FINANCIAL MARKET DEVELOPMENT ACTIVITY Launch of an SME Board by the Pakistan Stock Exchange 11 February 2017 This publication was produced for review by the United States Agency for International Development by Financial Market Development (FMD) Activity, Pakistan LAUNCH OF AN SME BOARD BY THE PAKISTAN STOCK EXCHANGE (PSX) – FEBRUARY 11, 2017 REPORT COVERING 2 DEC 2016 – 11 FEB 2017 USAID FINANCIAL MARKET DEVELOPMENT ACTIVITY, PAKISTAN 11 FEBRUARY 2017 PREPARED BY: CHRISTIAN C. JOHNSON, CONSULTANT CONTENTS 1. EXECUTIVE SUMMARY ....................................................... 4 2. BACKGROUND & OVERVIEW ............................................ 5 3. TOR DELIVERABLES - DECEMBER 31, 2016 .................... 10 4. TOR DELIVERABLES - FEBRUARY 11, 2017 ..................... 10 5. SHORT LIST OF SME LAUNCH CANDIDATES .............. 13 6. SUMMARY RECOMMENDATIONS & NEXT STEPS ........ 16 APPENDIX 1 – FMD REPORT ON PSX SME BOARD – 2017- 2020 BUSINESS PLAN ......................................................... 20 APPENDIX 2 – STAKEHOLDER MEETINGS & FEEDBACK SESSIONS ............................................................................. 21 3 USAID’s Financial Market Development Activity, Pakistan 11 February 2017 1. EXECUTIVE SUMMARY FMD was engaged by SECP/PSX to provide its technical/expert recommendations to accelerate the establishment of an SME Platform at PSX. Specific assistance to increase the pace and number of SME listings was a primary need. Based on FMD’s market assessment, and the study of developments related to the launch of SME Market in Pakistan, the following recommendations are being hereby provided: Rebrand the SME Platform: In line with the global trend of global stock exchanges to brand their second-tier markets with distinct names, FMD recommends that PSX should also rebrand its proposed SME Board to focus on growth enterprises vs. SME enterprises. For example, the SME Board could be rebranded as “GEM” (which would (referring to “Growth Enterprise Market”). Additionally, a tag line could be added such as “Fueling Pakistan’s Fast Growing Firms.” Establish an SME Listing Support Fund: The cost of fund raising from the equity market is considered as the number one barrier for the entry of the SMEs into the capital market. The high cost of fund raising has been addressed in different ways. FMD recommends the establishment of a Listing Support Fund to decrease the perceived and actual cost of raising equity capital on the GEM Market. Another example is to have the Government or Stock Exchange pay a portion of the underwriting cost of an IPO. For example, in Turkey the KOSGEB (Korean Small & Medium Enterprises Development Organization) pays 75% of the market advisor fee, 75% of Independent Auditing Fees, 75% of brokerage fees, and 100% of the listing fees for SMEs intending to list on the Emerging Companies Market (ECM). Create a common platform for SMEs and Private Growth Companies: Side by side the plan of launching an SME platform, PSX also plans to launch a platform for the Private companies to enable them to enter into match-making arrangements with the enlisted financiers. Such third tier markets exist in several countries including India. The Bombay Stock Exchange created the Institutional Trading Platform as a 3rd tier exchange in 2014. FMD recommends that PSX/SECP should first successfully launch and grow the GEM Market prior to taking any actions about creating a 3rd tier exchange. In fact, the current Chapter 5A regulations may be sufficient to regulate the GEM Market as a venue for both types of the fund-raising activities. Improved Marketing Strategy/Focus: In this area, FMD recommends the adoption and development of a focused listing-acquisition approach as outlined below: a. Focused Target Market: FMD recommends focusing its listing acquisition strategy on enterprises seeking to raise at least PKS 100m (> US$1m), which correlates to firms with annual revenues between PKR 100m and PKR 750m and 4 USAID’s Financial Market Development Activity, Pakistan 11 February 2017 double digit growth rates. This recommendation is in line with the World Federation of Exchanges’ on the SME Exchanges. b. FMD recommends that the PSX should invest its resources in the capacity building of mid-sized market brokers/advisors that can provide the required financial advisory services to the potential listing candidates at a relatively reduced cost. While doing so, PSX should ensure that the standing of the newly trained advisors is such that these newly trained advisors can provide enough comfort to investors about the quality of their services and the accuracy of the SME financials being advised and brought to the market. Raise Awareness of Tax Advantages: The SECP and PSX should clarify the applicability of current tax incentives for main-board companies also apply to those firms listing on the GEM Market. From the current legislation, the applicability of tax incentives is unclear. The above recommendations had been verbally presented to both SECP and PSX during the out-brief meetings of FMD’s SME market expert. During these meetings, both the stakeholders have expressed their desire for the continued engagement of FMD for the following work related to the implementation of the above recommendations: a. Assisting PSX in the drafting of scope of operations/activities of the proposed SME Listing Support Fund; b. Development and conduct of training/capacity building programs for the potential SME Market Advisors; c. Conducting knowledge enhancement/awareness/training workshops for the potential SME candidates; d. Providing detailed assessment/prospectus development related technical support to at least 2 potential listing candidates. 2. BACKGROUND & OVERVIEW The USAID-financed Financial Market Development (FMD) Project is a five-year technical and training collaboration program, designed to promote the development of competitive, deepened and diversified debt capital markets in Pakistan. Pragma Corporation began implementing the USAID FMD Project in March 2016. The Securities and Exchange Commission of Pakistan (“SECP”) regulates the capital markets in Pakistan including guidelines, rules, and regulations related to equity, derivative, debt, Sukuk, asset backed securitization, and infrastructure bonds. Given that the capital market competes with the banking sector for the provision of long-term financing (especially in the context of SMEs and so-called “startup” companies), the SECP requested that FMD to assist with the establishment of a modern SME platform in Pakistan. 5 USAID’s Financial Market Development Activity, Pakistan 11 February 2017 On December 3, 2016 Christian C. Johnson, an SME Platform Specialist (“SMEPS”) arrived in Karachi, Pakistan to lead FMD’s efforts to perform the tasks and produce deliverables listed in the Terms of Reference (TOR). During the last week of December 2016, USAID approved additional scope and extended the SME Platform Specialist through February 11, 2017. The SMEPS has been assisted or supervised by and assisted by FMD’s team of experts under the overall supervision of the Chief of Party (COP), including FMD’s senior regulatory/legal development expert, senior policy advisor and head of communications for the delivery of the assigned tasks. The SMEPS also worked closely with all relevant stakeholders of PSX SME platform, including the SECP, leadership of the Pakistan Stock Exchange (PSX), Pakistan’s stock brokerage firms, institutional investors, and corporations (both listed and unlisted). Specific responsibilities listed for the initial TOR includes, but is not limited to the following: • To develop an enhanced regulatory framework for promoting capital market funding for SMEs and launching a private/growth companies trading platform • To prepare a comprehensive business development plan for PSX for the efficient launching of SME and private/growth companies trading platforms • To prepare a detailed, effective and ingenious marketing/informational material for the promotion of SME and Private/Growth companies platform like brochures, presentations, web-site material, tutorials etc. • To prepare plans for the conduct of 6 SME platform promotional industry roundtables, and acting as FMD’s resource person in the same Three deliverables were listed in the TOR ending 31 Dec 2016: a. A full-text set of regulations for establishing/effectively operationalizing a transparent and functional SME listing platform, and establishing qualifications for listing purposes. SECP has already made substantial progress towards this goal. The consultant will be providing final review and edits. b. A comprehensive SME and Private/growth companies listing business development plan for PSX. c. A comprehensive PowerPoint presentation that sets forth a “road map” for development of a robust segmented SME listing board. FMD issued an interim report on December 31, 2016 that highlighted the operations, interactions, regulatory review, recommendations, and initial findings. Although FMD's field team completed the initial review of the SME regulations, there was still a need to further seek industry feedback on the findings from a host of stakeholders such as; the SME 6 USAID’s Financial Market Development Activity, Pakistan 11 February 2017 enterprises, the financial advisors, underwriting industry, the PSX brokers as well as the regulators. The 2nd TOR ending February 11, 2017 lists four additional deliverables: a. Development of draft regulatory and operational framework for the trading of privately