Provisions on the Supervision and Administration of Depository Receipts under the Shanghai-London Stock Connect Scheme (Trial Implementation) (Mainland China)

Di Wu

The China Securities Regulatory Commission (the “CSRC”) promulgated the Provisions on the Supervision and Administration of Depository Receipts under the Shanghai-London Stock Connect Scheme (Trial Implementation) (the “Provisions”) on October 12, 2018 to provide for the issuance, trading, cross-border conversion and information disclosure of depository receipts under the stock connect scheme between the Shanghai Stock Exchange and the London Stock Exchange (the “Stock Connect Depository Receipt Business”).  The particulars of the Provisions are highlighted below:

1. Issuance

Pursuant to the Provisions, for a public offering of listed depository receipts in China that are based on non-new equity as the underlying security, an offshore issuer is required to comply with the relevant requirements for the public offering of depository receipts under the Administrative Measures for the Issuance and Trading of Depository Receipts (Trial Implementation) (hereinafter, the “Administrative Measures”), and it shall perform the relevant obligations for issuers and a listed company as well a assume the corresponding legal responsibilities.  In terms of the issuance procedure, the overseas issuer shall apply to the CSRC, which will accept and handle the application via the Shanghai Stock Exchange.  The CSRC will then determine if the overseas issuer meets the listing criteria for depository receipts pursuant to its business rules.  The CSRC can issue its approval without further submitting the application to the Stock Issuance Examination and Verification Committee for review.  Where a share placement is conducted after domestic public offering and listing of depository receipts, the overseas issuer is required to comply with the conditions under Article 5 of the Administrative Measures and submit the share placement to the CSRC for approval pursuant to the procedures set forth in the preceding paragraph unless it is agreed in advance in the depository agreement that the rights and interests associated with the share placement shall be based on the sale of the share placement right or other methods.

If a domestic listed company issues depository receipts overseas based on its newly-issued stock, the domestic listed company shall comply with laws such as the Securities Law and the Special Provisions of the State Council on the Overseas Floatation of Stocks and Listing of Companies Limited by Shares, as well as the CSRC’s requirements for overseas floatation or listing of securities by domestic enterprises.  If a domestic listed company is subject to any of the following circumstances, it may not issue depository receipts based on its new stock: (1) the application documents for the issuance contain false records, misleading statements or major omissions; (2) the rights and interests of the listed company have been seriously harmed by its controlling shareholders or the actual controller, and such harm has not yet been rectified (3) the listed company and its subsidiaries have provided a guarantee to external parties in violation of the relevant regulations and have not yet been released from such guarantee; (4) its current directors and senior management personnel have been subject to any administrative penalty imposed by the CSRC in the last 36 months, or have been publicly condemned by a stock exchange in the last 12 months; (5) the listed company or its current directors and senior management personnel are being investigated by judicial authorities for suspected crimes, or are under investigation by the CSRC for alleged violation of laws or regulations; (6) a certified public accountant has issued an audit report on the financial reports for the most recent year and period with reservations, negative opinions or inability to express opinions, unless the material impact from the items giving rise to such conclusions has been eliminated, or if this issuance involves a major restructuring; or (7) there is any other circumstance where the lawful rights and interests of investors and public interest are seriously harmed.

2. Trading

With respect to trading, overseas depositors and overseas securities trading institutions that conduct cross-border conversion are required to retain domestic securities companies to handle the trading of the equity underlying the depository receipts and record with the Shanghai Stock Exchange.

Where a domestic listed company issues depository receipts overseas, it shall, in accordance with the requirements of the Shanghai Stock Exchange and the securities registration and settlement institution, handle the listing and registration of the new shares underlying the depository receipts.

3. Cross-border conversion

With respect to cross-border conversion of depository receipts and the underlying stocks after the depository receipts are listed, qualified domestic securities companies seeking to conduct cross-border conversion may apply to the depositors for converting the stocks into depository receipts or vice versa.  Depository receipts issued overseas by domestic listed companies may also be subject to cross-border conversion into their corresponding domestic underlying stocks pursuant to applicable requirements.

On the other hand, the regulatory requirements also stipulate that corporate actions by domestic securities companies, such as the above cross-border conversion transactions and participation in the distribution of dividends pursuant to a depository agreement with the domestic depositors, shall comply with the state requirements concerning the administration of cross-border capital.  In addition, the status of overseas investment and cross-border capital flow shall be timely reported to the CSRC and the Shanghai Stock Exchange.

Moreover, if investors and other concerted actors hold equity of domestic listed companies through depository receipts or other means, their equity shall be combined, they shall comply with the relevant regulatory requirements for securities and foreign investment management.  In addition, a single foreign investor holding equity of a single domestic listed company shall not hold over 10% of the total shares of the company.  Foreign investors holding A-Share equity of a single domestic listed company shall not hold over 30% of the company’s total shares, provided that this restriction does not apply to strategic investment in domestic listed companies by foreign investors pursuant to law.  For overseas depositors holding the underlying shares as a result their depository duties, the relevant provisions on changes to shareholders’ equity of domestic listed companies do not apply.

4. Information disclosure

In terms of information disclosure obligations, the regulatory requirements require the foreign issuer of the underlying stock to submit regular reports as well as annual and interim reports.  If such issuer either voluntarily or is also required by the overseas jurisdiction where the listing takes place to disclose certain documents, such as quarterly reports, shall also disclose those documents in China simultaneously.  However, the reporting, announcement and other relevant obligations under Article 36 of the Measures for the Continuous Supervision of Innovative Enterprises after Listing via Offering Stocks or Depository Receipts in China (Trial Implementation) (the “Continuous Supervision Measures”) do not apply if such issuer and its controlled or controlling company engage in major asset transactions that are outside of its ordinary business by purchasing or selling assets or other means, unless the issuer is purchasing assets through the issuance of depository receipts in a domestic market.  In addition, the relevant provisions concerning changes to depository receipt holdings under Section 2 of Chapter 4 of the Continuously Supervision Measures do not apply to domestic securities companies holding overseas underlying stocks or depository receipts in the course of their market-making obligations.

In general, the Provisions provide further guidance for the development of the Shanghai-London Stock Connect Depository Receipt Business.  However, issues such as restrictions on the flow of domestic and foreign funds and shareholding ratios still require further attention of investors seeking to make relevant investments.