The Future of the Capital Market in Kenya

The Future of the Capital Market in Kenya BY: KIBUGA KARIITHI CHIEF EXECUTIVE NAIROBI STOCK EXCHANGE Kenya Institute of Management Lecture Series 7 April 2004 NAIROBI STOCK EXCHANGE 1

TABLE OF CONTENTS l l l l l 2 Key Performance Indicators 2003 – 2004 The Future The Challenges Regulatory Incentives Response of the Capital Markets The OTC Market Using the Capital Markets To Mobilize Domestic and Foreign Capital Regional Integration The Future Of Capital markets Infrastructure Conclusion

THEME THE TIME TO OWN KENYA IS NOW. 3

Capital markets Role in Summary l Corporate Governance: The market rewards the most transparent Institutions with higher valuations for their securities. This encourages: – – l l l Efficient Allocation of Resources to the most productive sectors and competitive companies in these sectors. Enhances social corporate responsibility to stakeholders – customers, employees, the community. Harnesses Long Term Savings: It encourages long term domestic and foreign portfolio investment as institutions and individuals invest in listed securities to enhance their returns. It increases long term savings : GDP. Alternative to Bank Borrowing: Capital Markets lending is longer term in nature and therefore more affordable. Democratization of ownership: Indigenous private individuals can own shares in privatized institutions. – 4 More company profits are distributed to locals and less is repatriated abroad.

KEY PERFORMANCE INDICATORS 2003 -2004 NAIROBI STOCK EXCHANGE 5

l 2003 was a year of exceptional growth for the exchange, reflecting no doubt, the hopes and expectations of the Kenyan people in the NARC Government's commitment, to revive the economy. l The resumption of bilateral and multilateral support programmes with the IMF and World Bank also played a role in this newfound market confidence. 6

Last year, l the total turnover in the equity market was Kshs. 15. 2 billion, which is nearly 80% of the total turnover of Kshs. 19. 3 billion for the previous five years combined. (January – April 2 2004 – Kshs. 8. 546 billion) l The number of trades per day rose to almost 900 at one point, up from an average of less than 200 previously. (January – April 2 2004 – 42, 893 deals) 7

l The bond market turnover as at the end of the year, showed similar growth at Kshs. 41. 9 billion, which again was just over 60% of the total turnover for the previous five years combined. (January – April 2 2004 - Kshs. 13. 367 billion) 8

STOCK MARKET INDICATORS: MARKET CAPITALIZATION & NSE INDEX 9

INTEREST VS PRICE-EARNING RATIO Jan 16, 2003 Apr 2, 2004 91 day T-bill 8. 352 1. 732 Kenya Airways 3. 30 14. 67 Nation Media Group 11. 67 16. 64 Barclays Bank 6. 38 12. 50 N. I. C. Bank 6. 43 14. 63 Standard Chartered 6. 69 12. 94 BOC Kenya 7. 59 18. 67 Carbacid 9. 43 16. 01 10

INTEREST VS DIVIDENDS YIELD Jan 16, 2003 Apr 2, 2004 91 day T-bill 8. 352 1. 732 Kenya Airways 9. 7% 4. 5% Nation Media Group 2. 8% 5. 3% Barclays Bank 13. 7% 6. 8% N. I. C. Bank 3. 9% 5. 2% Standard Chartered 13. 6% 5. 8% BOC Kenya 10. 6% 3. 0% Carbacid 49. 7% 3. 2% 11

LOWERING INTEREST RATES: (91 DAY T-BILL INTEREST RATES) 12

SOURCE OF GROWTH l Perhaps even more important than the figures themselves is the source of all this new investment in the stock market. l The foreign fund managers, who departed from the market in 1998 after the ill fated bombing of the united states embassy in Nairobi, are yet to make a comeback; l all the growth experienced at the Nairobi stock exchange has been driven by domestic investment funds. l One of the heartening things that we have witnessed is the number of Kenyans in the Diaspora now investing in the Nairobi stock exchange. 13

WHAT WILL WE ACHIEVE? l 14 We must empower Kenyans through the transfer of ownership of the major economic players in the country, while providing honest money for the government's own programmes.

The year 2004 is an important milestone for the NSE in many other ways, marking as it does the 50 th year since authority was given by London Stock Exchange to Francis Drummond to operate a stock market in Nairobi. We intend to mark the occasion in a manner befitting a golden jubilee of a national institution in the NARC era. 15

l The Exchange will at the same time be hosting the annual conference of the African Stock Exchanges Association (ASEA), which was in fact founded in Nairobi ten years ago. l We want to become the market of choice for raising and investing capital in this region. How? 16

THE FUTURE NAIROBI STOCK EXCHANGE 17

WHAT THEN DOES THE FUTURE HOLD? l The figures featured in this presentation amply demonstrate the capacity of our capital markets to mobilize domestic funds, for economic growth. l This should send a clear message to our government that the best route to take in the privatization of our state owned enterprises is through public offerings on the Nairobi Stock Exchange. 18

THE CHALLENGES NAIROBI STOCK EXCHANGE 19

4 KEY DRIVERS OF CHANGE l Globalisation l advance of ICT l aging populations l evolving role of governments 20

4 Cs l consolidation l convergence l connectedness l co-ordination 21

GLOBAL ALLIANCES NYSE EURONEXT (Paris, Amsterdam, Brussels) TSE Tokyo Nasdaq/Amex HKSE Mexico Brazil SGX ASX MOUs: Hong Kong, Indonesia, Korea, Malaysia, Philippines, Singapore, Taiwan, Thailand, Tokyo 22 Source: ASX

Kenya CAPITAL MARKETS RBA CMA CBK COMMISSIONER OF INSURANCE Retirement Benefit Schemes, Fund Managers, Actuaries, Custodians. Securities Exchange, Stockbrokers, Listed Companies, Investment Advisors, Custodians, Investment Banks, Fund Managers, Collective Investment Schemes, Credit rating agencies. Commercial Banks, Non Bank Financial Institutions, Fo rex bureaus, Micro finance institutions. Insurance companies, Insurance brokers, Agents, Assessors. 23

Result Duplication and Overlap: l E. G. Fund managers regulated by the CMA and RBA; l Heavy costs of compliance; l Increases opportunities for regulatory arbitrage. 24

Australia’s regulatory framework Reserve Bank of Australian Prudential Regulation Authority Australian Securities and Investments Commission Payments System Board Monetary policy Systemic stability 25 Payments system Prudential regulation of - deposit taking - life insurance - general insurance - superannuation Market integrity Disclosure Consumer protection Corporations Law

Regulatory Incentives 26

Regulatory Incentives Simplification of Regulatory Framework: l A consolidated regulatory framework encompassing retirement benefits, capital markets, and insurance. l An Information Technology Bill to Promote E-commerce – 27 We can only compete through deregulation of telecoms (vsat and large bandwidth connectivity for ISPs).

Regulatory Incentives Improving Access – – – Micro Finance Act SACCO Act Development Banks Policy on Participation of East Africans east African investors should be accorded the same treatment as domestic investors. 28

Response of the Capital Markets 29

Our Aim: Improving market Accessibility l l In 3 years, ensuring 6. 0 million from the current 3. 0 million Kenyans has access to financial services. Becoming more relevant by establishing market segments for indigenous institutions – the Over the Counter (OTC) Market. Banks serve the Top 5% Cooperatives serve the next 15% 80% of Kenyans have no access to financial services 30

CHALLENGES l Limited access of the public to Financial Services l Expensive Capital l Regulatory Environment is biased towards control rather than enabling 31

WE ARE SAYING THAT l 32 shareholders can be increased in the market through: – Listing of Co-operatives and SACCO’s on the OTC – the use of collective investment schemes (CIS’s), which will give individual investors an economic way to invest in the capital markets.

OUR VISION l 33 OVER THE COUNTER (OTC) MARKET We have taken up the challenge of working towards setting up an OTC market, that will provide an efficient and transparent mechanism to transfer shares for clients.

OTC MARKET INFRASTRUCTURE The use of the automated infrastructu re for the OTC Market. l. Provision of a market infrastructure for indigenous firms: l. Cooperatives; l. SACCOs; l. Micro 34 finance; l. Farming marketing organisations.

WHAT AN OTC MARKET IS l l 35 An OTC market is A market that provides an arrangement for transferring shares that are not listed on a stock exchange. While it is desirable to have shares traded on a formal stock exchange for the most effective pricing mechanism to be effected, an OTC market acts as the next best alternative by ensuring transferability.

l AN INCUBATOR. l l 36 IMPACT CORPORATE GOVERANCE PRINCIPLES. SHARE OWNERSHIP VALUE CULTURE OF COMMERCIALISM EVENTUAL LISTING ON THE MIMS AND AIMS.

CRITERIA FOR LISTING ON THE OTC Share capital: l l 37 Paid up share capital of not less than Ksh. 5. 0 mil. At least One class of shares admitted. l Not less than 10% of paid up share capital held by not less than 7 shareholders.

Criteria for Listing on the OTC Track record: l l 38 Adequate management capacity to maintain business. Satisfactory track record. l If no profit history, good performance prospects for the business.

WHAT CAN THE NSE DO FOR COOPERATIVES l 39 Provide a safe and secure trading environment (Automated NSE). -The Automation of the clearing, settlement, registry and depository function of the Capital Markets has began.

INTRODUCTION l l 40 The Co-operative Movement is a major player in our economy. There are: – 944 Agricultural Societies – 3, 925 Savings and Credit Societies – 1, 392 Other non-agricultural societies. The Savings and Credit Co-operatives contribute substantially to the mobilization of domestic resources.

USING THE CAPITAL MARKETS TO MOBILISE DOMESTIC AND FOREIGN CAPITAL NAIROBI STOCK EXCHANGE 41

A New Way To Privatise Instead of a Strategic Investor, privatization should involve listing of shares of former state enterprises: For the following reasons: l Corporate Governance; l Capital Markets Absorptive Capacity: – l The Capital markets can absorb Ksh. 20. 0 billion per Quarter (as shown by the listing of Go. K T Bonds). Democratization of ownership: Indigenous private individuals and institutions can own shares in privatized institutions. – 42 More company profits are distributed to locals and less is repatriated abroad.

FUNDING FOR INFRASTRUCTURE (1) Channeling investment by Corporate Entities into Social Investment Bonds: Education, Healthcare, Housing, Micro Finance, and Environmental Conservation medium – long term funds to these sectors. 43

FUNDING USING SECTORAL VENTURE CAPITAL FUNDS A viable long term financing alternative to Bank funds Sectoral venture Capital Funds (SVCFs): World Bank Funding 44 public private partnership (PPP) to re-capitalize & reconstitute as SCVFs, Agric. Finance Corp. (AFC); Kenya Tourism Dev. Corp. (KTDC); Indust. & Comm. Dev. Corp. (ICDC); Kenya Indust. Estates (KIE).

ASSET BACKED SECURITIES Residential mortgages Special Purpose Vehicle (SPV) Takes title of the mortgages one payment from one source, once a month Coupled with book based custody system The cash flows passed through to the investors in the form of an asset backed security (Mortgage Bond) Applicable to credit card receivables, automobile receivables balances 45

REAL ESTATE INVESTMENT TRUSTS Real estate assets – residential and commercial property; loans secured by mortgages; leases on property Special Purpose Vehicle (SPV) Takes title of the assets And issues shares to the investors • Current, stable dividend income; • High dividend yields that exceeds the rate of CPI; • Make previously illiquid real estate assets liquid by enabling trading of shares of listed REITS so allows convertibility of underlying assets to cash; • Allows participation by institutional and retail investors; • Professional management by skilled, experienced real estate Professionals of the assets by the REITS managers - skill 46

REGIONAL INTEGRATION NAIROBI STOCK EXCHANGE 47

VIRTUAL EAST AFRICAN STOCK EXCHANGE • Virtual Linkage to Kenya, Uganda and Tanzania. l Information vendor – links to Global information using services distributors such as Reuters and Bloomberg. 48 l Automated Broker Front and Back Office on a Wide Area Network. – Order receipt and confirmation via the internet, 24 hours a day, 7 days a week.

IMPLEMENTATION PROGRESSION: MASS CROSS LISTINGS IN AN EAST AFRICAN STOCK EXCHANGE Kenya : • 52 listed companies (Kenya Airways and EA Breweries already cross-listed in UG). 4 corporate bonds; 68 Govt. Bonds. AD D Uganda: 5 listed companies (2 whose primary listing is Kenya). 2 Corporate and 2 Government of Uganda bonds. An instant increase in Number of listed companies of 17. 3 %. An instant increase in Number of Bonds by 25. 0%. 61 Companies; 85 Bonds DD A 49 6 listed companies. • 14 Govt. Bonds. • 3 Corporate Bonds ADD

THE FUTURE OF THE CAPITAL MARKETS INFRASTRUCTURE 50

AUTOMATION Technology drives growth. the market automation project currently on going in the capital markets gives Kenya the opportunity to take a critical look at the current clearing and settlement environment and implement a robust and modern clearing, settlement and central depository and Automated Trading System environment for the whole East African region. 51

TECHNOLOGY PATH The NSE’s technology path in line with the overall l market automation strategy, has four sub projects, namely; 1. Central Depository System - CDS 2. Automated Trading System - ATS 3. Broker Back and Front Office System - BFO 4. Real time Information Dissemination 52

THE TRADING CYCLE Order Capture Order Routing Risk Mngt BFO SYSTEM Portfolio Mngt Trade Confirmation Corporate Actions Market Dissemination Client Acctg / Record Keeping Back Office Front Office 53

WEB INTERFACE Internet BFO – Web Interface: ·Integrated Back Office and database functionality ·Security capabilities to restrict access to BFO Firewall Web Front-end (Internet Explorer) BFO Firewall BFO – Web Interface: ·Connection to Web-enabled BFO via callable APIs 54 Front/Back Office Gateway

CONCLUSION NAIROBI STOCK EXCHANGE 55

WHAT WILL WE BECOME? l l Over 500 listed companies in the region by 2012 l At least 100 companies cross listed with leading equity markets in Africa, London and New York Stock Exchanges l 56 Kenya will be the virtual centre of the East African Regional Stock Exchange Availability of venture capital from at least 15 funds, 5 of which are quoted on the exchange

THE END NAIROBI STOCK EXCHANGE 57