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Case Profile

Secret Assignment

Few cities better fit the description of a financial centre than Hong Kong. Today it is rightly seen as a model of the business level playing field, envied both for its rule of law and well regulated financial sector. But up until the late 1980s, this was not necessarily the case at the city’s stock market.

When the Stock Exchange of Hong Kong (SEHK) was established in April 1986, it was hailed as a milestone in the development of the city’s finance and securities industry. The new entity merged the city’s four exchanges into one, with all transactions carried out under a single roof. Before long, rumours however began circulating that companies seeking a listing on the Exchange first had to make “special arrangements” with some SEHK executives. The ICAC received similar intelligence.

In February 1987, the then Director of Operations G. E. Stockwell quietly instructed Chief Investigator Peter Gregory to independently verify these rumours to see if they indicated possible corruption at the SEHK. The strictly confidential assignment was a hot potato: influential figures in the securities industry were implicated. At the time, only Stockwell, Gregory and ICAC Commissioner Geoffrey Barnes knew of the investigation.

Apart from being a sensitive task, it was a complex one for someone without a background in financial markets. Undaunted, Gregory set about tracing the share allocations of suspected companies when they were listed and doing background searches on certain individuals in the SEHK. After six months, a picture began to emerge. Gregory was convinced that the listing system of SEHK was flawed and that several executives might have violated the Prevention of Bribery Ordinance (PBO) by accepting advantages for approving listings of companies. In his report to the Director of Operations, Gregory recommended a formal investigation.

Birth of the Stock Exchange of Hong Kong

Birth of the Stock Exchange of Hong Kong

Hong Kong is a business city where stocks of public companies and other commodities have been traded on various exchanges since the mid-19th Century. By 1972, four stock exchanges were trading in the city. Not surprisingly, there were growing calls from traders to unify the exchanges, who believed a merger would strengthen market regulation, ensure fair trade and protect the interests of investors. On 2 April 1986, the SEHK opened its doors for trading and the era of separate exchanges ended.

The SEHK was owned by its Members - stockbrokers who owned "seats" on the Exchange. It was governed by a General Committee of 21 members, including a Chairman and five Vice-Chairmen. All committee members had to be SEHK members and were responsible for formulating policies, making major decisions and overseeing the overall operation of the Exchange, while the Chief Executive was responsible for the execution of policies and the day-to-day operations.

The SEHK operated until June 2000 when it merged with the Hong Kong Futures Exchange Ltd and the Hong Kong Securities Clearing Company Ltd to form a single holding company, the Hong Kong Exchanges and Clearing Ltd (HKEx). It, too, became a publicly listed company.

The Task Force Swings into Action

After reading Gregory’s report, Commissioner Barnes and Director of Operations Stockwell immediately briefed Governor David Wilson. On 14 October 1987, five days before Black Monday, a case file was formally opened. A fifth investigation branch, comprising Assistant Director Roger Batty and eight investigators, was set up especially to deal with the case.

Members and Duties of the Task Force

Black Monday

The US stock market plunge on Monday, 19 October 1987 sparked off a worldwide stock market slide. In Hong Kong, panic sale of stocks plummeted the Hang Seng Index by 420 points, or 11 per cent in one trading day. Rather than open the market the following day, the SEHK decided to suspend trading for four days to clear a massive backlog of transactions

The measure was criticised by some people in the industry at the time. The main fear among the financial community was that the closure would trigger a stampede of sellers when the market re-opened. As anticipated, when the market re-opened on Monday, 26 October, the Hang Seng Index went into free fall, closing at 2241.69 points, a drop of 1120.7 points or 33 per cent. It was the greatest slide in the history of Hang Seng Index. Commissioner Barnes felt the newly established Task Force should move quickly to crack the case and dispel any remaining uncertainty to help the market regain its composure. For the Task Force, there wasn’t a minute to waste.

Change of Hang Seng Index before and after the Stock Market Crash
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Because of 19 October, the then Governor made it very clear that something had to be done as quickly as possible because if we were right, it had to be done quickly. Hong Kong had just been involved in a major worldwide stock exchange crash, and closed the stock market for four days. Hong Kong couldn’t afford another major set-back from the stock market.

A Memo Turned Damning Evidence

The investigation began quietly amid the gloom of the global stock market crash. As Task Force investigators sifted through the evidence a major breakthrough came from an unsuspected source.

Among the pile of documents was a hand-written memo that clearly recorded how the departing SEHK Chairman and some individuals had distributed among themselves preferential shares allocated by companies applying for listing. Furthermore, the handwriting belonged to the head of the Listing Division of the SEHK. Gregory explained: “Although we had already gathered crucial evidence, we still needed to find witnesses who were ready and able to expose the hidden graft.” With the Listing Manager’s notes in their possession, it appeared investigators had their most important witness as well - as long as he could be persuaded to cooperate.

At this stage, the investigation was still being conducted covertly. Investigators had to overcome extra obstacles to obtain any information that might be relevant to company listing applications and share allocations. Even for Gregory, a seasoned investigator, the evidence collection was extremely difficult. By the time they had found the crucial memo, the Task Force had been working hard, often through the night, for two months.

Dividing the Spoils

The process of becoming a listed company is complicated, time consuming and incurs heavy professional fees. As most private companies lack the necessary experience, they usually appoint specialists such as financial consultants, lawyers, accountants, and merchant banks or underwriters to handle the procedures.

At the SEHK, all listing applications were vetted by the Listing Division, then re-examined and endorsed by the Listing Committee and finally approved by the General Committee. The Chairman and Vice-chairmen who sat on the General Committee were also the ex-officio of the Listing Committee. Investigators found that in the time the SEHK had been operating, the Chairman had solicited preferential share allocations from companies applying to be listed. The shares were distributed among the Committee Members who participated in the arrangement in proportion to their seniority in SEHK. This secret arrangement was euphemistically referred to in the trade as “biscuit-sharing”.

The Process of Becoming a Listed Company Corruption Scam

Buy Low, Sell High

At the opening of the trial, the prosecutor pointed out that many financial consultants and sub-underwriters were under pressure to allot preferential shares to the Listing Committee. Senior Chief Executive of SEHK Robert Fell told the court that he had been very concerned about the allocation of shares to Committee Members who had the authority to approve listing applications. He added that he had privately discussed this arrangement with the former Chairman, who was also Convenor of the Listing Committee. The former Chairman had not disclosed at that time that he had also received such share allocations. Another witness, a senior executive of a merchant bank, said that during the time of his client’s listing application the former Chairman had phoned him asking for a preferential allocation of shares. He agreed to the request after discussing the matter with his superior.

The investigation also uncovered another “feature” in the application process. Since the Committee had the power to negotiate the listing share price with the applicant during the vetting process, Committee Members might contrive to suppress the price before obtaining preferential shares. And when the company was formally listed and share price surged, they could cash in their shares for handsome profits.

The Locked-on Target

The Task Force had a particular interest in the Listing Manager, the officer responsible for vetting and analysing listing applications before making his recommendations to the Listing Committee. The Listing Manager was a man in his early 30s with comparatively less experience than the other Committee Members. Yet he appeared to wield power and influence that was not commensurate with his qualifications. How did he come to hold such a privileged position? What role did he play in the case? Why was he responsible for recording all the share allocation arrangements?

“We had to make good use of this witness if we were to crack this case,” Gregory says. “We were sure he could provide strong evidence.”

With the help of the London Stock Exchange, the Listing Manager was invited to attend a two-week study tour in London. Such an arrangement would allow investigators to gather more evidence without attracting unwanted attention in Hong Kong.

But before they could lure their target, investigators had to find out more about him. They quickly discovered he was a man of routine. After work he usually caught the MTR from Central and changed to KCR at Kowloon Tong. Every Saturday he would have lunch with his wife after work and go home together. The Task Force planned to intercept the target on his way home on Saturday (14 December), the day before he left for London. He would be taken directly to the ICAC offices. ICAC investigators would accompany him to London where they could collect evidence from him without interference.

An Unexpected Diversion

On the morning of 14 December, the target arrived at work as usual. As planned, three Task Force teams were stationed at strategic points for the operation.

So far, so good. At noon, the target left his office on time and met his wife in Central. But instead of taking their usual route home, they took their time and shopped for clothes in Central. Team A officers followed at a distance and kept the other teams informed of their movements from time to time. In the circumstances they could only maintain their posts and wait patiently. As evening drew near, the target and his wife were still strolling in Central showing no intention whatsoever of going home.

“We didn’t expect they would go this way,” admits Gregory, who was in Team C. “But as I thought deeper, I realized why they didn’t return home as usual. It was mid-December, so they had to buy cold weather clothing before they set off for London. I waited outside the MTR station for a very long time and worried that we would run out of time. We finally decided to change tactics: Team B and C would take up the support role and I would, on the other hand, rush back to Central and try to approach the target as soon as possible, according to the information furnished by Team A.”

The Map

A Major Breakthrough

Gregory waited for his chance. As the target left the department store, he showed up, identified himself and invited the couple to accompany him to the ICAC offices in Wan Chai. Now it would be up to the team to persuade the Listing Manager to cooperate.

“The manager didn’t agree that allotting shares to Committee Members was a corrupt act. He felt that, as an employee of the SEHK, he was only carrying out a duty assigned by his superiors,” Gregory recalls.

“He had to be convinced that the ‘biscuit-sharing’ practice was illegal. The persons responsible for approving the listing applications accepted preferential allocation of shares as a reward, which would have been counted as corruption. We also had strong evidence that he was also involved in the distribution of shares and hoped he would turn a tainted witness to testify against the others.” After serious discussion with his wife, the Listing Manager agreed to assist.

Accompanied by Gregory and a female ICAC officer, the Listing Manager and his wife made their way to London in mid-December 1987. Gregory had prepared himself well for the trip: he had compiled a large volume of notes as the blueprint for questioning, including the suspects’ identities, business networks, information on companies owned by them and their alleged corrupt acts.

Gregory and the manager talked at length each day during the two-week trip. The manager admitted to a number of share allocation incidents which closely matched with the investigative results. As anticipated, the cooperation of the Listing Manager was quickly proving to be a major breakthrough. Back in Hong Kong, other team members led by Assistant Director Roger Batty were preparing for final push.

To preserve the secrecy of the mission, the Listing Manager was told not to report to work when he returned from London. Instead, on 29 December the couple were met at the Kai Tak Airport and immediately escorted to the HK-Macau Ferry Pier for a short stay in the Portuguese enclave.

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The objective of the exercise in London was for me to go through the copy that we had, for him to explain about the listings, about the allocation shares, how they get the allocation in the Stock Exchange, the proportion among the Committee Members, by whom and with whose authority.

Action at Dawn

At dawn on Saturday, 2 January 1988, the Task Force made its move. Split into two teams, one led by Assistant Director Roger Batty headed for the former Chairman’s residence. The other, led by Principal Investigator Robert Field, set out for the home of another SEHK official. Both men appeared calm as they were arrested, requesting only time for a change of clothes before leaving with the ICAC officers.

The Listing Manager, now the prosecution’s secret witness, was met at the ferry pier on his return from Macau and escorted to the ICAC Headquarters.

Meanwhile, under an arrangement with the ICAC Commissioner, the SEHK General Committee announced after the arrests that its Chairman, four Vice Chairmen (including the arrested former Chairman) and two Committee Members would distance themselves from the business of the exchange while the ICAC was carrying out its investigations.

Financial Secretary Piers Jacobs announced that afternoon:

“The Government suggested to the SEHK that some of the Committee Members should distance themselves from its operations until the conclusion of the ICAC’s investigations. It was resolved in the SEHK committee meeting held this morning that the powers of the Committee was to be delivered to the newly-established General Committee until further notice, and that Mr Robert Fell was to exercise the powers as a principal executive under the Articles and Memorandum of Association of the SEHK.”

At the same time, Commissioner Barnes made another bold move. Using his powers under Section 30 (2) of the Prevention of Bribery Ordinance, he identified those arrested before they had been formally charged. The measure, while criticised by some, was intended to quell speculation and rumors that might affect the market when it reopened after the holidays. Of all the circulating rumours, one said the ICAC probe was launched in reaction to the October stock market crash. Few had any inkling that the investigation started eight months before the Black Monday.

“We chose 2 January to make the arrests to reduce any impact on the market,” Gregory explains. “All transactions before the New Year holiday should have been concluded by that time and, since the stock market was closed that day, we believed the shock brought about by the arrests would have subsided by Monday.” It was a well reasoned guess: the market opened the following Monday with a slight drop of only 16 points.

Sifting the Paper Mountain

Straight after the arrests, Gregory led a team of 30 investigators to search all floors of the SEHK. Thousands of documents including information about companies applying for listings and the minutes of Listing Committee meetings were seized in the 10-hour operation.

Investigator Henley Tsun recalls the sheer size of the task: “The number of companies applying for listing was enormous and the listing procedures were extremely complicated. It was impossible for the original nine-man Task Force to handle such huge amount of work.” At one point, 50 investigators were helping collect evidence.

The investigation discovered that more than 150 companies had applied for listing. “We had to conduct in-depth analysis of all these firms,” says Gregory, “their backgrounds, scopes of business, capital status, shareholders’ identities, everything.”

Sheets of drafting paper were pinned to the walls around the office. Relationships between the company directors were then outlined graphically to trace business transactions or transfers of funds to help identify suspects in the case.

“We interviewed about 1,000 people,” says Gregory, “including shareholders, directors, financial controllers, financial consultants, sub-underwriters - anyone involved in the listing process. Hundreds of statements were taken. We then had to meticulously analyse all the materials collected and deduce the most relevant information to be used as prosecuting evidence.”

Suspects Charged and Bailed for Millions

Two weeks after his arrest, the former Chairman was formally charged with illegally accepting preferentially-allotted shares from a construction company as a reward for giving the company permission to issue new shares. As a tainted witness, the Listing Manager was exempt from prosecution.

The ICAC subsequently arrested seven other suspects. Including one arrested earlier, they were charged with PBO offences that included soliciting and accepting illegal advantages or of aiding and abetting others to accept these illegal advantages.

The former Chairman was granted bail of $5 million in cash and the same amount in surety, a record amount in Hong Kong.

Under normal circumstances, the court keeps bail money received in a specific account until the trial ends. If the bail applicant is acquitted, the bail money already paid by him is returned in full. If found guilty, the bail money may be used to offset any fines imposed on him.

As the amount of cash bail involved in this case was huge and it was difficult to predict how long the trial would last, the former Chairman applied to the court to transfer the bail money into interest-bearing accounts. The court approved his applications after careful consideration. This was the first case in which interest was earned from bail money.

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