The Dar Es Salaam Stock Exchange (DSE) has recently announced its intended listing. In this article Mr. Moremi Marwa, CEO of DSE, explains stock exchange demutualisation and its benefits.
A number of exchanges across the globe have demutualised since this idea came into the public attention, especially after the first incident of demutualisation by the Stockholm Stock Exchange in 1993.
According to the World Federation of Exchanges (WFE), as in year 2014, about 85% of all stock markets in the world had been demutualised, and about 45% of all stock exchanges are publicly listed. How did this come about?
During the past 20 years, globalisation and financial integration, the development of innovative technology, regulatory reforms and changes in investment opportunities have all affected the environment for stock exchanges by increasing competition and affecting the functioning of financial markets.
In response to the new financial environment, a growing number of stock exchanges have demutualized and opted to go public.
Traditionally, exchanges functioned as markets protected under national auspices because they represented national identities and enjoyed a monopolistic or near monopolistic position.
For a long time, exchanges were mutually-owned organisations where members were also owners of the exchange with all the voting rights given by ownership.
This monopolistic market view of stock exchanges became progressively obsolete during the last 20 years due to powerful developments in the environment in which exchanges operate.
With these changes in the financial environment, exchanges began to make focused efforts to attract investors and increase their market share.
They had to rethink their traditional ownership structure in favour of a structure which accounts for the evolving exchange environment better and reassess their business strategies to face growing market competition.
What is demutualisation?
In the strictest sense, demutualisation refers to the change in legal status of the stock exchange from a mutual association, into a company limited by shares (with majority-based decision).
Demutualisation makes sense if it induces a change in the stock exchange’s objectives from managing interests of a closed member-based organisation with the central focus on providing benefit primarily of members/brokers and keeping costs of investments limited to financing needs of members, into a company set up with the objectives of maximising the value of investments by focusing on generating profits from servicing the demands of their customers (brokers, listed companies and investors) in a competitive manner.
Since mid-1990s a growing number of exchanges are opting to demutualise in the new environment, shifting from mutually-owned not-for-profit organisations into profit, investor-owned firms.
Among other many benefits, this process offers the advantage of separation between trading rights and ownership since shareholders provide capital to exchanges and receive profits but do not need to conduct trading on the exchange.
With demutualisation, the objectives of exchanges should, in principle, change from focusing primarily on interests of members/brokers and keeping costs and investments limited to financing approved firms that maximise profits by responding in a competitive manner to customer needs.
Demutualisation can take different forms. The exchange can take a pro-profit private company structure, where only members and outside investors are the owners.
The second option is to be a listed company with restrictions on the number of shares that can be owned by exchange members and non-members or, alternatively, without restrictions on trading.
The added advantage to this second option is that the exchange is also able to mobilise its financing from a wider source of investment community who then become owners of the exchange.
Do the fundamental roles and services that are offered by the exchange change following the demutualisation process? Largely, NO. A demutualised stock exchange continues to offer a host of services to listed companies, brokers and investors.
These include: (i) Listing of securities (shares, bonds, derivatives, etc) after capital raising or by introduction; (ii) providing liquidity and price discovery for listed securities; (iii) execution of services (trades, settlements, depository); (iv) signalling function for listed companies; (v) monitoring of trading to prevent manipulation and insider trading; (vi) standard rules to reduce transaction costs; (vii) clearing of buy and order transactions.
So, from the tradition way where stock exchanges operate as a “hub of brokers” offering these services as monopoly operators serving largely under the mutual governance to the current trend — to the exchange that has improved governance and can efficiently respond to a business competitive environment, roles and functions of an exchange does not change. It just limits value enhancement of the exchange from restrictive access to a broader-based audience and stakeholders value enhancement.
As it is, stock exchanges are now increasingly changing their business model and restructuring themselves due to the simultaneous convergence of a number of powerful developments.
The most notable of these has been the: (i) rapid development and innovation in technology that has facilitated alternative trading systems, including electronic communication networks; and (ii) growing market competition and integration as well as globalisation induced partly by cross-border listing as well as globalisation induced partly by cross-boarder listings and portfolio flows, etc. Together these developments have eroded the significance of national exchanges and their trading floors.
Consequently, across the globe stock exchanges are now re-thinking their business strategy and models in order to find ways of how best to survive.
In the process, exchanges have evolved towards new corporate, legal and business models to strengthen governance and face competition.
This process of transformation from members’ association into pro-profit corporations is referred to as demutualisation.
At the Dar es Salaam Stock Exchange we are in the middle of a demutualisation process, being the third exchange in Africa to achieve what we have achieved this far, coming after Johannesburg Stock Exchange and Nairobi Stock Exchange.
However, other exchanges in Africa are also seriously considering this option.
Out of the current 25 exchanges in Africa, more than a dozen are positively considering to initiate the process of demutualisation.
What will DSE demutualisation mean for Tanzania?
(i) Enhancement of corporate governance within the exchange for sustainable protection of all its stakeholders;
(ii) an access to the efficiently priced source of funds to finance the exchange’s growth and capital markets development in the country, including capital investments in trading technologies as well as introduction of new products and services; and
(iii) enhance our efficiency in responding to the increased competitiveness within regional financial market centres in relation to finance and investment choices and allocations.
Disclaimer: The views and opinions expressed in this article are those of the author and do not necessarily reflect those of TanzaniaInvest.com
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