By Keith Kalyegira
I have said at various fora that there is a lot more capital looking for investments across the world, relative to the pipeline of investment opportunities. The Organization for Economic Cooperation and Development (OECD) estimates this at USD 44 trillion, 66% of which is comprised of pension fund assets. Of the USD 44 trillion, over USD 15 trillion is earning negative yields in the Government securities of developed nations because of the prevailing low interest rates globally.
According to a recent PriceWaterhouseCoopers report, investible funds in Africa grew from USD 293 billion in 2008 to USD 634 billion in 2014, and are projected to grow to USD 1.1 trillion by 2020; again comprised mostly of pension funds. East Africa alone has over USD 10 billion in retirement benefit scheme assets.
African Governments and business are competing to attract this capital into their countries for investment through debt and equity instruments. Some of this capital is invested through investment funds that target only businesses that are listed on a securities exchange because securities exchanges provide an easier avenue to sell, should the investors decide to liquidate their investments.
While affordability of long term capital remains a challenge, businesses’ readiness to access this long term capital is perhaps a more serious constraint to accessing this capital. That is precisely why the Capital Markets Authority (CMA) introduced an Issuer Resource Persons program in 2017 to sensitize businesses on what they need to do to access market based financing. At the heart of this is the need to adhere to sound professional management or governance practices as guided by Table F of the Companies Act, 2012, which is similar to the Capital Markets Corporate Governance Guidelines, 2003; since investment in a company is secured and returns are better assured if the company is well managed.
To date, most listings on securities exchanges across Africa have been opportunities for shareholders (Governments, private equity funds, or family founded business owners) to monetize their success or release some equity by selling a minority stake in their businesses to raise funds for other purposes, which may be unrelated to the business whose shares they are partially selling.
Stock exchanges were established so that entrepreneurs are able to attract investors to their companies to raise capital for expansion by selling the prospect of future earnings, and provide a more liquid way of trading in company shares. Sometimes, public offers of shares resulted into incredible wealth creation opportunities for those willing to take the risk; sometimes the daring investors lost money if the growth prospects simply did not materialize. Occasionally, funds were diverted, hence the need for investor protection by regulators.
Capital can also be raised through private placements – where shares are directly sold to a small group of usually high net worth individuals. The main drawback of a private placement is the absence of a ready market, should a shareholder wish to sell their shares in a company. However, private placements are normally followed by a public listing on an exchange after about 2-3 years.
In Uganda, we have not seen many medium to large business enterprises issue shares privately, through stock exchanges or to private equity firms, to raise growth capital. Like any business sale, one of the key causes of transaction failure is that the new investor(s) attaches a lower value to the business than the entrepreneurs expect. A trusted intermediary who is knowledgeable in business valuation plays a key role in managing both sides’ expectations on valuation.
Prospective investors essentially take a bet on the growth prospects of a company and how these translate into future cash flow, and ultimately the value. Growth prospects therefore must be supported as much as possible (e.g. by long term supply contracts, or mineral deposits for mining companies etc.). The entrepreneurs’ track record, credibility and capacity also helps to support the growth assertions in the companies’ capital raising documents (information memorandum or prospectus). Certainty of future cash flows is bound to unlock investment into businesses or infrastructure projects.
Capital raised through the sale of shares can also be used to refinance expensive debt, which has the immediate effect of boosting businesses’ profitability and a business’s ability to pay dividends.
Retail investors have generally tended to expect an upsurge in secondary market trading of listed securities shortly after trading commences (imputing a discounted valuation at the Initial Public Offering). Investors in the company shares (listed or unlisted) should have a medium to long term outlook and ought to consider the option of investing through licensed fund managers (Collective Investment Schemes / Unit Trust Schemes). These schemes undertake independent company valuations owing to their experience and expertise. Direct participation in the markets exposes retail investors to the drawbacks of thin liquidity for small trades (delayed execution of trades, unfavorable pricing). Small trades can have a material impact on the valuation of a listed company, which could have the adverse effect of causing institutional investors and companies to shy away from a market.
Given the relatively short term nature of commercial bank financing, the capital markets should therefore be considered as a way of raising growth capital from the vast (and growing) pools of patient capital that exist regionally and globally. Entrepreneurs in need of this expansion capital must be ready to raise their level of compliance with good corporate governance practices as required by prospective investors. Investors need to take a longer term view of the market. Indeed, access to long term capital may be the vitally missing catalyst to unlock the potential of our domestic companies as effective players in the regional and Pan-African trade.