Anthony Woolley, Senior Associate, Hogan Lovells LLC

1. Ulaanbaatar, 4 July 2013
The Revised Securities Market Law
Anthony Woolley, Senior Associate
Hogan Lovells

2. © Hogan Lovells 2013
Overview
• Current regulatory framework
• Key provisions/implications
• Conclusion
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I. Current Regulatory Framework
• The Law of Mongolia on the Securities Market dated 12
December 2002 (which replaced the Securities Market Law
adopted in 1996) provides the general regulatory framework
for securities market operations.
• The Financial Regulatory Commission has authority to issue
implementing regulations applicable to listed companies as
well as securities market participants.
• Currently, there are over 300 listed companies on the
Mongolian Stock Exchange, however market capitalisation
and liquidity is minimal.
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Regulatory Gaps and Issues
• The existing Securities Market Law is considered to have a
number of shortcomings which inhibit the further
development of the securities market:
– no distinction between nominal and beneficial owners of
securities
– custodial or trustee arrangements not recognised
– depositary receipts not provided for
– equity instruments (i.e. options/futures) not provided for
– mandatory Mongolian legislation compliance obligation to
list securities in Mongolia
– general lack of transparency and reporting requirements
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Revised Securities Market Law
• Government proposals to revise the existing legislation since
2008 so as to make it consistent with international market
standards
• LSE/MSE strategic partnership agreement in April 2011
• Parliament approved the Revised Securities Market Law on
24 May 2013
• Officially published in the State Gazette on 24 June 2013
• Revised Securities Market Law enters into force on 1
January 2014
• Supporting amendments to several laws, including laws on
advertisements, corporate and personal income taxes,
licensing and the legal status of the FRC
• Pending amendments to the Company Law?
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II. Key Features
• General regulatory framework
• FRC, MSE and self-regulating bodies have authority to issue
implementing regulations and rules
• Important new features of the revised legislation include:
– provision for financial instruments, options, futures, convertible securities,
derivatives and depository receipts
– a distinction between nominal and beneficial ownership of securities
– the possibility for dual-listing by Mongolian-listed companies and
secondary listing of foreign companies on the MSE
– detailed regulations on IPOs with increased disclosure requirements and
extended liability for the offering prospectus
– increased disclosure requirements for issuers and greater transparency
in the securities market
– creation of a dispute resolution body within the FRC for disputes relating
to the securities market
– enhanced regime for sanctioning insider trading and market abuse
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Implications – Nominal/Beneficial Ownership
• Not recognized in Civil Code or Company Law
• Well established concept in common law jurisdictions
– beneficial interest in the economic benefit of property
– nominal/legal owner holds interest on trust for beneficial owner
– beneficial owner has right to income, and proceeds of sale
– beneficial owner has voting rights in shares
• Used for depositary receipts and nominee brokerage
transactions
• Reasons
– anonymity
– ease of administration (e.g. brokerage clients)
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Implications – Interaction with other laws
• Strategic Foreign Investment Law
– various concerns, but many issues with publicly-listed companies
– effectively ignores public companies or Mongolian companies
overseas
– Mongolian company issuing depositary receipts does not know its
shareholder base
– Significant limitation on liquidity:
• Cannot issue to foreign SOEs (even pension funds, sovereign wealth funds) in any
sector without government approval
• Wide range of private investor transactions subject to approval (e.g. any change in
shareholding of a foreign investor – does not work for listed companies)
• Company Law
– No concept of beneficial ownership
– Article 57 on takeover offers is unclear (pending amendments)
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Implications – Depositary Receipts ("DRs")
• Revised Securities Market Law expressly recognises DRs
• Two types are provided for:
(i) Mongolian DRs: issued in Mongolia based on underlying securities
issued in a foreign market
(ii) Global DRs: issued in a foreign market representing Mongolian-
listed underlying securities
• Subject to detailed enabling regulations from the FRC
• Should offer Mongolian companies increased access to
international capital markets through global DRs
• Seeks to improve liquidity on the MSE by providing for
foreign investors issues of Mongolian DRs on the MSE
• Subject to appropriate licensing of custodial banks in
Mongolia
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Implications – Market Participants
• More detailed and specific provisions for licensing requirements
and responsibilities of market participants
• At least 14 activities require licensing by the FRC, including
custodial and registrar services, rating agency services, and
securities nominee activities
• Sets out and distinguishes more clearly the responsibilities of
brokers, dealers and underwriters
• Sets out requirements for obtaining licences for individuals
participating in the securities market
• Enables and regulates the operations of self-regulating bodies
with membership consisting of market participants
• Further strengthens and broadens the FRC's authority in respect
of licensing and monitoring of securities market participants
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Implications – Securities Issues and Trading
• Revised Securities Law covers public offerings of:
– shares of open joint stock companies
– debt instruments issued by private or public entities
– other financial instruments approved by FRC
• Permits:
– domestic and overseas issues
– private placements alongside public offers
– trading of foreign-listed companies
• Catches:
– offers to 50 or more investors – clarify whether this should be in
Mongolia
• Requires:
– public offers to be underwritten
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Implications – Securities Issues and Trading
• Scope of disclosure in prospectus is wider but still limited
• FRC can require additional disclosure
• Potentially long offer period (with updating obligation)
• Requires opinion from auditors and legal counsel that
information is valid and accurate
• Liability:
– issuer and its competent officials liable for false, falsified, incomplete,
misleading, contradictory or incorrect information
– all who participated in preparation of prospectus and associated
documents liable "to the extent of their involvement"
– potential criminal offence
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Implications – Insider Trading
• Prohibition on insider trading
• "insider information": any information not publicly available
that might have an impact on the price of a security
• Holders of "insider information" are deemed to be:
– influential shareholders, governing persons, employees of
the issuer, and their affiliated parties
– persons acquiring insider information in the course of
fulfilling official duties, or entering into a contract or
transaction, and their related parties
• Problematic for influential shareholders to trade in securities
• Employees and affiliated parties "deemed" to be an insider,
whether or not they have inside information
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Implications – Insider Trading
• Prohibited activities in respect of "insider trading":
– participating in trading of securities where price and trading
volume will be affected due to "insider information"
– recommending and proposing to others to participate in
trading of securities
– disclosing "insider information" in circumstances other than
required for employment/professional responsibilities
• Treatment of commercial negotiations for transactions may be
problematic, e.g. commercial discussions that terminate
without impact on issuer's financial position
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Implications – Market Abuse
• Prohibition on "market abuse"
• Market abuse:
– fraudulent trading in the securities market
– creating artificial prices
– misleading clients in order to induce/prevent trading
• Fraudulent trade
– transaction giving appearance of actively trade, without transfer of
ownership rights; or
– placing orders at similar prices (acting in concert).
• Misleading clients:
– issuing or publishing incorrect, misleading, or false information
– misleading a counterparty to a transaction by giving false information
in relation to actual events or documents or by using certain methods
or equipment
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Sanctions for Insider Trading and Market Abuse
• compensation for any damage/losses
• confiscation of income or profits
• administrative sanctions in form of monetary penalties
ranging from MNT 19 – 23 million
• potential criminal liability?
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Implications – disclosure obligations
• Article 20.1.9 disclosure obligations: immediately inform public in the
event of circumstances that might "appreciably influence" price/volume
– Immediacy problematic
– Definition of "appreciably influence" – no materiality threshold
• Article 22.8 – public takeover disclosure
– Offeror obliged to notify all "interested parties" of the target, including
its board of directors
– Offeror must issue simultaneous public notice re. takeover
• Article 40.2 – Nominees
– Nominee obliged to notify clients of any conflict of interest between
them
– Unlikely that a nominee aware of all aspects of its client's business
– Too broad?
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Implications – disclosure obligations
• Article 56.1 – Onerous Disclosure Obligations
– Disclosure regarding changes to organisational structure of Influential
Shareholders and its interests in other legal entities within 1 business
day - impossible to comply with?
– Organisational changes to group companies of the issuer –
necessary?
– Any information that may influence the market price of securities – no
materiality threshold
• Article 57 – Obligations on Market Participants
– To notify clients of circumstances that adversely affect their interests
– Overly broad?
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Implications – miscellaneous provisions
• "Influential Shareholder"
– 5% threshold - low
– difficulty of an issuer being able to comply with disclosure
obligations relating to Influential Shareholder
– concept of "acting in concert" not defined
• "Affiliated Persons"
– inclusion of employees is very broad – difficult to control
employees?
– shareholding threshold of 10% too low (customarily 20%)
– subjective nature of FRC-determined catch-all provision
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Conclusions and challenges
• The Revised Securities Market Law is a welcome framework
for future regulation to international standards
• A number of important matters require enabling regulations
from MSE/FRC:
– registration of debt issues
– dual listings
– depository receipts
– issuance and trading of derivative securities
– inside information
– takeover and mandatory offer procedures
– custodian and nominee activities
– self-regulating bodies and professional participants
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Conclusions and challenges
• Importance of proper consultation with market participants
and other professionals in developing and improving
enabling regulations
• New concepts will require amending legislation across the
existing body of legislation, e.g. beneficial ownership
• Challenge for FRC in terms of coherent development of
regulations and supervision of the securities market
• Interaction of the Securities Law with the Strategic Foreign
Investment Law
• Gaining confidence of international exchanges regarding the
implementation of the Securities Market Law to enhance
prospects for Mongolian companies to raise finance
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Anthony Woolley
Senior Associate
Direct: +976 7012 8904
Mobile: +976 9999 7031
Fax: +976 7012 8901
Email: anthony.woolley@hoganlovells.com