Chapter 8

Due Diligence Guidelines –

Business Model

2. The Listing Applicant’s Operating Environment

2.1 Guidance

2.1.1 The sponsor should gain an understanding of:

(a) the external environment in which the listing applicant operates, including the economic, political and legal environment, and the geographic and product markets in which the listing applicant principally operates;8

(b) the industry in which the listing applicant operates,9 including the whole market as well as the relevant subset of the market; industry maturity and size; market trends (including supply and demand patterns) and prospects (including innovation and developments);10

(c) the listing applicant’s main competitors, market share, industry ranking, basis of competition, entry barriers, market fragmentation or domination by key players;11 and

(d) the bargaining power of customers and suppliers, and customary credit and payment terms in the industry.

2.1.2 The due diligence conducted on the listing applicant’s operating environment must be sufficient for the sponsor to come to a view that:

(a) the relevant disclosure in the listing document provides investors with a fair and balanced disclosure of the overall industry information relevant to the applicant’s business to enable readers to form an opinion of the investment;12 and

(b) the listing applicant, in the context of its operating environment, has adopted a fundamentally sound and viable business model.

2.2 Recommended Steps

2.2.1 The sponsor should conduct research on the listing applicant and its operating environment, through publicly available information, news checks and, where appropriate, commissioned industry reports.

2.2.2 Interviews should be conducted with the listing applicant’s senior management. Key topics of discussion for operating environment due diligence may include:

(a) management’s view of the development and current status of the industry;

(b) the identity and details of the key market players and their respective market share;

(c) nature of competition, entry barriers, future opportunities, threats and challenges;

(d) respective market shares of the applicant’s major products; and

(e) key risks, future trends and uncertainties.

2.2.3 The sponsor should enquire into the source of the information given by the listing applicant on industry and competition, the basis of any estimates, and substantiation for statements about the listing applicant’s competitive advantages.13 Where possible, the sponsor should seek to corroborate statements by the listing applicant’s management about its industry sector and competitive environment with independent sources such as trade association reports, commissioned industry reports, industry analyst reports, official statistics, public filings by peer companies, news checks as well as materials prepared by the sponsor’s own analysts. Where this is not possible, a well-drafted confirmation can help to show that the directors of the listing applicant have addressed their minds to the issue and it should also be recognised in such circumstances that, where the listing applicant operates in a specialist niche industry on the basis of proprietary knowhow, there may not be any third party that has relevant knowledge on certain aspects of the business equivalent to that of the listing applicant’s directors and senior management.

2.2.4 The relevance and comparability of industry information is frequently an issue in due diligence. Where practicable, the sponsor should seek to establish the reliability of all industry studies, commissioned industry reports, research reports and statistics used in the due diligence process or included in the listing document by considering:

(a) the independence and authoritativeness of the source;

(b) whether the information is up to date;14

(c) the bases and major assumptions made for any projections or forward-looking statements;15 and

(d) how the statistics are collected and analysed.16

2.2.5 When reviewing any third party studies, reports and statistics in relation to the industry, the sponsor should bear in mind the extent to which such information relates to and throws light on the listing applicant’s business model, and how it may affect the investor’s investment decision.17 For reports that will form part of the disclosure in the listing document, the sponsor should perform additional due diligence steps as set out in Chapter 18 “Due Diligence Guidelines – Interaction with Third Parties including Expert Advisers”.

2.2.6 Where information in a commissioned industry report is reproduced or extracted in the listing document, the sponsor should:

(a) assess whether the information in such report is consistent with other information known to the sponsor including that derived from its other due diligence work18 and, where any inconsistencies are identified, seek to understand and discuss them with the author of the commissioned industry report; and

(b) where a commissioned report is dated prior to the latest practicable date of the listing document, request a confirmation by the listing applicant’s directors that after taking reasonable care, they are not aware of any adverse change in the market information since the date of such commissioned report which may qualify, contradict or have an impact on the information in the listing document.19


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

(a) analysing the business aspects of economic, political or legal conditions that may materially affect the new applicant’s business; and

(b) considering the industry and target markets in which the new applicant’s business has principally operated and is intended to principally operate, including geographical area, market segment and competition within that area and/or segment (including existing and potential principal competitors and their relative size, aggregate market share and profitability).

9. Paragraph 17.6(d)(iii) of the Code of Conduct.

10. Appendix 1 to Exchange Guidance Letter GL50-13.

11. Appendix 1 to Exchange Guidance Letter GL50-13.

12. Paragraph 1.1 of Exchange Guidance Letter GL48-13.

13. Paragraphs 3.13 – 14 of Exchange Guidance Letter GL48-13.

14. In Exchange Guidance Letter GL48-13 the Stock Exchange states that as a guide, market information appearing in a listing document should be at least updated to the latest financial year immediately preceding the issue of the listing document so that investors can compare the market information with the applicant’s financial information in the listing document.

15. Paragraph 3.7 of Exchange Guidance Letter GL48-13.

16. Paragraph 3.12 of Exchange Guidance Letter GL48-13.

17. Paragraph 3.1 of Exchange Guidance Letter GL48-13.

18. Paragraph 17.6(g)(iv) of the Code of Conduct.

19. Paragraph 3.9 of Exchange Guidance Letter GL48-13. The Stock Exchange gives an example as follows: “When an applicant claimed to be one of the leading top 10 producers of household appliances in the PRC, the industry data contained in the commissioned report was only made up to 2011 (where the track record period actually covered the financial year 2012), and there was no supporting data afterwards and as at the latest practicable date. If this happens, the directors’ confirmation is required.”


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.

Industry Information in Due Diligence Process

External Operating Environment and Industry

Economic, Political and Legal Operating Environment

Listing Applicants Operating Environment

Operating Environment Due Diligence

Fair and Balanced Disclosure of Overall Industry Information

Key Market Players

key risks, future trends and uncertainties

Competitive Advantages Due Diligence

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