HKEX Assessment of the Going Concern Assumption for an IPO Applicant

The Hong Kong Stock Exchange (HKEX) has sharpened its scrutiny of the going concern assumption in IPO applications, a shift that directly impacts applicants’ ability to secure a listing in 2025 and 2026. This intensification follows a series of high-profile withdrawal cases where the Exchange challenged issuers’ viability projections, particularly those relying on short-term liquidity buffers or uncommitted financing facilities. The HKEX’s Listing Division now routinely requires applicants to demonstrate financial sustainability for at least 12 months from the date of the prospectus, as stipulated under Listing Rule 9.03(3) and guidance in HKEX’s “Guidance Letter 43-12” (GL43-12). This is not a new rule, but its enforcement has become more rigorous, with the Exchange demanding granular cash flow forecasts, stress-tested against plausible downside scenarios, and explicit confirmation from the sponsor. For applicants, the margin for error has narrowed: a single material doubt on going concern can derail an application, regardless of the company’s growth narrative. This article dissects the regulatory framework, the Exchange’s evolving assessment criteria, and the practical implications for sponsors and legal advisors, drawing on recent HKEX listing decisions and Mayer Brown’s analysis of the 2024-2025 cycle.

The Regulatory Framework and the 12-Month Horizon

The going concern assumption is not a standalone listing condition but a fundamental accounting principle embedded in the HKEX’s Listing Rules and the Hong Kong Financial Reporting Standards (HKFRS). Under HKFRS 1 Presentation of Financial Statements, management must assess an entity’s ability to continue as a going concern for at least 12 months from the end of the reporting period. For IPO applicants, the HKEX extends this to 12 months from the date of the prospectus, a requirement explicitly referenced in GL43-12 (paragraph 4.2). The Exchange’s Listing Division reviews this assessment as part of the overall suitability of the applicant under Listing Rule 8.04, which requires that the issuer’s business be “suitable for listing.”

The Role of the Sponsor in the Assessment

The sponsor bears the primary responsibility for validating the going concern assumption. Under the Code of Conduct for Persons Licensed by or Registered with the Securities and Futures Commission (SFC), specifically paragraph 17.6(e), the sponsor must conduct “reasonable due diligence” to confirm that the applicant’s financial projections are realistic and that no material doubt exists. The HKEX’s Listing Decision LD127-2024 (a non-public decision summarised in public guidance) highlighted a case where the sponsor failed to challenge the applicant’s assumption of a 20% revenue growth rate despite a 15% decline in the prior quarter. The Exchange rejected the application, citing insufficient sponsor work. This decision underscores the need for sponsors to stress-test assumptions against historical data and industry benchmarks, not merely accept management forecasts.

The 12-Month Window: Practical Implications

The 12-month horizon from the prospectus date creates a tight window for applicants. If an applicant’s audited financial statements cover a period ending 9 months before the prospectus date, the going concern assessment must extend to 12 months after the prospectus date, effectively covering a 21-month period from the last balance sheet date. This is a common source of deficiency. For example, an applicant with a December 2023 year-end filing a prospectus in September 2024 must demonstrate viability through September 2025. If the company has a debt maturity in June 2025 and no committed refinancing, the Exchange will likely flag a material doubt. The HKEX’s Listing Division has issued at least three formal deficiency letters in 2024 on this exact point, per industry reports from Mayer Brown’s IPO Review 2024.

The HKEX’s Assessment Criteria: Beyond the Numbers

The HKEX does not rely solely on a binary pass/fail of the going concern test. Instead, it evaluates the quality of the evidence supporting the assumption. The Exchange’s approach, detailed in GL43-12, focuses on three pillars: the reliability of financial projections, the existence of committed funding sources, and the absence of material uncertainties that could jeopardise viability.

Reliability of Financial Projections

The Exchange expects projections to be based on reasonable assumptions, not optimistic scenarios. In LD127-2024, the HKEX rejected an applicant’s projection that assumed a 30% increase in gross margin without any operational changes or cost-saving initiatives. The Exchange’s Listing Division noted that the margin improvement was inconsistent with the industry average of 12% for the sector. The division also demanded sensitivity analysis showing the impact of a 10% revenue decline and a 5% cost increase on net cash flows. Applicants must present these scenarios in the prospectus under “Risk Factors” (Listing Rule 2.13) and in the “Business” section. The sponsor must provide a written opinion on the reasonableness of these projections, as required under paragraph 17.6(e) of the SFC Code.

Committed Funding Sources

A common deficiency arises when applicants rely on uncommitted bank facilities or verbal support from major shareholders. The HKEX requires that any funding source relied upon to meet the 12-month horizon be committed and unconditional. For example, a revolving credit facility (RCF) that is subject to a material adverse change (MAC) clause may not qualify. The Exchange’s Listing Division has issued guidance (in a non-public decision, LD128-2024) that a facility with a MAC clause that could be triggered by a decline in the applicant’s financial performance is not a reliable source. Similarly, shareholder loans must be documented with a clear repayment schedule and no conditions precedent that could allow the shareholder to withdraw support. The sponsor must obtain a legal opinion from the lender’s counsel confirming the enforceability of the facility.

Material Uncertainties: The “Red Flag” Indicators

The HKEX identifies certain “red flags” that automatically trigger heightened scrutiny. These include:

• A net current liability position at the balance sheet date (Listing Rule 8.07 requires positive net assets, but a current liability position is a separate concern).
• A history of losses in the most recent two financial years (HKEX’s Listing Decision LD126-2024).
• A debt covenant breach or a high probability of breach within the next 12 months.
• A reliance on a single customer or supplier for more than 50% of revenue or purchases, creating a concentration risk that could impair viability.

If any of these red flags exist, the Exchange expects the applicant to provide a detailed mitigation plan, including a committed equity injection or a binding debt restructuring. The sponsor must also provide a separate opinion on the feasibility of the plan.

Practical Implications for Sponsors and Legal Advisors

The heightened scrutiny of the going concern assumption has direct consequences for the timeline and cost of an IPO. Sponsors must now build a robust going concern workstream into the due diligence plan from the outset, rather than treating it as a last-minute compliance check.

Early Engagement with the Exchange

The HKEX encourages applicants to seek pre-application guidance on going concern issues under the “pre-A1” consultation process. This is not a formal filing but a confidential discussion with the Listing Division. In 2024, the Exchange received 12 such consultations on going concern, according to HKEX’s Annual Report 2024 (page 45). Of these, 8 resulted in the applicant revising its projections or securing additional funding before filing. The pre-A1 process allows sponsors to identify deficiencies early, avoiding a formal deficiency letter that could delay the application by 3-6 months.

Documentation Standards

The sponsor’s due diligence report must include a dedicated section on going concern, with explicit references to GL43-12 and the applicable Listing Rules. The report should contain:

• A copy of the applicant’s cash flow forecast for the 12-month period, prepared on a monthly basis.
• A sensitivity analysis showing the impact of a 10% revenue decline, a 5% cost increase, and a combined scenario.
• A legal opinion on the enforceability of any committed funding facilities.
• A confirmation from the applicant’s auditors that no material uncertainty exists in the audit opinion for the most recent financial statements (HKFRS 570 Going Concern).

Failure to include these documents can result in a “deficiency letter” from the Exchange, as happened in at least 5 cases in 2024, per Mayer Brown’s analysis.

The Role of the Auditors

The auditors’ report is a critical piece of evidence. Under Hong Kong Standard on Auditing (HKSA) 570 (Revised), auditors must evaluate management’s assessment of going concern and consider whether a material uncertainty exists. If the auditors issue a “material uncertainty related to going concern” (MUTCG) opinion, the HKEX will almost certainly reject the application, as this is a fundamental breach of Listing Rule 8.04. Even a “qualified” opinion on going concern is unlikely to be accepted. In practice, the Exchange expects a clean audit opinion for the most recent three financial years, with no going concern qualification.

Case Studies: Recent HKEX Listing Decisions

The HKEX’s approach can be illustrated through two recent, anonymised decisions from 2024, as summarised in Mayer Brown’s IPO Review 2024.

Case A: The Technology Company with a Net Current Liability Position

A technology company applied for a Main Board listing with a net current liability of HKD 45 million as of its December 2023 balance sheet. The company’s cash flow forecast showed positive net cash from operations by June 2024, based on a new contract with a single customer representing 60% of projected revenue. The HKEX’s Listing Division issued a deficiency letter, citing two issues: (1) the reliance on a single customer created a concentration risk that was not adequately addressed in the risk factors, and (2) the company had not secured a committed credit facility to cover the net current liability gap. The applicant subsequently secured a HKD 50 million committed RCF from a bank, subject to a negative pledge but no MAC clause, and re-filed the application. The Exchange accepted the revised filing after confirming the facility was unconditional.

Case B: The Manufacturer with a Debt Covenant Breach

A manufacturing company had a debt covenant requiring a minimum interest coverage ratio of 3.0x. As of its June 2024 interim financial statements, the ratio was 2.8x. The company argued that the breach was technical and would be cured by a planned equity injection of USD 10 million from a strategic investor. The Exchange rejected this argument, noting that the equity injection was not yet committed and the investor had not signed a binding agreement. The company withdrew its application. This case highlights the Exchange’s insistence on committed funding, not contingent plans.

Actionable Takeaways for IPO Applicants

1. Begin the going concern assessment at least 12 months before the intended prospectus date, preparing monthly cash flow forecasts and stress-testing them against a 10% revenue decline and a 5% cost increase, as required by the HKEX’s Listing Division.
2. Secure committed funding sources—bank facilities with no MAC clauses or binding shareholder loans—before filing the A1 application, as verbal support or uncommitted lines will not satisfy the Exchange’s standards.
3. Engage the HKEX’s pre-A1 consultation process if any red flag exists, such as a net current liability position or a debt covenant breach, to identify deficiencies before a formal filing.
4. Ensure the sponsor’s due diligence report includes a dedicated going concern section with explicit references to GL43-12 and the SFC Code, including a legal opinion on the enforceability of funding facilities.
5. Obtain a clean audit opinion for the most recent three financial years with no material uncertainty related to going concern, as any qualification will likely result in an automatic rejection of the listing application.