Hong Kong's Thriving Broker Bazaar Hit After Regulators Step In

(Bloomberg) -- Chinese firms splashed out on purchases of Hong Kong brokerages in recent years to get a foothold in the former British colony. That wave is ebbing after regulators tightened scrutiny of the practice.

Buying Hong Kong-licensed asset managers, brokers or corporate advisers made sense for ambitious Chinese companies seeking a bridgehead outside of the mainland's capital controls and helped them burnish their credentials among domestic clients. Around 20 percent of the city's smaller brokers have been sold to Chinese buyers, who dominate a secondhand market for licensed firms that barely existed five years ago, according to industry veterans.

Increased scrutiny from the Securities and Futures Commission over the past year has muted the appetite of Chinese buyers, said Jane McBride, a partner at law firm Deacons Hong Kong, who has a 15-person team handling SFC license applications. The SFC has embarked on a campaign to strengthen the oversight of such brokers and make sure acquirers didn't get hold of financial licenses without being subject to proper background checks.

“We are over the peak for license sales,” McBride said. “I think people have found religion and are applying for new licenses.”

The number of brokerage acquisitions in Hong Kong has dropped off as companies are being encouraged by the regulator to change tactics and apply for fresh licenses via the front door, said Alex Duperouzel, founder of ComplianceAsia Consulting Ltd, a Hong Kong-based firm that handles around a quarter of all license applications.

Regulator's Concerns

A new manager oversight regime that started last October was a direct response to SFC concerns that some buyers were trying to short-circuit background and other checks, Duperouzel said. The regulator was also concerned about murky ownership and funding sources, as well as the use of asset-management firms to mask ownership of public companies, according to SFC statements and people involved in advising on license transfers. The SFC declined to comment.

“The SFC was concerned about the high and increasing premium for the sale of licensed corporations and saw that as an attempt to evade the licensing application process,” said Greg Heaton, who ran the regulator's licensing team until moving to a law firm last year.

In some transactions, the firms that were acquired by Chinese buyers were so small that only the license itself held any value. In other cases, firms with no prior experience in the financial industry acquired licenses, prompting a circular from the SFC last June that said the regulator will scrutinize such applications very carefully. At the time, the SFC also emphasized that the approval process to acquire a stake in a brokerage isn't less stringent than a fresh application for a license.

The waning appetite means fewer opportunities for smaller firms, especially family-run brokerages, to exit an industry where margins are shrinking and expensive technology trading platforms are in ascendance.

Companies with a broker license and 500 to 600 clients have typically sold for about HK$8 million ($1 million) to HK$9 million, said Christopher Cheung, a lawmaker representing the brokerage sector at the city's legislative council. Firms with corporate finance or asset management licenses commanded sums in the HK$20 million to HK$40 million range, Cheung said, as these were in higher demand.

To be sure, there have been some large sales in the industry where Chinese financial firms have acquired brokerages as a way to add scale and assets, where the licenses by themselves hold limited value. In 2017, Oceanwide Holdings Co. bought a majority stake in mid-tier brokerage and corporate finance firm Quam Ltd. for HK$1.6 billion. But for the most part, the motivations of mainland firms seeking to purchase Hong Kong brokerages, especially smaller ones, aren't very clear.

Gareth Evans, a Hong Kong based corporate financier who is currently negotiating the sale of his own licensed firm, said that for some, the license has become a status symbol.

“There is a slight ego to it. You get these CEOs in China who think I have got my membership of the golf club, my kids are overseas at university, what do I need next, lets go buy a licensed company in Hong Kong,” he said.

--With assistance from Alfred Liu

To contact the reporter on this story: Benjamin Robertson in Hong Kong at brobertson29@bloomberg.net.

To contact the editors responsible for this story: Sam Mamudi at smamudi@bloomberg.net, Sree Vidya Bhaktavatsalam, Philip Lagerkranser

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