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January, 8 2019
December, 18 2018
Prospecting for the long term
Aimed at trying to plug a gap in providing a platform for SMEs, the Malta Stock Exchange launched its Prospects Multilateral Facility (‘Prospects’) in 2017. This has been a long-standing gap in Malta which budding entrepreneurs have struggled with. Banks are, correctly, hesitant to finance such businesses without taking a suitable degree of security. Rightly so, they want to see security and stability of cash flows to a sufficient extent that will allow the repayment of their loans. One needs to keep in mind that local banks are commercial banks not investment banks. This is an important distinction. They lend their depositors money and as stewards of such monies need to be extremely careful how this is done.
This is where the Prospects should, theoretically, provide a workable solution. From an academic perspective therefore the need is there. Companies often need finance and access to different sources of finance adds robustness to any capital structure, also allowing a corporate to better home in on the benefits of one type of financing over another. Over the last year, there have been eight and one equity listed, all of sizes between €1m and €5m. For a first year this is indeed commendable and reflects the demand out there. The MSE appears to have correctly identified the opportunity.
In many ways Prospects aims to achieve the same benefits for companies that a full listing does, though not to the same extent. These benefits vary from access to a wider investor base to the extra transparency and governance that the market requires to the extra brand awareness a listing creates. All these are ultimately positive and should help, if tackled properly, to strengthen the company’s structures allowing it to leverage finance to pursue growth opportunities.
The process to obtaining a listing on the Prospects is run by the MSE and though often touted as a cost-effective exercise, is still arduous, and rightly so. Price should never be the determining factor. In reality, and in percentage of funds raised terms, the cost of listing on Prospects is similar to that on the full market, if not more expensive. This is also because any corporate advisor worth its salt should want to undertake a level of due diligence to assess the state of preparedness of the company, that is akin to what is done on the full listing. Then there is the Admission Document. In most cases the documentation prepared is comparable to that on the full market, though this is not approved by the MFSA but the MSE.
Why then is Prospects sometimes openly derided and criticised as having created systemic risk in the financial system? In some quarters there is criticism that Prospects risks becoming a fertile ground for rejected bank clients. This would be last thing that we want and we should work actively to avoid this. We would be doing a great disservice to ourselves and our clients if we allow this to happen.
It is perhaps not that the opportunity is not there but that the tool used to provide the solution is still in its early stage and needs refining.
The issue is not the demand but the supply of finance. For each investment decision made, an investor has a choice. Capital must be applied to the investment that provides the best risk return profile. Understanding the risk of Prospects companies is key. Their risk profile may be very different from those on the full market. Capturing the right balance here is not easy but the track record achieved so far points to mixed results. There are some entities on Prospects that are clearly and obviously significantly more risky than others.
This does not mean they should not have been admitted to the market. It means that the price differentials should arguably be wider than they are, most especially when compared to the full market.
The driver for this need not only be a higher credit risk, but certainly a higher liquidity risk. These instruments are far less liquid than those on the full market and the likelihood of needing to hold the instruments to maturity is much greater, simply because selling is such a challenge. Proactive measures to improve liquidity in this market should be sought out.
Ensuring that the Prospects market grows into a respectable market place requires that focus on quality at every level remains a key driver. Securing a more robust filtering process both when conducting due diligence, initially and ongoing, as well as in selecting potential investors helps ensure the right meeting of demand and supply of capital. Emphasis on proper advice to investors should also be enhanced to protect investors from potentially misunderstanding the instrument they are purchasing with intermediaries shouldering the responsibility for such advice.
The opportunity in the market has manifested itself clearly. Through solid long-term thinking we can nurture this market into a successful competitor to other forms of finance and a feeder of instruments into the full market.
David Curmi is managing director of Curmi and Partners Ltd.
The information presented in this commentary is solely provided for informational purposes and is not to be interpreted as investment advice, or to be used or considered as an offer or a solicitation to sell/buy or subscribe for any financial instruments, nor to constitute any advice or recommendation with respect to such financial instruments. Curmi and Partners Ltd. is a member of the Malta Stock Exchange, and is licensed by the MFSA to conduct investment services business.