Chapter 8

Due Diligence Guidelines –

Business Model

Code of Conduct Paragraphs





Key Stock Exchange Guidance Letters

Exchange Guidance Letter GL63-13

Exchange Guidance Letter GL48-13

Exchange Guidance Letter GL50-13

Exchange Guidance Letter GL8-09

Other Key References

Practice Note 21 to the Listing Rules

Exchange Listing Decision LD46-2

Exchange Listing Decision LD48-2013

Exchange Listing Decision LD46-1

Exchange Listing Decision LD37-2012

Exchange Listing Decision LD43-3

Exchange Listing Decision LD33-2012

SFC Dual Filing Update July 2012

Exchange Listing Decision LD30-2012

SFC Dual Filing Update August 2011

Exchange Listing Decision LD19-2011

SFC Dual Filing Update January 2011

Exchange Listing Decision LD107-1

SFC Dual Filing Update July 2010

Exchange Listing Decision LD92-1

SFC Dual Filing Update January 2010

Exchange Listing Decision LD51-1

SFC Dual Filing Update June 2009

Report on Sponsor Theme Inspection Findings March 2011

1. General

1.1 Standard

1.1.1 Based on reasonable due diligence, a sponsor should have a sound understanding of … the listing applicant, including its history and background, business and performance, financial condition and prospects, operations and structure and procedures and systems. [Paragraph 17.3(a)(i) of the Code of Conduct]

1.1.2 The “Business” section [of the listing document] should explain the [listing] applicant’s business model … [and] … include information on key areas, e.g. market and competition, suppliers, customers, production, products and services, etc.1

1.2 Guidance

1.2.1 When conducting business model due diligence, it is important to bear in mind the following principles, distilled from past Regulators’ statements:

(a) Disclosure –

(i) proper enquiries regarding the business model helps form the basis of disclosure in the listing document regarding the history of the listing applicant, its business and its operating environment, to comply with the relevant legal and regulatory disclosure standards;2 and

(ii) the sponsor must be satisfied, at the end of the process, that the relevant disclosure in the listing document contains sufficient information to help investors understand the listing applicant’s business model.3

(b) Suitability for listing – business model due diligence also assists the sponsor to form a view on the basic soundness and viability of the listing applicant’s business as an independent going concern.4

1.2.2 Business model due diligence also forms a foundation for financial due diligence, by helping the sponsor understand the nature of the business and reaching the appropriate bases for the valuation of the business.

1.2.3 Business model due diligence calls for an examination of a wide range of factors including, without limitation, the listing applicant’s business plans, sources of earnings and on-going fixed and variable costs of the business, the maintenance and expansion capital expenditure required to sustain and grow the business, production methods, technology and knowhow, management of the business, the business aspects of its contracts and proprietary interests, feasibility of new products and services, stage of development, commercial viability of products and services, as well as market positioning.5 Particular attention needs to be paid to business models that contain new or unique features.

1.2.4 Key goals of the business model due diligence exercise include:

(a) gaining knowledge about the listing applicant’s business generally to aid the preparation of the listing document and other disclosure documents;

(b) assessing the listing applicant’s management of its business;

(c) forming a balanced view as to the relative materiality of external and internal factors affecting the listing applicant’s business;

(d) locating the key potential areas of weakness or vulnerability in the listing applicant’s business, and testing its soundness in circumstances of stress and in different economic cycles and stages of the industry in which the applicant operates; and

(e) questioning the assumptions underlying key plans and projections and comparing them to historical performance, to evaluate whether the business model and development plans are realistic.

1.2.5 It is not the goal of business model due diligence for the sponsor to come to a view that the business model is optimal in all respects, or that it will continue to bring financial success to the listing applicant and its shareholders, or that it will be able to withstand changes in the operating environment and other developments. Due diligence cannot, and is not expected to, guarantee the success of the listing applicant’s business. However, any issues relating to the basic viability and sustainability of the listing applicant’s business model may in practice call into question the suitability of the applicant for listing in Hong Kong.6

1.2.6 The guidance set out in this chapter focuses on certain key business model due diligence vulnerabilities – operating environment, sustainability, dependence, illegality, changes of business model and trends and patterns. The importance of these factors depends on the nature of the listing applicant and there may be other factors of equal or more importance that should be taken into consideration. The sponsor should take a flexible approach to business model due diligence.

1.2.7 It is not possible to devise a due diligence plan that fits all types of business models. Many of the guidance and steps set out in this chapter are aimed at prompting the sponsor to formulate due diligence questions that are relevant to the case in question and tease out observable as well as latent strengths and weaknesses.

1.3 Recommended Steps

1.3.1 The sponsor should organise a series of interviews and conference calls with senior members of the listing applicant’s management to conduct business model due diligence. This can form part of the broader business due diligence sessions.

1.3.2 Business model due diligence meetings should include presentations by and/or dialogues with the management of the listing applicant with an opportunity for the sponsor to ask questions.

1.3.3 Representatives from the listing applicant participating in such discussions should be the most senior members of management, such as the founder(s), chairman, managing director, chief executive officer, chief financial officer, general counsel, chief operating officer, and senior officers of key administrative or business units. These should be persons who are the “directing mind” of the listing applicant and the persons most responsible for its track record and future plans.

1.3.4 In addition, the sponsor should consider conducting interviews with specific members of middle management, such as heads of marketing, research and development, risk control, sales, human resources, production and manufacturing, to gain further insight into the listing applicant’s business model, particularly any on-the-ground issues such as:

(a) actual mode of implementation of the business model and plans;

(b) any competition issues vis-à-vis the controlling shareholders of the applicant;

(c) day-to-day relations with suppliers, customers, contractors and distributors;

(d) relations with industry regulators; and

(e) labour relations and morale issues.

1.3.5 Business model due diligence should commence at the initial stages of the listing application and be substantially complete upon the filing of the listing application. Key issues and developments should be followed up through to the closing stages. The due diligence should cover at least the historical trading record period and trends of the business after the date of the latest audited accounts.7 The sponsor should be fully engaged throughout the due diligence process.

1.3.6 The sponsor should bear in mind that any issues that arise from the exercise may give rise to an obligation to disclose any material information in the listing document, including disclosure of appropriate risk factors.


1. Paragraph 3.4 of Exchange Guidance Letter GL50-13.

2. In paragraph 5(i) of Exchange Listing Decision LD48-2013, the Stock Exchange cited a case where a listing application was returned for insufficient clarity of the listing applicant’s business model as disclosed in the draft listing document – e.g., whether the company acted as a main contractor or sub-contractor in completed projects; whether it obtained service projects through bidding or negotiation; how it carried out its services and whether special approvals were required; and whether it participated in tender bidding for a certain segment of its business.

3. Paragraph 1.1 of Exchange Guidance Letter GL50-13.

4. In one of the cases discussed in SFC Dual Filing Update of July 2010, the SFC focused on the ability of the listing applicant to continue as a going concern without financial support of the controlling shareholder.

5. Paragraph 13 of Practice Note 21 to the Listing Rules specifies, among other things, the following as part of typical due diligence enquiries:

(a) assessing the new applicant’s performance and finances, business plan and any profit forecast or estimate, including an assessment of the reasonableness of budgets, projections and assumptions made when compared with past performance, including historical sales, revenue and investment returns, payment terms with suppliers, costs of financing, long-term liabilities and working capital requirements;

(b) reaching an understanding of the new applicant’s production methods;

(c) reaching an understanding of the manner in which the new applicant manages its business, including as relevant actual or proposed marketing plans, including distribution channels, pricing policies, after-sales service, maintenance and warranties;

(d) reviewing the business aspects of all contracts material to the new applicant’s business;

(e) assessing the business aspects of proprietary interests, intellectual property rights, licensing arrangements and other intangible rights of the new applicant; and

(f) reaching an understanding of the technical feasibility of each new product, service or technology developed, being developed or proposed to be developed pursuant to the new applicant’s business plan that may materially affect the new applicant’s business.

6. A business that is not viable and sustainable is unlikely to be considered suitable for listing. See endnote 26 to paragraph 4.1.1.

7. Paragraph 34(1)(a) in Part A of Appendix 1 to the Listing Rules.


HKCFEF Limited and the contributing law firms, accountants and sponsors are not offering these due diligence guidelines as legal, financial or professional advice or services and they should not be relied upon as such. These due diligence guidelines should not be used as a sole basis for any decision, action or inaction and are not meant to serve as a substitute for the advice of qualified professionals. See here for the full terms and conditions.

Sponsor Should Have a Sound Understanding of Listing Applicant

Listing Applicant Business Model

Business Model Due Diligence

Financial Due Diligence

Exchange Listing Decision

Listing Applicant History, Background, Business Performance, Financial Condition, Prospects, Operations, Structures, Procedures and Systems

Stock Exchange Guidance Letters

Hong Kong Stock Exchange Listing Rules

Conducting Interviews with Members of Middle Management

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