Tuesday, September 22, 2020
05:00 AM / by Proshare Research/ Header Image Credit: EcoGraphics
Demutualization or the conversion of a broker-dominated Exchange to an investor-dominated Exchange has been a global trend to introduce transparency, better corporate governance and greater efficiency in the management of equities, commodities and fixed income Exchanges around the world. The higher standards of accountability of an investor or shareholder-led Exchange is desirable but with a few niggling problems.
While an Exchange run along the lines of a private company would ensure efficiency in resource deployment and drive a profit-motivated business process, the fact that the NSE is an Exchange for trading in third-party assets places on it a burden beyond profit considerations. The Exchange has a responsibility that it does not use privileged information in such a way as to give it insider advantage and provide its shareholders with returns derived from non-publicly available information. The imperative for the NSE is to separate its business goals from its regulatory duties. Achieving operational silos will be the test of the desirability of demutualization in the Nigerian stock market which appears to have taken a cue from developments in markets in Europe, the USA and Asia. Demutualization was first tried by the Stockholm Exchange in Sweden in 1993 and appears to have provided a template for similar developments globally.
The new ownership structure of the Nigerian Exchange would mean the constitution of a Board of Directors who would be expected to guide the affairs of the company while management and other staff would, presumably, be appointed on merit to handle day-to-day operations. The new corporate arrangement may require a quick review of existing operations and a streamlining of the Exchange's business structure, but most importantly the Exchange would need a viable business model that ensures profitability without price gouging on Exchange provided retail and partner services (the old Council guards see Table 11).
Table 11: Change of Guards; The Old Council Will Give Way to A New Board
Recalling the Fear of a Ghost
When Okereke-Onyiuke was DG of the Exchange one of her strongest reservations was the composition of the board of directors of a demutualized Exchange. That fear still subsists.
Once the demutualization process is concluded, perhaps before Onyema wraps up his tenure, a new board would be put in place to take over from the present council. The problem is that once the Exchange becomes limited by shares rather than by guarantee, the shares of the Exchange becomes a free game for those with cash to spare, meaning that brokers and their clients may be edged out of the oversight of the new Exchanges activities as the Exchanges shares would be bought and sold on its floor like any other equity.
Analysts note that the directors of the NSE's premium board companies who have deep pockets could buy large slices of the Exchange's shares on offer with the market finding itself in a situation where the biggest players in the equity game officiating matches in which they participate. This creates a classic agency problem where the principal becomes an agent to the tenant in an estate he or she owns. The conflict of interest is tangible.
Onyema, over the next few months, will need to collaborate in forward-looking discussions with other stakeholders to ensure that the Exchange avoids a situation of 'market capture' by investors with large financial firepower. This reawakens the ghost of Okereke-Onyiuke's past market visions and anxiety.
With the demutualization of the NSE, the management of the organization would change, meaning that instead of having a governing council the market would have a board of directors. The new board would decide the NSE's strategies and set the direction of the limited liability company's activities and its actions in respect of its market trading platform.
A few factors would determine the success of the Exchange's new structure, they would include:
If the NSE's board of directors is made up of experienced businesspersons with strong hands-on knowledge of managing successful enterprises, the spillover effects of the collective wisdom of the board members should ensure the topnotch performance of the Exchange. A further factor for success (preceded by growth and development) is a strong group of shareholders. Since the turn of the decade, the role of shareholders has become increasingly important in the life and health of companies as knowledgeable and vocal shareholders serve as escape valves that prevent either board or management from overheating organizational operations by errant behavior and emotional outbursts (see matrix illustration 7).
Illustration 7: The Corporate Power Matrix
Not much is expected to change in the management of the Exchange after the demutualization has been completed as the old market guards are expected to stay as they keep a firm grip on the newly established board of the Exchange and see to it that the system does not experience a transition shock.
However, one area the Exchange may change is the level of efficiency in which it does its business may improve as board members and shareholders expect and will compel greater transparency and operating effectiveness. With the Exchange required to produce regular financial reports on the state of affairs of its business, top management would be under pressure to meet performance targets and budget expectations.
The New Corporate Value Chain
As the NSE transforms its oversight structure, the Exchanges managers must be concerned about how its processes, policies and procedures feed into decision channels that raise shareholder value. Unlike in the past, the Exchange cannot be concerned only with cost recovery and recurrent expenditure, but it must also be worried about an incremental increase in corporate net earnings which translates into dividend payouts for shareholders.
The management of the Exchange must grow operational revenues as they hold down costs and increase working capital. As the Exchange grows bigger annually its managers need to worry about the optimization of the organization's capital structure. The proper debt to equity structure to yield the highest possible return on equity (ROE) and return on asset (ROA) must be uppermost in the minds of those running the Exchange and its sundry businesses, the consequences could involve a rise in existing fee-based services and new charges on previously free products or services offered by the NSE. The NSE's new demutualized reality could prove to be a hard nut to chew for market operators (CMOs) facing rising costs in other areas of their business (see illustration 8).
Illustration 8: NSE's Prospective Value Chain Drivers
Growing Debt or Raising Equity? The New Face of a Fiscal Dilemma
Corporations are leaning into a difficult era where they become more painfully aware of the choice between funding operations with debt or equity. The debt or equity choice is taking on greater prominence as investors become more anxious about returns on their investments against the backdrop of a COVID-19-induced recession (see table 12).
Table 12: Debt or Equity, The New Face of a Dilemma
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