Financial Express
Posted online: Friday , July 04, 2008 at 21:14 hrs
Is “profit” a dirty word? If you don’t go by the Marxian definition, the answer is negative. Last year, there was a paradigm shift in the way the stock exchanges in India looked at the word “profit”. From being pure play SROs, they have now become “for profit” organisations after the demutualisation exercise.
The exchanges also known as companies, limited by guarantee so far, have converted them into companies limited by shares. Shares were issued to the trading members and then to outside investors.
In Jiddu Krishnamurthy’s parlance, the typical inner conflict of the “regulated being the regulator” got resolved and the exchanges need not necessarily be called SROs hereafter, as the “self” (the brokers) is restricted to only 25% in board representations and less than 49% in the shareholding of the exchanges.
The demutualisation process is not complete — in the true sense – unless the ownership of the exchanges is really broad-based, apart from having a core promoter group (CPG). The CPG is insisted upon even in the case of membership to premium exchanges and this ensures accountability.
This is the case with most of the successful business organisations today.
To take care of this, the ownership by a single entity/persons was restricted to 5%, whereby the exchanges will have at least 20 investors.
If we take a close look at the exchanges demutalised last year, they have a handful of new investors ranging from 20 or 25 to 49, as there may be a possible technical hurdle of a public issue, if the number of investors cross 50. In the strict sense, these people may be called angel investors or PEs, who are invested in these exchanges with varying motives, barring a few exceptions.
Some might have invested with the motive of developing these exchanges and bringing in value addition with their experience and expertise. This has happened in the case of the leading stock exchanges in India. But a few others have invested with a view to build value, leverage the licence and other hidden assets, and exit later. But they are in a quandary.
Now, the moot question is, how do they exit these illiquid investments? The choices before them today are very limited. They are illiquid today because they are held by only a few investors and there is no mechanism to trade in these shares. There is a need for listing these securities not only to provide liquidity but also to encourage more investments into this highly technology-driven sector.
Forget about the viability. It is extremely difficult to create infrastructure and start an exchange today due to various constraints. In a country where less than 1% of the population invests in equity, there is a lot of scope for the development of capital markets.
For the existing stock exchanges to flourish and prosper, they need big investments in technology and human resources.
Thanks to the IT sector and other sunrise industries, human capital has become expensive. Technology, though not as expensive as it used to be, needs constant upgradation. This involves higher revenue expenditure as well. Exchanges need these resources to design and launch new products and be competitive. How do you raise these resources?
Listing or self listing of the shares of these exchanges will provide liquidity to investors. The possibility of easy entry and exit in these investments will give investors a sense of security and a better comfort level. This in turn will ensure the possibility of more investments coming from retail investors as well. Raising capital becomes comparatively easy for the exchanges to upgrade themselves, for expansion activities, and to ensure healthy growth.
Is listing required only for raising further capital from the market? Or is it to provide an exit route for present shareholders? Not really. The broader issues are addressed better when listing takes place. It paves the way for more transparency in the affairs of the exchanges, it ensures good corporate governance, it improves operational efficiency, and brings in accountability to a larger audience than at present. The listing ensures better price discovery more methodically and the investor community benefits at large.
Now, the next question is whether to allow these exchanges to list in their own exchanges or in other exchanges?
While listing only in a different exchange might remove any doubts in the mind of the investor about the possibility of undue bias or favouritism that may arise in the process of self listing and maintain the integrity of the listed company (exchange), there may be situations where conflict of interest may still arise, as both the parties – the listed exchange and the exchange where it is listed – are in the same “business” of stock exchange!
Is self listing then the only solution? Then, the question of integrity, conflict of interest, undue bias, etc, sets in. Stock exchanges the world over have gone through this process of demutualisation and listing of their shares. It would be appropriate to see the example of Australian Stock Exchange ASX as they are the pioneers.
One of the first stock exchanges to demutualise, ASX went through the process as early as 1998. Lets see how they handled the issue of self listing; ASX - the Exchange, ASIC – Australian Securities Investment Corporation as the regulatory body, and ASTC – ASX Settlement & Transfer Corporation Pty Ltd entered into a MoU on September 1998, wherein, ASIC will be responsible for supervision of ASX’s compliance with the listing rules.
The idea was based on the assumption that, potential conflicts can be avoided by the regulator assuming the responsibilities of a SE as a special case. IOSCO also finds this more apt.
Separation of this regulatory function may be a solution. Globally, many leading exchanges like SGX of Singapore, Canada, Hong Kong have gone for this kind of separation. SGX, which got listed on November 23, 2000, has appointed a conflict committee to deal with such issues. The composition of this committee has been approved by MAS, their regulator.
The world is continuously evolving and there cannot be one single solution suitable for all. We have to carefully explore options and we have to begin somewhere. With proper checks and balances, self listing could be a right choice to start with. Self listing or cross listing, in all fairness, an entity which lists thousands of securities should be trusted to list its own securities.
—The author is director, Madras Stock Exchange and chairman of the Federation of Indian Stock Exchange (FISE). The views expressed here are personal and should not be construed as that of any of the organisations he represents.
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