Court of Final Appeal holds that insider dealing of overseas listed securities is prohibited under section 300 of the Securities and Futures Ordinance

In our March 2016 and December 2017 newsletters, we reported the respective Judgments of the Court of First Instance and the Court of Appeal in The Securities and Futures Commission v Young Bik Fung & Others (HCMP 2575/2010; CACV 33/2016).

Subsequently, the 2nd to 4th Defendants (Eric, Patsy and Stella respectively) made a final appeal to the Court of Final Appeal (CFA) to seek a judgment in their favour. By the CFA’s Judgment on 31 October 2018, their appeal was dismissed.  

In so doing, the CFA held that the phrase “transaction involving securities” in s.300 of the Securities and Futures Ordinance (SFO) is to be given a wide meaning, which is not confined to a single arrangement, and can also include a series of inter-related but discrete steps, such as purchases or sales of Taiwan listed Hsinchu Bank shares through the misuse of confidential insider information regarding the takeover plan of Standard Chartered Bank (SCB). In addition, the CFA held that insider dealing of overseas listed securities (excluding Hong Kong listed securities which will be caught and dealt with by the usual insider dealing provisions in the SFO) will be caught by s.300 of the SFO, provided “substantial activities constituting the crime” occurred within Hong Kong. 

A reminder of the facts

As per our earlier newsletters, in this case, Betty (the 1st Defendant) was a solicitor seconded to SCB by her then employer in respect of SCB’s takeover of Hsinchu Bank. During the secondment, she obtained inside information about SCB’s intended tender offer for Hsinchu Bank shares. Based on the inside information, Betty and Eric (the 2nd  Defendant, a solicitor, and Betty’s friend) through Patsy (the 3rd Defendant, Eric’s sister) acquired shares in Hsinchu Bank. Patsy also invested for Stella (the 4th Defendant, Eric’s sister).  All of them made profits as a result.

The SFC relied on s.300 instead of the insider dealing provision under s.291 of the SFO because Hsinchu Bank shares were overseas listed shares which are not covered by s.291.  The SFC sought a declaration that s.300 was contravened in order for the Court to make remedial and disgorgement orders under s.213 against the Defendants.

The Court of First Instance (whose judgment was upheld by the Court of Appeal) found that the Defendants contravened s.300 by practising fraud and deception in transactions involving securities, and made disgorgement orders against them.

The appeal to the CFA

The propositions of the Defendants before the CFA were:

(a)    First, that the words “a person shall not directly or indirectly, in a transaction involving securities” must be read to require that “person” – i.e. the defendant – to be a party to the “transaction” referred to. 

(b)    Secondly, that, since the only transactions that the Defendants (meaning Patsy and, through her as their agent, Eric, Betty and Stella) entered into were the contracts to purchase the Hsinchu Bank shares and then to sell them to SCB in accepting SCB’s Tender Offer, the relevant transactions in the present case were those share dealing transactions, i.e. the purchase and then the sale of the shares, taken as separate transactions.

(c)    Thirdly, that the fraud or deception also had to be “in the transaction”, meaning, they had to be practised by the defendant on the counterparty to the relevant transaction. There transactions did not involve any fraud or deception practised on their counterparties. 

The “counterparty” argument

The Defendants argued that the fraud or deception must be practiced on a counterparty to the transaction before it can be regarded as being “in a transaction”. The deception practised against SCB was not employed or engaged in the transaction involving the purchase of Hsinchu Bank shares over the Taiwan Stock Exchange. The analogy was that if a person steals money to buy shares on an exchange, the fraud constituted by the theft is not a fraud in the securities transaction.

The CFA opined that s.300 of the SFO did not require the Defendants to be party to the transactions or that fraud must be practised on the counterparty, so long as their fraudulent or deceptive scheme is employed in connection with or in relation to the transaction. In any event, the CFA agreed with the Courts below that fraud was practiced on SCB both in respect of the misuse of the inside information and the tender of the shares to SCB.

Mr. Justice Spigelman NPJ also reviewed the legislative history of the Ordinance and found that reference to a counterparty (“transaction with any other person” in the predecessor provision) was removed when s.300 became law. The Defendants’ arguments were writing back into the section the words which the legislature removed, which is not permissible.

The “transaction” argument

The Defendants argued that the purchase of the shares was a transaction and their sale when the tender was accepted was a separate transaction, and that it would strain the natural meaning of the word to cover preparatory steps antecedent to the dealing in securities such as the use or disclosure of the inside information, or the deposit of money into the trading account that was used to purchase the shares in question.

The CFA held that it is artificial to split the purchase and sale into two or more separate transactions. The word must be given a meaning that is required by the context of the section and such as would achieve its purpose. The word “transaction” has a wide meaning. The CFA referred to HKSAR v Yeung Ka Sing Carson (2016) 19 HKCFAR 279 in which the CFA said at paragraph 137 that “[i]n making a judgment as to whether acts are so connected that they can fairly be regarded as forming part of the same transaction or criminal enterprise it is necessary to keep in mind the purpose for which the question is asked.

Mr. Justice Ribeiro PJ opined that the Defendants’ scheme fell comfortably within s.300. The relevant “transaction involving securities” encompassed the misuse and disclosure of inside information regarding SCB’s takeover; misuse of that information by purchasing the Hsinchu Bank shares with a view to selling them to SCB at a higher tender price; their acceptance of SCB’s offer and their realisation of larger profits derived from their misuse of the inside information. These dealings formed a part of the overall transaction. 

Mr. Justice Spigelman NPJ opined that “transaction” is not a word that can be confined to a single arrangement and it may and frequently does include a series of occurrences extending over a length of time. His Lordship said that conduct can involve “securities” and have occurred “in a transaction” if the events said to constitute the transaction consist of a series of inter-related, but discrete steps. 

Application of s.300 to insider dealing of overseas listed securities

The CFA held that “securities” under s.300 is not confined to shares listed in Hong Kong. It would be in line with the purpose of the Ordinance and Hong Kong’s position as an international financial centre that s.300 should cover insider dealing in shares listed in Taiwan, if substantial activities constituting the crime occurred within Hong Kong.  However, to avoid s.300 also applying to the insider dealing of Hong Kong listed shares, the CFA said that s.300 excludes such insider dealing, which will be dealt with by the usual insider dealing provisions.

Commentary

The CFA’s judgment is to be welcomed. The CFA said that it would be in keeping with the purpose of the SFO and Hong Kong’s position as an international financial centre that provided substantial activities constituting the crime occurred in Hong Kong, s.300 should cover the insider dealing in shares listed overseas. It now confirms that notwithstanding that the shares are not Hong Kong listed, insider dealing of overseas listed securities is caught by s.300 of the SFO. Parties in Hong Kong who have inside information of overseas listed securities should be careful when dealing with the overseas listed securities and they should not think they are beyond the regulatory and enforcement reach of the law.