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27/06/2013 | Sourajit Aiyer
The issue of offering small companies in emerging markets access to finance is a thorny
one. But well-executed SME exchanges could be the answer
Small and medium size enterprises (SMEs) are a major driver of economic activity, in developed
and emerging markets alike.
In India, for instance, SMEs not only provide key inputs to Indian industry but are also estimated to
contribute a substantial portion of gross domestic product and are among the largest employers in
the country.
But raising capital remains a key challenge for them. While bank credit and capital markets both
play a pivotal role as capital sources for the SMEs in some of the developed markets, those in the
emerging markets are still heavily dependent on the banking sector for capital. Even there, lenders
prefer larger-sized clients to smaller companies due to risk perceptions.
Bond issuances have generally been seen to be more successful if done by large companies, as
compared to the smaller companies. In terms of equity capital, most of the smaller firms may find it
difficult to garner equity financing on the main exchanges.
Given this scenario over funding sources coupled with SMEs’ inherent importance for economic
growth, an SME stock exchange is believed by many to give a boost to their finance raising needs.
Such a financing platform would attract early-stage, growth investment firms, who may get a niche
platform to analyze and invest in the next generation of blue chips.
Looking at the Indian scenario, while the recent steps of the main equity bourses to launch SME
exchange platforms are positive moves, the long-term success of the venture will largely depend on
its format and execution – which faces some challenges.
DIVERSE SECTORS
Firstly, this platform will need to bring together the Indian SME universe, which is very diverse in
terms of sectors and segments. Investors will need to study research reports on these companies
and shares listed on smaller exchanges are often less researched.
The ability of major sell-side intermediaries and buy-side fund managers to ensure regular delivery
of research insights on such a diverse sector universe is a challenge, given the specific skill-sets
and knowledge that each sector demands.
Moreover, corporate
governance practices and
disclosures need to be
followed in a standardized
manner across the universe;
otherwise it will make the
process of stock selection
challenging.
The success of the main equity exchange platforms has traditionally been in stocks with high
liquidity. These are the stocks that are constantly on the radar of investors, both domestic and
foreign.
As a result, not all listed stocks are traded actively. In fact, most of the shares with lower trading
volumes on the main exchanges are actually the smaller companies, which struggle to garner
investor interest.
During periods of broad-based market rally, there is still some interest that flows down to the
smaller mid-caps and small-caps following the initial rally in the large-caps. But during periods of
market downturn, these smaller companies struggle to generate investor interest.
Periods of market downturn also render primary market activity sluggish, which impacts the success
of the exchange platform.
Globally, SME exchange platforms have seen mixed response. Most of the SME exchanges are
part of the larger exchange organizations, similar to the Indian scenario. Most of the global
platforms have targeted either niche segments, or have offered attractive terms and requirements.
MEETING THE CHALLENGE
Some global examples are UK’s AIM, which maintained flexible requirements like no minimum
listing size and trading in any freely available currency, Japan’s Jasdaq which targeted only small
technology stocks, USA’s Nasdaq First North for small, young and growth companies, Tokyo
Exchange’s Mothers, a market for high-growth and emerging stocks which provides venture
companies access to funds at an early stage of their development.
There is also London’s PLUS Markets which aims to create a deep pool of small and mid-cap
liquidity in Europe, Toronto Stock Exchange’s TSX Venture Exchange which provides access to
public venture capital to facilitate growth for new ventures, Johannesburg Stock Exchange’s
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Page 1 of 2These new stock exchanges could boost EM | Emerging Markets
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Copyright © Euromoney Institutional Investor PLC 2010. All rights reserved.
Why India's insurance sector should
open more to foreigners
For markets and economic growth,
September is crucial
Is China's credit bubble beginning to
burst?
Fears
that
opening up the sector more could lead to capital
outflows are exaggerated. Instead, India's
insurance sector would benefit from more
foreign investment
Emerging markets have become a big part of
the global economy. Can developed markets
compensate for their falling growth?
China's liquidity squeeze has rattled financial
markets. Despite PBOC reassurance, some
analysts fear that a credit burst is on the cards
The most (and least) exposed
advanced markets to EM ...
A port in the emerging markets storm
China
and
other
big emerging economies are slowing down; this
will hit some developed markets more than
others
One
emerging market has escaped the capital
outflows that have affected the rest of its peers,
a strategist at ING says
Alternative Exchange, a parallel market focused on good quality small and medium sized high
growth companies, and Hong Kong’s Growth Enterprise Market, which offers growth enterprises an
avenue to raise capital and investors an alternative investment in high growth-high risk businesses.
To address the challenges, the new SME exchange platforms being launched may need to target
and identify high growth sectors and companies and ensure those stocks get listed on its platform.
Increasing research coverage into these companies’ growth story to attract retail interest and small-
sized investment firms would be a key enabler in generating interest, activity and liquidity.
Expanding research coverage will enable transparency, information access, and understanding on
a larger universe of stocks and help showcase companies with strong business performance and
corporate governance. This could, in turn, help investors identify value-picks from amongst the mid
and small cap universe and help them participate in these companies with much greater conviction.
On the distribution side, the key for sell-side intermediaries would be to identify and target niche
pockets of liquidity for this segment. Improving corporate governance and adherence to good
governance principles would prevent fraud, and it is critical to identify those who score highest on
corporate governance practices, including audited accounts disclosure, annual management
statements and enterprise policy statements.
SMEs may bring in further professional management and independent board members who can
utilize their experience and talent to take those companies on a higher growth trajectory, and
exchanges may target such ‘professionally-driven’ companies to list on their platforms.
The transaction costs involved should be kept at reasonable levels to act as an incentive.
Lastly, the launch timing is dependent on the existing market conditions, so the companies will need
to time them right. Access to capital at the right time to a growth company can reap rewards.
However, addressing the challenges should take priority, in order to build the long-term reputation,
trust and participation.
- The author works with a leading capital markets company in India. The views expressed are
entirely personal and may not represent those of the company. This article is meant for information
purposes only, and does not construe to be any investment advice or solicitation for any financial
instrument. Any action taken on the basis of the information contained herein is your responsibility
alone.
- Follow us on twitter @emrgingmarkets
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Page 2 of 2These new stock exchanges could boost EM | Emerging Markets
10/5/2013http://www.emergingmarkets.org/Article/3224229/Search/Results/These-new-stock-ex...