces our status as an international financial centre. There is also an overview of the MiniHang Seng Index Option contract which we will introduce in midNovember. The new contract will complement our Mini-Hang Seng Index Futures contract and provide additional investment opportunities for individual investors. In the Chat Room, Chief Financial Officer & Treasurer, David Cheung, explains his role and discusses HKEx’s Treasury operations and investment policy. Elsewhere, there is discussion of our plans to introduce Third Party Clearing in the securities market, and updates on the implementation of our new CCASS/3 and DCASS clearing systems. The CCASS/3 and DCASS p r o j e c t s d e m o n s t r a t e o u r commitment to investing in our market infrastructure.
October 2002 The Quality of the Hong Kong Market Introducing Mini-HSI Options Study of Listing Costs David Cheung discusses HKEx’s Treasury operations and investment policy 23 26 30 Contents Chief Executive’s Message The Quality of the Hong Kong Market Mini-HSI Options: An Additional Investment and Trading Tool at Investors’ Fingertips CCASS/3 Rollout Continues DCASS Update 11 15 16 Third Party Clearing to be Introduced in the Securities Market 17 Update on Extended Trading Hours 19 Proposals Sought for Single Trading Screen for Equity and Derivatives Products 21 Chatroom with Chief Financial Officer & Treasurer David Cheung 22 News Briefs 26 The Cost of Listing 31 Regional Monitor 38 Status Report on New Product and Market Development Initiatives Hong Kong Exchanges and Clearing Limited 12/F, One International Finance Centre, Harbour View Street, Central, Hong Kong Tel: (852) 2522 1122 Fax: (852) 2295 3106 Website: www.hkex.com.hk Email: info@hkex.com.hk 44 I am pleased to introduce the sixth There is also an overview of the Mini- Treasury operations and investment issue of the “The Exchange” Hang Seng Index Option contract policy which we will introduce in midThis issue features an analysis of November The new contract will Elsewhere, there is discussion of our the quality of the Hong Kong complement our Mini-Hang Seng plans to introduce Third Party market where its key elements – Index Futures contract and provide Clearing in the securities market, and issuers, investors, intermediaries, additional investment opportunities updates on the implementation of our infrastructure and information for individual investors new CCASS/3 and DCASS clearing systems The CCASS/3 and DCASS – are discussed from the viewpoint of quality Maintaining a quality In the Chat Room, Chief Financial projects demonstrate our market reinforces our status as an Officer & Treasurer, David Cheung, commitment to investing in our international financial centre explains his role and discusses HKEx’s market infrastructure Another article briefs readers on the latest status of the development of a single trading screen for all products traded on our securities and derivatives markets In addition, there is an update on our extended trading hours proposal Research & Policy of the Corporate Strategy Unit has contributed a study of listing costs in several major stock markets which shows that the listing fee remains a very small component of total listing costs We welcome your opinions and suggestions as we believe that they help us to make further improvements We look forward to hearing from you By Kwong Ki-chi, Chief Executive, HKEx Quality is the stated goal of many exchanges The quality of a marketplace depends on trade-offs among the objectives of the various players The regulators and the market operator can help optimise such trade-offs The Hong Kong market enjoys a good reputation for quality in many respects, and Hong Kong Exchanges and Clearing Ltd (HKEx) is working on areas that need further improvement Introduction Recent events, such as the US corporate scandals and, in Hong Kong, the penny stocks incident, have focused public attention on market quality Some commentators agreed that penny stocks should be delisted to improve market quality; others felt that this was none of the regulator’s concern In the course of the debate, commentators compared Hong Kong’s standards with those of overseas markets, including the Mainland of China The rising standards of the Mainland market make quality a particularly pressing issue for Hong Kong This article discusses the idea of quality of the Hong Kong market more broadly The key elements of the market – issuers, investors, intermediaries, infrastructure (both hard and soft) and information – are discussed from the viewpoint of quality This article is the first of a number of pieces to be published in the Exchange and other forums over the coming months in which HKEx will examine market quality from various angles The concept of market quality Those responsible for the design and operation of securities markets – from government policy makers to market regulators and exchange managements – are driven primarily by the notion of quality: the desire to make the market better National policy makers want their markets to perform the functions of capital formation (primary market) and trading (secondary market) effectively and efficiently: they want their markets to be liquid These objectives point in the direction of making markets as free as possible However, the financial markets thus created must remain stable and systemic risks must be minimised And issuance of securities by listed corporations and the conduct of business by the intermediaries must be fair to investors These objectives require the imposition of restrictions, such as requirements for issuer track records and governance processes, intermediary qualifications and capital So market designers face a dilemma October 0 The solution is to optimise the objectives in such a manner that the restrictions reinforce quality and the perceptions thereof, and so build confidence and stimulate more activity This is, in effect, a quality strategy Generally, market designers have followed this quality strategy over time Over the past two decades, in virtually all world markets, there has been deregulation – in the sense of greater freedom to transactions in both the primary and secondary markets – and at the same time a greater compliance burden for players in exercising that freedom – in the sense of mandatory disclosures, procedures and capital requirements So far, this quality strategy appears to have been broadly successful, in that volumes of securities issuance and trading have increased dramatically over time during that period For example, stock trading by members of the World Federation of Exchanges has increased from US$911 billion in 1981 to US$40,093 billion in 2001, an average annual growth rate of 21 per cent But with deregulation may come excesses and abuses and it is not uncommon to see market reforms being tempered by the tightening of rules and regulations Currently, following the US corporate scandals, the world appears to be in the middle of another phase of compliance tightening, as regulators everywhere issue new corporate governance rules There has been extensive management literature on quality in business generally, for example, Total Quality Management (TQM), and the standards set by the International Standards Organisation (ISO) Some exchanges, such as the Taiwan Stock Exchange, have obtained ISO certification (ISO 9001 and 9002) However, there has been limited discussion of quality as applied specifically to securities markets Guidance specific to exchanges has been issued by various market associations The International Organisation of Securities Commissions (IOSCO) has issued principles, in respect of which for example Hong Kong’s Securities and Futures Commission (SFC) reports annually on compliance The World Federation of Exchanges has issued the Generally Accepted Principles of Securities Trading, and also studies of best practice in areas such as clearing and settlement In 2001, the US National Futures Association and Futures Industry Institute issued best practice recommendations A few exchanges have functions devoted explicitly to market quality Examples are the London Stock Exchange, which formerly had a Quality of Markets department, and the New York Stock Exchange which publishes a monthly Market Quality Report In these exchanges, the intermediaries (specialists or market makers) play a discretionary role and it is important to measure their performance, for example in terms of the bid-ask spread However, in the Hong Kong stock market, the bid-ask spread is largely a function of the spread table, i.e the price increment, so such measures as the bidask spread are less relevant An agreed and comprehensive model of market quality relevant to the Hong Kong market is largely lacking Accordingly, a simple model is suggested below The various elements of the market may be viewed as in the following chart under a “Five-I” structure – Issuers, Intermediaries, Investors, Information and Infrastructure These elements are interlinked and reinforce one another, such linkage being represented by the image of the circle – a “circle of quality” – which constitutes the market place as a whole The individual elements, the Five I’s, are discussed in turn in the following section The Market Quality Circle Regulator Issuers Infrastructure (Hardware)– Systems & technology Infrastructure (software)– Rules & Policy framework Market place Investors Intermediaries Information Market Operator Market participants Marketplace The market network through which market operators and regulators interact with other elements It is necessary to measure the quality of these various elements, e.g in order to identify where improvements may be needed Some quantitative attributes such as liquidity can be measured directly However, value attributes such as fairness and integrity are more subjective HKEx conducts periodic surveys of market user groups such as fund managers, retail investors and issuers to assess their views on the quality of the markets it provides Market elements The elements in the market circle of quality are discussed in turn below Issuers From the perspective of other market users, in particular investors, the overriding quality requirement is for the equity issuer to perform commercially, in terms of profit, so that the share price will also perform Secondly, the issuer must treat its shareholders fairly, so that all shareholders enjoy the benefits of the issuer’s success And from listed issuers collectively, investors would like variety, so that they can build a portfolio that captures the benefit of different sectors of the economy Market designers must try to meet these various objectives Commercial performance presents market designers with a particularly thorny issue Formerly, many regulators would form a view on the commercial prospects of the issuer, and approve, or disapprove, the listing and the pricing of the listing on that basis – the so-called “merit-based regulation” One problem with merit-based regulation is that regulators are not necessarily good judges of commercial potential Another problem is that such exercise of discretion can invite corruption Thus most market regulators now approve listings in accordance with a more objective, disclosure-based philosophy Some merit elements remain, such as the initial listing requirement for a profit track record, but they are codified in rules and where possible quantified October 0 The imposition of these entry requirements means that smaller, riskier and newer enterprises tend to be shut out of the market This would appear to conflict with the disclosure-based philosophy as it could be argued that, on a fully disclosure-based approach, even smaller and riskier issuers should be allowed to list provided that they make proper disclosure of their risks Many exchanges have dealt with this dilemma by creating a second board, such as Hong Kong’s Growth Enterprise Market (GEM), for such companies Because they are listed on the second board, investors should be alerted to their higher commercial risk However, issuer quality is not a one-off question at the point of listing If the commercial performance of an issuer declines after listing, this has an impact on its shareholders and in aggregate terms on the market Should low-performing issuers be delisted? There is again a policy dilemma If the stock is delisted, on the one hand, there is an assurance that all stocks listed on the market meet a certain quality standard and this may raise investor and issuer confidence in the market overall However, on the other hand, existing shareholders in the company will lose the ability to trade out of their holdings and the issuer will also lose the intrinsic value of its listing (realisable for example through shell reactivation) The policy maker has to weigh these conflicting factors Hong Kong has up to now had a rather minimalist approach under which issuers are delisted only in extreme cases and after a considerable period Some overseas markets impose strict requirements for continued listing, and failure to meet them can result in the issuer being delisted promptly Nasdaq, for example, delisted 815 issuers in 2001; HKEx delisted 11 Sourcing a variety of issuers for a market is a commercial matter for the exchange concerned The exchange can attract new kinds of issuers by developing an alternative board, and by targeted marketing and branding Nasdaq, for example, has been successful in attracting technology companies from all over the world HKEx has been marketing its Main Board and GEM to Mainland companies, including private enterprises and technology companies, with much success The foregoing discussion applies to equity issuers For derivatives there are fewer quality considerations relating to the product All HSI futures contracts are identical, and the contract design largely follows international practice The more important quality issues for the derivatives market relate to risk management and systems – discussed below under Infrastructure Going forward, HKEx will seek to address these issues through changes to the Listing Rules Regarding issuers’ commercial performance, HKEx will be reviewing the requirements for initial listing to ensure that these remain appropriate Fresh proposals for continued listing and possible delisting of low-performing issuers will also be published for market comment There is room for improvement in the effectiveness of issuer regulation: a recent HKEx survey shows that fund managers are only marginally satisfied with it Accordingly, following the consultation on corporate governance that was completed earlier this year, HKEx will be introducing enhancements to the corporate governance requirements of the Listing Rules on a phased basis A subsequent article will explain HKEx’s corporate governance initiatives in greater depth Investors Although the expectations of investors should be the main driver of market quality, it must not be forgotten that, through their behaviour, investors also contribute to the quality of the market Ideally, a market should have a good 28% of fund managers regarded the regulation of Main Board listed companies as effective; 25% regarded it as ineffective (HKEx Survey) mix of investors with different views, so that they trade against each other, resulting in constant liquidity The Hong Kong market has traditionally been relatively fortunate in this respect Over the past ten years, some 45 per cent of stock market turnover has come from local retail investors, 29 per cent from overseas investors, 22 per cent from local institutions, and per cent from principal trading The sophistication of investors also contributes to market quality Where investors trade speculatively, on rumour, security prices are likely to be highly volatile, and price formation will not relate to fundamentals Such characteristics may deter some investors from participating at all Although difficult to measure objectively, investor sophistication is important for the market In a recent HKEx survey, listed companies considered the investor base of the Hong Kong market moderately attractive Investor protection and education are means to encourage investors to participate in the market; HKEx is working in conjunction with the SFC and the Government to promote both The new Securities and Futures Ordinance (SFO) will strengthen the power of the SFC to regulate market manipulation and insider dealing; it will also bring certain securities activities previously conducted by exempt dealers within the ambit of regulation These measures will improve investor protection Amendments are also being made to the Companies Ordiance to enable investors to enforce their rights against issuers A subsequent article will deal with investor protection in greater detail Intermediaries The main intermediaries in the secondary market are brokers, although banks play an increasingly important role in serving stock investors Investors want their brokers to behave honestly, safeguard their customer’s interests, be sufficiently well-capitalised for their level of business activity, execute trades efficiently and give good professional advice – all at a reasonable price Most investors in Hong Kong appeared satisfied with the services provided by their brokers In the primary market, investors rely on intermediaries in a broader sense – investment banks and lawyers who prepare the issuer for listing, and accountants who report on the truth and fairness of the company’s financial statements In the Listing Rules, there are specific requirements relating to the duties of sponsors For example, sponsors are required to ensure that the applicant company is suitable for listing, that the directors are aware of and can be expected to honour their duties and obligations, and that all material statements in the listing document have been verified and comply with the rules These requirements complement the Code of Conduct for Financial Advisers recently introduced by the SFC The issuers who engage these intermediaries, and the investors who rely upon their work, expect them to observe a high standard of professionalism Surveys indicate considerable satisfaction with the services of primary market professionals Looking forward, the SFO will bring in a unified licensing regime for securities and futures practitioners, including corporate finance practitioners This regime will enable some firms to streamline their capital requirements and operating structures, so saving costs HKEx will work with the SFC to streamline filing procedures for participants For new individual entrants to the industry, the licensing regime requires the passing of exams; the Hong Kong Securities Institute acts as examiner and also provides continuing professional education HKEx will also work with the SFC on HKEx Cash Market Transaction Survey 2001 41% of issuers considered the investor base attractive; 26% considered it unattractive 49% of retail investors use banks only (HKEx Retail Investor Survey 2001) 80% of investors were satisfied with their broker’s stock trading services; 4% were dissatisfied (HKEx Retail Investor Survey 2001) 41% of respondents to an HKEx survey found the professional conduct of sponsors good; 21% found it poor For lawyers the corresponding figures were 65% good and 6% poor; for accountants 63% good and 8% poor October 0 improving the professionalism of financial advisers under the latter’s Code of Conduct Over time, these measures should help raise standards in the industry Infrastructure – systems and technology The “hardware” of the market is important to its quality Brokers are the main direct users of market systems They require systems to be reliable, but also user-friendly, low cost and efficient They also require special functionalities to support their operations, for example, quote maintenance mechanisms for market making Unfortunately, these objectives may conflict Very high levels of reliability require intensive engineering and back up facilities – all of which are expensive and must ultimately be paid for by the user This is not such an issue when transaction volumes are high; but with the current low volumes, at least on the stock market, system cost becomes a significant issue HKEx has made extensive investments in new infrastructure over the past couple of years On the stock side, a new trading system – AMS/3 – has been rolled out, and the clearing system is being upgraded in stages to CCASS/3 On the derivatives side, trading has been migrated off the former Futures Exchange floor to the HKATS system, the stock options market has been migrated from the former TOPS system to HKATS – so that all HKEx derivatives are trading on one system Surveillance of the market is conducted through the automated monitoring system SMARTS Going forward, HKEx will seek to further integrate its systems so as to improve efficiency and productivity for market users A new derivatives clearing system DCASS will be introduced next year to bring better integration between the clearing platform with the trading platform HKATS An integrated front end will be developed so that exchange participants can more easily access HKEx systems And HKEx will participate actively in the development of the scripless trading environment and other financial infrastructure initiatives recommended by the Steering Committee for the Enhancement of Financial Infrastructure Infrastructure – rules and policy framework Just as important as the hardware is the market “software” of rules and policies The policy objectives here are to maintain market integrity and systemic stability, while at the same time allowing as free play of market forces as possible Access to the Hong Kong market is relatively unrestricted In contrast with some overseas markets, there are no restrictions on foreign investment into the market, or on overseas investment by domestic players For intermediaries, access is open to foreign-owned as well as domestic players To become a participant, a broker has to acquire a trading right HKEx is currently prohibited from issuing new trading rights at prices lower than HK$3 million for the stock market and HK$1.5 million for the futures market under the terms of the merger of the former stock and futures exchanges However, this prohibition will end in March 2004 The risk management process aims to maintain systemic stability Thus, in addition to maintaining minimum levels of liquid capital proportionate to their business volumes, brokers are required to provide margin for their derivatives positions, and to deposit more margin if the value of their positions changes adversely Contributed by Research & Policy – Corporate Strategy Unit The major element of listing costs is the underwriters’ fee This tends to be a standard percentage in each market, although the percentage may differ between markets Professional fees are the next largest item; exchange fees are generally a relatively small component Factors other than listing costs tend to govern issuers’ decision to list and their choice of exchange Listing costs have recently attracted public attention in Hong Kong, and commentators have asked whether the costs of listing in Hong Kong are too high This article seeks to explain what the costs of listing are, how listing costs weigh in the issuer’s listing decision, and how Hong Kong compares with overseas markets What are the costs of listing? In order for a company to list, many tasks have to be completed, and for each of these tasks there is a cost Some of these costs are explicit out-of-pocket items, such as the fees of the investment bank and the reporting accountant, and the exchange fees Other costs are implicit, such as the absorption of management and staff time by the listing process, and the effort of any necessary restructuring Another kind of implicit cost is the discount on the sale of shares at initial public offering (IPO), which can sometimes be very large This article focuses mainly on the explicit out-of-pocket costs of listing However, the implicit costs should not be overlooked Explicit costs The typical explicit costs of a Hong Kong IPO include underwriting commission, professional services fees, share certificates and fees of the registrar and receiving banks in the IPO, publicity costs and exchange fees The different cost items in each case may differ by factors like the issuer’s size (especially when restructuring is required), the amount of funds raised, the listing board, the kind of listing (primary listing or secondary listing), and the issuer’s status - for example, whether the issuer is a Hong Kong company or a Mainland China company The example given in Table is that of a Main Board IPO for a Hong Kong company with a capitalisation of HK$1.6 billion and a public offering of HK$400 million The main cost components are estimated as percentage of funds raised Based on informal discussion with investment bankers October 0 31 32 Table 1: Cost of listing in Hong Kong % of funds raised % of total costs Underwriting commission 2.5% 42.7% Professional fees Investment banks Legal advisors Reporting accountant Property valuer Others – Translation and public relations 2.2% 0.6% 1.1% 0.4% 0.1% 0.1% 37.8% 10.7% 17.9% 6.4% 1.1% 1.7% Registrar and receiving banks’ fees 0.1% 1.9% Communication support Roadshow Announcements Public relations materials and printing 0.6% 0.2% 0.2% 0.3% 10.5% 3.4% 2.8% 4.3% Exchange fees Initial listing fee Trading fee (in respect of public offering) 0.1% 0.1% 0.0% 2.1% 1.9% 0.2% Miscellaneous 0.3% 5.1% Total 5.9% 100.0% Note: columns may not cast because of rounding Underwriting commissions are the biggest component of total listing costs, and professional fees are the second biggest item Exchange initial listing fees are a relatively small component – some 1.9 per cent of the total in the example, representing 0.1 per cent of the funds raised Among the cost components, the underwriting fee, the biggest cost item, is rather standard in the industry Out of 84 Main Board IPOs during the period January 2000 to June 2002, in 77 or 92 per cent of cases, the underwriter’s fee was 2.5 per cent of the funds raised Uniformity of pricing might raise the question of whether the market for IPO services is competitive However, there are numerous players providing investment banking services, and the barriers to entry are not very high New players enter the market and win considerable market share from time to time A similar phenomenon is observed in the US market, where over 90 per cent of IPOs that are neither large nor small pay a gross underwriter spread of exactly per cent US studies indicate that a possible reason for the standardisation of pricing, notwithstanding considerable competition, is that price reductions might be perceived by investors, and perhaps by the issuer, as a mark of lower quality The determinants of successful micro-IPOs, Brau and Osteryoung, Journal of Small Business Management, July 2001 See also Do investment banks compete in IPOs?: the advent of the “7% plus contract”, Hansen, Journal of Financial Economics 59 (2001) Although underwriting fees tend to remain a fixed percentage of the funds raised, the professional fees not increase in proportion to the issuer’s size Therefore, there are economies of scale enjoyed by large companies That is, smaller companies pay proportionately more For illustration, the listing costs of companies listing on the Main Board from January 2000 to June 2002 are summarised in Table For larger companies, they contribute a much smaller proportion of funds raised Table 2: Listing costs of Hong Kong listed companies (Jan 2000 - Jun 2002) Criteria Large-cap companies MC at listing over HK$1 bil Medium-cap MC at listing between companies HK$501 mil and HK$1 bil MC at listing between HK$100 mil and HK$500 mil Small-cap MC at listing less than companies HK$100 mil Total Listing fees as Listing costs as percentage of percentage of funds raised funds raised (median) (median) 16 0.09% 7.51% 0.16% 10.26% 56 0.33% 19.12% 0.50% 19.05% No of companies 84 MC = Market capitalisation Note: Based on Main Board listed companies excluding companies listed by introduction The other factors may also be significant A secondary listing is likely to be less costly than a primary initial listing, especially when the issuer is already listed on a recognised exchange The listing of a Mainland China company in Hong Kong will incur higher cost than that of a Hong Kong company of a similar size and with similar amount of funds raised This is because Mainland China companies will have to comply with the Mainland regulations for overseas listing and Hong Kong’s regulatory requirements for clarification of its Mainland business and legal obligations Costs of a listing on the Growth Enterprise Market (GEM) will also differ from that on the Main Board Although listing fees will be smaller (a small cost component anyway), it appears that underwriting commission for GEM listings is considerably higher than for the Main Board - 3.5 per cent to 4.5 per cent instead of 2.5 per cent The initial listing decisions of firms that go public, Corwin and Harris, Financial Management Spring 2001 Corwin and Harris quote five studies published from 1986 to 2000 that find evidence of economies of scale in the offering process October 0 33 34 Certain of the cost items may reduce in the future For example, printing costs may be reduced if, as intended, the Companies Ordinance is amended to permit electronic prospectuses Other automation of the IPO process would reduce the need for printed application forms Professional fees are dependent on the amount of work required to comply with the regulations and properly communicate the company’s value Over time, the regulatory requirements tend to be tightened as the expectation of the local and international investment community rise; this exerts upward pressure on fees From time to time, regulators attempt to counter such trend by simplifying or eliminating requirements, or by establishing concessionary regimes for certain categories of companies The establishment of GEM in Hong Kong was intended to facilitate capital-raising for smaller companies However, the main differences in the regime for GEM are in respect of the quantitative requirements for listing The qualitative requirements, including those mandated by the Companies Ordinance, are similar, hence the professional fees cannot be reduced much Implicit costs – discount on issuance IPOs are normally issued at a discount to the potential equilibrium market price; hence they normally exhibit a significant price rise on the first day of trading This phenomenon is particularly strong in bull markets A discount is regarded as commercially necessary to make the IPO a success The underwriter will also want to reduce his risk, hence the amount of the discount may vary depending on the public offering mechanism A longer offering period increases the underwriter’s exposure and so would tend to indicate a larger discount One study found that the average first-day gain in US IPOs during the 1980s was per cent, average gain during the 1990s was 15 per cent, but during 1999-2000, the dotcom boom years, the average first-day gain was 65 per cent This was equivalent to some US$63 billion of underpricing – an enormous sum It is hard to explain why companies should leave so much money on the table One possible explanation may lie in the fact that family and friends allocations were present 25 per cent of the time in 1996, but more than 90 per cent of the time in 1999; in other words, insiders had more to gain from boosting the market price so that they could cash in later when the lockup period ended A study of Hong Kong IPOs listed from 1993 to 1998 found that 72 per cent (206 IPOs) were issued at a discount as evidenced by first day returns averaging 20 per cent How important are listing costs to the issuer? Although the costs of listing matter to the issuer, it appears that other factors are more important to their listing decision A study in the US found that listing fees and issue costs not appear to be important considerations in the initial listing decision Peer-firm and related-firm listings appear to be important factors in the choice of listing venue Other criteria for choosing listing venue include initial and continuous listing requirements, exchange expertise, expected costs of delisting, visibility and investor base, sponsorship, liquidity and future financing Why has IPO underpricing changed over time? Loughran and Ritter, http://bear.cba.ufl.edu/ritter/ Suggested by IPO Pricing in the Dotcom Bubble, Ljungqvist and Wilhelm, http://pages.stern.nyu.edu/aljungqv Underpricing and post-listing price and profit performance of initial public offerings in Hong Kong, SEHK Research Report, January 2000 “The initial listing decisions of firms that go public”, Financial Management, Vol 30, No.1 Recent HKEx survey findings indicate that of nine possible factors important to their listing decision, Mainland China issuers rated cost factors the lowest They were more concerned about the market’s fund-raising capability and the market’s international status and reputation for quality The price-earnings (PE) ratio was also very important to them: this probably relates to the very high PE ratios obtaining on the Mainland markets Figure Factors in selecting the venue for listing for Mainland companies Mean score 90 Fund raising capability 84 International status Market reputation for quality 77 Price-earnings ratio 76 Regulatory issues 62 Quality of investors 62 Initial listing costs (5.61) (5.44) 11 (5.38) (5.07) (5.04) (4.99) 20 (4.49) 17 (4.48) 24 27 25 25 30 20% 50 0% (5.90) 15 52 Continuous listing and compliance costs 13 64 Available professional service 40% 60% 80% 100% Percentage of respondents Significant (5-7) Neutral (4) Insignificant (1-3) Don’t know Note: Rating was made on a scale of 1-7, the neutral score was Source: HKEx Survey 2001 Although discounts on listing can be large, there is little evidence that this is a concern to issuers (other than perhaps indirectly in respect of the above mentioned importance Mainland issuers attach to the PE ratio) As regards Hong Kong issuers, this apparent lack of concern may perhaps be because a low IPO price may result in oversubscription, and the issuer earns interest on the oversubscription money There also appears to be a certain status attached to a high oversubscription rate Findings from the same HKEx survey indicate some issuer dissatisfaction with the costs of listing This may relate to the more difficult economic and market conditions of the last couple of years – a similar survey conducted in 1998 did 10 not find dissatisfaction 10 A 1998 survey by the Stock Exchange of Hong Kong found that 41% of respondents agreed that the price determination mechanism of the IPO process was efficient and only 10% disagreed 49% agreed that the pricing of IPOs in Hong Kong was competitive and only 12% disagreed 19% of issuers found overall costs for obtaining a listing in Hong Kong competitive, while 42% found them uncompetitive, Primary Market Survey 2001 In the Primary Market Survey 1998, 38% of respondents (comprising issuers, investment bankers, professional advisers and fund managers) agreed with the assertion, “Overall costs for IPOs in Hong Kong are competitive” and 16% disagreed October 0 35 36 How Hong Kong’s listing costs compare with other markets? In this section, we describe the listing costs in various overseas markets: Australia, Singapore, the United Kingdom and the United States, as compared with Hong Kong The key findings are as follows • The main component of listing expenses is underwriting fees The underwriting fees are around per cent in the United States, per cent in Australia, 1.25 to 3.5 per cent (plus a per cent selling fee) in Singapore and generally 2.5 per cent in Hong Kong (Main Board) • In all overseas markets, the initial listing fees charged by the exchanges are relatively negligible compared to the total listing expenses In general, the exchange charges were less than per cent of funds raised • It should be noted that exchange and regulatory fees will tend to reflect the functions of the institutions involved; therefore exchange fees may not be strictly comparable between markets In Australia, the UK and the US, the securities commissions are involved in the public offering approval process (in Hong Kong this is handled solely by the exchange); therefore the commissions’ fees need to be taken in account as well In the UK, for example, the London Stock exchange charges a fee for admission to trading, while the UK Listing Authority (UKLA, an entity within the Financial Services Authority), charges a flat fee of GBP5,000 for vetting any transaction and may charge a further GBP5,000 for prevetting supplementary listing particulars • With the above caveat, among the six markets in comparison, only Singapore has lower listing fees than Hong Kong Table 3: Listing fees as a percentage of funds raised in overseas markets Assumptions Size of funds raised Large Medium Small Fund raised (HK$ mil) Shares issued (mil) 1,000 400 100 100 40 10 United States (%) Market capitalisation at listing Australia (HK$ mil) (%) 5,000 2,000 500 0.04 0.07 0.15 Singapore (%) United Kingdom (%) NYSE NASDAQ Hong Kong (%) 0.01 0.02 0.05 0.13 0.24 0.36 0.20 0.40 0.80 0.12 0.25 0.82 0.04 0.06 0.15 Note: Exchange initial listing fees only (i.e excluding any securities commission fees), based on assumptions stated as applied to respective exchange fee schedules In Table 4, we attempt an itemised comparison of the overall costs of listing in Hong Kong with those of listing on Nasdaq and (in the case of a smaller company) the Australian Stock Exchange This should be viewed with caution as, with the exception of exchange fees, the cost items depend on market practice, and will also vary from one case to another With this caveat, Hong Kong appears cheaper than Nasdaq overall, largely because of the much higher US underwriting fee (7 per cent compared with Hong Kong’s 2.5 per cent) Table 4: Costs of listing (HK$’000) HKEx Nasdaq ASX Funds raised 400,000 390,000 21,000 Underwriting fee As percentage of funds raised Professional fees Investment banks Legal advisors Reporting accountant Property valuer Others – translation and public relations Sub-total As percentage of funds raised Registrar and receiving banks’ fees As percentage of funds raised Communication support Roadshow Announcements Public relations materials and printing Sub-total As percentage of funds raised Exchange fee Initial listing fee Trading fee Sub-total As percentage of funds raised Regulatory fee US SEC / Australian Securities and Investments Commission NASD filing fee Sub-total As percentage of funds raised Miscellaneous Total As percentage of funds raised 10,000 2.5% 27,300 7.0% 854 4.0% 2,500 4,200 1,500 250 400 8,850 2.2% 450 0.1% } 800 650 1,000 2,450 0.6% 450 40 490 0.1% 1,200 23,440 5.9% 470 107 29 128 7,800* 7,800 2.0% 734 3.4% 43 0.2% 1,794 2,340 4,134 1.1% 192 192 0.9% 380 120 380 0.1% 120 0.6% 78 43 121 0.03% 975 40,710 10.4% 0.04% 1,951 9.1% ** * Does not include reporting accountant’s fee ** The cost of listing for funds raised over AU$50 mil (about HK$200 mil) would be about 3.7% of the funds raised Note: USD = 7.8 HKD, AUD = 4.27 HKD, source: Reuters Power PlusPro Conclusion The costs of listing mainly represent the underwriter’s fee and the fees of professionals such as lawyers and accountants Exchange fees account for only a small proportion of the total costs of listing in Hong Kong – around per cent Given that the market for underwriting and professional services is competitive (i.e hence the fees charged are at reasonable market rates), the overall costs of listing are dictated to a great extent by the standards of the market concerned, as embodied in the relevant laws and regulations The costs of listing in the US are higher than the costs of listing in Hong Kong because US liability and disclosure standards are more onerous Any move to reduce overall listing costs significantly would have to incorporate a change in the philosophy governing listings Nevertheless, it appears that factors other than the cost of listing are more important in the competition for listing candidates October 0 37 38 Contracts cost A$10 per index point with March, June, September and December expiry cycles At the beginning of August 2002, ASX set up a new Corporate Governance Council to consolidate corporate governance standards The new council instructed companies to come clean on their audit committees, auditors, option schemes and hidden costs On 29 August 2002, ASX announced its profit for the year to 30 June 2002 jumped 16 per cent to A$59 million Australia On 20 May 2002, OM, the company was likely to continue to with revenue of A$205 million SFE grow revenue in its traditional way reported its net profit for the six technology company that operates months to 30 June 2002 rose 18 per Stockholmsborsen, the Swedish equities On June 2002, Standard & Poor’s, cent to A$13 million with revenue of and derivatives market, extended its the key provider of equity indices in A$48 million support and maintenance agreement Australia, converted the S&P/ASX with the Australian Stock Exchange indices to its Global Industry (ASX) for a further five-year term The Classification Standard (GICS) agreement covers OM’s Click China On 21 May 2002, the China Securities Regulatory Commission electronic exchange system, which On 24 July 2002, the SFE jointly (CSRC) announced an initial public ASX implemented in October 1997 announced with Transpower Ltd offering (IPO) allocation scheme Click is used by 21 exchanges subsidiary d-cypha Ltd a new that favours secondary market players worldwide Australian Electricity Futures In accordance with the scheme, a product that will be listed on the SFE company would be able to allocate as in September 2002 much as 100 per cent of its IPO to On June 2002, ASX announced that investors with secondary market there was no financial case for a merger with the Sydney Futures On August 2002, ASX started Exchange (SFE) at the moment trading index futures contracts on ASX’s chief executive said the the S&P/ASX 200 Property Trust holdings On 18 June 2002, Shenzhen Securities venture securities and fund In July 2002, a Shenzhen-listed Information Co, Ltd (SSIC) and management firms in China The pharmaceutical company was fined HKEx Information Services Ltd final regulations, which took effect on RMB500,000 (US$60,000) by the (HKEx-IS) signed an agreement July 2002, did not differ much from CSRC for non-disclosure The appointing HKEx-IS as a non- the provisional regulations issued in company did not publish details of a exclusive agent of SSIC for providing December 2001 Foreign-funded deposit of RMB1.14 billion (US$140 Shenzhen Stock Exchange (SZSE) brokerages are allowed to million) in an affiliated company, and real-time market information outside underwrite A shares, B shares and details of an investment and profits Mainland China H shares as well as bonds, including gained The president of the company treasury bonds and corporate was On 27 June 2002, the CSRC bonds They can also broker B shares, (US$12,000) by the CSRC announced new guidelines on listed bonds (both treasury and corporate) companies’ semi-annual reports and other businesses as approved by On 21 August 2002, CSRC adviser Listed companies are required to the CSRC On 12 July 2002, the Anthony Neoh said that the qualified prepare the reports and post them on CSRC said that a foreign firm was foreign institutional investor scheme, the CSRC-designated website within allowed to invest in a maximum of or QFII, which would allow foreign two months of the end of the first half two domestic fund management joint fund managers to invest in China’s A of each fiscal year ventures, and could be the single share markets, could be introduced biggest shareholder in only one earlier than expected However, fined RMB100,000 drafting of the qualified domestic Effective July 2002, the Shanghai Stock Exchange (SHSE) replaced its On 25 July 2002, SHSE announced institutional investor scheme, or six-year-old SSE-30 index of 30 stocks that overseas securities firms would QDII, which would allow Chinese with the new SSE-180 index based be allowed to apply for seats to trade citizens to invest in overseas markets, on 180 blue chip stocks B shares on the exchange directly In was unlikely to begin this year the past, foreign securities traders had O n Ju l y 0 , t h e C S RC to trade B shares through a qualified At the end of August, the Shanghai announced that foreign companies local agency Futures Exchange (SHFE) applied to could apply for licences to set up joint the CSRC to open a stock index futures market The SHFE completed a feasibility study on the derivatives market in late June Hong Kong On 27 May 2002, HKEx and the London Stock Exchange announced joint efforts to develop a dual listing programme and trading collaboration between the two markets The proposed listing October 0 39 40 facilitation programme would enable On 16 August 2002, HKEx reported companies listed on one exchange to its profits for the six months to 30 list on the other through a streamlined June 2002 fell 21 per cent to process The proposed trading HK$290 million The decline was collaboration is aimed at offering both due to lower trading fees from exchanges’ customers opportunities to securities and stock options and a trade liquid securities from both worse-than-expected slump in markets on local electronic systems in investment income, which offset local trading hours improved cost control and a rise in listing income On 19 June 2002, HKEx amended its Main Board Listing Rules to On 27 August 2002, HKEx amended allow a wider range of derivatives and its Listing Rules with effect from structured products to be listed from September Under the new rules, July 2002, including Equity Linked listing applicants are no longer Instruments (ELI) Effective on July 2002, the listing proposed model and associated details required to include any revaluations for implementing and operating Third of assets in their listing prospectus Party Clearing Instead, any revaluation information should be stated in the listing fees for debt securities were cut by an average of 30 per cent to attract On 18 July 2002, HKEx signed an applicants’ first set of annual accounts more listings In addition, the Hong agreement with Standard & Poor’s to after listing Kong government introduced a range create a new series of equity indices of other measures to encourage more covering stocks listed on the Main companies to issue debt paper The Board of Hong Kong’s stock exchange The Bombay Stock Exchange (BSE) new measures will apply to shares, There will be three new Main Board is looking to merge with the regional debentures and other investment tools indices: the S&P/HKEx 25, bourses in Delhi, Kolkata and requiring a prospectus The changes comprising 25 large-cap stocks and Chennai, after the requisite legislation will allow investors to submit their representing about 75 per cent of the on demutualisation of stock exchanges subscriptions through the Internet, Main Board’s market capitalisation, is in place The BSE will undertake ATM and phone In addition, issuers the S&P/HKEx MidCap 25 and the due diligence exercises shortly will be able to launch a promotional S&P/HKEx SmallCap 50 India Indonesia campaign before the registration of products and the registration On 29 July 2002, HKEx announced On 22 July 2002, the Jakarta Stock procedures will be simplified Details that its Board of Directors had Exchange announced plans to review will be published before the end of approved in principle the extension its listing system in cooperation with the year of afternoon trading by one hour the World Bank to bring the system HKEx expects to introduce the into line with those of international extension by early 2003 stock exchanges On 10 July 2002, HKEx published a paper for market consultation on the In June 2002, a study on stock October The OSE has tentatively signed an agreement providing for exchange demutualisation for the decided to continue operating the general cooperation Indonesian market was completed Nasdaq Japan Market and rename it The Operating Holding Company Japan New Market Companies SRO (Self-Regulating Organisation) currently listed on the Nasdaq Japan On July 2002, The Korean model was selected Under the Market will remain listed on the government announced that it was model, the shareholders of Jakarta market after its name is changed to considering four different strategies to Stock Exchange, Surabaya Stock Japan New Market On 28 August, reform the capital market The Exchange, Indonesian Clearing OSE said it would lower costs for strategies comprise a complete Gu a r a n t e e C o r p o r a t i o n a n d listing on the market to attract more integration of all market institutions, Indonesian Central Securities start-up companies a looser form of integration under a Korea holding company, integrating only the Depository are jointly establishing a holding company The first phase was On 21 August 2002, the Tokyo Stock electronic systems of the market carried out in the first half of 2002 Exchange (TSE) revised its delisting institutions to generally maintain the and the last phase is to be finished rules Companies will be delisted if current market framework and the by the first half of 2004 their market capitalisation falls below status quo But the different market one billion yen (US$8.4 million) for institutions, such as the Korea Stock nine months or if they have negative Exchange, the Kosdaq market, the In July 2002, the Osaka Securities net worth on a consolidated basis at Korea Securities Depository, the Korea Exchange (OSE) revised related the end of two successive business Securities Computer Corp and the rules for, and started trading in, years If the market value of a Korea Futures Exchange, which was futures based on the MSCI JAPAN company listed in the TSE’s first moved to Busan in 1999, are divided Index (SM), the FTSE Japan Index, section falls below two billion yen on the best strategy and the Dow Jones Industrial (US$16.8 million) for nine months, Average it will be demoted to the second Japan Malaysia On 31 July 2002, the Kuala Lumpur section Stock Exchange (KLSE) said that its On 16 August 2002, the OSE announced the termination of its On 22 August 2002, the TSE said that demutualisation was well under business cooperation agreement it was in talks with the Shanghai Stock way with Nasdaq Japan Inc, effective 15 E xc h a n g e ( S H S E ) t o b u i l d a cooperative framework in which Under the Capital Market Masterplan Chinese companies can to establish a single Malaysian list their shares on TSE’s exchange through the consolidation board and Japanese firms of all existing exchanges by the end of with operations in China 2002, the Mesdaq Market (former can list on the SHSE Malaysian Exchange of Securities Dealing and Automated Quotation) On September 2002, merged with the KLSE in March TSE and Euronext 2002 As of August 2002, 11 October 0 41 42 companies were listed on the Mesdaq On 29 August 2002, the NZSE On 15 August 2002, SGX announced Market Mesdaq aims to have RM1 announced plans for a new that its net profit for the year to 30 billion (US$260 million) market alternative market known as AX, June 2002 rose 24 per cent to US$35 capitalisation by the end of 2002 It which it hopes will attract 50 new million on higher revenue from its had market capitalisation of RM400 listings and raise NZ$250 million securities and derivatives market and million (US$104 million) at the end within two years better-managed costs of March 2002 Philippines On 22 August 2002, SGX announced On 21 August 2002, the KLSE On August 2002, the Philippine that it would provide enhanced established a taskforce on Corporate Stock Exchange (PSE) launched a facilities for derivatives trading at Disclosure Best Practices comprised new website that includes all issue the new Global Electronic Trading of industry representatives disclosures, stock quotations, dividend Centre (GETC) The new facility will declarations, trading activities and provide SGX Derivatives Trading other corporate announcements The individual members direct access to On July 2002, the New Zealand site also features a stock trading game the exchange’s derivatives market and Stock Exchange (NZSE) confirmed and a SMS/WAP service that allows approved overseas markets via order- that it would merge the New Capital users to receive quotes and other routing services Market (NCM) and the information via a mobile phone New Zealand unregulated, unlisted securities Taiwan market by proposing a new index, On 20 August 2002, the PSE In June 2002, the Taiwan Stock dubbed the junior board, to replace approved a minimum commission Exchange Corporation (TSEC) the 62 unlisted board stocks and 10 rate of 0.25 per cent for brokers for approached the Korea Stock companies on the NCM all trade transactions, except broker- Exchange about the possibility of to-broker transactions, with effect cooperation On 22 July 2002, the NZSE installed from 16 September 2002 an electronic surveillance system developed by Computershare Ltd to O n Ju l y 0 , t h e T S E C Singapore introduced a new matching system track insider traders and market On 15 May 2002, the Singapore aimed at helping to make trading manipulators With the SMARTS Exchange Ltd (SGX) launched its fairer, more transparent and more system, the NZSE is in a better MSCI Japan Index Futures contract efficient In addition, the TSEC has position to provide analytical The contract size is 5,000 yen initiated a circuit-breaker mechanism information to the New Zealand multiplied by the index level aimed at staving off sharp Securities Commission when the fluctuations Under the mechanism, commission is investigating any trading in a stock will be stopped for suspected cases of insider trading two to three minutes if the stock’s Other exchanges and regulators, price moves more than 3.5 per cent including organisations in Hong in either direction The maximum Kong, Singapore, Oslo and daily movement of a stock’s price Copenhagen, have installed remains per cent SMARTS REGIONAL STATISTICAL HIGHLIGHTS* (As at 30 June 2002) Cash market – main board No of companies Y-T-M no of new companies Market Cap (US$b) Y-T-M turnover (US$b) Average P/E ratio 787 1,349 324 672 545 5,786 848 185 1,235 237 675 503 383 593 384 2,082 34 39 12 11 10 13 18 29 18 49 486 395 36 247 128 130 135 22 1,764 44 374 202 185 285 51 2,498 96.0 121.1 6.5 298.5 17.4 30.9 55.5 3.2 25.2 1.8 233.8 66.2 32.8 330.2 25.5 812.2 14.8 26.0 8.8 27.4 45.5 15.9 N/A N/A N/A N/A 44.4 47.5 22.9 45.5 8.0 N/A Hong Kong Australia Jakarta Korea Kuala Lumpur Mumbai Nat SE India New Zealand Osaka Philippines Shanghai Shenzhen Singapore Taiwan Thailand Tokyo Y-o-Y index % change -18.7 -7.6 15.4 24.8 22.3 -6.1 -4.5 -0.9 -22.5 -18.0 -21.6 -22.6 -10.1 5.5 20.6 -18.1 Hang Seng Index AOI Composite Index KOSPI Composite Index BSE-SENSEX S&P CNX Nifty NZSE 40 300 Composite Composite Index A Share Index A Share Index Straits Times Index TAIEX SET Index Nikkei 225 Cash market – alternative market GEM (HK) KLSE Second Board (Malaysia) KOSDAQ (Korea) MOTHERS (Japan) ROSE (Taiwan) SESDAQ (Singapore) No of companies Market Cap (US$m) Y-T-M turnover (US$m) 137 291 810 36 397 113 7,759 4,772 40,920 5,743 42,898 2,348 3,609 2,862 147,798 2,826 55,193 2,155 Derivatives market Y-T-M total contracts traded Futures Options Total HKEx (Hong Kong) MDEX** (Malaysia) KSE (Korea) NZFOE (New Zealand) SFE (Australia) SGX - DT (Singapore) SHFE (Shanghai) OSE (Osaka) 2,931,001 524,963 17,309,275 394,869 17,137,949 15,474,468 3,864,813 5,142,166 2,136,460 759,944,564 8,964 1,072,008 143,755 — 4,074,276 5,067,461 524,964 777,253,839 403,833 18,209,957 15,618,223 3,864,813 9,216,442 Month-end open interest (contracts) Futures Options Total 60,212 36,580 64,714 100,128 1,261,361 577,590 151,181 175,389 611,755 3,683,716 3,606 143,999 36,625 — 276,538 671,967 36,580 3,748,430 103,734 1,405,360 614,215 151,181 451,927 Notes: Y-T-M : Year-to-month figures Y-o-Y: Year-on-year figures N/A : Not available — : The exchange does not have such product * Data definitions may differ among markets; therefore comparison should be made with caution ** Malaysia Derivatives Exchange (MDEX), the result of a merge of KLOFFE and COMMEX, was established in June 2001 October 0 43 44 The following initiatives are subject to market support and regulatory approval so they may not be implemented HKEx will announce further details of these initiatives as they progress Initiative Review on the corporate governance requirements under the Listing Rules Status on July The consultation period was extended to 24 May HKEx received a large number of responses in different formats Comments are being consolidated for analysis Status on October HKEx expects to reveal a summary of responses to the consultation on corporate governance by the end of this year Review of practices on dissemination of listed issuers’ announcements The consultation period ended on April Market response has been generally favourable HKEx will finalise its position shortly and inform the market of any new developments HKEx is finalising its position It is expected to announce the consultation results and overall implementation plan in November/ December 2002 Extension of trading hours Not included in the report HKEx’s Board of Directors approved in principle on 26 July an extension of trading hours It is anticipated that the extended trading hours will be implemented by early 2003 An overall implementation plan including market readiness programme is being prepared and market participants are to be informed as and when appropriate Co-listing and possible trading collaboration with London Stock Exchange HKEx will consult market participants on cotrading with London Stock Exchange HKEx is surveying Stock Exchange Participants on a possible market model for co-trading and the demand for trading British stocks in Hong Kong Major trade bodies and market participants were interviewed The results of discussions with market participants are expected to be analysed by the end of October Optional upgrade of the throttle rate of Open Gateways to AMS/3 HKEx’s Board of Directors approved a scheme in March that enables Stock Exchange Participants to increase the throttle rate of their Open Gateways to AMS/3 The AMS/3 host network and individual Stock Exchange Participants’ circuits are being upgraded to facilitate the increased throttle rate, with the project’s completion expected by the end of October Thereafter, market rehearsals will be conducted The upgraded network is expected to be available for production use before year-end Stock Exchange Participants were informed of the application details for increased throttle rates in early October Mini-Hang Seng Index Options Not included in the report HKEx plans to introduce Mini-Hang Seng Index Options on 18 November Development and trading of Equity Linked Instruments (ELI) Market model has been finalised Rule changes announced in June came into effect on July First listings are expected in early August The first six ELI were listed on August and several more have been listed since then Promotion and education will continue throughout the coming months Work has started on Phase II of the project, which will allow foreign stocks, baskets of stocks and indices to be underlying instruments Upgrade of Central Clearing and Settlement System (CCASS/3) CCASS/3 Stage was launched at the end of May and is now under an extended stabilisation period Market rehearsals for Stage rollout are scheduled for July HKEx aims to implement CCASS/3 Stage before year-end, following further Market Rehearsals, which are being scheduled Integration of derivatives clearing The new Derivatives Clearing and Settlement System (DCASS) will replace the existing HKCC (Intracs) and SEOCH (TOPS) clearing systems to provide an integrated and state-of-the-art solution for futures and options clearing The implementation of DCASS is progressing through a formal test programme HKEx plans to conduct a series of internal tests and market rehearsals to ensure market readiness HKEx aims to introduce DCASS in the first quarter of next year 10 Third Party Clearing Third Party Clearing entails the transfer of clearing obligations from a trade-executing Exchange Participant to a Clearing Participant The project was put to the HKEx Clearing Consultative Panel for comments on June and received general support from the panel A consultation paper will be published soon for full market consultation HKEx is evaluating responses to its consultation paper on Third Party Clearing published on 10 July HKEx is also finalising the operating model for Third Party Clearing ... (software)– Rules & Policy framework Market place Investors Intermediaries Information Market Operator Market participants Marketplace The market network through which market operators and regulators... quality: the desire to make the market better National policy makers want their markets to perform the functions of capital formation (primary market) and trading (secondary market) effectively and efficiently:... will examine market quality from various angles The concept of market quality Those responsible for the design and operation of securities markets – from government policy makers to market regulators