The Court of Appeal Interprets Section 300 of the Securities and Futures Ordinance

In our article in March 2016, we discussed the judgment of the Court of First Instance in The Securities and Futures Commission v Young Bik Fung & Others (HCMP 2575/2010).

In this case, Betty (the 1^st Defendant) was a solicitor seconded to Standard Chartered Bank (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 2^nd Defendant, a solicitor and Betty’s friend) through Patsy (the 3^rd Defendant, Eric’s sister) acquired shares in Hsinchu Bank. Patsy also invested for Stella (the 4^th Defendant, Eric’s sister).  All of them made profits as a result.

The SFC relied on section 300 instead of the insider dealing provision under section 291 of the Securities and Futures Ordinance (the Ordinance) because Hsinchu Bank shares were overseas listed shares which are not covered by section 291. The SFC sought a declaration that section 300 was contravened in order for the Court to make remedial orders under section 213.

The Court found that the defendants contravened the Ordinance by insider dealing and engaging in fraud and deception in transactions, and made restoration orders against them.  The defendants appealed to the Court of Appeal (CACV 33/2016) and the appeal was dismissed on 9 November 2017.

The Court of Appeal held that:

1. Section 300 is applicable to fraud or deception in respect of overseas listed securities if a substantial measure of activities constituting the contravention of section 300 took place in Hong Kong. The full range of activities under the scheme or conduct in the course of dealings should be taken into account in making such assessment.
2. In this case, a substantial measure of activities such as the disclosure of inside information, the placing of orders and the deposit of monies into the trading account took place in Hong Kong. Hence, Section 300 was applicable.
3. In assessing whether fraudulent or deceptive conduct in respect of the dealing of shares occurred “in a transaction involving securities” under section 300, a wide interpretation should be given to the word “transaction”. It is not confined to the purchase of shares.
4. In this case, the “transaction” was the whole transaction in relation to the dealing of Hsinchu Bank shares, which included the buying and the acceptance of the Tender Offer. SCB was defrauded when the Tender Offer was accepted in the absence of the disclosure of the misuse of inside information to SCB. The requirements under section 300 were satisfied.
5. If it is determined that a person has benefited from inside information by way of making investment decisions which were significantly influenced by inside information, the Court would usually make a restoration order unless unfair prejudice would be caused to that person.

Issues on Appeal and the Court of Appeal’s Decision

Whether the alleged fraudulent or deceptive conduct in respect of the dealings of Hsinchu shares occurred “in a transaction involving securities” for the purpose of section 300 of the Ordinance

Section 300(1) of the Ordinance provides that:

“A person shall not, directly or indirectly, in a transaction involving securities, futures contracts or leveraged foreign exchange trading –

(a)   employ any device, scheme or artifice with intent to defraud or deceive; or

(b)   engage in any act, practice or course of business which is fraudulent or deceptive, or would operate as a fraud or deception.”

The Appellants argued that the fraud or deception must be practised on the counterparty to the transaction before it can be regarded as being “in a transaction”. The purchase of the shares and the acceptance of the Tender Offer were two isolated transactions. As the vendors in the purchase of the Hsinchu Bank shares were not defrauded in the first transaction, and the information had already ceased to be inside information by the time of the second transaction, there was no deception in the transaction involving securities and the case was therefore outside the scope of section 300.

The Court of Appeal rejected the above argument. The Court of Appeal was of the view that the trial judge was right that the act required under section 300 is not confined to the purchase of the shares, and the word “transaction” should be given a wide interpretation. In this case, the transaction was the whole transaction in respect of the trading of the Hsinchu Bank shares, including the buying and the acceptance of the Tender Offer. Betty owed a continuous duty to SCB to disclose the misuse of the inside information even after the Tender Offer was made public. There was deception on SCB when the Tender Offer was accepted in the absence of such disclosure.

The act under section 300 was therefore the employment of a scheme of trading in Hsinchu Bank shares with intent to defraud SCB (or alternatively, the engagement of a course of trading in Hsinchu Bank shares which is fraudulent or deceptive).

The applicability of section 300 to the purchase and sale of securities listed on an overseas stock exchange

It was common ground that section 300 has no extraterritorial effect, and that the Court should adopt a wider approach of looking into the place of “substantial measure of the activities constituting a crime”. The Appellants argued that the offer for the buying of the shares and the acceptance of the Tender Offer took place out of Hong Kong and section 300 had no application in this case.

The Court of Appeal held that one should take into account the full range of activities under the scheme or conduct in the course of dealings in considering whether a substantial measure of the activities constituting the contravention of section 300 took place in Hong Kong. If the answer is in the affirmative, it does not matter that the final acts of placing the purchase orders and the acceptance of the Tender Offer took place out of Hong Kong.

The Court of Appeal was satisfied that a large part of the activities under the scheme or course of dealings, such as the disclosure of inside information by Betty to Eric, the placing of orders with Tai Fook Securities Ltd, the deposit of monies into the Tai Fook Account, the act of giving instructions to Tai Fook and the signing of the confirmation reply to accept the Tender Offer, took place in Hong Kong. Section 300 therefore applied to the present case.

Whether the trial judge was correct to make a restoration order against Stella

It was argued that Stella was ignorant of inside information and her trading was entirely legal and could not be impugned. The requirement in section 213(b) was not satisfied as Stella was not “involved” in any of the matters referred to in section 213(a)(i) to (v) of the Ordinance.  Alternatively, a restoration order should not be made because it would unfairly prejudice Stella who took an investment judgment innocently, with her own funds, and made profits legitimately.

The Court of Appeal disagreed with the above argument. A purposive construction of the words in the section should be adopted. Section 213(2)(b) ensures that no benefits are obtained from insider dealing by anyone, no matter that person is directly implicated in it or unknowingly caught up in it. It aims to combat market misconduct and enhance the deterrent and punitive effect of the available sanctions. Section 213(4) makes sure that it is desirable for the order to be made, and that the order will not unfairly prejudice any person, which depends on the circumstances by which the person came to be involved in the insider dealing and the impact the order will have on him.

On the facts of the case, it was held that no prejudice would be caused by the Order to Stella beyond taking away the profits from her, and her investment decisions were made because of the influence by the provision to her of inside information. A restoration order was therefore appropriate.

Whether the trial judge correctly drew certain factual inferences against the defendants

It was argued that the trial judge made inferential findings before considering and without taking into account the defence evidence. The Court of Appeal looked at the trial judge’s reasoning and the facts of the case, and dismissed this ground of appeal.

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