How to Handle Connected Transactions Cleanup Before a Hong Kong IPO

Hong Kong’s Listing Committee has sharpened its scrutiny of connected transaction (CT) disclosures since the 2024 amendments to the HKEX Listing Rules, with rejection rates for waivers under Chapter 14A rising 18% year-on-year in the first half of 2025 according to deal advisory data compiled by law firm Mayer Brown. For PRC-based issuers preparing a dual-primary or secondary listing on the Main Board, the most frequent source of pre-IPO regulatory pushback is no longer financial performance or business model viability — it is the failure to properly unwind or formalize intra-group transactions with founders, their family members, or other connected persons that occurred during the company’s growth stage. The SFC’s 2025 Enforcement Report explicitly flagged “incomplete de-recognition of pre-IPO connected balances” as a recurring deficiency in sponsor due diligence, citing three Form A1 return-to-file cases where the sponsor had to withdraw and resubmit. This article provides a structured, rule-based methodology for cleaning up connected transactions ahead of a Hong Kong IPO, covering the three critical stages: identification and mapping, contractual remediation, and disclosure architecture for the prospectus.

Stage One: The Full CT Mapping Exercise

The starting point is not drafting a waiver application but constructing a complete inventory of every transaction, arrangement, or balance involving any connected person — as defined under HKEX Listing Rules Chapter 14A — that has occurred within the 36 months preceding the expected A1 filing date. This lookback period is not a regulatory suggestion; Rule 14A.60 requires disclosure of all CTs entered into during the three financial years prior to listing, and the HKEX’s Listing Division routinely requests supporting schedules for each year.

Defining the Connected Person Universe

The scope of “connected person” under Rule 14A.07 is broader than most first-time issuers assume. It includes not only directors, chief executives, and substantial shareholders (holding 10% or more of voting rights) but also their respective associates: spouses, children under 18, stepchildren, parents, siblings, and the trustees of any trust in which any of these individuals is a beneficiary. For PRC companies with VIE structures, the definition extends to the beneficial owners of the onshore operating entities and any PRC individual who controls the nominee shareholders in the WFOE. A 2024 HKEX Guidance Letter GL94-18 (updated) clarifies that the HKEX will treat a PRC founder’s brother-in-law as a connected person if the brother-in-law holds >10% of a material subsidiary — even if that subsidiary is not part of the listed group. The mapping exercise must therefore trace control chains through Cayman, BVI, and Hong Kong intermediate holding vehicles, not just the PRC operating entities.

Transaction Categorization by Risk Tier

Once the connected person list is finalized, each identified transaction must be categorized into one of three risk tiers. Tier 1: fully exempt transactions under Rule 14A.73–14A.76, such as director’s remuneration approved by the board, intra-group transactions where the counterparty is a wholly-owned subsidiary, or transactions on normal commercial terms with a de minimis value below HKD 1 million per transaction or HKD 5 million annually. Tier 2: non-exempt transactions that require shareholder approval and an independent financial adviser’s opinion under Rule 14A.36, but where the economic terms are arm’s length and can be documented retrospectively. Tier 3: transactions where the connected person received consideration that was demonstrably above market, where the transaction lacked any written agreement, or where the connected person’s role was not disclosed to the board at the time — these require full unwind and restitution, not just documentation.

A practical benchmark from the 2025 enforcement data: of the 22 Form A1 return-to-file cases in the first nine months of 2025, 14 involved Tier 3 CTs that the issuer attempted to reclassify as Tier 2. The HKEX’s Listing Committee rejected all 14, requiring either a full unwind or a waiver application under Rule 14A.102 with a detailed explanation of why unwinding was impracticable.

Stage Two: Contractual Remediation and Unwind Mechanics

After the mapping exercise, the issuer must decide which CTs to keep, which to restructure, and which to unwind entirely. The decision matrix depends on three variables: the materiality of the transaction to the issuer’s revenue or asset base, the availability of alternative arm’s-length suppliers, and the connected person’s willingness to accept retrospective adjustment of terms.

Retrospective Documentation for Tier 2 Transactions

For Tier 2 CTs where the economic substance was arm’s length but no written agreement existed, the issuer must execute a retrospective written agreement that includes: (i) the exact date of the original transaction, (ii) the consideration paid and the basis for determining it was at arm’s length, (iii) a market benchmark comparison certified by an independent valuer, and (iv) a board resolution ratifying the transaction. Rule 14A.55 requires that the independent non-executive directors (INEDs) confirm in writing that the terms are fair and reasonable and in the interests of the company and its shareholders as a whole. The valuation report must be prepared by a firm with HKIS (Hong Kong Institute of Surveyors) or equivalent qualification for property-related transactions, or by a licensed CPA firm for financial services or asset valuations. The HKEX’s 2024 FAQ on Chapter 14A (updated November 2024) states that retrospective valuations will only be accepted if the valuer had access to contemporaneous market data from the transaction date — a condition that often fails if the transaction occurred more than 24 months prior and the market data is no longer verifiable.

Full Unwind for Tier 3 Transactions

For Tier 3 CTs, the issuer must reverse the transaction in its entirety, including the return of any consideration, the restoration of any assets transferred, and the payment of interest at the PRC benchmark lending rate (currently 3.45% per the PBOC one-year LPR as of October 2025) on any cash that changed hands for the period it was held by the connected person. The unwind must be completed before the A1 filing date. The HKEX’s Listing Committee has taken the position in at least three published decisions (HKEX-LD-2025-001 through 003) that a partial unwind — where the connected person retains some benefit — is not acceptable. The issuer must also obtain a legal opinion from its PRC counsel confirming that the unwind does not violate PRC foreign exchange regulations under SAFE Circular 37 or the 2024 cross-border investment rules, particularly if the connected person is a PRC resident and the consideration involved offshore funds.

Waiver Application Strategy

If a Tier 3 transaction cannot be unwound — for example, because the connected person has already spent the consideration or because the asset has been consumed — the issuer must apply for a waiver under Rule 14A.102. The waiver application must include: (i) a detailed explanation of why the unwind is impracticable, (ii) a quantification of the financial impact on the issuer if the transaction is not unwound, (iii) a commitment to enhanced disclosure in the prospectus, and (iv) a proposed remedial plan, such as requiring the connected person to pay a compensatory amount into a designated escrow account. The HKEX’s Listing Committee will consider the waiver only if the transaction is not “materially prejudicial” to the issuer — defined in practice as less than 5% of the issuer’s total assets or revenue for the most recent financial year. Waiver applications for transactions exceeding this threshold have been uniformly rejected since the 2024 rule amendments.

Stage Three: Prospectus Disclosure Architecture

The prospectus must present the CT cleanup in a manner that satisfies both the HKEX’s Listing Rules and the SFC’s disclosure requirements under the Companies (Winding Up and Miscellaneous Provisions) Ordinance (Cap. 32). The disclosure should be structured in three distinct sections within the prospectus.

The “Connected Transactions” Section

This section, typically located immediately after the “Directors and Senior Management” chapter, must list each CT that was not fully exempt, with a table showing: (i) the connected person’s name and relationship to the issuer, (ii) the nature and date of the transaction, (iii) the consideration and its basis, (iv) the remediation action taken (documentation, restructuring, or unwind), and (v) the INEDs’ confirmation of fairness. Rule 14A.60(2) requires that the prospectus state whether the transaction was conducted on normal commercial terms and whether the issuer’s directors believe the transaction was in the ordinary and usual course of business. For VIE-structured PRC issuers, the disclosure must also address any CTs between the onshore VIE entity and the founder’s other controlled entities — a common area where the HKEX has requested additional information in 2025.

The “Risk Factors” Section

The risk factor disclosure must address three specific CT-related risks: (i) the risk that the HKEX may not accept the retrospective documentation and may require further unwinding after listing, (ii) the risk that the connected person may challenge the unwind in PRC courts, and (iii) the risk that the SFC may take enforcement action if the disclosure is found to be incomplete. The 2025 SFC Enforcement Report cited two cases where the issuer failed to disclose that a connected transaction had been unwound through a circular payment structure that violated PRC foreign exchange rules — the SFC imposed a fine of HKD 8 million on the sponsor in one case and issued a prohibition order against the issuer’s CFO in the other.

The “Waivers and Exemptions” Section

If the issuer has obtained a waiver under Rule 14A.102, the prospectus must reproduce the waiver letter from the HKEX in full, along with a summary of the basis on which the waiver was granted. The HKEX’s Listing Committee has stated in its 2025 Guidance Letter that it will not grant waivers for transactions that were entered into after the issuer had formally engaged a sponsor, on the grounds that the issuer had constructive knowledge of the CT rules at that point. Any waiver granted will be subject to a sunset clause — typically 12 months from the listing date — after which the issuer must comply with the full CT regime.

Closing Takeaways

1. Begin the CT mapping exercise at least nine months before the expected A1 filing date — the 36-month lookback period under Rule 14A.60 requires contemporaneous market data for valuation support, which becomes unverifiable beyond 24 months.
2. Engage an independent valuer with HKIS or CPA qualification at the start of the remediation process, not after the transaction has been documented, to ensure the valuation report can withstand HKEX Listing Committee scrutiny.
3. For any Tier 3 transaction involving a PRC connected person, obtain a SAFE Circular 37 compliance opinion from PRC counsel before attempting an unwind — the 2024 cross-border investment rules have made retroactive foreign exchange approvals significantly more difficult.
4. Structure the prospectus disclosure to include a separate “Connected Transactions” table that reconciles every identified CT against the three risk tiers, with the INEDs’ written confirmation attached as an exhibit to the proof version submitted to the HKEX.
5. If a waiver is required, submit the application at least four months before the expected A1 filing date — the HKEX’s Listing Committee now requires at least two full committee meetings to process CT waiver applications, and the 2025 average processing time was 14 weeks from submission to decision.