Key takeaways
- The CFA affirmed that "connected transactions" should be construed with the purposive approach and analyzed in substance. A series of steps in a scheme may collectively be considered as a whole to form a connected transaction.
- Companies should review the full commercial arrangement, but not the individual arrangements in isolation.
- Concealment of a conflict of interest may amount to conspiracy to defraud, which may give rise to criminal liability.
- Strengthening internal controls, conflict-management processes and training is essential to mitigate legal risks.
In more detail
Background of the case
This case involved a former listed company ("Listed Company") that issued various batches of bonds through a third-party placing agent ("Placing Agent"). The Placing Agent immediately appointed a sub-placing agent ("Sub-placing Agent"), which was, in fact, a connected person of the Listed Company. In practice, the Sub-placing Agent performed all the placing work and received nearly all the placing commission, whilst the Placing Agent was inserted merely as a façade.
Only the placing agreements between the Listed Company and the Placing Agent were disclosed. The sub-placing agreements and hence, the connected nature of the arrangement were concealed.
The executive director and senior management of the Listed Company involved in the transaction were convicted of, inter alia, conspiracy to defraud. The CFA upheld the trial judge's decision and restored the convictions against the defendants.
Key issues considered by CFA
The following key issues were discussed by the CFA:-
- Can a "connected transaction" exist without a direct contract between the listed company (or its subsidiaries) on one hand and the connected person on the other hand?
Yes. The CFA held that:-
- The purpose of the connected transaction rules is to prevent insiders from dealing with the company in a non-transparent manner
- "Transaction" includes commercial arrangements with multiple steps, not just a single contract
- Steps included only to disguise the true arrangement may be disregarded
- The Court can treat a series of steps as a single composite transaction
In this case, the CFA found that the Placing Agent was interposed as a disguise with no genuine commercial purpose and was used to conceal the actual role of the Sub-placing Agent. After considering the substance of the scheme, rather than the form of the agreements, the CFA held that the series of transactions and agreements amounted to connected transactions between the Listed Company and the Sub-placing Agent.
- Is concealment of a conflict of interest alone (without any connected transaction) enough for conspiracy to defraud?
Yes. The CFA reaffirmed that the offense of conspiracy to defraud includes an agreement to use dishonest means with the purpose of causing loss to another. Concealing a conflict of interest: (a) deprives the board of the chance to make informed decisions; (b) exposes the company to economic risk; and (c) can itself be a dishonest means sufficient to constitute conspiracy to defraud.
In this case, the CFA took into account the defendants' knowledge about the conflict of interest, the connected nature of the transactions, and the use of the Placing Agent as a disguise for the concealment, and upheld the conviction of conspiracy to defraud.
Practical implication for market participants
Market participants should pay attention to the following implications:
- Substance over form
The Court and regulators will look into the commercial reality of the transactions. If several steps form one overall scheme, they may be treated together for compliance purpose. It is important to map out the full transaction structure – who benefits, who performs the work, and whether any party is connected.
- Heightened conflict of interest risk
This judgment underscores the critical fiduciary duty of directors to disclose any conflict of interest. Concealment may lead to criminal liability, not merely breaches of the Listing Rules. It is important to ensure that all the directors declare their conflict of interest before entering into the relevant transactions.
- Strengthened corporate governance
The CFA Judgment highlights the importance of a robust system for governing connected transactions and disclosures. This may include (a) seeking legal advice before transactions are being conducted; (b) conducting regular training for directors and senior executives; (c) enhancing approval workflows for transactions involving external parties; and (d) maintaining clear records evidencing deliberations and disclosures.
