Two additions to the Institute’s Interest Group guidance note series give advice on responding to investigations by regulators and public bodies, and on the complex considerations relevant to buyers and sellers in merger and acquisition transactions.

In the three years since its launch, the Institute’s Interest Group guidance note project has added a substantial body of guidance to the Institute’s website for the benefit of the Institute’s members and the wider profession and community. The seven Interest Groups set up under this project have so far produced 16 guidance notes on key topics in governance and company secretarial practice. This article reviews the two latest additions to this series.

Ethics, Bribery and Corruption

The first two guidance notes published by the Institute’s Ethics, Bribery and Corruption (EB&C) Interest Group gave an overview of the regulatory landscape in Hong Kong and highlighted elements of an effective compliance system. The third in this series, published in October 2018, gives advice on how to prepare, manage and respond to investigations by regulators and public bodies. How can organisations cooperate with an investigation while minimising disruption to its business? The guidance note emphasises that it pays to have a well-thought-out investigation readiness plan.

Key elements of an investigation readiness plan

Investigation readiness plans should state who will take charge of any investigation, together with several fallbacks in case key people are unavailable. This individual will be responsible for liaising with lawyers and authorities, and for coordinating the organisation’s resources in response to the investigation.

The guidance note also emphasises the need to ensure that all relevant staff know what to do in the event of a visit by an investigation team. This includes reception or security staff since they will be the first point of contact when investigators arrive at the premises. Training for investigation readiness should also cover the scenario where investigators interview staff members. ‘Interviews can be extremely daunting for employees, but the general rule is to answer questions simply and honestly and to avoid divulging more than is necessary,’ the guidance note states.

The guidance note stresses the need for staff to adopt a polite, courteous and cooperative manner when communicating with investigators. ‘You’re unlikely to become best friends, but anything you can do to welcome them and build a rapport may prove valuable later on,’ it states.

Some authorities will reduce penalties for suspects that assist with their investigations. The Hong Kong Monetary Authority and the Securities and Futures Commission (SFC) have recently published guidance on the benefits organisations who cooperate with their investigations can expect. The guidance note points out that preserving evidence and voluntarily reporting misconduct is likely to save time and effort in the long run.

Maintaining confidentiality

As the company’s ‘keeper of secrets’, the company secretary will be involved in maintaining confidentiality during live investigations. Investigations by the police, Independent Commission Against Corruption (ICAC), SFC or Competition Commission, for example, need to be handled with great discretion, and all internal staff involved will need to be briefed about the confidentiality requirements. The public relations team should also have a game plan for dealing with media enquiries or public rumours.

‘Allegations of bribery or corruption can send shockwaves through your organisation and emotions may run high. It will help if you reassure staff that the matter is being dealt with in a calm, professional and controlled manner, and that there are procedures in place to minimise any damage,’ the guidance note suggests. It adds, however, that it is a good policy to clear any proposed communications with officials before sending them.

Learning valuable lessons

Investigations, while they may be a daunting prospect for any organisation, can bring important benefits and the EB&C guidance note gives advice on follow-up measures that will help organisations learn any necessary lessons. It emphasises the need for organisations to conduct a shadow review of any investigation – reviewing the content of relevant documents and interviewing relevant staff – to gain insights into what, if anything, has gone wrong.

‘Though your heart might skip a beat when the ICAC comes knocking at your door, official investigations are rarely a death sentence for a company. Through a combination of advance planning, effective management and prudent follow-up measures, a well-prepared organisation may emerge unscathed. The lessons learned could even make you stronger, and leave you better equipped to deal with new threats as your business grows and enters new territories and markets,’ the guidance note points out.

Mergers and Acquisitions

The third in the series of guidance notes produced by the Institute’s Takeovers, Mergers and Acquisitions (TM&A) Interest Group was also published in October 2018. It addresses the complex considerations relevant to buyers and sellers in merger and acquisition (M&A) transactions.

Buyer beware?

While it is generally not required by law, it is standard practice for parties to M&A transactions to enter into a written sale and purchase agreement (SPA) to document the commercial terms of the transaction. These commercial terms are not limited to the question of the price that the buyer will pay for the target. For example, the SPA typically also sets out restrictions on the conduct of the seller before the closing of the deal. There may be a long gap between the signing of the M&A deal and its actual implementation, and the SPA will usually set out how the target should be managed or operated in the interval to ensure that the target will continue its business in its ordinary and usual course and to protect the value of the target.

The SPA may, for example, include a restrictive covenant prohibiting the seller from starting a business in competition with the target company. The guidance note points out, however, that restrictive covenants are unenforceable if they infringe applicable competition laws, or if they conflict with the common law prohibition on restraints of trade. The covenants should therefore be no wider than reasonably necessary to protect the buyer’s legitimate business interest.

The SPA may also include warranties and indemnities setting out the agreed behaviour of the seller before the closing of the deal. The guidance note explains the difference between warranties and indemnities. Warranties give assurances that the seller will not behave in ways that will reduce the value of the target. ‘Therefore, warranties could perform the function of a post-completion price adjustment mechanism, to the extent that unknown liabilities arise and the buyer suffers loss,’ the guidance note states.

By contrast, an indemnity is a promise to pay the buyer a sum for a particular liability, and therefore is a claim for a debt rather than in damages. Indemnities are usually used where the buyer had knowledge of the subject matter before entering into the transaction to apportion risk to the seller for that specific event, or where a damages claim would not be an adequate remedy.
It is common for a seller to give indemnity on certain matters such as tax liabilities, or breach of environmental or other statutory regulations. For example, if the target is involved in any unresolved legal disputes, the parties may decide that the seller should bear the risk on the outcome of the litigation in the form of an indemnity. Unlike warranties, indemnities reimburse the buyer for its out-of-pocket amount on a dollar-for-dollar basis.

The benefits of full disclosure

Full and accurate disclosure by the seller is a key part of ensuring fair dealing in M&A transactions. Sellers usually make disclosures via a disclosure letter, which is a key document in any sale and purchase transaction.

The guidance note makes the point that full and proper disclosure is in both the seller’s and the buyer’s interests. Disclosure allows the seller to disclose matters relating to the warranties in the SPA. A failure to do so may result in the seller being sued for breach of warranties that could have been avoided. For the buyer, full disclosure supplements the due diligence exercise in giving a fuller picture of the target’s business.

The 16 guidance notes produced by the Institute’s Interest Groups, including the guidance notes reviewed in this article, are available from the Publications section of the Institute’s website:

SIDEBAR: About the Interest Groups

Members of the Institute, together with their professional network both locally and internationally, represent a significant body of expertise in corporate governance and corporate secretaryship.

The Institute set up seven Interest Groups under its Technical Consultation Panel in 2016 to channel this expertise for the benefit of HKICS members and the wider profession and community. The seven Interest Groups created under this project are:

  1. Company Law
  2. Competition Law
  3. Ethics, Bribery and Corruption
  4. Public Governance
  5. Securities Law and Regulation
  6. Takeovers, Mergers and Acquisitions
  7. Innovation

The members of the Ethics, Bribery and Corruption Interest Group are: Dr Brian Lo FCIS FCS (Chairman), Lily Chung, Miang Lee, Michael Chan, Ralph Sellar, Robert Hunt and William Tam.

The members of the Takeovers, Mergers and Acquisitions Interest Group are: Michelle Hung FCIS FCS (Chairman),
Dr David Ng FCIS FCS, Henry Fung, Kevin Cheung, Lisa Chung, Patrick Cheung and Philip Pong.

Mohan Datwani FCIS FCS(PE) serves as secretary. Please contact Mohan Datwani, the Institute’s Senior Director and Head of Technical & Research, if you have any suggestions about topics relevant to this interest group at: