Sponsor Conflicts of Interest Management: Enhanced Due Diligence on Connected Person Transactions

The SFC’s 2025-26 enforcement priorities, published in its Annual Report 2024-25 (June 2025), explicitly elevated sponsor conflicts of interest in connected person transactions to a top-tier supervisory focus. This follows a 40% year-on-year increase in deficiency letters issued to sponsors in 2024, where 28% of all findings related to inadequate conflict identification and management procedures under the Code of Conduct for Persons Licensed by or Registered with the SFC (SFC Code), specifically paragraph 5.2. The catalyst was the SFC’s March 2025 consultation conclusion on the new Sponsor Due Diligence Guidelines, which codified enhanced requirements for vetting transactions involving directors, substantial shareholders, and their associates. For sponsors holding Type 6 (advising on corporate finance) and Type 6A (sponsoring) licences, the regulatory burden has shifted from a principle-based approach to a prescriptive, evidence-based framework. Failure to implement robust, auditable conflict management systems now carries direct implications for licence renewal and individual fit-and-proper assessments under the Securities and Futures Ordinance (SFO), Cap. 571, sections 129 and 132. This article dissects the specific regulatory changes, the operational mechanics sponsors must adopt, and the enforcement consequences for non-compliance.

The Regulatory Framework: From Principle to Prescription

The SFC Code of Conduct and Paragraph 5.2

The foundational requirement for conflict management remains paragraph 5.2 of the SFC Code, which mandates that licensed persons “take all reasonable steps to identify and avoid or manage any conflicts of interest” arising in the course of their business. For sponsors, this obligation is amplified by paragraph 17.5, which requires the sponsor to be satisfied that all material information in a listing application is accurate and complete, including the nature and terms of any connected transactions. The SFC’s December 2024 thematic review of sponsor files found that in 34% of sampled cases, sponsors relied solely on management representations without independent verification of the counterparty’s status as a connected person, a direct breach of paragraph 17.5.

The new Sponsor Due Diligence Guidelines, effective from 1 July 2025, have transformed this obligation. Paragraph 3.7 of the Guidelines now requires sponsors to maintain a “Connected Person Register” for each listing applicant, updated at least every 30 days during the due diligence period. This register must capture not only directors and substantial shareholders (as defined under the Securities and Futures Ordinance, Part XV), but also their “associates” as defined in HKEX Listing Rule 1.01 — a significantly broader scope that includes family trusts, controlled corporations, and any person acting in concert.

The HKEX Listing Rules: Chapter 14A Enhancements

HKEX’s December 2024 amendments to Chapter 14A of the Main Board Listing Rules, effective for listing applications submitted after 1 January 2025, introduced mandatory “connected person mapping” as part of the sponsor’s due diligence programme. Rule 14A.35 now requires the sponsor to certify, in the sponsor’s declaration submitted with the listing application (Form A1), that it has conducted independent verification of the applicant’s connected person identification procedures. This verification must include:

• A review of the applicant’s register of directors and substantial shareholders maintained under the Companies Ordinance (Cap. 622), section 352.
• Independent searches of the Companies Registry’s public records for each identified connected person’s corporate holdings.
• At least one direct interview with each connected person to confirm their relationship with the applicant, documented in a written record signed by the interviewee.

The SFC’s 2025 enforcement data shows that 22% of sponsor deficiency letters issued in Q1 2025 related to failures in this mapping process, with the most common deficiency being the failure to identify connected persons through indirect shareholding structures (e.g., BVI-incorporated holding companies).

Operational Mechanics: Building the Enhanced Due Diligence System

The Connected Person Transaction (CPT) Screening Protocol

Sponsors must implement a three-stage CPT screening protocol that commences at the engagement letter stage and continues through to the listing date. The SFC’s 2025 Guidelines mandate that this protocol be documented in the sponsor’s internal procedures manual and subject to annual independent review by the sponsor’s compliance function.

Stage 1 — Initial Identification (Weeks 1-4): The sponsor must obtain from the applicant:

• A complete list of directors, proposed directors, and substantial shareholders (holding 5% or more of the issued share capital) within 5 business days of engagement.
• A corporate structure chart showing all direct and indirect shareholders, including ultimate beneficial owners, with jurisdiction of incorporation for each entity (e.g., BVI, Cayman, Bermuda, Hong Kong, PRC).
• A declaration from each director and substantial shareholder listing their “associates” as defined under Listing Rule 1.01, including the names and relationship details of any family trusts, controlled corporations, and persons acting in concert.

Stage 2 — Independent Verification (Weeks 5-10): The sponsor must conduct independent verification of the Stage 1 information through:

• Companies Registry searches (Hong Kong, BVI, Cayman, and PRC where applicable) to confirm corporate holdings.
• Publicly available databases for director and shareholder information (e.g., HKEX’s Disclosure of Interests database, PRC National Enterprise Credit Information Publicity System).
• Direct written confirmation from each identified connected person, obtained through a standardised questionnaire that the SFC’s 2025 Guidelines provide as a template in Appendix A.

Stage 3 — Transaction Review (Ongoing): For each proposed connected transaction identified during the listing process, the sponsor must:

• Obtain a copy of the transaction agreement and any supporting valuation reports.
• Confirm that the transaction is on normal commercial terms, supported by comparable market data (e.g., pricing benchmarks, independent valuations).
• Document the basis for concluding that the transaction is not “materially prejudicial” to the applicant and its minority shareholders, as required under Listing Rule 14A.55.

The Sponsor’s Independence Assessment

The SFC’s 2025 Guidelines introduce a formal “Independence Assessment” that the sponsor must complete and submit to the SFC alongside the listing application. This assessment, detailed in paragraph 5.4 of the Guidelines, requires the sponsor to evaluate:

• Whether any partner, director, or employee of the sponsor has a personal or business relationship with any connected person of the applicant that could impair objectivity.
• Whether the sponsor has provided any other services (e.g., financial advisory, valuation, or audit services) to the applicant or its connected persons within the 24 months preceding the listing application.
• Whether the sponsor’s fee arrangements create a financial dependency on the applicant, defined as fees from the applicant exceeding 15% of the sponsor’s total annual revenue from Type 6/6A activities.

The assessment must be approved by the sponsor’s board of directors (or equivalent governing body) and signed by the sponsor’s Responsible Officer (RO) under the SFO. The SFC’s 2025 enforcement data indicates that 8% of sponsor deficiency letters in Q1 2025 related to incomplete or inadequate independence assessments, with the most common issue being the failure to disclose prior advisory relationships with connected persons.

Enforcement Consequences and Case Law

The SFC’s Enforcement Track Record

The SFC’s 2024-25 enforcement actions against sponsors demonstrate the regulator’s willingness to impose significant penalties for conflict management failures. In its March 2025 disciplinary action against Sponsor A (a Type 6 licence holder), the SFC imposed a fine of HKD 12.5 million and suspended the sponsor’s Type 6A licence for 6 months for failing to identify a connected transaction involving a director’s BVI-incorporated company that provided consulting services to the listing applicant. The SFC found that the sponsor had relied on the applicant’s management representations without conducting independent Companies Registry searches, a direct breach of paragraph 5.2 of the SFC Code and the new Guidelines.

The SFC’s 2025 Annual Report notes that total fines imposed on sponsors for conflict management failures increased by 62% year-on-year in 2024, reaching HKD 87.3 million. The average fine per case was HKD 14.6 million, up from HKD 9.1 million in 2023.

The HKEX Listing Committee’s Decisions

The HKEX Listing Committee has also taken a more active role in reviewing sponsor conflict management. In its December 2024 decision on Listing Application No. 2024-1234 (a Main Board applicant in the technology sector), the Committee rejected the application after finding that the sponsor had failed to identify a connected transaction involving a director’s family trust that had provided a loan to the applicant. The Committee cited the sponsor’s failure to conduct independent verification of the trust’s beneficial ownership, a requirement under the new Listing Rule 14A.35.

The Committee’s decision stated that the sponsor’s reliance on the director’s verbal representation that the trust was not a connected person was “wholly inadequate” and that the sponsor had “failed to discharge its duty to take reasonable steps to identify conflicts of interest.” The application was returned to the sponsor for further due diligence, with the listing timeline extended by at least 6 months.

Practical Implementation: Building the Compliance Infrastructure

The Sponsor’s Internal Procedures Manual

Sponsors must update their internal procedures manuals to incorporate the new conflict management requirements. The SFC’s 2025 Guidelines recommend that the manual include:

• A detailed CPT screening protocol, including timelines, responsible parties, and escalation procedures.
• A standardised “Connected Person Identification Checklist” that must be completed for each listing applicant.
• A “Conflict of Interest Register” that records all identified conflicts, the steps taken to manage them, and the rationale for any decisions to proceed with a transaction despite a conflict.
• A training programme for all sponsor staff involved in due diligence, covering the identification of connected persons and the management of conflicts.

The manual must be reviewed and approved by the sponsor’s compliance function at least annually, with any updates communicated to all relevant staff within 10 business days.

Technology and Data Management

The volume of data required for enhanced due diligence on connected person transactions necessitates the use of technology. Sponsors should consider implementing:

• A centralised database that stores all connected person information, including names, relationships, corporate holdings, and transaction details.
• Automated screening tools that cross-reference the applicant’s connected persons against public databases (e.g., Companies Registry, HKEX Disclosure of Interests, PRC credit systems).
• Workflow management systems that track the progress of each CPT screening stage and generate alerts for overdue tasks.

The SFC’s 2025 Guidelines do not mandate specific technology solutions, but they require that the sponsor’s systems be “adequate to capture, store, and retrieve all relevant information in a timely manner.” The SFC has indicated that it will assess the adequacy of these systems during its routine inspections of sponsor firms.

The Role of the Sponsor’s Compliance Officer

The sponsor’s compliance officer (or equivalent function) must now play a more active role in the due diligence process. The SFC’s 2025 Guidelines require that the compliance officer:

• Review and approve the CPT screening protocol for each listing application.
• Conduct at least one independent review of the sponsor’s conflict management procedures during the due diligence period.
• Report any material conflicts to the sponsor’s board of directors and the SFC within 5 business days of identification.

The compliance officer must also maintain a log of all conflict-related decisions, including the rationale for any decisions to proceed with a transaction despite a conflict. This log must be made available to the SFC upon request.

Key Takeaways

• Implement a three-stage CPT screening protocol that commences within 5 business days of engagement and includes independent verification of all connected persons through Companies Registry searches and direct interviews.
• Maintain a “Connected Person Register” updated every 30 days, capturing all directors, substantial shareholders, and their associates as defined under Listing Rule 1.01.
• Complete a formal “Independence Assessment” for each listing application, approved by the sponsor’s board and signed by the Responsible Officer, covering personal relationships, prior advisory services, and fee dependency.
• Update the sponsor’s internal procedures manual to incorporate the SFC’s 2025 Guidelines, including standardised checklists and a Conflict of Interest Register, with annual compliance review.
• Ensure the compliance officer reviews and approves the CPT screening protocol for each application and reports material conflicts to the board and SFC within 5 business days.