The Future of the Capital Market in Kenya

1. BY: KIBUGA KARIITHICHIEF EXECUTIVENAIROBI STOCK EXCHANGEKenya Institute of Management Lecture Series7 April 2004 The Future of the Capital Market in Kenya

2. TABLE OF CONTENTS • 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

3. THEME THE TIME TO OWN KENYA IS NOW.

4. Capital markets Role in Summary • Corporate Governance: The market rewards the most transparent Institutions with higher valuations for their securities. This encourages: • 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. • More company profits are distributed to locals and less is repatriated abroad.

5. KEY PERFORMANCE INDICATORS 2003-2004

6. 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. • The resumption of bilateral and multilateral support programmes with the IMF and World Bank also played a role in this newfound market confidence.

7. Last year, • 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) • 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)

8. The bond market turnoveras at the end of the year, showed similar growth atKshs. 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)

9. STOCK MARKET INDICATORS:MARKET CAPITALIZATION & NSE INDEX

10. INTEREST VS PRICE-EARNING RATIO

11. INTEREST VS DIVIDENDS YIELD

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

13. SOURCE OF GROWTH • Perhaps even more important than the figures themselves is the source of all this new investment in the stock market. • 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; • all the growth experienced at the Nairobi stock exchange has been driven by domestic investment funds. • One of the heartening things that we have witnessed is the number of Kenyans in the Diaspora now investing in the Nairobi stock exchange.

14. WHAT WILL WE ACHIEVE? • 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.

15. The year 2004 is an important milestone for the NSE in many other ways, marking as it does the 50th 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.

16. 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. • We want to become the market of choice for raising and investing capital in this region. How?

17. THE FUTURE

18. WHAT THEN DOES THE FUTURE HOLD? • The figures featured in this presentation amply demonstrate the capacity of our capital markets to mobilize domestic funds, for economic growth. • 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.

19. THE CHALLENGES

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

21. 4 Cs • consolidation • convergence • connectedness • co-ordination

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

23. Kenya CAPITAL MARKETS

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

25. Australian Securities and Investments Commission ReserveBank Australian Prudential Regulation Authority of Australia Payments System Board Payments Monetary Prudentialregulation of Market integrity Disclosure Consumer protection Corporations Law system - deposit taking policy -lifeinsurance Systemic -generalinsurance stability -superannuation Australia’s regulatory framework c

26. Regulatory Incentives

27. Regulatory Incentives Simplification of Regulatory Framework: • Aconsolidatedregulatoryframework encompassing retirement benefits, capital markets, and insurance. • AnInformation Technology Billto Promote E-commerce • We can only compete through deregulation of telecoms (vsat and large bandwidth connectivity for ISPs).

28. 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.

29. Response of the Capital Markets

30. Our Aim: Improving market Accessibility • 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

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

32. WE ARE SAYING THAT • 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.

33. OUR VISION • 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.

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

35. WHAT AN OTC MARKET IS • 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.

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

37. Paid up share capital of not less than Ksh. 5.0 mil. At least One class of shares admitted. Not less than 10% of paid up share capital held by not less than 7 shareholders. CRITERIA FOR LISTING ON THE OTC Share capital:

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

39. WHAT CAN THE NSE DO FOR COOPERATIVES • 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.

40. INTRODUCTION • 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.

41. USING THE CAPITAL MARKETS TO MOBILISE DOMESTIC AND FOREIGN CAPITAL

42. A New Way To Privatise Instead of a Strategic Investor, privatization should involve listing of shares of former state enterprises: For the following reasons: • Corporate Governance; • Capital Markets Absorptive Capacity: • The Capital markets can absorb Ksh. 20.0 billion per Quarter (as shown by the listing of GoK T Bonds). • Democratization of ownership:Indigenous private individuals and institutions can own shares in privatized institutions. • More company profits are distributed to locals and less is repatriated abroad.

43. 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.

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

45. ASSET BACKED SECURITIES Special Purpose Vehicle (SPV) Takes title of the mortgages Residential 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

46. 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

47. REGIONAL INTEGRATION

48. VIRTUAL EAST AFRICAN STOCK EXCHANGE • 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. • Virtual Linkage to Kenya, Uganda and Tanzania. • Information vendor – links to Global information using services distributors such as Reuters and Bloomberg.

49. IMPLEMENTATION PROGRESSION: MASS CROSS LISTINGS IN AN EAST AFRICAN STOCK EXCHANGE ADD • Kenya : • 52 listed companies (Kenya Airways and EA Breweries already cross-listed in UG). 4 corporate bonds; 68 Govt. Bonds. 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%. ADD 61Companies; 85 Bonds ADD • 6 listed companies. • 14 Govt. Bonds. • 3 Corporate Bonds

50. THE FUTURE OF THE CAPITAL MARKETS INFRASTRUCTURE