Improving the market performance of business information ...

Improving the market performance

of business information services

regarding listed SMEs

Final Report

Client: DG Enterprise and Industry

Rotterdam, 18 September 2013

Improving the market performance

of business information services

regarding listed SMEs

Within the Framework Contract for Industrial Competitiveness and Market Performance – ENTR/90/PP/2011/FC Final Report

Client: DG Enterprise and Industry

Compiled by the following partners of the ECSIP consortium:

Ecorys Nederland BV

IDEA Consult

Market Structure Partners (subcontractor)

Rotterdam, 18 September 2013

2 Improving the market performance of business information services regarding listed SMEs

About ECSIP

The European Competitiveness and Sustainable Industrial Policy Consortium, ECSIP Consortium

for short, is the name chosen by the team of partners, subcontractors and individual experts that

have agreed to work as one team for the purpose of the Framework Contract on ‘Industrial

Competitiveness and Market Performance’. The Consortium is composed of Ecorys Netherlands

(lead partner), Cambridge Econometrics, CASE, CSIL, Danish Technological Institute, Decision,

ECIS, Euromonitor, Fratini Vergano, Frost & Sullivan, IDEA Consult, IFO Institute, MCI, and wiiw,

together with a group of 28 highly skilled and specialised individuals.

The following persons contributed to this report: Paul Wymenga, Corine Besseling, Niki Beattie,

Jakub Gloser, Viera Spanikova, Patrick de Bas, Douwe Wielenga and Thomas Blondiau.

The opinions expressed in this study are those of the authors and do not necessarily reflect the

views of the European Commission.

ECSIP Consortium

p/a ECORYS Nederland BV

Watermanweg 44

3067 GG Rotterdam

P.O. Box 4175

3006 AD Rotterdam

The Netherlands

T. +31 (0)10 453 88 00

F. +31 (0)10 453 87 55

Email [email protected]


Table of contents

1 Introduction 5

1.1 Definition of the problem 5

1.2 Study objectives 5

1.3 Structure of the report 5

2 Methodology 7

2.1 Defining listed SMEs 7

2.2 Research questions 7

2.3 Classification of the market 8

2.4 Delineation of the industry 8

2.4.1 The value chain 8

2.4.2 Investors information needs 15

2.5 Aim of different methodologies that are used 22

2.5.1 Literature review 22

2.5.2 Interviews 22

2.5.3 Case studies 22

2.5.4 Building scenarios 24

2.6 Summary 24

3 SMEs and business information: exploring barriers to listing on stock exchanges 27

3.1 Listed SMEs 27

3.1.1 Financing preferences of SMEs 28

3.1.2 Private equity and venture capital 28

3.1.3 Barriers to enter the public equity market 29

3.1.4 The local nature of SMEs 30

3.2 Business information providers 30

3.2.1 The activities and role of business information providers regarding listed SMEs 30

3.2.2 Why business information providers often focus on large firms 31

3.2.3 Regulations that affect business information providers 31

3.3 Investors 31

3.3.1 Different types of investors 31

3.3.2 Reasons for investing in SMEs’ stocks and funds 31

3.3.3 The effect of the macro-economic situation on investment behaviour 32

3.3.4 Needs and use of business information by investors 33

3.3.5 Home-bias of investors 34

3.4 The regulatory framework 34

3.5 Market failures and other possible problems 36

3.6 Summary 38

4 Harnessing information: implications for SME investment 41

4.1 Introduction 41

4.2 The users of information / investors 42

4.2.1 Choosing to invest 42

4.2.2 Information needs on listed SMEs 42

4.2.3 Initiatives for the provision of business information: 43

4.3 Information providers 44


4.4 Information aggregators 45

4.5 Platforms 46

4.6 Nomads 48

4.7 Corporates 48

4.8 Summary 49

5 Channelling business information to drive SME investment: 5 case studies 51

5.1 Models of business information - a bird’s eye view 51

5.2 Brief summaries of the case studies 55

5.2.1 Case study AIM London 55

5.2.2 Case study ASX Australia 56

5.2.3 Case study France 57

5.2.4 Case study First North in Sweden 58

5.2.5 Case study Warsaw 59

5.3 Synthesis of the five case studies 59

5.3.1 The regulatory framework conditions affecting business information providers who

cover small- and mid-caps 60

5.3.2 Explanation of the market 61

5.3.3 Information required by trading platforms when listing an SME 62

5.3.4 Disclosure rules 63

5.3.5 The importance investors place on information available 63

5.3.6 The importance information providers place on information available to them in the

market 64

5.3.7 The number of SMEs covered by research in the market 64

5.4 Summary 64

6 Scenario development and policy recommendations 67

6.1 Scenario development 67

6.1.1 (Pan-) national / regional solutions built on existing business models 67

6.1.2 A pan-European solution from scratch 70

6.1.3 Crowd funding 70

6.2 Policy recommendations 70

6.3 Summary 72

Annex 1: Glossary 75

Annex 2: Bibliography 77

Annex 3: Case Study AIM London 81

Annex 4: Case study Australia 91

Annex 5: Case study France 113

Annex 6: Case study Sweden 129

Annex 7: Case study Warsaw 141


1 Introduction

1.1 Definition of the problem

According to the task specification for this study, financial markets are not performing as well as

they could for SMEs. Business information on listed SMEs is inadequate – equity research analysts

are far less likely to cover SMEs than large enterprises.

SMEs are the engine of the European economy and therefore DG Enterprise and Industry

continuously reviews their performance. In particular, the Access to Finance Unit focuses on

improving the possibilities for obtaining external financing by SMEs, amongst other things by

enhancing the availability of high quality information on them.

The task specification presupposes that “Better mobilising the business information service

providers in order to improve production and distribution of as well as access to reliable high quality

information on listed SMEs is one of the instruments to … extend the base of investors willing to

invest in listed SMEs … as it provides the knowledge that enables a wider range of investors to

provide capital in a market segment they have so far only insufficiently been interested in.”

1.2 Study objectives

The aim of the assignment is to improve the market performance of European business information

services, with a particular emphasis on listed SMEs. The study will analyse the shortcomings in the

past and current business models of commercial information providers. This analysis will be based

on an assessment of existing market failures and extensive field research. The results of the study

should provide newly established and existing commercial information providers with ideas for the

development of better business models for research on listed SMEs, in order to improve their

performance.

The study should identify market-based solutions for providing reliable high-quality research on

listed SMEs. Regulatory requirements that have an influence on the provision of research on listed

SMEs also have to be analysed.

1.3 Structure of the report

In the next chapter we set out the methodology, including the delineation of the industry of providing

business information services on listed SMEs.

The tasks included:

A literature review to find out the major issues in the market of business information providers;

A series of initial interviews in order to delineate the industry of business information providers

regarding listed SMEs;

Conducting interviews to identify the patterns of investment in listed SMEs and large

enterprises, to examine the information needs on listed SMEs, to look for recent initiatives for

the provision of business information and finally to discuss the roles of the market participants


and the regulatory framework, which can influence the market for business information

providers regarding listed SMEs;

Undertaking case studies to obtain successful and failing business models to provide business

information regarding listed SMEs;

Building scenarios for three different models of business information regarding listed SMEs,

including the option to provide high quality comparable information from a central access point

at EU level;

Providing policy recommendations.

In Chapter 3 we will explore the market structure for business information providers regarding

SMEs and interviews undertaken in Chapter 4 provide insights into how best to harness information

to facilitate investment in SMEs. Chapter 5 gives a synthesis of five case studies – in Australia,

France, Poland, Sweden and the UK – which highlight successes and failures in the business

information market with respect to listed SMEs. The case studies are presented in full in Annex 2.

Chapter 6 evaluates ideas for improving the quality and flow information on listed SMEs and

provides short and medium-term policy recommendations.


2 Methodology

2.1 Defining listed SMEs

In this study we will analyse listed SMEs. Our focus is on enterprises with small and mid-level

market capitalization (small- and mid-caps), defined as:

Small-caps: equity values from € 336 million to € 1.3 billion (USD 250 million – USD 1 billion);

Mid-caps: equity values from € 1.3 billion to € 6.7billion (USD 1 billion – USD 5 billion).

It should be noted that the cut offs between small-caps and mid-caps are not the same in EU

Member States and beyond. It is also noteworthy that the EU SME definition comprises three

indicators with upper thresholds:

Staff headcount (up to 249);

Annual turnover (up to € 50 million);

Balance sheet total not exceeding € 43 million).

The EU definition thus lacks an indicator for equity value, which is the main characteristic used by

financial market participants to determine whether or not they perceive a stock to be an SME or

small- or mid-cap. In this study this equity value starts at € 336 million1. The equity value indicator

has no clear relationship with the other three indicators so that companies at equity values of € 336

million can be below or above the upper thresholds of the other three indicators. As the market

participants in this study only refer to the equity value of companies we will use this indicator

throughout this study, knowing this will include SMEs but also larger enterprises that face the same

problems. Generally we apply the terminology “SMEs, small-, and mid-caps”, unless we expressly

refer to one sub-category in a specific context.

Although the larger mid-caps are not in line with the official Commission’s SME definition, we leave

them in our definition of listed SMEs as long as the policy recommendations are relevant for SME

policy development and thus for listed companies that do fall under the Commission definition of

SMEs. When we talk about SMEs, small- and mid-caps in this report, we will herein after refer to as

“listed SMEs”.

2.2 Research questions

The main research questions we look at in this report are drawn from the Terms of Reference and

the scoping exercise conducted in the inception phase of the study:

1. How can the relevant industry be delineated for the provision of business information services

as well as a first indication of its current market performance?

2. Describing the current differences in information supply and demand for investment in SMEs

compared with large enterprises?

3. What regulatory requirements, including the institutional environment of the markets, might

create obstacles towards the provision of research on listed SMEs compared with larger

enterprises?

4. What are the shortcomings in current market performance that negatively affect the provision of

business information on listed SMEs?

1 This threshold was taken from InvestorWords.com – Online Investing Glossary.


5. What information do potential investors in listed SMEs require?

6. Are there business models that provide, or have provided, information about listed SMEs? If so,

how were they financed?

7. Would high quality business information from a central access point at the EU level facilitate the

use of information on listed SMEs by investors as contemplated in the Commission’s Action

Plan to Improve Access to Finance for SMEs2?

This report will explore these questions by way of a literature review, interviews and case studies.

We aim to find evidence to answer these key questions - and summaries are provided at the end of

each chapter.

2.3 Classification of the market

During the inception phase the delineation of the relevant market was assessed. No official industry

definition for business information providers was found and relevant data are limited. The Eurostat

category that comes closest is NACE Rev. 2 63 Information Service Activities, 63.12 Web portals

and 63.99 other information service activities n.e.c. These industries are nevertheless too

aggregated and so these data cannot be used to draw conclusions about business information

providers who provide information about listed SMEs.

To better understand the delineation of the market, an overview of the participants involved in the

business information services is provided in the next section, based on several interviews.

The activities of business information provision on listed SMEs can be defined for this study as

follows: The collection of information as well as the research and analysis by different agents of use

for investors in small- and mid-caps. The information itself can be in raw form, it can be open, paid

for or exclusive information (see the information diagram in section 2.4). From one of the case

studies the importance of tacit information or informal contacts has become apparent.

2.4 Delineation of the industry

A financial-market expert identified market participants that either generate or use information about

listed SMEs during the inception phase of the study. In addition, a definition for the sector at stake

in the study can be found in this section.

2.4.1 The value chain

Figure 1 presents an overview. It outlines all the participants that may use or provide information

and the type of information that is generated. A more detailed diagram, which describes how

information is created and flows from the listed SMEs to the investor can be found in Figure 2.1.

2 COM(2011) 870 final.

Improving the market performance of business information services regarding listed SMEs

9

Figure 2.1 Market participants and the range of information generated

Source: Market Structure Partners

Credit Ratings

Research from an

independent

provider Internet

etc

INVESTORS

INFORMATION DISTRIBUTORS/

AGGREGATORS

ASSET MANAGERS

RETAIL INVESTOR

PROPRIETARY TRADER

Newspaper

Articles

Specialist Publications

Research from an

institutional broker

Yahoo/Google Finance

Bloomberg Reuters Standard &

Poors

Morning Star

LISTING & TRADING

PLATFORMS

LondonStock

Exchange Crowd Funding

CORPORATES B C

Nominated Advisors

Company Meetings

A

Moody’s

BENCHMARK PROVIDERS

FTSE MSCI S&P EUROSTOXX

Specialist

Networks

Deutsche Borse NYSE

Euronext

CORPORATE ADVISORS

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2.4.1.1 Users of business information

It is widely viewed that retail investors account for a much higher proportion of the investor market

in listed SMEs than in blue-chip stocks where, particularly in more mature markets such as the UK

and US, asset managers and institutions tend to hold a high market share. However, it is hard to

prove this and it differs between markets. A lack of data means it is hard to quantify where the

demand for information on listed SMEs comes from, which in turn may mean it is hard to create a

business model to match it.

Retail (the “man in the street”)

This is defined as individual investors who make decisions, either of their own accord or in

conjunction with advice they may receive from an advisory broker. These investors are usually

investing on a much more speculative basis and they may be making short or long-term investment

decisions.

Retail investors tend to use freely available information or specialist publications and web chat

forums where they might find out something that could drive the price of a stock up or down. They

would usually make their investment either completely on their own via their on-line/telephone

brokerage accounts (execution only) or else via advisory brokers who would deal on their behalf

and possibly offer research to add value (advisory). Retail investors are likely to be price sensitive

and invest in small amounts.

How can their views be gauged?

By talking to some on-line brokers about what, if any information, they provide and talk to advisory

brokers about what information they provide and the type of information requests they get from their

customers.

Asset manager

This includes hedge funds, sovereign wealth funds, family offices and asset managers investing on

behalf of individuals, corporations and governments. Asset managers can be divided into having

passive and active management styles. Institutional Asset managers will be acting on behalf of

pension fund trustees who in turn may be advised by consultants as to how the fund mandate

should be composed.

Anyone investing money on behalf of others is likely to have to justify their performance and will

therefore need benchmarks – e.g. an index such as the FTSE 250 – and transparency of

information to measure performance against.

Passive fund managers seek to generate beta (by replicating the performance of the benchmark).

They therefore will only invest in companies that are part of an index and they will be focused on

the particular benchmarks they have chosen to follow.

Active managers are seeking to beat the benchmark by adding alpha (performance in excess of the

benchmark) so the fact that the stock belongs to a benchmark that can be measured is also

important. They are actively monitoring individual companies in order to find good value and

enhance performance. However, the risk will be carefully measured and listed SMEs would be

deemed more risky investments than blue chip companies.


By talking to the fund managers at these institutions – both passive and active investors. In most

cases there will be small- and mid-cap specialist funds or funds that incorporate investment in

small- and mid-cap companies.


Proprietary (professional) traders

These firms or individuals invest large sums of their own money in order to make more money.

They do not have to justify their performance or the risks they take to anyone but themselves. They

may be long or short-term investors.


These firms tend to be very secretive and their methodologies vary widely but they should share

high-level information. It should be possible to interview a few of these firms.

Should private equity be included?

Generally private equity/venture capital and angel investors invest in companies that are not

publicly traded on a stock exchange though they might consider investing in a publicly listed

company and then de-list it. Given the fact that this study is looking at SMEs traded on public

markets, these investors are considered less relevant for the interview process.

2.4.1.2 Investor information

There are two sets of information available:

1. Information with no opinions provided: e.g.:

a. Stock exchange price data. Note that to get stock exchange price information there is a cost

if one wants it in real time. Real time data will be more important to short term investors.

Most asset managers and proprietary traders would pay the fee for real time data and

receive data via specialist data distributors such as Reuters and Bloomberg. Retail investors

can get delayed data (usually 15 mins delayed) for free and see this information on the

internet or in news publications;

b. Other information with no opinion attached would include company accounts and

prospectuses which would usually be available in hard or soft copies either over the internet

or from the company direct.

2. Opinion Forming Information: e.g.:

a. Newspapers and Specialist Publications may carry some information about a company,

offering advice and an opinion. These should be accessible to everyone for the fee of the

publication but the quality of the information or opinion may be low or without certification;

b. Research - people who devote time to do research and give opinions on companies would

expect to be paid for it:

If retail investors pay a premium fee to an advisory broker, they may also get access to

retail grade research or the retail broker may have an arrangement with an institutional

research provider;

Asset managers will have their own analysts undertaking research and will also be

paying brokers with whom they have an exclusive relationship to receive research that is

not available to the general public. For this, the asset manager must pay a certain

amount of commission to the broker over an agreed period. Asset managers pay brokers

for research via the payment of commission, which is paid when an execution to buy or

sell a stock takes place with a broker. However, linking payment for research to a

particular transaction has always been difficult as the asset manager may or may not act

on particular pieces of research. Generally brokers expect to be paid a certain level of

total commission per annum from each client in return for allowing them access to all

their research. This research is not accessible to the public though the overall opinion of

a research analyst may be published e.g. Credit Suisse says BUY/SELL/HOLD etc.;

Independent research firms may also provide research to anyone who is prepared to buy

it;

Additionally people will only provide research if there is demand for it. This means that if

asset managers are reluctant to buy listed SME stocks because of the risk and the


illiquidity, then brokers will not provide the research as they will not get paid for it.

Brokers that deal in listed SMEs therefore often tend to be specialist and also domestic

based as they are closer to the local business community and also investment in SMEs

tends to start at a domestic level;

In some cases the SME will pay a research provider to write a research report about

them annually or quarterly.

c. Company meetings: meeting the management of a company face to face is important.

Management obviously does not have time to meet every investor on a regular basis but

they will meet with larger shareholders. However, they often do not know who the investors

are or have no relationship with them. Investors want to meet the companies but often do

not know how to contact them so brokers tend to act as meeting organisers for their most

valued clients in these stocks. Investment managers would pay for this service in the

commission they pay their brokers;

d. Credit Rating firms provide some information that may be freely available but usually charge

for their services;

e. Some specialist networks (GLG, Guidepoint Global) exist which put investors and research

analysts in touch with subject matter experts. For example, if potential investors are thinking

of investing in the sugar industry, they might want to talk to people who are working in the

industry or have recently left the industry. These types of networks link specialists with those

who want to talk to them. Investors and analysts would pay for this service and the

specialists who provide information would expect to be paid for their time.

It should be noted that some of the information that the asset managers buy (such as research from

a third party or information terminals) is paid for out of the end client funds so it is not a direct cost

for the asset manager. However, other costs for information services such as a Bloomberg terminal

must be paid for out of the fund managers’ costs (this is not the case in countries such as the US

where for example arrangements may exist for a Bloomberg terminal to be paid for out of client

funds, a practice known as softing; there may be exceptions in Europe). These practices are varied

in different countries but the UK regulator has led a review of payment for research and this has

resulted in the move towards more “unbundling” of research so that the payment for research from

client funds is more transparent to the end client. As the industry starts to unbundle (commission

paid for execution is becoming separated from a fee paid for research), it means that asset

managers have more flexibility about where to allocate their budget and independent research

houses are being established. They also charge a fee for their research; it should be noted that it is

not a requirement to unbundle in most European markets but many asset managers are adopting

the practice across Europe.

Some general notes on users of business information

There are many regional variations. However, there tends to be more information about larger

companies because they are attracting a larger pool of investors. In many cases, they have

become well known brands that are recognisable across borders. Investors may feel more

comfortable investing in stocks in another country if they recognise the company. Also, being part of

a well known benchmark (e.g. CAC 40, FTSE 100) guarantees more investment as it means that

the stocks cannot be ignored by asset managers, particularly those following a passive investment

strategy. Small companies may also be cost and resource constrained when it comes to managing

investor relations.

For this reason, domestic investors are usually the ones who invest in SMEs whether on an

individual basis or via a managed retail fund. This is because i) the information available is often

only in the local language, ii) the risk involved in dealing across borders sometimes in a different


currency, often deters investors and iii) the illiquidity of the stock makes it harder for larger sized

investors to become involved.

Asset Managers first and foremost must consider the risks on behalf of their investors and justify

their performance. They must measure their investments and they want plenty of transparency at all

times about the company. Individual investors must also weigh up the risks but are more likely to

take a risk without having to worry about justifying their ideas to anyone else. The amount of free

float (stock available to the public) of a company is also a problem for all investors. If the original

management retains control of the company then investors would have concerns about their rights

as a minority shareholder and their ability to liquidate their position.

Listed SMEs tend to be quite illiquid (low frequency of trading in significant amounts). Institutional

investors in SMEs are likely to invest considerable sums of money and therefore take a significant

stake in the firm. Holding such a position is very risky if there are unlikely to be many buyers and

sellers when investors want to sell. Individual investors are likely only to be trading in small

quantities so whilst liquidity is an issue for them, they are more likely to find a buyer or seller for

small amounts.

2.4.1.3 Information providers/generators

Information distributors and aggregators

Retail users can easily find information about the price of a stock but it is much harder to make

comparisons between various information sources on trend analysis, analytics etc. although Yahoo

and Google, for example, offer some capabilities.

Users of a lot of information want to have it aggregated and they also want to have analytical tools

that help to evaluate and compare the information they receive.

Firms such as Reuters and Bloomberg provide the distribution of this information and screens and

analytics to help the research analyst and the traders to do their job. They provide immediate news

reports, real time (or delayed) prices from all the exchanges, shareholder information, analytics,

trend information etc. Firms such as Morning Star provide a summary of all the analyst ratings and

help compare information for a busy analyst.

Benchmark providers

Indices may be owned by an exchange (for example Deutsche Borse owns Eurostoxx), or

developed as a joint venture with an exchange (for example FTSE) or developed by an

independent provider (MSCI).

The creation of an index often provides greater incentives for trading as it provides a benchmark

and is usually an easy way to gauge how a set of businesses are performing. Investment managers

can create more products on the back of an index. Therefore once a stock is included in an index it

may be traded more frequently.

Indices may be calculated almost real time or less regularly. Constituents of an index are usually

determined quarterly.

Listing and trading platforms exchanges

The main category here is exchanges and MTFs (Multi Lateral Trading Facilities). The most

obvious examples of both listing and trading platforms are the London Stock Exchange, NYSE

Euronext and Deutsche Borse. These platforms are where companies go to list and then the trading

of the stock continues on that platform. However, once listed, a company listed in Europe can easily


be admitted to trading on another exchange or MTF – so the company’s stock could be traded in

multiple places.

Exchanges set the rules, which companies must abide by if they want to list on their platform, e.g.

how often they have to publish their accounts and standards that the company must adhere to if

they want to remain a listed company. In this way, the exchange provides a recognised standard or

kite mark for the company. However, some elements of standard setting have moved to national or

regional regulators, for example through the Pan European Prospectus Directive.

Many large exchanges have a specialist segment for listed SMEs where the rules are less onerous

to help the company get off the ground, e.g. the LSE’s Alternative Investment Market, AIM.

However, these exchanges may be more focused on the large blue chip companies and now a

number of specialist platforms have been created to focus specifically on small- and mid-cap

company growth. An example is Alternativa in France and some discussion about an Alpine Stock

Exchange, potentially based in Austria and with a focus on environmentally sustainable businesses

in the Alpine region.

The exchanges may insist that as part of the listing process, the company must have a nominated

advisor acting as the interface between the exchange and the company, and to make sure the

company adheres to the right standards. In some cases the nominated advisor may have to provide

research on the company and make it available to the market.

The exchange also provides the mechanism for the buying and selling of the shares but as it is

simply the platform for buying and selling, it cannot guarantee that there will always be buyers and

sellers. If there are no buyers and sellers, there is no price available for potential investors, which

will discourage trading. In response to this, the exchange often runs incentive programmes to

encourage brokers to commit capital and make two-way prices on the market. This may often be a

requirement of an advisor. These programmes may include giving protection to market makers who

commit capital so that they do not have to report trades to the exchange immediately. This gives

them some time to offset the risk they are taking.

In summary, although exchanges are an important part of the ecosystem for any company raising

money, one needs to recognise that they only provide a limited amount of information to the market:

1. A kite mark/brand – the company must abide by the recognised standards of the exchange;

2. They display the price at which an investor can buy and sell (but they have no influence on what

this price might be);

3. Disclosures to the market whereby the exchange ensures that any price sensitive news is made

public at the same time and via a recognised channel.

Crowd funding platforms

Crowd funding is a subset of a listing/trading platform and becoming increasingly popular globally

as a means to finance SME initiatives. In Europe, crowd funding is used also to finance SME start-

ups mainly via debt rather than equity. Crowd funding also generally concerns mostly very small

commercial undertakings, often related to environmentally innovative products, or sustainable

development (e.g. solar panels, biological farming). Both lending and investing under crowd funding

platforms are subject to restrictions related to taxation and judicial supervision. It is therefore not

considered a financing option for the larger listed SMEs. For that reason we propose not to include

detailed reviews of crowd funding in our analysis of business information service providers.


2.4.1.4 Corporate advisors

Corporate Advisors often have a clearly defined role (i.e. the NOMADS for the London Stock

Exchange AIM Market) or they may act more informally in markets where there is no defined role.

Their job is usually to focus on the corporate and ensure they meet the regulatory criteria but they

are often a conduit for information between the market participants and the corporate.

2.4.2 Investors information needs

2.4.2.1 Initial findings from the literature review

As requested by the Commission during the kick-off meeting, the project team has started to review

literature about the investors’ needs for business information (the demand side of the market for

business information). The first articles that were reviewed show that there is a clear difference in

information needs and use between retail investors and professional investors. This probably

affects their investment decisions.

Different sources of business information

Retail investors access the following sources of business information before making their

investment decisions: literature, media, internet, friends and family, and professional service

providers. So business information providers are not the only source of information. The choice for

particular sources is dependent on the individual investor’s subjective knowledge, risk tolerance,

age, educational level, and income level. The probability of using business information providers,

the subject of the present study, increases for older consumers with a relatively low level of

subjective knowledge and who are more risk tolerant (Lin and Lee, 2004). Higher-educated male

investors with higher income levels are more likely to have a high-information search strategy,

meaning that they utilize access to the highest number of information sources before making

investment decisions (Loibl and Hira, 2009).

Format of the information

Before making investment decisions, retail investors like to have only the key information about the

investment product in one summary document. This information should preferably be written in a

clear, concise, and understandable language, presented in bullet points, tables, charts or graphs.

Furthermore, retail investors prefer a layered way of information provision, meaning that they want

to apply for more detailed information on paper or online only once they are interested (U.S.

Securities and Exchange Commission (SEC), 2012).

Types of information used

Clark-Murphy and Soutar (2004) use data from Australians to show that the majority of the

individual investors are long-term investors, and they are not interested in speculation. The main

information that is accessed before deciding to buy a stock are information about the company’s

management and recent movements in the price of the share, followed by financial measures such

as dividend and price-earnings ratios. The research of SEC (2012) shows that U.S. retail investors

are mainly interested in:

fees/expenses (sales charges, management fees, operating expenses);

past investment performance;

principal risks (credit risks, liquidity, inflation);

investment objective and strategy (growth, income, or capital preservation).

The type of information that is used before making an investment decision also depends on

investment familiarity. Investment familiarity says whether an investor is researching a new

investment or if he is evaluating a current investment. Retail investors who evaluate a current


investment focus more on the balance sheet than they do for a new investment. This does not hold

for professional investors (Hodge and Pronk, 2003).

Arnold et al. (2010) examine how professional and retail investors use annual report information for

their investment decisions. Professionals use the financial statements and the related footnotes.

These are the audited parts of the annual report, which are probably more reliable than other parts

but also likely to be more difficult to understand without being trained. Retail investors base the

decision on a smaller set of information about the performance of the company. They prefer to

obtain business information from the Management Discussion & Analysis, which has a lower level

of assurance as this part is not audited.3 This choice impairs the quality of the investment decisions.

So by analysing the use of information from annual reports, it can be concluded that retail investors

are at a disadvantage when they make investment decisions, because they are less informed about

the detailed results of operations and earnings quality.4

Investors also look at newspaper articles. Nofsinger (2001) studied the relationship between trading

behaviour of retail and professional investors, and firm-specific news articles in the Wall Street

Journal and macro-economic news items. The results of the analysis show that retail investors only

trade when there are positive firm-specific articles, while institutions also trade on bad news.

Investments of retail investors are positively affected by the visibility of the news (which is proxied

by the length of the article), while the behaviour of institutional investors is not affected by this. The

results also show that the trading of small firms is not affected by macro-news, while both types of

investors buy (sell) large firms after good (bad) macro-economic announcements.

Another difference between professional and non-professional investors is that retail investors tend

to trade more on stale news, which implies that these investors sometimes fail to distinguish

between old and new information in news items (Tetlock, 2011).

What we can learn from this

From this initial literature review about investor information needs, it can be learned that differences

in information needs and use exist between retail and professional investors. The specific business

information that retail investors use depends on their own characteristics (age, income level, etc.)

but also on the type of investment (new or current). In general, retail investors are probably less

interested in business information services providing costly real time information (like Reuters and

Bloomberg). For these investors it is more difficult to interpret and value the financial information,

and they are often not interested in short-term investing. Furthermore, it is found that information

services providing macro-economic announcements are less relevant for this study as trading in

small firms is hardly affected by this news. These initial findings are important for the scope of the

study and for the identification of the persons and organisations to interview during the next stage

of the study.

Other initial observations from the literature

When looking at the other side of the market, the SMEs, there is a considerable amount of literature

about equity finance for SMEs, but the literature specifically focussing on listed SMEs is limited. It is

empirically shown that SMEs prefer other ways of financing above public equity funding (e.g.

because of the pecking order hypothesis).5 Second, the funding escalator model says that listing

only becomes important at a certain stage of company development. The absence of supply of

3 This finding is also confirmed by Hodge and Pronk (2006).

4 Journal of Accountancy, http://www.journalofaccountancy.com/Web/20102682.htm.

5 There is empirical evidence for these financing preferences a.o. from López-Gracia and Sogorb-Mira (2008), Cassar and

Holmes (2003), Sánchez-Vidal and Martín-Ugedo (2005).

http://www.journalofaccountancy.com/Web/20102682.htm


sufficient public equity finance, for example because of a lack of business information provision

services, will limit the growth of the SMEs as they cannot reach the next step on the funding

escalator (Mason et al., 2010; FESE, 2012). Listed companies face several costs which explain

why listing is not suitable for early-stage SMEs. Obtaining and maintaining a listing will involve

lawyer, accountant and broker fees and commissions, joining fees, annual charges, on-going

compliance regulations and disclosure requirements. For smaller companies, these costs would

absorb a too large part of the funds raised (FESE, 2012).

2.4.2.2 Observations from the initial interviews

During the inception phase a few initial interviews were held with financial market participants to

further delineate the industry.

Information needs

According to the UK association for retail investors ShareSoc, whom we interviewed during the

inception phase, retail investors use the following information when deciding on investment in listed

SMEs, small- and mid-caps:

The financial profile;

Information on sector risks and the company business model;

Initial IPO information;

The on-going bid and offer price;

General market intelligence and general sector information;

Information about management.

The financial profile concerns key figures of the company. This information is often publicly

available in annual reports.

The information on sector risks and the company business model is a key problem for investors.

Information on these topics is often limited or not available at all. The information that is provided

often originates from company brokers and their analysts who are biased in the information they

distribute, although some companies have an open and active communication policy. Nonetheless,

truly independent analysis of smaller companies is often lacking.

IPO information is used for recently started companies, not for established small-caps on the main

market.

Most important in the field of the on-going bid and offer price is the bid-offered spread. This spread

is used by the more experienced investors. This information is available, but does require some

knowledge from the investor on places where to get the information. For a fee, also the order book

may be obtained, and recent individual trades are also readily available for all stocks. In case of a

market maker traded stock, only quoted prices (bid/offer prices) are offered.

General market intelligence and general sector information is often available, but there is a

shortage of information on some sectors. We have not (yet) received information on which sectors

are most problematic.

Information about management is often insufficient. Annual reports usually contain brief profiles

(and in some cases these are even omitted), but more information on management is desired.

Sometimes the IPO prospectus contains management information. In case of new appointments of

managers, regulatory news offers information on the managers, but this information is often too

limited. For example, information is provided on other positions held, but no career history, details

of qualifications, etc.


Information about company credit ratings is not used in practice, as this information is usually

based on financial reports that investors already have access to.

Sources of information

The main sources of information for retail investors are:

Financial reports / general meetings;

Regulatory news announcements (there are several providers for this kind of information);

Google alerts;

Bulletin boards and other internet information services;

Informal sources.

According to ShareSoc, commercial initiatives for private investors are most likely doomed, as

private investors are usually not willing to pay for premium information. They usually believe that

everything is available for free online.

The flow of information from SMEs to investors

The flow of information from SMEs to investors is set out in the following diagram.


Source: Market Structure Partners.


Above is a visual representation of the complex environment of the information flow from the

company to the investor, the types of information that are available and what kind of investor

accesses them.

At the top of the graph we have all the raw information that the company provides.

At the primary market stage, when a company lists for the first time or raises additional capital, the

accounts and prospectus will be prepared to the standards demanded by the regulator and/or the

exchange. It may have to publish these through official channels or it is published directly and

picked up directly by the news companies. The process of raising capital in the initial stages is run

by a bank or broker which builds a book of interested parties that help to set the launch price.

Once a stock starts trading, it is in the secondary market. Other exchanges or MTFs in Europe can

admit the stock to trading on their platform so that some stocks trade on multiple platforms even

though they are listed in one place. The exchange or MTF trading platform allows buyers and

sellers to come together to assign a value to the stock through a process of supply and demand.

These are the share prices that the market is accustomed to seeing.

The kind of trading that can occur is either:

Lit trading, which constitutes a transparent order book where buy and sell orders can be seen

by all market participants. This creates pre-trade transparency information and is particularly

efficient in highly liquid companies with a high volume of low value trades. This type of trading is

often done in an electronic order book that may trade continuously or hold auctions at interim

periods;

Dark trading, where the intentions of the buyer and seller and the price at which they are

prepared to trade are hidden. If the system can find a potential match between a buyer and a

seller, it may automatically execute at a price that references the mid point of the spread in the

lit market or link the investors bi-laterally so that a more manual transaction can take place

bilaterally. According to European rules, this trade will then be reported after the transaction has

taken place, leading to post-trade transparency information. This type of trading is often done in

an electronic order book that may trade continuously or hold auctions at interim periods.

Dark trading methods are particularly important in the trading of listed SMES. SMEs often have low

liquidity and limited amount of shares available. Therefore, if an institutional investor wants to sell a

large share of that company the market in lit trading would react to this affecting the share price

making it unattractive to trade. Dark trading allows them to execute the bulk of their trade before the

market moves against them.

The secondary market information is used by index (FTSE, S&D) operators to create aggregated

information packages that they distribute through news companies. All of these information outputs

are picked up by news companies, with the differentiation that real time data distribution channels

(Reuters & Bloomberg & Morning Star) are paid services. What they also offer are analytical tools

to calculate and analyse the secondary market data movements allowing for additional information.

Other news services (yahoo finance/ Forums/ basic versions of Reuters) provide similar information

with only a time delay.

The process of information formulation and information aggregation creates three types of

information on the listed SME:

Open information which is available free of charge (or very small amount) and is easily

accessible;


Paid information which can be expensive, but has the advantage of being in real-time,

something that the proprietary and institutional investor is willing to pay for as it can give them

the competitive advantage in trading for the best margins (including speculative trading of going

short or going long).

This information is not only accessed by the investors themselves, but also by Information

Interpreters. These are companies and institutions that add value by adding their analysis,

forecasts and opinion about the listed SMEs. The list of them and which information they use is

illustrated in the diagram.

However, Research Providers come in different types:

Institutional research is usually part of the big investment international, regional or domestic

banks/brokers (Goldman Sachs, JP Morgan, Deutsche Bank, Barclays, Commerzbank,

Santander) that provide in-depth equity research, but only exclusively to their high value clients;

Independent Research that is either freely available or can be simply purchased by any investor

(although retail investors rarely do so):

- Public this is research funded by public money or can also take the form of organisations

that support and try to promote certain industries of regions (e.g. CzechInvest making the

link between investors and companies as well as actively marketing the existence and

financial viability of investment opportunities);

- Academic research can for instance analyse if a market is over or under priced;

- Commercial research houses are profit making companies that focus on providing thorough

equity research on a similar level as Institutional research although they may not provide

such in-depth information or recommendations. These have increased as a result of

unbundling, which allowed investors to continue to use institutional broker services, but to be

more flexible with their research spend.

The process of information interpretation creates three types of information on the listed SME:

Open information, which is available free of charge (or very small amount) and is easily

accessible;

Paid-for information, which can be expensive but is available to anyone willing to buy it. It has

the advantage of being extensive and done by experts, something that the proprietary and

institutional investor is willing to pay for as it can give them the competitive advantage in trading

for the best margins (including speculative trading of going short or going long);

Exclusive information that is provided through Institutional brokers to select institutional clients

together with the possibility to arranging a direct meeting with the company to further

information insight and to (legally) allow for greater insight into the value of the company.

Lastly the facilitators that allow investors to complete their operations are of three types:

Retail execution brokers only facilitate the buying and selling of shares with no additional

information attached and are used mainly by retail investors;

Advisory retail broker not only facilitate the buying and selling, but also can provide information

interpretation services that they themselves often outsource or in case of larger entities do in-

house. Proprietary, but also retail investors use their services;

Institutional brokers are much like advisory retail brokers only available to a very select group of

investors and gather information largely from their in-house research.


2.5 Aim of different methodologies that are used

2.5.1 Literature review

The literature review addressed the following topics:

Users of business information (investors):

- Differences in information needs between retail and professional investors;

- The need for real time information and delayed information.

Business information providers (including the different categories of distributers/aggregators,

benchmark providers, listing/trading platforms, corporate advisors);

Business information provision instruments:

- Information that is currently provided by business information providers.

Market performance of business information providers (including past experiences):

- The listed companies (SMEs, small- and mid-caps);

- Financing preferences of SMEs, small- and mid-caps;

- Differences between SMEs, small- and mid-caps and large firms for getting equity finance.

2.5.2 Interviews

It was then determined that a number of high-level interviews should take place to discover and

verify the above observations. The interviewees were grouped together in accordance with their

role in the value chain as described in Fig 1. To facilitate the interview process, the client made an

introductory note in the inception phase. A questionnaire was used in the interviews that dealt with

obtaining a description of business models of the business information providers, whereby the

following factors were taken into account:

Target market (its size, domestic/foreign, client database);

Motivation to invest in listed SMEs;

Motivation to provide information about listed SMEs;

(Core) product (type of service provided, core business or side activity);

Product positioning / Marketing & selling strategy;

Distribution channel (i.e. e-commerce);

Pricing (i.e. fixed pricing, value-based pricing);

Revenues and funding possibilities;

Costs (i.e. operational costs, overhead).

2.5.3 Case studies

Below we describe the approach applied in each case study in order to get a consistent overview

from the five case studies. The aim of the case studies was to assess:

1. The position of the business information services and the environment in which this activity

operates;

2. The motivation of participants to invest in listed SMEs or to provide information about listed

SMEs;

3. The competitive position of the business information services for listed SMEs;

4. Analysis of critical issues identified in the literature review and interviews;

5. Regulatory framework conditions affecting the business information providers who cover small-

and mid-caps;

6. Areas of Innovation in the provision of business information;

7. Providing a future outlook for business information services for listed SMEs.


In addition, the literature review also had identified some critical issues for the provision of business

information services on listed SMEs that had to be taken into account in the case studies. Finally, in

the interviews we discovered a set of environmental factors that could help explaining the

performance of business information providers that cover listed SMEs, which are also taken up in

the case studies.

Each of the above seven topics is elaborated upon below.

1. The position of the business information services and the environment in which this

activity operates

This section should look at the number of business information providers divided by coverage of

on the one hand, large-caps and on the other hand, SMEs, small- and mid-caps. Furthermore,

the environment in which the business information services operate should be described by

distinguishing:

The users of the information (demand led, or demand stimulation model);

The form of the business information that is provided (reports, arranging company meetings,

investors relations and public relations);

The information distributors and benchmark providers (are trade prices directly available, or

via information distributors and is the listed SME part of an index);

The listing & trading platforms (What is the level of the listing fees; does the listing venue

require the SMEs have a website, a set of accounts, a prospectus);

The actors in the market of business information (Is the market dominated by a few large

investment banks, or is there also room for smaller intermediaries and boutiques);

The ownership of the listed companies, the sizes of the companies and the sectors they are

involved in.

Finally, the overall trends, e.g. the shifts to bonds from equities in recent years should be evaluated.

These trends can affect the size of the market, i.e. the market capitalisation of SMEs versus the

market for large caps. If possible, an estimate should be given on the distribution of the market

capitalisation held by domestic versus foreign investors. Furthermore the supply and demand for

business information on listed SMEs is important because if the demand is not there due to pension

fund mandates etc. then it is hard to encourage supply of information.

2. The motivation of market participants to invest in listed SMEs or to provide information

about SMEs

This section reviews why certain market participants may or may not invest in listed SMEs and

why business information providers may be incentivised to provide business information. It will

analyse supply and demand issues as well as costs and profitability.

3. The competitive position of the business information services for listed SMEs

This section has to investigate the critical success factors and bottlenecks that influence the

successful provision of business information services for SME equity. The same investigation

needs to be done for the business information servicing large caps. For the business

information providers on listed SMEs the following information ideally should be obtained:

Market demand (size of the demand);

Bottlenecks in the supply of the services;

Turnover realised;

Price setting;

Cost structure and cross subsidisation.


4. Analysis of critical issues identified in the literature review and interviews

This section should describe the critical issues, which can influence the provision of business

information on listed SMEs in the market under study (positive or negative). The following

issues were identified in the literature review:

Costs of research for SMEs;

Profitability;

Feasibility in times of crisis;

Local nature of SME investment;

Transparency;

Investor relations.

For each case study it should be explained how the critical issues influence the business

information services on listed SMEs and the importance of the issues should be indicated.

5. Regulatory framework conditions affecting the business information providers who

cover small- and mid-caps

This section will give insights in the degree of influence of the following regulatory measures:

The disclosure rules;

Bottlenecks for the modernisation of the information provision by companies to investors;

The unbundling of commission in business information services (including company

meetings).

In addition, each case study should describe how the above regulatory measures impact on the

business of information provision on listed SMEs.

6. Areas of innovation in the provision of business services

This aims to understand where innovators have tried to increase the provision of information

and how. It also assesses, where possible the success or failure or such projects.

7. Providing a future outlook for business information services for listed SMEs

This section needs to discuss the following topics:

What can be done to increase the competitiveness of the firms providing BIS on listed

SMEs;

Discussing the strengths, weaknesses, opportunities and threats of the firms providing BIS

on listed SMEs;

Provide policy suggestions to enhance the market performance of the business information

services on listed SMEs.

2.5.4 Building scenarios

In chapter 6 we build three scenarios for the provision of business information services regarding

listed SMEs. We will discuss for each alternative the advantages and disadvantages. An important

question is whether market entry of a new research entity (possibly at pan-European level) would

be needed.

2.6 Summary

In order to determine the methodology of the study, a review of practical industry information that

helped to delineate the workings of the financial market and an initial literature review that

supported the practical description was undertaken.


Investors in listed SMEs can be divided into three categories: retail, proprietary and asset

managers. Their information needs of these investors vary and their budgets and breadth of

interests will also vary considerably.

It appears that retail investors account for a higher proportion market share in local SMEs than they

do in the investment of larger regional enterprises. They may obtain their information from delayed

stock exchange price data and from newspapers and magazines.

Asset managers have a higher market share in blue chip stocks. They usually get their information

from stock exchange price information in real time as well as from research teams at brokers with

which they have a relationship. They also want to meet corporate management or visit the company

premises. Institutional asset managers have to follow benchmarks to track their performance.

Listed SMEs can often be illiquid and this is caused by:

Lack of a well-known brand;

Uncertainty over whether investors can liquidate their stock if it performs poorly;

Language constraints;

Lack of willingness of retail investors to invest across borders;

Cost and resource constraints on a small company to manage investor relations.

Information is provided or distributed by a number of different market participants and investors

may use a broad spectrum of this information. This will include basic information that has no

opinion or view about the company attached and is often available for little or no cost, through to

sophisticated in-depth research that provides an opinion about a stock and may only be bought via

exclusive relationship or at considerable cost.

Research providers can be banks or brokers that provide equity research to their high-value clients

or independent researchers who are willing to sell their research to anyone willing to buy it. This

research often carries an explicit or implicit opinion about the company. Payment for research has

traditionally been done via commissions paid to brokers when executing a trade but this is not

easily linked to specific pieces of research. More recently, the UK regulator has asked the industry

to unbundled costs. The number of independent research providers has increased as a result of

this. However, this is not common practice in many other European or global markets.

It was determined that a series of high-level preliminary interviews should be conducted with the

different types of market participants identified during the industry delineation and literature review

phase.

Once the interviews were conducted, they provided further insight into the issues and helped

identify business information provision projects that were worthy of further in-depth investigation.

The aim of the case studies was to assess:

1. The position of the business information services and the environment in which this activity

operates;

2. The motivation of participants to invest in listed SMEs or to provide information about listed

SMEs;

3. The competitive position of the business information services for listed SMEs;

4. Analysis of critical issues identified in the literature review and interviews;

5. Regulatory framework conditions affecting the business information providers who cover small-

and mid-caps;

6. Areas of Innovation in the provision of business information;


7. Providing a future outlook for business information services for listed SMEs.

And then to make recommendations to the Commission based upon the findings and building

scenarios.


3 SMEs and business information: exploring barriers to listing on stock exchanges

This chapter presents the results of a review of the literature on SMEs and business information,

specifically how it is a potential barrier to SMEs listing on stock exchanges. It includes literature

about listed SMEs as well as investors because both of these groups affect the business

opportunities for business information providers. On the one hand, the number of listed SMEs

determines the amount of business information that can be collected and analysed by business

information providers and on the other hand the number of interested investors determines the

demand for business information.

3.1 Listed SMEs

First we briefly touch upon the literature about Initial Public Offerings (IPOs), although this falls

outside the core of our study. We have included this topic in the literature review to give a complete

picture of the equity investment chain.

Listing on a stock exchange can have huge benefits to SMEs. For example, companies listed on

the AIM (a submarket of the London Stock Exchange for smaller companies) show on average a

turnover growth of 37% and employment growth of 20% in the year after the IPO. Other benefits of

listing over other types of funding are amongst others the higher degree of diversification of

investors, the access to additional equity capital, the higher public profile and brand recognition,

potentially leading to the attraction of more senior management (ESMA, 2012). An IPO tends to be

relatively large compared to the existing assets of the company. Therefore, an IPO often leads to a

relatively large increase of the size of the firm (Carpenter, 2002).

Despite all those benefits, of the 23 million SMEs in the EU, only about 6,000 SMEs6 are listed on a

stock exchange and traded on exchanges or Multilateral Trading Facilities (MTFs).7 This share of

listed SMEs has gone down in recent years. The number of companies listed on AIM declined from

1,337 in June 2007 to 891 in June 2012. This development on EU stock exchanges can be

explained by a low number of entrants but even more by the decision of listed companies to de-list

and go private. The trend of decreasing listings mainly affects listed SMEs (Demarigny, 2010). Also

outside Europe the number of listings declined. For example, the number of U.S. companies listed

on an exchange has fallen with 22.2% since 1991. In real terms, this decline is much bigger as the

economy has grown significantly since then (Weild and Kim, 2009).

Not only did the number of listings go down but the free floats of companies reduced as well. Low

rates of free floats can, for example, be observed on the Brussels Stock Exchange where a

significant number of companies have a free float of less than 30%.8

More generally, the low number of SME listings in the EU can be explained by four factors: (1)

financing preferences of SMEs, (2) the maturity of private equity and venture capital industry, (3)

6 EU SME definition.

7 ESMA Securities and Markets Stakeholder Group (2012).

8 Nollet, P. (2012), SOS Beurs van Brussel.


barriers that SMEs face when accessing capital through the public equity market, and (4) the local

nature of SMEs. We discuss these factors in turn below.

3.1.1 Financing preferences of SMEs

It is empirically shown that SMEs prefer other ways of financing above public equity funding. For

example, the pecking order hypothesis says that firms prefer internal funds to debt, and then public

equity as a last choice.9 Next to that, the funding escalator model implies that SMEs need different

sources of finance at different stages in their development. If there is a finance gap somewhere on

the escalator, this will hinder the company in its further development and it will be difficult to bridge

the gap and reach the next step on the elevator. Getting listed on a stock exchange is one of the

higher steps of the funding escalator (Mason et al., 2010; FESE, 2012).

Another factor is that the founding family and management may not want to shift control of the

company to other parties. Furthermore, SMEs may prefer to have only one or two big investors

instead of many. In that case, private equity finance is a more logical solution than listing on a stock

exchange.

3.1.2 Private equity and venture capital

Once listed on a stock exchange, SMEs often do not understand the factors that will affect them

and the liquidity of their shares. Many companies are unprepared as to how they should conduct

themselves when listed. It is for example important to pay attention to investor relations.10

However,

SMEs often lack the time, money or interest to do this properly.

There are plenty of opportunities for companies to engage with private equity and venture capital

investors, especially given the recent expansion of that sector. They are often keen to get actively

involved in the management and restructuring of SMEs and, as such, tend to be averse to listing

the company (due to issues of control and transparency). Given that these investors are the

preferred option for SMEs, they provide a key disincentive for those firms to list or to remain listed

on stock exchanges.

If they have been through the private equity or venture capital process, however, SMEs are usually

better prepared for listing. This may reduce the mismatch of the company’s expectations and what

the market expects of the company. In a relatively early stage of development, companies need a

hands-on ownership and also non-financial support in order to make the transition from an

entrepreneur-led firm to a professionally governed company with institutionalised processes. In this

stage, private equity and venture capital funds can provide the companies with these specific needs

for development, rather than focussing on quarterly earnings, as investors do when they are active

on stock exchanges (ESMA, 2012).

9 There is empirical evidence for these financing preferences a.o. from López-Gracia and Sogorb-Mira (2008), Cassar and

Holmes (2003), Sánchez-Vidal and Martín-Ugedo (2005), Harding and Cowling (2006). 10

LSE (2010), A Guide to AIM.


3.1.3 Barriers to enter the public equity market

The third explanation for the low number of SME listings concerns the barriers of entry to stock

exchanges. DG Competition of the European Commission defines barriers to entry as:11

“Factors that prevent or hinder companies from entering a specific market. Entry barriers may result, for

instance, from a particular market structure (for example, sunk cost industry, brand loyalty of consumers to

existing products) or the behaviour of incumbent firms. It is important to add that governments can also be

a source of entry barriers (such as through licensing requirements and other regulations).”

Thus barriers to entry can have different origins. Those most relevant to our study are economic

and legal barriers and barriers resulting from the market structure.

Economic and legal barriers

Listed companies face several costs. Obtaining and maintaining a listing will involve lawyers,

accountants and broker fees and commissions, joining fees, annual charges, on-going compliance

to regulations and disclosure requirements. For smaller companies, these costs may absorb a too

large part of the funds raised (FESE, 2012). According to Demarigny (2012), a large number of

listed SMEs, regulators, public authorities, exchanges and other stakeholders think that these initial

and on-going listing costs outweigh the benefits of listing for small companies.

The EU tried to reduce these economic and legal barriers by exempting small companies from the

requirements of the Prospectus Directive (2003/71/EC). This directive requires that a prospectus

“shall contain all information which (…) is necessary to enable investors to make an informed

assessment of the assets and liabilities, financial position, profit and losses, and prospects of the

issuer and of any guarantor”. The costs related to publishing a prospectus can indeed be significant

for small companies. SMEs also might not be able to draft the prospectus in accordance with the

requirements and would need the assistance of external advisors or brokers. At the same time, the

prospectus forms a valuable document of information about SMEs to potential investors. The fact

that the directive has been approved by national authorities adds to the status of the prospectus.

Investors might prefer to invest in a company with a prospectus, which is in accordance with the

requirements from the Prospectus Directive, which then would make SMEs a less interesting

investment opportunity.

An example of effective securities regulation can be found in the US. The Jumpstart Our Business

Startups Act (JOBS Act) aims to improve funding for small businesses by easing various securities

regulations. The special conditions for small companies cover a much wider range of companies

compared to EU regulations. Without going into too much detail, this is done in the following way.

First, the threshold for companies that can benefit from the JOBS Act is much higher than the

normal threshold for receiving financial assistance in the U.S. So the definition of a small company

used for regulations related to access to capital markets differs from the definition used for state aid

regulation. Second, companies with less than 2,000 shareholders are not required to be registered

at the U.S. Securities and Exchange Commission. To compare with EU regulation: in the EU there

is a threshold of 150 investors below which EU listed companies are exempted from producing a

prospectus (ESMA, 2012).

11

European Commission, Glossary of terms used in EU competition policy, 2002. Available at

http://ec.europa.eu/competition/publications/glossary_en.pdf.

http://ec.europa.eu/competition/publications/glossary_en.pdf


Market structure barriers

Some other barriers are related to the limited interest of investors, which makes listing not a

worthwhile option for SMEs. The limited interest of investors may partly be explained by the lack of

investment research and analysis on SMEs. This may in turn be driven by the economic cycle when

equity markets retract and investing in SMEs becomes less attractive and therefore less profitable

to all those in the value chain who might be relied upon to produce and disseminate information.

This points to the problem underlying our study. Relevant business information on listed SMEs can

simply not reach the investors who need it in order to make investment decisions, as focussing on

blue chips is a much more worthwhile business model for the business information providers.

Furthermore, the lack of research negatively affects the liquidity of SME stocks. Other explanations

for the limited investor interest are, for example, related to the risk and volatility of SME stocks

(KPMG, 2010). These factors negatively affect investor interest as well.

3.1.4 The local nature of SMEs

SMEs tend to be more localized than large firms. Most listed SMEs are not known across borders

and they usually work in their local language; hence the symmetry of information between the

companies and the investors is a problem. When companies are less well known to investors, it is

even more important that third parties such as brokers introduce investors to the companies.

3.2 Business information providers

3.2.1 The activities and role of business information providers regarding listed SMEs

Some business information such as prospectuses, accounts, and pricing information is generic and

flows directly from SMEs to the investors. This information may for example be available on the

website of the company or it is accessible via the stock exchange. Other information about listed

SMEs is produced via business information providers. These information providers add value to the

basic information that is publicly available.

As defined in the Section 2.3, the activities of business information providers on listed SMEs cover

the collection of information as well as the research and analysis by different agents of use for

investors in SMEs, small- and mid-caps. These providers also facilitate access to the companies

they provide research on by organising road shows for the companies to meet the investors or the

investors to meet the companies.

France-based ID Midcaps is a good example of a business information provider that is oriented to

SMEs. It focuses on companies that are listed on NYSE Euronext in Paris with a capitalization of

less than EUR 2 billion. Its clients are mainly asset management firms and private equity funds. The

business model is based on annual subscriptions of institutional investors. ID Midcaps has no

financial or commercial links with the issuers, but the long-term relationships with company

managers results in a good knowledge of those firms and of specific market and sectors.12

Equity analysts can be sell-side analysts or buy-side analysts.13

Both groups analyse industries and

companies, but there are differences between their clients and the way in which they are

compensated. Sell-side analysts work for brokerage firms and are the ones making the “Sell”,

“Hold”, and “Buy” recommendations to their client base. The analysis of the sell-side analysts helps

12

http://www.idmidcaps.co.uk/commun/pdf_vitrine/IDMidCapsAMSite.pdf. 13

Source: Investopedia.com.

http://www.idmidcaps.co.uk/commun/pdf_vitrine/IDMidCapsAMSite.pdf


the clients of the broker to make investment decisions. Every time a client makes a trade decision,

the broker gets a commission on the transactions.

Buy-side analysts work for pension funds or mutual funds. They make exclusive recommendations

for the funds. These analysts base their recommendations on the expected returns but also look

how well an investment coincides with the strategy of the fund. The compensation of buy-side

analysts depends more upon the quality of recommendations they make and the overall success of

the funds they work for.

3.2.2 Why business information providers often focus on large firms

Business information providers typically focus on large firms rather than listed SMEs. By definition,

the stocks of large-caps are held by many times more investors than stocks of small- and mid-caps.

As more investors per stock leads to greater demand and reputation for the analyst, the analysts

typically choose to focus their business model on large-caps (Weild and Kim, 2009).

Not only is the research on large-caps more profitable, the viability of research on small- and mid-

caps is doubtful. It is expensive to provide good quality independent research, which is necessary

to provide added value over the provision of raw data. Currently, the costs can hardly be covered

because of the low amount of trading taking place in SMEs.14

This low volume of trade means that

commission-based models yield too little revenue. Only research aimed at discovering companies

that are undervalued due to a lack of research may receive incidental research interest.

3.2.3 Regulations that affect business information providers

The performance of business information providers is affected by regulation. Production of research

is governed by these regulations and research providers must adhere to certain rules about

publishing information, which increases their overheads.

3.3 Investors

3.3.1 Different types of investors

There are various ways to classify investors. First of all, there is a difference between retail

investors (the “man in the street”) and professional investors (institutional investors/asset

managers). Second, asset managers can be divided into those who have passive or active

management styles. The passive managers follow a benchmark index, and active managers are

seeking to beat the benchmark by adding alpha (performance in excess of the benchmark). Third,

we can differentiate between short-term and long-term investors. Short-term investors trade based

on their expectations of likely short term movements in the price, while long-term investors trade

based on their understanding of the fundamental value of the company, which is based on an

analysis of a company’s prospects and underlying performance (Kay, 2012).

3.3.2 Reasons for investing in SMEs’ stocks and funds

Investing in listed SMEs may be beneficial because of several reasons. First, small firms have a

high growth potential. All large companies have started as a small one. Growth of a company’s

market share and the growth of the overall market determine the total growth potential of small

14

Source: various sector interviews.


companies. To illustrate this potential outperformance of SMEs, we can compare some historical

results from the Numis Small Companies Index (NSCI)15

to the FTSE All-Share index, which are

both based on the UK equity market. Since 1955, the FTSE All-Share index has had an average

investment return of 11.9%, which is clearly lower than the 15.5% investment return from NSCI over

the same period (Numis, 2013).

Second, there are signs that small firms recover faster in the year following a recession (KPMG,

2012). Third, there is scope for a high alpha (excess return relative to the return of a benchmark

index). Given that stocks from small-cap market places are typically covered by fewer analysts,

there are opportunities for mispricing, but also opportunities for active asset managers to add value.

Finally, prices of small stocks may be kept attractive for investors because pooled funds exclude

them. These funds cannot give small stocks a reasonable position in the fund because of

restrictions on the proportion of shares that can be bought. This exclusion puts a demand constraint

on the small-cap stock, keeping the price low (KPMG, 2012).

On the other hand, there are also potential drawbacks related to investing in listed SMEs16

:

Liquidity risk. Stocks of listed SMEs tend to be less liquid so the risk of not being able to sell the

stock quickly is relatively high for SME stocks. During periods when investors are more risk

averse, they tend to prefer safer asset classes where they can easily trade in and out of a stock.

Small-cap indices also tend to be more volatile although the returns may be higher. This may

also discourage investors;

Business risk. For smaller firms it is more difficult to realise their potential compared to larger

firms. This is caused by less breadth and depth of management experience. Second, small

firms typically depend more on bank credit, which puts pressure on their continued existence in

a tight credit environment;

Corporate governance and transparency. The founding family and management of the SME

may not want to shift too much control of the company to others. In particular financial reporting

tends to be more opaque compared with large firms;

Stricter regulation. Another drawback is the increased risk for fund managers of putting their

clients into a risky stock now that there is so much regulation about what you should and should

not do (for example MiFID).

These drawbacks are complemented by regulations that make investing in listed SMEs even less

attractive. The Solvency II Directive is a European regulatory regime that puts capital requirements

to insurance companies, which are institutional investors. Solvency II was adopted in 2009. It aims

to insure against pension funds deficit. Together with the Basel III and the Capital Requirement

Directive (CRD IV), Solvency II forces banks and insurance companies to reduce the availability of

investable capital and thus onward flows to SMEs (ESMA, 2012). Also MiFID is indirectly affecting

the investor behaviour, as this directive makes it less attractive for advisory brokers to put their

clients (the investors) into SME stocks (see also Section 3.4).

3.3.3 The effect of the macro-economic situation on investment behaviour

According to survey results from Natixis (2012), about 64% of investors from all over the world is

concerned about the slowdown in global economic growth. The main influence on individual

investor’s investing and saving behaviour nowadays is the fear of losing money. Market volatility is

15

The NSCI covers the bottom tenth by value of the main UK equity market. The largest company that is included has a

market capitalisation of £1428 million and the average market capitalisation of companies that are included in this index is

£267 million (2012 figures). 16

KPMG (2012).


seen as a threat to achieving investment goals. The macroeconomic uncertainty and the volatility

make investors highly risk-averse. Two-thirds of worldwide investors would choose to sacrifice

returns for reducing the investment risk and take safety over performance.

For more than half of the investors across all regions, the ability to reach investment goals is

undermined by market volatility. Of the individual retail investors, 65% are “concerned” about

meeting their retirement income goals, with one in four of those “very concerned”. Investor actions

and planning needs appear to be in conflict: avoiding investment risk on the one hand and the

accumulation of assets for future needs (retirement income) on the other hand do not any longer

easily go together.

This current investor sentiment is not in favour of small companies. As investing in small companies

is generally considered to be more risky, the current macro-economic situation and the high

volatility of listed SMEs stimulate the investors to invest in larger companies.

3.3.4 Needs and use of business information by investors

There are differences in information needs and use of business information between retail investors

and professional investors. The source and type of business information that retail investors use for

their investment decisions depends on their own characteristics (age, income level, risk tolerance

etc.)17

but also on the type of investment (new or current)18

. In general, retail investors are probably

less interested in business information services providing costly real time information (like Reuters

and Bloomberg). For these investors it is more difficult to interpret and value the financial

information. For example, when retail investors look at an annual report, they prefer the (non-

audited) management’s discussions of the financial results instead of the financial statements

(Arnold et al., 2010). Furthermore, retail investors are often not interested in short-term investing

(Clark-Murphey and Soutar (2004)).

As said earlier, a difference can also be made between short-term and long-term investors.19

Long-

term investors are typically retail investors and the traditional institutional investors, who have a

time horizon of more than a year. Before making an investment decision, these investors spend

their money in research and company analytics or advice and not in technology for predicting short-

term trends and patterns. Long-term investors are not interested in the latter because intra-day

marginal price movements are not likely to affect the longer term performance of their funds.

On the other hand, the most extreme short-term investors, the high frequency traders, have the

opposite spending behaviour. These investors spend much money on high-speed market data and

trading infrastructure like software and a location close to the stock exchange. They should receive

price information and trade as fast as possible, because then they can make a profit.

So the time horizons of these different investors differ from years to microseconds. This is

illustrated in Figure 3.1 below. In the centre of the graph we see the hedge funds, banks and

brokers. These market participants balance their expenditure on technology and quality research

information. For the most part, high frequency traders are not trading in SMEs/small and mid caps

but the diagram below illustrates how the information needs of investors change depending on their

time horizon.

17

Lin and Lee (2004), Loibl and Hira (2009). 18

Hodge and Pronk (2006). 19

The information in this sub-section is drawn from Market Structure Partners (2010): Can’t See the Wood for the Trees?

The Myths and Realities of European Equity Trading.


Figure 3.1 Time Horizon and Investment Strategies of Different Market Participants

Source: Market Structure Partners (2010).

3.3.5 Home-bias of investors

Many investors are home-biased, especially when it comes to SMEs. The preference for

geographically proximate investments is driven by asymmetric information between local and

foreign investors. Local investors have an advantage because the business information does not

have to travel over physical, cultural or linguistic distances (Dvořák, 2005). Investors frequently do

not know SMEs from abroad; foreign SMEs lack visibility. However, investing more in foreign

companies would lower the systematic risks in a portfolio, as these investments are less likely to be

affected by changes in the domestic market.20

3.4 The regulatory framework

Although some regulations are already briefly mentioned before, we will now discuss them more

extensively. The following regulations are relevant to the equity investment chain:

The Markets in Financial Instruments Directive (MIFID);

The Financial Transaction Tax (FTT);

The Transparency Directive;

The Solvency II Directive;

The Prospectus Directive.

It should be mentioned that alternative markets like Multilateral Trading Facilities (MTFs) that

operate separately from fully-fledged stock exchanges (the regulated markets) often do not have to

comply to national/European legislation. For these markets there is more regulatory choice.

20

http://www.investopedia.com/terms/h/homebias.asp.

LOW INVESTMENT IN RESEARCH

HIGH INVESTMENT IN RESEARCH

http://www.investopedia.com/terms/h/homebias.asp


MiFID

The Markets in Financial Instruments Directive (2004/39/EC) was introduced with the aim to

establish a comprehensive regulatory regime governing the execution of transactions in financial

instruments.21

The scope of MiFID includes “Investment research and financial analysis or other

forms of general recommendation relating to transactions in financial instruments”. These services

are labelled as ancillary services in Annex I, section B of MiFID.

The main objectives of the Directive are to increase competition and consumer protection in

investment services. This increase of competition is, for example, achieved by providing firms a

'single passport' to operate throughout the EU on the basis of authorisation in their home Member

State. The increase of competition resulting from MiFID may reduce the viability of a business

information provider’s business case.

The Markets in Financial Instruments Directive in 2007 limited asset managers to best execution,

hereby separating research and execution. This was to provide independent business information

providers with a larger share of the commission paid by fund managers.

FTT

On 14 February 2013 the European Commission adopted a proposal for a Council Directive

implementing enhanced cooperation in the area of financial transaction tax. The proposal includes

taxation of all transactions in shares, bond and derivatives. As a result, the expected trade in

financial products may decrease, which will result in lower revenue base and a higher cost of

research per traded volume.

Transparency Directive

The Transparency Directive (2004/109/EG) improves the harmonisation of information duties of

issuing firms. This Directive is directed to issuers whose securities are admitted to trading on a

regulated market and sets minimum standards on the information to be provided. The Directive

requires publication of an annual financial report, a half-yearly financial report and specified on-

going information.

The Transparency Directive guarantees a flow of information of listed companies to investors via

various channels (like the website of the company and the stock exchange). In itself, the transfer of

this information can be considered as a business information service. It also forms an important

input for other business information providers that add additional information to offer investors

qualified information.

Solvency II Directive

The Solvency II Directive (2009/138/EC) harmonises the EU insurance regulation with special

emphasis on capital requirements of EU insurance companies in order to reduce the risk of

insolvency.

The Prospectus Directive

The Prospectus Directive (2003/71/EC) aims, inter alia, to ensure investor protection by defining

what minimum information should be included in the prospectus. This information includes a

summary conveying the essential characteristics of, and risks associated with, the issuer, any

guarantor and the securities.

21

Cons. 5, MiFID.


However, specifically in relation to listed SMEs, a prospectus does not have to be produced if:

the total consideration for securities offered in the EEA over a 12-month period is less than

€5m;

offers are made to or directed at fewer than 150 persons per EEA state, other than Qualified

Investors;

offers have a minimum denomination of €100,000.

CP176 (The UK FCA guidelines for research unbundling)

Asset managers pay brokers a commission for their services. The commission is meant to be a

payment for execution, research services and company assess. Recently local regulation, such as

the one mentioned above in the UK, has forced some unbundling of commission fees in some

countries. This has created commission sharing agreements whereby the asset manager directs an

execution to a broker but asks that the commission paid is partially re-allocated to another broker in

order to pay for research and company access. This has helped facilitate payments to independent

research organisations.22

UK FCA Conduct of Business Guidelines

The FSA has recently been focusing on conflicts of interest between asset managers and their

customers. The FSA found that certain firms did not regularly review whether services were eligible

to be paid for using customers’ commissions. A key issue identified by the FSA was that certain

firms were unable to demonstrate how brokers arranging for access to company management, so-

called “corporate access”, constituted research or execution services. In the UK, indicative

guidelines from the regulator suggest that conduct of business rules that have been in place for

some time should be interpreted to mean that client commission cannot be used to pay for

corporate access and meetings with company management.23

3.5 Market failures and other possible problems

One of the goals of the study is to identify the market failures in the market for business information

services regarding listed SMEs. In theory the four most important market failures that provide

reason for government intervention are:

Public goods; Public goods are characterized by the presence of non-rivalry and non-

excludability in consumption. Non-rivalry means that consumption by one individual has no

impact on the possible consumption of another individual. Non-excludability means that no one

can be excluded from consumption at non-negligible costs;

Failure of competition (market power); increasing returns to scale give rise to a decreasing

average cost of production, which creates tendencies for natural monopolies to arise.

Monopolies (or oligopolies) create inefficiencies, as the quantity provided is generally too low,

whereas the price is too high;

Imperfect or asymmetric information; Imperfect information may lead to non-transparent

markets and, as such, may give rise to a mismatch between supply and demand. Problems

which might occur are adverse selection and moral hazard;

Externalities; Externalities exist if an activity generates positive or negative effects that are not

taken into account in the private optimization process (like the profit maximizing behaviour of a

firm). Consequently, there will not be a socially desirable level of production or consumption.

22

http://www.fsa.gov.uk/pubs/cp/cp176.pdf. 23

http://www.blplaw.com/expert-legal-insights/articles/corporate-access-for-asset-managers.

http://www.fsa.gov.uk/pubs/cp/cp176.pdf

http://www.blplaw.com/expert-legal-insights/articles/corporate-access-for-asset-managers


A market failure that plays a role in the financial sector is asymmetric information, inter alia between

listed company and investor. Companies possess information on their performance and investors

need access to this information to make a proper investment decision. Another market failure is

possibly the information on listed companies, which demonstrates characteristics of public good.

Use of the information by one individual does not reduce the possibility of use by another individual

(non-rival), while information can quite easily be shared by multiple users (non-excludable).

Stiglitz discusses a number of forms in which regulation takes place: information requirements,

prescriptions (things firms may not do), or mandates (things firms must do).24

On disclosure, Stiglitz

remarks that market forces do not necessarily lead to full (or efficient) disclosure of information, so

there is a good rationale for disclosure requirements.

Policy measures and negative side effects

Government action addressing market failure may in turn lead to problems, commonly addressed

as government failure. According to Clifford Winston, government failure arises when government

has created inefficiencies because it should not have intervened in the first place or when it could

have solved a given problem or set of problems more efficiently.25

Examining examples of market

failures addressed by government action, Clifford Winston looks at various cases of regulation in

the USA aimed at increasing disclosure to combat insufficient market transparency for a wide range

of markets. Amongst others, he looked at evaluations of mandatory disclosure regulations with

nearly all regulation leading to some for of benefits, but also bringing along an often non-quantified

level of associated costs.

We can also observe negative side of regulation in the regulation of the European financial sector.

In order to address market failures in the financial sector, policy measures are required. To address

asymmetric information between investor and listed company, regulation on disclosure of

information was developed. Examples of such regulation are the Transparency Directive and the

Prospectus Directive. Other policy measures provided benefits to society in the form of consumer

protection and increased competition (MiFID).

While the policy measures were able to address much of the market failures and achieve other

policy objectives, they also provide negative side effects, including for the provision of business

information on listed SMEs.

The first negative side effect is a reduced investment of capital in stocks. The FTT provides a

general disincentive to invest in exchange listed companies, while Solvency II reduces the

possibilities for institutional investors to invest in markets with a higher risk profile. The reduced

capital investment results in a reduced demand for services supporting these investments, like

research. In particular, for markets with lower turnover than the main stock exchanges, like the

markets where SMEs are listed, this reduced investment and related reduced demand in research

services is significant.

A second side effect concerns the increased compliance cost for information disclosure. These

costs are largely fixed costs, meaning that size of the costs is unrelated to the size of the capital

issued. For small companies with a smaller issued capital, cost as percentage of capital issued are

much higher than for large companies with a significant higher amount of capital issued. This

24

Joseph E. Stiglitz, Government Failure vs. Market Failure: Principles of Regulation, working paper. 25

Clifford Winston, Government Failure versus Market Failure, Microeconomics Policy Research and Government

Performance, 2006.


makes it less attractive for smaller companies (SMEs) to issue stocks. As a result, the market for

listed SMEs becomes smaller and research on listed SMEs becomes less attractive.

Thirdly, the regulatory framework is still not completely clear on certain aspects. For example, the

case studies showed there is still uncertainty on the possibility of listed companies and analysts to

publish research reports on their websites. This negatively impacts the attractiveness of offering

research.

Many of the negative side effects may be solved by creating exceptions for specific markets, like

markets where listed SMEs are strongly present.

3.6 Summary

Being listed on a stock exchange or an MTF can have enormous benefits to SMEs. Yet of the 23

million SMEs in the EU only a tiny fraction is listed on a stock exchange or traded on MTFs. In

addition, the number of SMEs listed is declining due to other financing preferences of SMEs.

Obtaining and maintaining a listing is relatively costly for smaller companies, which have to bear the

costs of lawyers, accountants and broker fees and commissions, joining fees, annual charges and

compliance costs to meet regulations and disclosure requirements. The EU attempted to reduce

these barriers by exempting small companies from the Prospective Directive under a number of

conditions among which that the number of investors will be below a threshold of 150.

Due to the recession equity markets retract and investing in listed SMEs has become less attractive

and therefore less profitable for business information providers who focus on listed SMEs.

Concentrating on blue chip stocks is a much more interesting business model for business

information providers. The lack of research affects the liquidity of SME stocks negatively.

Business information providers add value to the basic information that is publicly available about

listed SMEs, such as prospectuses and accounts. The activities that they undertake covers

research and analysis on listed SMEs and facilitate access to the companies for investors.

The cost of independent research to add value, in addition to the basic information, can often hardly

be covered because of the low amount of trading in listed SMEs, which generates too little revenue

through commission-based models.

One reason to invest in SME stocks is that small firms can have a higher growth potential and

investment return than large enterprises. Also as stocks are covered by fewer analysts there are

opportunities for active asset managers to generate larger returns by investing in high potential

small firms.

Potential drawbacks for investing in listed SMEs include: liquidity risks, business risks, reduced free

float and an increased risk for fund managers to invest in risky stocks.

High frequency traders are mostly not interested in investing in small stocks, which by their nature

trade less frequently. Investors in listed SMEs are mainly local investors.

The increase in competition following from the Market in Financial Instruments (MiFID) may have

reduced the viability of the business model of business information providers. The same may be

said about the Financial Transaction Tax (FTT).


Policy measures that have negative side effects in terms of reduced investment of capital in stocks

include the FTT and Solvency II, which have a related reduced demand for research. Furthermore,

the compliance costs for information disclosure, being mainly fixed costs, weight more heavily on

listed SMEs than on larger stocks.

The provision of research may be affected by the way that costs are recouped. Unbundling of

research provision has made it harder for some banks and brokerages to cover research costs but

has allowed new providers of business information to become established.


4 Harnessing information: implications for SME investment

4.1 Introduction

Under Task 2 of the study, in total we conducted 43 interviews that are distributed as follows:

Table 4.1 Number of interviews conducted

Category European Non-European

Users/Investors 16 0

Information providers 3 1

Information Aggregators 2 0

Listing and trading platforms 9 1

Nomads 2 0

Corporates 5 3

Other 1 0

Total 38 5

Figure 4.1 Number of interviews conducted

In the following sections we present a summary of the most important findings from these

interviews. We will do this per category of market participants.


4.2 The users of information / investors

4.2.1 Choosing to invest

Asset managers who invest in listed SMEs find there is greater scope for generating value. This is

because the SME market is less covered by other managers and there is less research available,

which means they can add more value through their own internal analysis. Investment in listed

SMEs can be risky but also profitable. A small company may become the next famous

multinational. However, the amount of free float available is important and if the stock is too hard to

trade in and out of (low liquidity), or is dominated by one major shareholder then investors may shy

away from an investment26

.

For an asset manager that manages pension fund money or collective products for retail clients, the

listed SME should preferably be part of an index so that the manager can benchmark performance.

Hedge fund managers generally do not use the underlying benchmark to measure performance and

for them this is less relevant.

Asset managers managing institutional pension fund money will only invest in listed SMEs if they

have been given the mandate to do so by the fund trustees. In many cases the mandate may mean

that they can only put very limited amounts into local SME stocks and the trustees are looking for a

broader coverage on a Pan European basis. Asset managers that handle retail money can choose

more freely where to invest in SME markets. Many of them have created specialist SME funds but

they still have to invest according to the rules created by the fund.

Some asset managers say the lack of investment in listed SMEs is not an information issue; there

is a de-equitization in the markets, due to a preference for fixed income products. For example,

managers of pension funds, especially in the UK and the Netherlands, are liability driven and they

no longer invest in listed SMEs because they are forced to invest in more sophisticated products to

manage the pension fund deficits. There is, moreover, interest in investing in project finance.

Most retail investors will only invest outside of their own country in large cap companies that are

well known names across Europe. Those retail investors that invest in listed SMEs only want to

invest in companies that they know. According to a Czech club of investors, Czech investors

consider that investing in SMEs is comparable to a private equity or venture capital approach. Many

listed SMEs are unable to manage investor relations and comply with the associated administrative

requirements due to cost and resource constraints. Private investors who invest in SMEs, small-

and mid-caps are often young and active investors.

Some advisory brokers say that the increased focus on investor protection makes them more risk

adverse to recommend that their clients invest in listed SMEs. They have an easier job if they push

their clients towards large cap stocks that are seen to be less risky and they are frightened of the

regulatory consequences if they do otherwise.

4.2.2 Information needs on listed SMEs

Asset managers wish to obtain information about:

The performance of the stock including historical trends as well as intraday prices;

Detailed historic financials and forecasts as well as the assumptions on which the forecasts are

built, including the sector risks;

26

During the case studies we learned that a stock becomes more attractive to investors when there is a strong hand on the

board of the company, a big owner with own money.


The full year and interim accounts from the company’s website;

All press releases of the company;

Face to face meetings with management and site visits to the plants;

An indication of the quality and size of future business;

The amount of free float, overall ownership (they usually look at the shareholder register) and

the liquidity of the stock;

Buy and Sell recommendations and any valuations available in the market place.

In the case studies it appeared that the face to face meetings with management and site visits to

the plants are among the most important information needs on listed SMEs. Credit ratings are not

very important as the banks are not really lending to these firms. On the other hand, it is vital to

know the SMEs motivation for listing: is it selling shares for growth, do the owners want to sell their

shares or the do banks want to turn their debt into equity and force a listing of the company?

In addition, language is important. Research reports in English would facilitate more cross-border

trading27

. One respondent said that some countries only publish disclosure information that may

affect the share price in their own language or that if they publish in another language, it may be at

least a week after the initial information is published in the local language. If they cannot be

confident that they will receive or understand a statement by the company then it will deter them

from investing.

Similarly, investors would like to see improved enforcement of rules about when companies should

make information public. Some exchanges appear to be bad at enforcing rules about the

publication of company information and suspending trading. A trading halt is usually called whilst

information is being disclosed. For example, the Spanish market was cited by a respondent as not

very good at enforcement of rules regarding the management of information disclosure by

companies. This can lead to a mistrust of the market.

One association of retail investors suggested improving availability of information by applying rules

similar to the fair disclosure rules (Regulation FD) as used in the US. Under these rules, anyone

may dial into an analyst presentation and private chats with selected groups of institutional analysts

are barred, i.e. there is a level playing field for all investors.

Also confirmed by the interviews was the importance of shareholder registers as new investors

need transparency about who the current owners are and particularly how much of the stock the

management owns. The UK is cited as being the most transparent with some investors reporting

difficulties in other parts of Europe.

Respondents stated that seeing current pricing information was not an issue and that they found

dark pools28

beneficial for helping to find buyers and sellers of listed SME stocks.

4.2.3 Initiatives for the provision of business information:

Some investors observed that the US NASDAQ market seems to have done better than the UK

AIM market because its listing requirements are more rigorous and its investment culture was

more oriented to high growth stocks. However, it was noted by many that NASDAQ is no longer

really serving SME companies and AIM was cited as a success story by others;

27

In the Swedish case study we were told that this would increase the administrative burden for the listed SMEs. In addition

most investors in listed SMEs in Sweden are domestic retail investors. 28

Dark trading refers to a place where institutional investors can trade without being public.


The Nomad (Nominated Investment Advisor) Model run by AIM seems to work well in helping

bridge the relationship between the investors and the company and was frequently cited by

interviewees29

;

In the absence of research provision by a broker, a number of independent firms will provide

information which is paid for by the listed company;

There are independent research analysts that sell their information to asset managers for a

fixed price per year. This has been facilitated by the unbundling of research commission

payments;

Some exchanges have initiated projects where they help pay for research to be produced about

the SMEs listed on their markets. They also help organise investor meetings. Examples of such

current or historical initiatives included ASX- the Australian Stock Exchange – and NYSE

Euronext;

Initiatives that interviewees cited as failing to help the SME market are the PME Bourse in Paris,

the Nuevo Mercado in Italy and the Neue Markt at the Deutsche Borse.

4.3 Information providers

One of the world’s leading financial management and advisory firms said the provision of business

information regarding listed SMEs is a loss making business. It is however a key-selling point when

it comes to client relationships and, despite the negative cost, listed SMEs are often covered by

both asset managers and brokers in order to provide a complete coverage of a certain sector that

they know a clients are interested in.

Asset managers pay brokers a commission for their services. The commission is intended to be a

payment for a broad range of services including execution, research and company access.

Traditionally the breakdown of how the commission is allocated has not been explicitly stated but

more recently local regulation (i.e. CP176 in the UK) has forced some unbundling of commission

fees in some countries. This has created commission sharing agreements whereby the asset

manager directs an execution to a broker but asks that the commission paid is partially re-allocated

to another broker or research provider in order to pay for research and company access.

This has helped facilitate payments to independent research organisations. However, these

independent research organisations may also be paid directly by the asset managers or in some

cases by the exchange or the company itself. The research paid for by the company is often

thought to be conflicted or of a lower quality than that provided by a broker or independent research

analyst. If research is paid for by the company then it tends not to carry a buy and sell

recommendation as there would be too much inherent conflict.

According to interviewees, the economic and regulatory environment has had a significant effect on

brokers and the current broker model is no longer viable as the brokers cannot make enough

income to maintain the analysts. The entire equity investment chain is changing.

Information providers have indicated lack of investor interest as a core problem for their business

case to increase provision of information. This is caused by a reduction in the number of analysts

that followed deregulation of the market under MiFID. The deregulation of markets and the pressure

of competition led to a move of listed SMEs to MTFs and has reduced the revenues of market

participants. Other regulations such as Solvency II (and Basel III) additionally reduce the

29

The Nomad model is also used in other countries / markets but then the concept is differently phrased.


investment in shares, and even more in listed SMEs, as it sets requirements for high liquidity. This

leads to a reduction in demand for research. The size of the impact of the FTT is yet unknown, as

the proposals are still to be implemented. One interviewee estimated that the FTT proposal of the

Commission is likely to reduce liquidity of listed SMEs by more than 50%. Such a reduction would

put the commercial viability of SME research at danger.

While the deregulation has a positive effect on costs for investors it had negative effects on broker

fees, which went down. The deregulation furthermore implied an increase of the number of actors

and a fragmentation of trading venues. As one interviewee mentioned:

In the old days, there was more fat in the system.

Some interviewees stated that the unbundling of brokerage and advice services added to the

reduction of the number of brokers. A possible solution proposed by one of the interviewees is to

waive the unbundling obligations if the focus of the research lies on listed SMEs.

4.4 Information aggregators

Information aggregators, such as Morningstar, FactSet, Reuters and Bloomberg create aggregate

information packages that they distribute to their clients and news companies. Users of large

amounts of information want to have aggregated information packages and also analytical tools,

which help them to make comparisons between various information sources and to evaluate the

received information. The information packages include listed SMEs; however their focus is on

large caps.

Morningstar

Firms like Morningstar provide a summary of all the broker analyst ratings and help compare

information for a busy analyst. Morningstar created Morningstar Rating to provide investors quick

insights in the past performance of investment funds, taking risk into account.

As an illustration, Morningstar provides data on approximately 416,000 investment offerings,

including stocks, mutual funds, and similar vehicles, along with real-time global market data on

more than 9 million equities, indexes, futures, options, commodities, and precious metals, in

addition to foreign exchange and Treasury markets data. Morningstar also offers investment

management services through its registered investment advisor subsidiaries.

FactSet

FactSet is a leading provider of integrated online financial and economic information to the global

financial community. The company offers investment research and work flow solutions to analysts,

portfolio managers, investment bankers and other financial professionals. Its services are used

mainly by investments banks and asset managers.

Reuters and Bloomberg

The core business of Reuters and Bloomberg is transmission, sorting and distribution of news, data

and information, relevant for its clients. It also carries out analysis, based on actual and/or historical

data. The analysis is more aggregated than that of Moody’s and Standard & Poor’s.


The transfer of news, data and information includes those provided by stock exchanges and banks

(i.e. Reuters has agreements with stock exchanges, such as the Madrid Stock exchange to onward

distribute its data). The transfer takes place in three ways:

A client has a real time access to a wide range of news/data/information, which is facilitated by

Reuter’s internet software purchased by the client;

A client receives only that real time news/data/information for which (s)he pays. This is

facilitated by a commonly available internet application;

A client receives news/data/information with a 20-minute delay by using, for instance, Yahoo.

Reuters and Bloomberg provide similar services to their clients. It seems that the latter has recently

applied more user friendly internet applications than the former.

Standard & Poor’s and Moody’s

Rating agencies, such as Moody’s and Standard & Poor’s, use data from Reuters and Bloomberg,

as well as data received directly from corporates to carry out business analysis and to produce their

ratings, i.e. S&P 400 MidCap Index (stock market index from Standard & Poor’s, covering the mid-

cap range of US stocks).

4.5 Platforms

In Europe, fragmentation is a word that was often used by interviewees to describe the issues that

they encounter when dealing in listed SMEs. However, it appeared that the reference to

fragmentation could mean many things depending on the context of the discussion:

Firstly, when comparing the European market to the US market, a number of notable

differences can be observed in terms of size of the issuing company, the size of the IPO, and

the number of listed companies. This is due to the fact that the European region still has

different languages and national borders, resulting in a lack of scale. The impact of lack of scale

can, inter alia, be observed by the lack of peer group benchmarking - firms cannot benchmark

themselves across Europe because there are no pan-European indices in SMEs;

Secondly, the blue chip market is fragmented because blue chip companies are traded in lots of

different markets, while trade in listed SMEs is more concentrated. So this type of fragmentation

is related to competition. The market for the large cap stocks has fragmented considerably

since the introduction of MiFID. As a result, the main domestic exchanges have been defending

their share of this market, as it is a high volume business, which generates most of their

revenue, as well as trying to increase their growth by competing for trading in similar stocks

from other countries. For this reason, and also because it appears to be more costly for them,

no major exchange appears focused on listed SMEs. The SME market has therefore suffered

from investment as a result of the fragmentation of the large cap market and the associated

margin squeeze that the exchanges are experiencing. However, fragmentation of liquidity has

rarely been cited as an issue for SMEs, small- and mid-cap stocks. The trading of these stocks

has remained on the local exchanges and as there has been less reason to defend this part of

the market, business development has been slow.

A number of small markets have tried to get off the ground but have either been unsuccessful or

have yet to come to fruition. For example:

Plus Markets in the UK was intended to be an SME market but has recently been taken over by

iCAP as a platform that is likely to become focused on other instruments;

The Alpine Exchange is often talked about but does not yet exist as a business;

Alternativa in France is a good example of a new type of platform that is aiming to help listed

SMEs but its success has yet to be quantified.


Regulatory costs are significant for exchanges in ensuring that companies meet with the regulatory

requirements. The AIM outsources a lot of the regulatory burden to the Nominated Adviser (Nomad)

with reporting twice a year. The AIM makes GBP 4,000 per company in listing fees, which is not

enough to cover costs; hence the AIM is cross-subsidised by the main market. The AIM did provide

some Investor Relations courses for companies, which is important to maintain investors’ interest in

the stock.

At the Budapest Stock Exchange a majority of the listings are SMEs, small- and mid-caps. But as a

general rule, the larger companies have a larger liquidity than the smaller companies.

The Federation of European Stock Exchanges (FESE) indicated that SMEs face some problems

with respect to information requirements. The regulated stock exchanges require information at the

IPO and on-going provision of information. These requirements are necessary to attract investors

with the right profile. However, for listed SMEs this causes some problems, as they are faced with

International Financial Reporting Standards (IFRS) (for their listing) and with fiscal accounting (for

tax reasons). As neither IFRS can be used for tax purposes nor fiscal accounting can be used for

listing, companies are faced with double work, which weigh relatively heavy on SMEs.

The Australian Stock Exchange (ASX) says that listed SMEs make up about 85 percent of the

market. The exchange is particularly active for smaller companies and has begun an initiative to

sponsor research in listed SMEs. They have indicated they may allocate between AUS$ 5-10

million annually. At present, in a pilot project, the ASX pays for 30 retail reports and 20 institutional

reports. The ASX releases the research on its website. The ASX also runs Spotlight Conferences in

financial centres such as London and New York, for which a company pays AUS$ 6,000 to

participate. The Shareholder Register is transparent in Australia so that you can see who your co-

investors are (see for more details the case study of the ASX).

Relatively new are crowd funding platforms, which can help small companies to raise money by

matching them with private investors. The investment can be debt, or equity, though regulation

makes it extremely hard for companies to sell equity via these platforms. Crowd funding models

appear to vary significantly.

According to a representative of a crowd funding platform and also to a representative from a

platform that works with crowd funders, the philosophy is to guide companies to become part of the

public market along a spectrum from very junior markets to a fully fledged listing on a main

exchange board. On this particular platform, information about companies is held and matched with

investors with the long term aim to allow trading of the companies on the platform possibly in

periodic auctions. This platform stores information about companies where potential investors can

find the information they need. This respondent said that there are a number of sophisticated

investors who used to invest in hedge funds but now find the management fee too expensive and

their money is tied up for too long. These investors now wish to invest directly in SMEs as an

alternative investment. Another respondent said there was a trend towards more local investment,

which is helping bring investment to crowd platforms. The crowd platform interviewed said that it

does not charge any upfront fees. Even a crowd funding platform is imposing standards. Investors

have to be accredited investors in their home country before they can invest; and information needs

to be standardised to help investors discern which investment to make.


4.6 Nomads

As per AIM rules, companies applying to AIM are obliged to appoint a nominated advisor (Nomad)

to guide it through the listing process and to advise the company during its period as a public

company30

. For Nomads, the rules set by the AIM itself are most relevant, because regulations

such as the Prospectus Directive do not apply to listed SMEs, when the proposed fundraising is an

offer to no more than hundred persons, - so-called ‘qualified investors’31

. That regulations like the

Prospectus Directive do not apply is possible because AIM is an MTF.

The importance of business information provision

The representative of a company providing Nomad services interviewed by the project team

considered that, in general, rules related to information provision are beneficial to listed SMEs, as

they ensure that investors are provided with clear, useful and reliable information about the listed

companies. This takes away hesitations from investors to invest in, often unknown, listed SMEs. An

important additional benefit of the AIM rules for listed SMEs is that these are clear and easy to

understand. However, it was also acknowledged by an interviewee that the exchange outsources a

lot of the regulatory oversight to the Nomad, which adds a cost burden to the Nomad.

Information requirements

Even though basic financial and organisational information about the listed SMEs is both

elementary and mandatory, forward looking information is most relevant to investors according to

the Nomads. This concerns ‘the story’ and strategic outlook of the company. Equally important are

meetings between the company and investors.

4.7 Corporates

Motivation to list

Raising capital and to grow fast and big as a company is mentioned as the main motivation to list.

However, a representative of listed SMEs in the UK says at present there is not a lot of motivation

for companies to list. Rather than growing a small company for the long term, they are sold off to

private equity firms. Other firms list for the wrong reasons; these firms are not sufficiently informed

about what it takes to be listed. For some firms it is too costly to list.


An interviewee from the UK mentioned that the mentality of the regulators has been to protect

investors and consumers at all costs. There was a default view that listed companies have an

endless supply of resource; in reality the companies are overloaded with the burden of disclosure,

although in two interviews the companies mentioned that they draft and publish the information

themselves and indicated that they do not need external analysts to do this. The EU legislation

accepted only in this decade that there should be different legislation for listed SMEs than for blue

chips32

.

30

A Nominated Adviser is called Certified Adviser on First North in Stockholm and Authorised Adviser on NewConnect in

Warsaw. 31

If the proposed fundraising on AIM constitutes an offer to the public, the AIM company has to produce a prospectus as

governed by the prospective rules of the Financial Service Authority. 32

In addition, the Commission is now also looking at administrative burden for SMEs.


According to the interviewees, the prospective regulation made listing difficult for young companies

due to the requirements on information to be provided. However, as long as companies fall under

the exemptions in the Prospectus Directive, then they do not need to publish a prospectus. For

example, companies on the AIM are only expected to follow the simpler AIM rules, which is a relief

for the listed company.

Investor Relations/Meetings

A small-cap says that the management spends on average twenty five percent of its time on

investor relations (IR). It takes an educated management to be a listed company and manage

investor relations well. Charismatic CEOs who work on connections with investors can make a big

difference in attracting analysts to cover their “story” and the interest of investors.

A charismatic CEO of an Australian company mentioned that he will drive investors to the stores

dressed up in the firm’s uniform and introduce them to the store managers etc. According to him, a

lot of CEOs are too far away from the frontline and too frightened to do this sort of thing.

A company involved in satellite communications is very pro-active at managing their website and

their communications. This CEO said IR is very important and that he is lucky that both his CTO

and Marketing Manager are very good in talking to investors. However, in general the boards of

listed SMEs are not very good in articulating their strategy.

Research

One listed small-cap company said that they did not have research provided on them so they had to

pay one or two firms “to get the ball rolling”. This company sees it as something they have to do to

seed the market. There may not be a need to go via this route when the charisma of the

management is such that he/she can get a lot of exposure for the company. Other listed, somewhat

larger, companies do all the investor relations themselves through their finance director. Another

listed SME noted that as they grew from an AUD100 million to an AUD250 million company they

have attracted more firms who want to cover them from a research perspective. They managed to

achieve this by convincing brokers about their strategy, structure and the people.

Various respondents said that unbundling has taken out some of the profit and the research

production has declined subsequently. This went at the expense of subsidised research from the

old commission model for the listed SME sector.

4.8 Summary

43 market participants took place in the interviews.

Asset managers who invest in SMEs generally do so because they believe there is an opportunity

to generate more value as these stocks are less well known and have less information available

about them.

Most asset managers managing third party money can only invest in listed SMEs if they have the

mandate from the funds trustees and a benchmark exists. Some asset managers said the lack of

business information is not the reason for low investments and pointed out that currently there is a

generally a trend towards fixed income products or other products to help manage liabilities in

pension funds. Also some asset managers indicated a greater interest in project finance.


On the one hand, investor protection rules need to be balanced so that investors or advisors to

investors are not completely discouraged from investing in SMEs but that the increased risks are

clear. On the other hand, the obligations regarding information to be supplied by SMEs need to be

balanced between ensuring investors are protected with information supplied to an adequate

standard and for the SMEs not to be overburdened with so much administrative process and costs

that listing will become prohibitive.

Investors have a broad set of information requirements including the information which is easily

available as well as information that is more difficult to find. Many do their own in-house research

but will use other research if it exists in the market. Some interviewees said that information

providers whose research is paid by the company was either conflicted or of lower quality.

Asset managers wished to obtain the following information about SMEs: 1) Face to face meetings

with management; 2) A site visit to the company premises; 3) The performance of the stock, the

free float and liquidity; 4) Historic financials, forecasts and sector risk; 5) The accounts of the

company; 6) The shareholder register.

Meeting company management and conducting site visits was frequently cited as one of the most

critical for these investors. Company disclosures were an issue for many and there are varying

practices across Europe. Some exchanges were criticised for the way they handle disclosures.

Investors trade on multiple platforms and many cited the benefits of dark pools for trading in SMEs.

The economic and regulatory environment has had an adverse effect on the traditional investment

model so that the entire equity value chain is changing. Both exchanges and brokers make their

money from processing volume and value so SMEs account for a very small part of their profit.

Since MiFID, exchanges have had to face competition and focus resources on defending their blue

chip market. Additionally, in times of recession, interest in SMEs has waned. Brokers therefore

have less motivation to provide research and at the same time unbundling has put increased

pressure on their costs and profit margins. Unbundling has taken out some of the profit and so they

now cover less stocks. This was because the subsidised research for the listed SME sector from

the old commission model ceased to exist.

A number of SME project initiatives were cited as successes or failures. Some markets such as

NASDAQ and AIM were cited many times in the context of both success and failure. The main

complaint about NASDAQ was that it had grown too big to support SMEs and AIM was cited as a

success when it started but some people questioned its on-going success. NYSE Euronext, Neue

Markt and Nuevo Mercado were most often cited as having failed in their attempts to support

SMEs. The ASX was commended for its recent initiative to sponsor research for SMEs.

Some exchanges ask listed SMEs to have a nominated advisor to support them in their listing. The

UK AIM market was cited as a model that works well in this regard.

Listed SMEs are often unable to manage their Investor Relations or understand the importance of it

in stimulating interest. They are also often poorly educated about what it takes to be a listed

company. Additionally it is costly to comply with the administrative requirements. Charismatic CEOs

who work on Investor Relations can make the difference in attracting analysts to cover their story.


5 Channelling business information to drive SME investment: 5 case studies

5.1 Models of business information - a bird’s eye view

Figure 5.1 below provides an overview of all the business models to provide business information

services. These were identified under Task 1 and 2 of the study. The models can be split between

models in which information is provided with or without an opinion. Furthermore, there are

mandatory and non-mandatory business information models as well as demand stimulation and

demand-led models.

The business models of financial analysts are in the lower part of the overview in Figure 5.1, split by

whether the investor (demand led) or the exchange/company (demand stimulation) pays the

financial analyst.

The environment in which the financial analysts are working is shaped by a number of factors,

including company supplied information (either mandatory, or non mandatory information), the

pricing and index data (whether it is important that the price information comes available delayed or

not) and other less tangible factors such as meeting the company management and assessing the

premises where the premises are a significant factor in the company’s intellectual property i.e. a

retail provider or a mining company. Another important factor is the shareholder register, which in

some countries is publicly available and in other countries not. For investors it is important to know

who their co-investors are.

Improving the market performance of business information services regarding listed SMEs

52

Figure 5.1 Business models to provide business information services

COMPANY SUPPLIED

INFORMATION

- The company may choose to have a w ebsite if it has not been mandated by the market

- The company may choose to have an investor relations function to liaise w ith shareholders and the market

- The company may choose to have a public relations function & publish non regulatory new s items about its progress

- The company may choose to disseminate information via w ebcasts

* Note this is not a Pan European standard as the European Propsectus Directive does not cover SME markets

PRICING AND INDEX

Delayed Pricing

Information- Prices for most stocks are made freely available via the internet or new spapers on a delayed basis (usually by 20 minutes)

Non delayed pricing

information

Note: The cost of receiving the data is paid either directly via the investor or paid out of the fund via a "softing" agreement with a broker. Also some exchanges bundled charges for data.

Index Information - Some institutional investors w ill only invest in a stock that is listed in an index so that they can benchmark their performance. They may have to pay a license fee in order to use the benchmark.

SHARE REGISTER

DATA

THIRD PARTY

SUPPLIED

INFORMATION/

FACILITATION

1. The company pays a

research provider to publish

reports about it to

prospective investors. In

this case the research

provider usually does not

make a recommendation.

2. The exchange, company

and potential investors share

the costs of research

provisions. In this instance

the research provider may

publish an opinion (e.g. Buy,

Sell, Hold)

3. An exchange pays for

research to be published

about companies and

f inance the costs of

company meetings w ith

potential investors. In this

instance the research

anaylst may publish an

opinion.

4. Investors have in-house

research analysts generating

research solely for their ow n

use to support their investment

decisions and f inance the

costs of meeting company

management*. They create

their ow n private opinion.

5. Investors outsource their

research analysis to an

independent research provider.

The investor pays the provider

either i) directly or ii) via

commission sharing

agreements w ith brokers.* The

provider w ould usually publish

an opinion to the client.

6. Investors outsource their

research analysis and

arrangements for company

meetings to brokers and pay

for it via commission generated

w hen trading. In almost all

cases the research provider

w ill publish an opinion available

to all clients.

7. Specialist press

coverage can be the

only alternative for some

investors w here there is

no research available.

Journalists w ould

usually have an opinion

on the companies that

they cover.

This research is available to

any other party w illing to pay

for it.

This research is available to

any other party w illing to pay

for it.

*(Note: The cost of this is paid

by the investment company)

*(Note: The price paid directly

to the independent provider is

a cost to the investment

company. The price paid via

commission is a cost to the

fund)

*(Note: The price paid via

commission is a cost to the

fund)

- Immediate trade prices are made available via information distributors such as Thomson Reuters or Bloomberg or sophisticated electronic investors can take these prices directly from the exchange*

- In some countries share register information is publicly available at a cost (so that all investors can be identif ied)

- In other countries share register information is not publicly available

O

P

I

N

I

O

N

M

A

Y

B

E

P

R

O

V

I

D

E

D

N

O

O

P

I

N

I

O

N

Demand stimulation Models Demand Led Models

Note all of the above may only be published in the company's local language

Mandatory Information:

- A prospectus w ith details determined by the market on w hich the SME lists*

- On-going critical new s information that may affect the share price

- In some cases the listing venue w ill insist on the company having a basic w ebsite

- A set of Accounts to the standards required by the SME market

Non Mandatory Information:


Below we discuss a selection of examples of business information models found during the

interviews. The business models are different by their sources of income, client base and degree of

success. For each of the examples the link with the number in Figure 5.1 is given:

1. The research analyst that is paid for its service by the listed company. Examples can be found

of this model in France and Sweden. In France, the financial analyst produces an annual report

and quarterly notes for small-caps for € 10k-15k p.a. In Sweden, one business information

provider is successful, based on the same model. In the UK, there are three business

information providers working on this model. But this model appears not to work in all countries.

For example, in Denmark, it is considered not to be at arm’s length. Also, a recent initiative of

the Madrid Stock Exchange and the Spanish Institute of Financial Analysts failed. Their initiative

to help listed companies with quality research for the price of € 11k only attracted one listed

SME. (This example links with nr 1 in figure 5.1);

2. At the PME Bourse in Paris there has been an initiative whereby the financial analyst is paid for

one third by the asset manager, one-third by NYSE Euronext and one third by the small-cap.

The three parties pay each € 5k for the coverage of one company annually. This initiative was

not successful because the asset managers were not interested to invest in the listed SMEs and

a number of the companies did not attribute importance to being covered by a financial

specialist. In total 40 small-caps were involved in the project that started in January 2011 for a

period of two years. (This example links with nr 2 in figure 5.1);

3. a) The Australia Stock Exchange (ASX) is particularly active for smaller companies. The ASX

pays brokers to provide research on selected listed SMEs. The ASX began with a pilot project

where it had a budget of AUD$1 million for the first year, which has just risen to AUD$2 million

in the second year. It has indicated it may be willing to spend up to AUD$5-10 million. Interested

equity brokers and researchers are asked to tender to cover stocks of their choice within a list of

companies that the ASX believes does not have enough research coverage. During the first

year, at the time when the case study was being conducted, there were 30 retail reports and 20

institutional reports being produced. Since the outset of this study, ASX has progressed the

project into its second year and 100 companies are now being covered. There are three

different types of research 1) company fact sheets which are published on the ASX website 2)

Retail grade research reports which are published by the broker’s distribution mechanism and

3) Institutional grade research which is distributed via the broker’s distribution mechanism. The

ASX hopes to attract new company listings with this pilot project but has also said that it may

fund the project via an increase in listing fees. Listing fees have increased since the inception of

the project but the exchange says that there are many factors contributing to this and the cost of

undertaking the research is not directly passed to the companies. (This example links with nr 3

in figure 5.1); The ASX also organises conferences in domestic and international cities to focus

on listed SMEs.

b) The Nasdaq OMX (Nordic market) has started a programme that actively organises meetings

between investors and companies to promote dialogue and information sharing. At the same

time it actively organises and promotes regular conference calls between the management of

listed SMEs and investors in order to facilitate access to “soft” information. (This example links

with nr 3 in figure 5.1);

4. One company in France is a completely independent research provider for institutional clients.

They have the largest database on small and midcaps in France. With brokers they work on the

basis of Commission Sharing Agreements (CSA) and with asset managers they work directly.

No money is coming from the issuers. The clients are provided with online research tools with

which they can compare one investment against the performance of a reference group of


companies. This independent research provider has survived the crisis. (This example links with

nr 5 in figure 5.1);

5. a) Brokers have research departments that provide research for asset managers with whom the

brokers have a relationship. The brokers get paid for their research services and the service of

providing corporate access out of commission, which is mostly paid out of the fund of the asset

manager. There seems not enough commission coming from trading in small- and mid-caps.

One interviewee said: “Brokers tend to focus on IPO fees but they can’t make money on the on-

going provision of research and the secondary market is a bit of an after-thought for them.”

(This example links with nr 6 in figure 5.1);

b) Some brokers (such as Patria Finance a.s. in the Czech Republic) provide information

services as a means of marketing and in order to increase their fees. They provide an online

information portal (much like Reuters or Bloomberg) as a free and a paid version. They then

provide original analysis as well as present analyses from other sources with a focus on Central

European markets. The aim is to attract investors who will subsequently use Patria’s broker

services to conduct such transactions and therefore earn money through transaction fees. They

also aim to inform and educate the investor as much as possible to stimulate the frequency with

which they trade, thus earning more commission fees. (This example links with number 6 in

Figure 5.1).

The literature review, interviews and the discussion about market failures led to the identification of

some critical factors against which the business models of business information providers should

be tested (see the next section for an overview of business models). These critical factors are

closely related to the identified market failures. Error! Reference source not found. below gives an

overview of these factors, the underlying problem, and the indicator or descriptor that can be used

in the case study analysis to test this critical factor.

Table 5.1 Critical factors for business information providers

Critical factor Problem identified in the literature Indicator / descriptor

Costs of research

for SMEs

In contrast to large firms, the budgets of SMEs are limited,

so it is less likely that SMEs want or be able to pay the

business information provider for conducting research on

their company.

Do SMEs have to

contribute?

Profitability The fact that there are not enough business information

providers to analyse SMEs suggests that it is often simply

not profitable for many business information providers to

focus on SMEs. Once research on SMEs becomes a

profitable business opportunity, new business information

providers will enter the market or existing ones will start

focussing on SMEs. If it appears that the market cannot

solve this problem on its own, cross-subsidisation could be

an option.

Profitability of the

business model;

Cross-subsidisation;

Role of stock

exchange.

Feasibility in times

of crisis

During an economic recession, investors become more risk

averse and they prefer investment in large firms or other

types of investment (bonds, cash).

How does the model deal

with (periodically) limited

interest of investors?

Local nature of

SME investment

Many SMEs are not known across borders and usually

work in their local language. Investors in SMEs are also

home-biased. They do not know SMEs from abroad and

research is often in the local language, so a language

barrier exists.

Is the business information

provided in more

languages?

Would provision in English

language solve the issue?

Transparency Conflicts of interests exist along the equity investment Separate pricing of the


Critical factor Problem identified in the literature Indicator / descriptor

chain, for example because of bundled services and soft

commission agreements.

services of the asset

manager?

Is research paid

directly from the funds?

Investor relations SMEs often do not have time and money to pay attention to

investor relations, although this is very important to

stimulate investment.

Does the business

information provider pay

attention to investor

relations or education of

SMEs?

5.2 Brief summaries of the case studies

5.2.1 Case study AIM London

The Alternative Investment Market (AIM) is London Stock Exchange’s market for smaller and

growing companies. AIM served as one of the business models that were subject to a case study

under the ongoing study “Improving the market performance of business information services

regarding listed SMEs”.

Model and regulations

The AIM model is defined by two main characteristics:

1. Modified information requirements;

2. Obligatory use of a nominated advisor (Nomad).

Ad 1. AIM regulations are simpler and more lenient than relevant rules of the European framework

regarding public offering of securities (most prominently the Prospectus Directive), trying to find a

balance between regulation/investors’ interest and SMEs interests by means of intelligent

regulation. This simplification is expressed in more lenient accounting standards and reduced, but

nevertheless strict disclosure obligations.

Ad 2. The task of Nomads is to guide companies through the AIM admission process and its

subsequent life as a public company. Nomads also have to ensure that information is kept up-to-

date and that companies abides by the rules. Nomads offer in-depth knowledge of the regulatory

environment to SMEs that normally lack the experience and capacity to obtain such expertise. They

are paid annual retainers by the companies the represent, varying from GBP 70 to 100k.

AIM considers the following factors to have contributed to their success:

A balanced approach to regulation which facilitates a smooth transition to becoming a public

company and allows companies to focus on growing their business once on market;

A network of advisers that is experienced in supporting companies from the time they first

consider a flotation;

An international investor base that has the knowledge and understanding to effectively provide

capital to companies as they progress and has confidence in the regulatory environment.

Information provision on AIM-listed SMEs

Research on AIM listed companies is provided by:

Nomads, who also engage in research services;

Independent research providers (Edison, Hartman, Equity Development), paid by the company;

Researchers that offer their intelligence to (mostly) retail investors.


Sources

The following sources were used in the case-study.

Interviews in Londen with:

The Head of AIM;

Two Nomads;

One market maker;

Three SMEs listed at AIM;

Two investors;

Associations for listed SMEs/investors.

Literature review:

LSE, a guide to AIM, 2010;

LSE, AIM rules for companies, 2010;

LSE, AIM rules for nominated advisors;

LSE, London;

Stock Exchange Statistics.

5.2.2 Case study ASX Australia

This study is based on interviews with representatives of the Australian Stock Exchange “ASX”, the

Australian Treasury, the Australian Securities and Investment Commission “ASIC”, Heads of

Research at 6 banks and brokers (some international and some domestic) and 6 investment

research analysts. The study was focused on the general information provision for listed SMEs in

Australia and specifically on a pilot scheme run by the ASX to sponsor research provision for

SMEs.

ASX is by far the largest of several exchanges that exist in Australia and it is responsible for most

listings in the market. Regulation, similar to MiFID, allowing alternative platforms to compete in

secondary trading of stocks has recently been introduced. This has required the ASX to defend the

trading of large cap stocks which is where most revenue is generated, but competition is currently

limited.

ASX has been running a pilot project to stimulate research provision in stocks that are not well

covered by research. In 2012, ASX proposed to provide AUD$1million to fund the production of

research for companies with a market capitalisation of less than AUD$1 million. Brokers were

invited to tender to provide research on stocks that had less than 3 analysts currently covering

them. There were three different grades of report that could be produced i)a company fact sheet,

(ii) a retail report or (iii) institutional research. Brokers interviewed tendered with pricing based on a

cost oriented schedule. Institutional brokers interviewed all stated a similar cost to them of

approximately AUD$40,000 (€28,000) to cover a stock and approximately AUD$250,000

(€175,000) to hire a good analyst. Most brokers felt that simply producing research would not

immediately increase business for them but they were supportive of the scheme and were willing to

participate, providing their costs could be covered. The ASX previously stated that it is recouping

the cost of its scheme by raising listing fees for all companies.

Not all institutional investors interviewed were aware of the ASX scheme but were supportive of the

concept providing the scheme was transparent, of good quality and managed conflicts of interest. It

was not clear to them how these elements were being assessed. From a perspective of corporate

citizenship they felt it would contribute to the market overall. However, the value they place on


research that is paid for by a third party such as the exchange is lower than the value of research

produced by a broker of its own accord. It is important to note that no retail investors were

interviewed and the institutional investors have a privileged position as they can afford to undertake

some of their own research. Retail investors might place a much greater value on the research

being provided.

The ASX has announced that the scheme was a success and embarked on a second year,

doubling the funds available to AUD$2 million (€1.4 million). It says that participating companies

have improved their relationships with analysts and overall coverage has improved since the

scheme began. Within that period, approximately 62% of participating companies experienced a

rise in the turnover of their securities, compared with the previous year. Listing fees have increased

but the ASX says the cost of the scheme is only one consideration when setting fees and there is

no direct pass through.

The ASX Research Scheme demonstrates that information about listed SMEs can be produced and

improved through commercial means. However, the characteristics of the market and motivation of

participants are important factors to be taken into consideration when judging that success.

5.2.3 Case study France

Business model of the policy initiative

The ‘Lagarde policy initiative’ was initiated after making the observation that the listed SME market

on the Paris stock exchange is relatively small and weak. It was thought that the cost of doing a

financial analysis was a major impediment for investments in listed SMEs as the cost for potential

investors of conducting such an analysis would outweigh its benefits. Therefore, it was thought that

by promoting financial analysis of listed SMEs, it would be possible to significantly boost the listed

SME section of the stock exchange.

The idea of the ‘Lagarde policy initiative’ was to mutualize the cost of conducting a financial

analysis of a listed SME (estimated at 20 000 €) among four market players: the financial analyst,

the stock exchange, the analysed firm and the investors. Each would contribute 5000€ which

means that the financial analysts would get only 15 000€ for doing the analysis and the other

parties would each pay 5000€ for it. This mechanism should incentivize listed SMEs to seek

coverage by a financial analyst and to make the listed SMEs better known to potential investors.

Subsequently, the additional investment that this could generate can also be beneficial for the stock

exchange as the trading volumes would increase.

The initiative has led to 13 additional financial analyses under the framework of this initiative. This

can be considered as a limited success or a limited failure, depending on the point of view. In any

case, it is clear that the initiative was not as successful as was previously thought that it would be.

However, the difficult economic conditions have not been beneficial for the demand for financial

analysis. This consideration has to be taken into account if one wants to correctly assess the

effectiveness of this mechanism.

The institutional framework

The AMF is in charge of enforcing the financial markets regulatory framework, which is generally in

line with European financial legislation. A specific element is the unbundling of commission

payments which is possible but not compulsory. The small and mid-cap market in France is rather

small and weak. This observation holds for all market players: investors, financial analysts, the

stock exchange and the listed SMEs themselves. Also, regulatory requirements such as Solvency II

or Basel III has not helped in directing financial flows towards the SME market, which is perceived


as relatively risky. Finally, the economic situation and the crisis of the past years has also

contributed its share to the weakness of the listed SME market.

Abbreviations used.

Sources

Individual experts consulted:

Paris-based specialist in the area of the regulatory situation of the financial market in France

and more specifically the financing of SMEs through the stock exchange;

Director of « L’observatoire du financement des entreprises par le marché » - entity for

promotion of financing SMEs through the stock exchange.

Investigated entities:

Financial Markets Authority (Authorité des Marchés Financiers, AMF) – French financial market

regulator;

NYSE Euronext Paris (Financial services corporation and operator of the securities exchange in

Paris);

3 Paris-based firms specializing in financial analysis on small and mid-cap market;

1 major investor in French listed SME market;

1 London-based investment management firm investing in EU SME market;

Caisse des dépôts et consignations (Major investor in French listed SME market).

5.2.4 Case study First North in Sweden

The Swedish regulated market we have looked at is NASDAQ OMX Nordic. Besides the main

market where small caps are listed, there is a growth market for small companies: First North. First

North is a MTF where listed companies are supported by Certified Advisors, that can be corporate

finance firms, accounting firms, or investment banks. These Certified Advisors help the companies

for example in the listing process and to abide by the rules and regulations. Although the concept of

Certified Advisers is useful, conflicts of interest also arise.

Retail investors are the dominant investors in listed small and mid caps in Sweden. This is due to

long Swedish heritage where people are incentivised by the tax and pension system to invest in

equity. Therefore, the man in the street prefers equity instead of bonds. In Sweden the demand for

business information services regarding listed small and midcaps is mainly from retail investors.

In Sweden there are many competitors in the market of business information services. On the one

hand, the brokers and the investment banks in Sweden provide the traditional soft services to

institutional investors; on the other hand, there exist many suppliers of research for retail investors

in the form of magazines and portals. However, there is still a very low coverage of equity research

on listed SMEs. The equity research results provided to retail investors is mainly in Swedish, which

is an obstacle for foreign investors. However, they are often only interested in Swedish blue chips

anyway.

Sweden is an interesting case as business information providers that are paid by the listed

companies themselves seem to be quite successful. Because of the low research coverage of small

listed companies, it is generally accepted in Sweden that companies pay analysts to write a

research report. One may wonder if there are any conflicts of interest, but it is perceived that

companies should start somewhere to get research coverage when their company is not picked up

by business information providers in an early stage of listing.


We looked in particular to the business model of one of these business information providers that

are paid by the companies. The company we looked at in detail owes its success from its

innovativeness and creativity. It has an online platform for business information services. On this

platform, information on small caps is provided to retail investors via different channels, of which

many are for free for the investors. The traffic data from the website can be used to see which

investors are interested in certain companies.

For this case study we interviewed three asset managers, one stock market, two research bureaus

/ brokers and one certified adviser.

5.2.5 Case study Warsaw

Key information on institutional framework

Warsaw stock exchange is well regulated not only from the EU but also domestically with several

institutions responsible for the whole sector. The interviews have pointed out that the regulator is

adaptive and responds fast to changes in the market.

There is no discussion on the possibility of unbundling and most of the research done is done by a

broker for his clients.

Business model used

The Warsaw Stock Exchange is a publicly listed company and therefore operates as a completely

commercial entity. Its operations are not only monitored by national regulators, but also at an EU

level. It requires a prospectus before the listing of the company as well as then regular reporting. Its

revenue comes from not only these listing fees, but also additional sources such as fees on

transactions and the NewConnect.

The New Connect is an alternative trading platform, which focuses on smaller companies. It does

not require a full prospectus, nor equal level of regular reporting. It largely funds itself and profits

come when the most successful move to the main exchange, where the fees and volume of trading

is higher.

In the case of Patria the business model is of distributing information to the whole general public

and recuperating it with brokerage fees from the retail investors. There are plans to make this more

efficient and make a direct correlation to the amount of information provided to the frequency of

trading, as well as make the process more user friendly. This will not only tie in the retail investor to

the broker services, but also encourage him to trade more frequently.

Entities investigated:

Brokers: 5;

Investors: 4;

Stock exchange: 1;

Authorised Advisor: 1;

Investor relations company: 1.

5.3 Synthesis of the five case studies

This remainder of this chapter gives a synthesis of five case studies including relevant successes

and failures of attempts to provide business information on listed SMEs:

1. The first case study is in Stockholm, Sweden, which is linked to the examples nr 1 and 3.b);


2. The second case study is in Warsaw, Poland and is related to example nr 5.b), but is also to

find out more about the business information model in a young market that is still at a different

stage;

3. The third case study is in Paris, France, which is linked to example nr 2;

4. The fourth case study is in London, UK and linked to example nr 1 and 5.a);

5. The fifth case study is in Australia, illustrating example nr 3 a).

The selection of the cases were based on pragmatic reasons, past and current initiatives to

enhance the research coverage for listed SMEs and geographical spread.

In the case studies interviews were held with the regulatory body, the stock exchange, asset

managers, NOMADs, business information providers, brokers and listed companies in each market.

For the full case studies reference is made to the Annexes.

The following topics were dealt with in the case studies, which will be summarised in the remaining

sections in this chapter:

1. The regulatory framework conditions affecting business information providers who cover small-

and mid-caps;

2. The motivation to invest;

3. Explanation of the market;

4. Information required by trading platforms when listing an SME;

5. Disclosure rules;

6. The importance investors place on information available;

7. The importance information providers place on information available to them in the market;

8. The number of SMEs covered by research in the market;

9. Providing a future outlook for business information services for listed SMEs (dealt with in

Chapter 6).

5.3.1 The regulatory framework conditions affecting business information providers who cover small- and

mid-caps

Whereas the main European regulations - including the Prospectus Directive (2003/71/EC), the

Markets in Financial Instruments Directive – MiFID (2004/39/EC), the Market Abuse Directive

(2003/6/EC) and the Transparency Directive (2004/109/EC) – govern the main regulated markets,

the provision of information on the growth markets is ruled by in-house rules of the LSE, NASDAQ

OMX and WSE. As these growth markets are Multilateral Trading Facilities the above main

European regulations for the main financial markets do not fully apply. The idea is that a

differentiated regulatory environment is needed for small-caps. In Australia, the Australian

Securities & Investments Commission (ASIC) is in charge of regulating the securities market.

Unbundling of commission fees is common practice in the UK following regulatory guidelines. A

number of global asset management firms and brokers have introduced it in other markets in

Europe, such as France, and also in Australia though there is no regulatory requirement to do so. In

Sweden bundling is still the case although everyone interviewed in Stockholm indicated to be in

favour of unbundling. In Warsaw unbundling to stimulate independent equity research analysts is

not discussed.

In the UK, indicative guidelines from the regulator suggest that client commission cannot be used to

pay for corporate access. Further clarity from the regulator is pending. A number of brokers and

independent research firms are against this.


The Solvency II directive (2009/138/EC) was frequently mentioned by institutional investors to have

detrimental effects on investing in small-caps in e.g. in London, Paris and Stockholm. This directive

requires from insurance companies higher liquidity, which reduces investments in SMEs, small- and

mid-caps.

5.3.2 Explanation of the market

Except for Australia, all case studies have a separation between the exchange’s main market and

the platforms for smaller companies. According to the interviewees, competition between

exchanges led to declining profitability and new forms of trading to attract the large-caps, which are

traded more frequently and across more stock exchanges. This situation has lead the exchanges to

focus on retaining their large-cap business and to compete for more blue chips business in other

markets rather than to stimulate capital allocation to SMEs, small- and mid-caps.

In some case studies (e.g. France, Sweden) it was mentioned that equity finance has lost its

attractiveness and that raising money at private equity funds is a more attractive alternative.

Definitions of small- and mid-caps differed among the exchanges visited. In Australia, market

participants have their own definitions. At the growth markets in London, Stockholm and Warsaw

versions of the Nomad model are applied.

All exchanges visited own, or have developed in combination with international index providers a

number of indices, which can be licensed out.

At Euronext in Paris the basic fee for an IPO is € 10,000 regardless of market capitalisation. In

addition, a yearly cost of notation is paid, which is for a small-cap € 2,800. For a secondary

operation there is a fee that is below the fee for an IPO. The business model for Euronext is more

oriented towards trading than towards listing. At First North in Stockholm the listing fees range

between € 5,700 - € 22,000 p.a. depending on the market capitalisation of the listed company. Here

companies also pay an initial fee and an application fee. In addition to the costs of listing, the listed

companies have to pay the costs for the nominated adviser. Table 5.2 gives an overview of different

listing fees that our found in the five countries.

Table 5.2 Costs of listing for SMEs per country

Costs AIM First North France Warsaw Australia

Admission fee € 8,405 - €

94,818*

n/a € 10,000 - €

3,000,000*

6.01% of

IPO

n/a

Annual listing fee € 7,026 € 5,700 - €22,800* € 2,800 - €

50,000*

n/a n/a

Subsequent

admission fee

€ 94 - € 844 per £

1 mln increment*

n/a € 100 - €

2,250,000*

n/a n/a

Advisory (NOMAD,

Certified Advisor,

Authorised

Advisor)

Charge for

bringing a

company to the

market varies from

€ 83 k -119 k, or a

percentage of the

capital raised. The

annual retainer for

the ongoing

€ 1,300 - €2,300

per month

n/a n/a n/a


Costs AIM First North France Warsaw Australia

Nomad activities

is approx. € 60k.

* depending on the market capitalisation of the company.

The distribution between retail investors and institutional investors varies among the cases. The

retail investors appear to be dominant in Stockholm, especially at First North, while the institutional

investors were in the majority at the other markets with the exception of NewConnect (See table

below). In Sweden, the government has stimulated shareholding among retail investors by

awareness raising among youth and allocation of pension money by the people themselves.

In all markets the domestic investors are more dominant than the foreign investors when investing

in listed SMEs. The foreign investors are in particular interested in liquid stocks, which is often an

issue with the smaller stocks.

Table 5.3 The distribution of retail- and institutional investors and domestic- and foreign investors

across the markets visited (note some figures are based on estimates by market participants)

Markets Retail: Institutional in % Domestic: Foreign in %

AIM 50:50 79:11

ASX 20-25:80-75 80:20

PME Bourse Paris 15:85 75:25

Nasdaq OMX 45:55 66:33

First North 81:19 n.a.

WSX 10:90 75:25

NewConnect 90:10 95:5

The average free float is mostly higher on the main market than on the growth market; for example,

at the main market in Stockholm, the minimum free float is 25% and at first North this minimum

share is 10%. In Warsaw the minimum free float requirement is 15% for the main market and no

minimum at all at NewConnect and ASX.

In terms of sectoral representation, the markets selected focus mostly on the most innovative and

growing sectors including life sciences, high technology, energy and financial sectors. At

NewConnect most small-caps are in the retail and support services sector by June 2013.

5.3.3 Information required by trading platforms when listing an SME

There are usually stricter information requirements when listing an SME on a main market than on

a growth market. For example, at First North a prospectus is only needed when securities are

offered to the public, as opposed to a less detailed company description, which is needed when

capital is raised among a limited number of investors; also operating history over the last three

years is not needed at First North.

At NewConnect, most issuers choose a private placement – an offer to a limited number of

investors -, which does not require a robust prospectus. The same applies to AIM where applicants

must produce an admission document containing financial information, an operating and financial

review, capital resources, R&D, profit forecasts and remuneration.


Alternext requires the last two years of financial statements with the last year certified and EU

prospectus approved by the regulator (public offering), or circular approved by NYSE Euronext

(private placement).

In Australia investors made some suggestions for improving the information required by the IPO

process such as making prospectus more concise and understandable; people want more time to

understand and to consider the information and meet the management, which will increase the time

of the IPO process.

5.3.4 Disclosure rules

In Warsaw at NewConnect disclosure occurs on a continuous basis. In special circumstances, such

as an unexpected death of the company owner, there is a trading halt. At First North, AIM and

Alternext in France the disclosure requirements are successfully met. For the disclosure of private

information or other market information that can have an effect on the share price, the regulatory

provisions of the Euronext and Alternext markets are the same. In Australia, the ASIC and ASX

said their disclosure rules are among the strictest in the world but investors still saw room for

improvement.

5.3.5 The importance investors place on information available

Investors have been asked to rate the information available to them during the investment process

in each case study. On a scale from 1 to 5 (1 = least important and 5 = most important) the table

below gives the average ranking of the investors to the various information sources.

Table 5.4 The importance of information available to investors interviewed by market (1= least

important; 5= most important)

Information AIM Paris PME Bourse NASDAQ OMX WSX ASX

Own research 4 5 5 5

Other research 1 5

Company accounts 3 3 3 4

Company website 3 1 3 2

Shareholder register 1 1

Access to management 5 5 4 5 3

Company Disclosures 3 2 2

On-going bid and offer price 1

It appears from the above table that investors in each market place the highest value on access to

management and to their own research. We have heard large institutional investors say that without

meeting the management they would not invest in the company. The company accounts form

another valuable piece of information for the investors interviewed.

Another result from the above table is the low value the investors place on research done by third

parties. The least important piece of information is the on-going bid and offer price but this is

understandable as most investors interviewed were long term investors.

Company disclosures are relatively important and a number of interviewees across the markets

were not satisfied with the current level of disclosures and suggested improvements. The handling

of disclosures and trading halts is an important part of market confidence.


The case studies also make clear that there is no need to provide the business information in

another language than the language of the country where the stocks are located since this would

increase the administrative burden for the listed SMEs while the foreign investors only to a limited

extent invest in listed SMEs outside their home markets.

5.3.6 The importance information providers place on information available to them in the market

Information providers value access to the management in addition to the company accounts and

the company’s website. Investors want to access the shareholder register to understand who their

co-investors will be. Usually the shareholder register is available at a central location (e.g.

Euroclear) while the major shareholders are published on the website of listed companies. There

may be a fee charged to get access to the shareholder register.

5.3.7 The number of SMEs covered by research in the market

At AIM the broker who is selected by the company normally does the research. Often the broker is

the Nomad as well. Sometimes an independent research bureau is used as this can have an

advantage over using the Nomad/broker such as a wider reach for the research information and the

possibility to give forecasts.

Detailed information on the number of SMEs covered by research in the market is often not publicly

available. At First North, NASDAQ OMX estimated that only ten per cent of the listed companies

were covered by research.

At NewConnect equity research is done for mid-caps but not for small-caps because there is limited

trading and liquidity in these stocks. Also the market players in Warsaw are not used to pay for

research.

5.4 Summary

Five business information models are discussed in this chapter that differ by their business models,

client base, motivation of the model initiator/s and degree of success. The five case studies were

selected based on geographical spread, successes and failures and pragmatic reasons. Most of the

study was based on the provision of research about listed SMEs but also covered some of the

ancillary information that investors rely on such as company disclosures and shareholder registers.

Various models for the provision of research were found to exist or have been tried in the past:

The corporate pays for the research analysis and publication, which is then available for free;

A combination of market participants pay for the analysis and research publication, which is

either free or available exclusively to participants and then made free;

The Exchange sponsors the analysis and research publication by paying brokers to cover

certain stocks. Short company fact sheets may be available for free but brokers will use their

exclusive distribution mechanism to publish and distribute more detailed research to clients;

Independent researchers undertake the analysis and publish the research and cover their costs

through the onward sale of the research to anyone wishing to purchase it;

Brokers take the initiative to provide research. Institutional research will be provided at a cost to

their clients, which is paid for via commission or retail brokers may provide it for free to clients

and recoup it via trading fees.


The cost of undertaking analysis and publishing research appeared similar across all the markets

with estimates of approximately €10-15,000 to prepare a retail grade report and €40-50,000 to

prepare an institutional grade report. This makes the production of research expensive. It is clear

that research providers are only motivated to produce research if they can recoup their costs and

projects that failed appeared to do so because some of the parties were not appropriately motivated

or could not cover their costs. Sometimes the corporates did not believe there was benefit to being

covered by an analyst.

Supporting the provision of research therefore appeared to be most successful where the entity that

financed the research production had a commercial model and ability to recoup its costs. For

example an exchange that may recoup costs directly or indirectly via listing fees or an independent

research firm that was paid directly for the research by interested parties.

Conflicts of interest are also an issue if research is not deemed to be arm’s length. In initiatives that

appeared more successful, the entity paying for the research was deemed a more neutral party i.e.

the exchange or an independent research firm. Motivating firms to provide research was also most

successful where the firm had a choice about providing research and which firm it wanted to cover.

Whilst investors placed most importance on the provision of research and the access to company

management and premises, they also cited the quality of company disclosures, prospectuses and

accounts as well as the information being provided by the shareholder register as important. Most

suggested that improvements could be made in these areas. Almost all respondents to the case

studies suggested that listed SMEs should have a web site.

Definitions of small- and mid-caps were different at the various exchanges visited.

In all case studies the domestic investors were more dominant in the markets than the foreign

investors. The proportion of retail versus institutional investors and foreign versus domestic

investors varied by case study. However in all cases, domestic retail investors had a larger share of

the listed SME market than other investors.

The case studies made clear that business information being provided in another language would

be an advantage. However, this would increase the administrative burden for listed SMEs and

currently foreign investors do not make a lot of investments in SMEs in other countries’ markets.

Markets that were successful had created incentives for investors, including tax incentives in the

UK33

and pension reforms in Sweden. In the latter country, people may decide where to invest their

pension money, which gives a boost to retail investments in financial markets.

33

In the UK The Enterprise Investment Scheme (EIS) is designed to help smaller higher-risk trading companies to raise

finance by offering a range of tax reliefs to investors who purchase new shares in those companies,

http://www.hmrc.gov.uk/eis/.

http://www.hmrc.gov.uk/eis/


6 Scenario development and policy recommendations

6.1 Scenario development

This section presents proposals to improve existing and/or new business models to provide

business information on listed SMEs in accordance with the following scenarios:

1. (Pan-)national / regional solutions built on existing business models;

2. A pan-European solution from scratch and in line with the Action Plan to Improve Access to

Finance for SMEs. This Action Plan aimed to offer high quality information from a central access

point at the EU level;

3. Innovative solutions like crowd funding already in existence in the US. Crowd funding develops

as an alternative to public equity funding and to bank credits. Crowd funding is expected by

some of the interviewees to grow rapidly as a source of finance for credits less than € 250,000

for SMEs. This will be through websites where companies can borrow directly from citizens. In

particular retail investors lend their money to SMEs in their neighbourhood. They will receive a

higher interest than offered by savings accounts. This inventive and innovative model of crowd

funding will be flourishing in the next few years.

6.1.1 (Pan-) national / regional solutions built on existing business models

Throughout the project, both in the initial interviews, and the following case studies, market

participants have described a consistent view of a transitioning market structure. In the past, there

was one national market for listed companies, brokers offered an integrated, bundled service that

liaised with the exchange and bridged the gap between the company and the investor. Print media

was traditionally heavily relied upon to distribute information. Investors previously focused on

investing in their core domestic and neighbouring markets but investment mandates have become

much more international. However the expansion into other markets has mainly been in large cap

stocks, which may have been to the detriment of smaller domestic investments.

As regulation has changed, the exchange model has become more competitive and brokers have

had to segregate the services that they offer both to the companies and the clients and be more

transparent about costs. The investor base has diversified and technology has increased the ways

in which information about companies can be disseminated.

New entrants are emerging and both new firms and incumbents are starting to think about ways to

improve the provision of information in the market but our interviews suggest that the economics of

the integrated model have not yet migrated to the emerging model. The past and present models

can be seen in the diagram below.


Figure 6.1 Past and present models


Three general remarks can be made about the current model:

1. Since MiFID and the financial crisis, the focus of most market participants has been to defend

their position in the business of large cap stocks. However, many institutional investors told us

that information dissymmetry is part of the motivation to invest in small caps. When there is less

information on these stocks in the market, investors, both retail and institutional, expect higher

returns. Notably retail investors go after the smaller stocks where there is often the least

information available;

2. Under the current economic model, the illiquid nature and the low level of market capitalisation

of SMEs, small- and mid-cap stocks will always act as a barrier for brokers to produce research

and investors to invest. The cost of hiring research analysts is considerable for both institutional

investors and brokers; they both need to generate enough fees to cover the cost of research.

The illiquidity of small and medium companies makes it harder for brokers to generate enough

commission via trading to warrant covering a stock. For the investor, they need to have a

certain amount of funds under management to generate enough fees to pay for their own and

third party research. The separation of research from the banking business has made it harder

to cross subsidise costs. It is not clear if further unbundling will be helpful or detrimental to the

provision of research for listed SMEs but the changing model suggests that other entities may

take up the responsibility of research provision if there is an incentive for them to do so;

3. The project team has observed that new commercial solutions for business information

provision regarding listed SMEs are emerging. However, these solutions are usually specific to

a local market rather than being on a pan European basis and usually remain in the local

language. The observations from the project team are that even though the investor base has

diversified, most investment and investment demand for SMEs is at a local level there is little

cross border trading in SMEs.

The case studies were also intended to provide a future outlook for business information services

for listed SMEs. They show that the low research coverage of listed SMEs is mainly caused by low

investor interest for these companies as SME stocks lack liquidity and often have associated risk.

Institutional investors also often have other priorities and mandates from their clients when it comes

to allocating funds. Investors are more interested in blue chip companies because blue chips have

higher levels of liquidity and therefore, it is much more rewarding for business information providers

to focus their business on large companies. The demand for business information on large firms is

much higher as are the fees that can be generated. The costs to provide research are the same for

small and large firms but the ability to generate fees in small companies is much less.

In the recent past Ms Lagarde took an initiative in France supported by a number of stakeholders of

the financial markets for small- and mid-caps. The idea was to promote business information as an

instrument to raise the interest of investors for listed SMEs. Four financial market players

(investors, the exchange, the analysts and SMEs) were to bear an equal part of the costs of the

financial analysis. The asset managers were promised 15 days of exclusivity for the research they

financed. Eligibility conditions for SMEs were established, for instance only French SMEs could

benefit from this initiative. As demand from the SMEs and the Asset Managers was lacking, which

can be explained by the bad financial and economic situation since 2008, the initiative has lost

importance.

In Australia, the ASX started an Equity Research Scheme last year to fund research for ASX-listed

companies with a market capitalisation of below AUD 1 billion, which are currently covered by less

than three analysts. The aim of this scheme is to revitalise the activities on the stock market. The

ASX puts out tenders for the provision of the research and brokers put in tenders aligned with the

cost of providing the research. The brokers are able to tender for the stocks they wish to cover. The

ASX is able to recoup the cost of the project via other fees.


In Sweden there is a successful commercial business information provider paid by listed

companies. The credibility of the equity research of this bureau is guaranteed by a solid rating

model applied by the business information provider to assess companies. In addition, the market in

Sweden accepts that listed SMEs as a start pay for their research coverage. The business

information provider releases the business information services on its website, which is followed

largely by retail investors. In addition, a few large internet stock brokers provide online research

results and magazines. In the near future there will be interactive platforms where equity

researchers put their research on and add own ratings to. Crowd funding platforms for small caps

will also be within reach within short in Sweden, according to a successful commercial business

information provider.

Finally, the future outlook for business information services for listed SMEs will to a large extent

depend on the financial and economic situation. When the current recession in the EU will continue

the demand for business information will likely remain low. In addition, the demand for business

information also depends on the relative attractiveness of equity finance vis-à-vis other modes of

finance.

6.1.2 A pan-European solution from scratch

As there are already successful business models it appears that scenario building around options

regarding the establishment of a research entity covering listed SMEs is no longer needed. It will

not be efficient and it does not make sense to call for a one-size-fits-all solution.

If it is believed that there is greater investment demand for research on a pan European basis then

companies should be encouraged to translate their own information and research providers will

need to translate their research. This comes at a cost to both companies and research providers,

which may be too onerous and is only likely to happen when it makes sense commercially; the

investment case is not proven as retail customers may find cross border trading in unknown

companies unattractive. New policies to stimulate investment demand or reoriented policies that

place less restriction on demand for SME stocks (which we deal with in the next section) may in

turn stimulate the provision of more information.

6.1.3 Crowd funding

Crowd funding is an alternative means of financing projects. Everyone can become co-owner of a

start up or an expansion of an existing company. Websites are arising facilitating this kind of

financing. The advantage of these platforms is that they fill financing gaps that banks have left. The

disadvantage of crowd funding is that the organisation behind the initiative has to be controlled on

whether the money is allocated to the right ends. In addition, when co-owners obtain securities in

an enterprise there will need to be regulatory supervision.

6.2 Policy recommendations

In this section policy recommendations are presented, distinguishing general policy

recommendations, recommendations for regulatory change, and recommendations to the stock

exchanges and about crowd funding. It is indicated whether the implementation of the policy

recommendation is needed for the short- or medium-term.


General policy recommendations, medium-term:

A policy reorientation in favour of providing retail investors to invest in SMEs, small- and mid-

caps will prove effective for the interest of these investors in the stock market as is shown by

the Swedish case. These incentives can be in the form of tax incentives for investing in equity

and/or by means of pension reforms.

Recommendations for regulatory change, medium-term:

The European Commission could propose to harmonise the definition of SMEs in the financial

markets as in all case studies the project team observed different definitions for listed SMEs. A

uniform definition of ‘growth company’ or ‘growth market’ would allow better comparability

between listed SMEs in neighbouring markets within the EU. Market capitalisation is the most

recognised characteristic used to define a company by financial market participants;

Improved data collection about investors would be helpful to support facts about the investors in

listed SMEs;

The characteristics of SME companies differ significantly from large cap companies. This also

affects the business models of financial market participants who specialise in dealing with

SMEs. Caution should be used when making broad “one size fits all” policies that may affect for

example liquidity provision, the bundling or unbundling of products and information, corporate

access and dark pool trading. It may be useful to consider carve outs for SMEs and those that

provide services in this sector.

There is a lot of money involved in the traditional commissions that are received by brokers. The

traditional commissions included remuneration for execution, research and corporate access.

Unbundling of brokers’ services should stimulate the establishment of independent research

analysts. However, the true nature of unbundling needs to be fully understood and in most

jurisdictions, even the UK, is not fully implemented which may in turn hinder the emerging

business models;

The reporting and accounting standards could be simplified for listed SMEs as at present there

are too many footnotes in the reports. This does not need to go at the expense of the quality of

information and the frequency of reporting. Guidelines to companies on consistency in accounts

would be helpful for both the companies (who may not realise the impact of changing formats)

and analysts;

Remove the restrictions for institutional investors on trading in listed SMEs; this concerns

regulations like Solvency II and Basel III, which require from insurance companies and banks to

hold more capital and liquidity. This limits the mandates of asset managers, managing e.g.

pension funds to invest in high risk assets such as listed SMEs;

Find the appropriate balance in investor protection rules to incentivise investment in listed SMEs

as the current rules are discouraging investment.

Recommendations for the stock exchanges, short-term:

The first policy recommendation is to make equity finance more attractive vis-à-vis private

equity financing for SMEs. In part this is the responsibility of the stock markets themselves. As

the roles change in the market structure, the stock exchanges can be encouraged to review

their listing fees for SMEs as well as the fees for IR tools and to participate in commercial cost

sharing schemes to obtain more research coverage for listed SMEs;

The characteristics of SME companies differ significantly from large cap companies. This also

affects the business models of financial market participants who specialise in dealing with

SMEs. A one size fits all trading platform may not be the right approach for SMEs. For example

they may benefit from a different type of auctions system.

The stock exchanges could reduce or concentrate the frequency of trading for the SMEs, small-

and mid-caps for liquidity reasons and to increase investors’ interest that have a longer attitude;


The selection procedure for Nomads or Certified Advisers or Authorised Advisers could be

reviewed to prevent conflicts of interests, as at present these advisers have more than one hat

on. Some of them write the reports for the same companies for which, as a Nomad, they have

to approve the same reports;

The exchange could still do more to improve investor confidence by enforcing good quality

disclosures and manages in trading halts. The changes in price for an illiquid company can be

dramatic upon disclosure and exchanges that do not enforce good disclosure and trading halts

undermine confidence in the market. Helping companies to provide disclosures in another

language at the same time as the local language disclosure would improve investor confidence;

The exchange should require all listed companies to have a website on which they publish their

annual accounts, information on their management etc. and web casts ought to be stimulated

as these are a useful way of reaching many investors at once.

Recommendations for crowd funding, short-term:

Crowd funding flourished where banks and exchanges fail to turn up and is an example how

business models are changing. Crowd funding is the financing of all sorts of small-scale

initiatives by private persons who as compensation receive interest and in due course their

deposit. Crowd funding is not a marginal phenomenon anymore. The dangers of crowd funding

could be the lack of control on the spending of the deposits of the crowd fund financiers and the

lack of protection for investors. Hence the recommendations to think already about possible

regulation for crowd funding as in the near future a sudden call for regulation may arise.

6.3 Summary

The market is responding to change with emerging business models for the provision of

information. The greatest examples of success for provision of information about listed SMEs have

come from commercially driven models. Investor interest in listed SMEs is mostly driven at a

domestic level. Therefore a non-commercial model at either a domestic or a pan-European level is

not recommended.

Unbundling of research fees and execution commissions is happening even in markets where it is

not required. It has created changes to business models both positively and negatively but the lack

of full implementation may be hindering new business models from fully achieving their potential.

Stimulation to help the investment in listed SMEs may come from adjusted domestic tax policies

and balanced investor protection rules at either a local or pan-European level.

The impact of other regulations on investors at an institutional level also needs to be understood as

increased restrictions on capital and risk taking mean that there is an adversity to taking any risk by

investing in listed SMEs.

Exchanges can do more to stimulate interest in SMEs by improving their disclosure models,

encouraging SMEs to have websites, creating a NOMAD model similar to that of AIM and

introducing alternative trading methods such as intra-day auctions. Both the exchanges and the

government can do more to help SMEs to grow faster. The exchanges can do this furthermore by

lowering the listing fees and the government by providing tax incentives and initiating pension

reforms.

When the market fails or changes due to disruptive technologies, new solutions will emerge and

crowd funding is an interesting alternative that has filled a niche. Although it is currently used to


raise debt financing, new models are being considered to help raise equity. Such models should not

be ignored and may need to be considered in terms of investor protection rules and market

transparency.


Annex 1: Glossary

AA Authorised Advisor

Basel III A regulation for banks to hold higher quality capital and sufficient liquidity

during times of stress.

CEE Central and Eastern Europe

CIF certification Conseillers en investissements financiers (Financial investment advisor

certification)

Dark pool trading This Is a means of trading outside the stock exchanges. The price of a

share is not listed. Buyers and sellers of shares come to a deal in the dark

trading network.

Fixed income products These products generate an established return on a fixed schedule, e.g.

bonds or treasury notes.

Free float Free float is the number of shares that is publicly traded

GAAP Generally Accepted Accounting Principles

IBO Initial Bond Offering

IFRS International Financial Reporting Standards

IPO Initial Public Offering

IR Investor Relations

MiFID Markets in Financial Instruments Directive

MTF Multilateral Trading Facility

NewConnect Alternative market of the Warsaw Stock Exchange

NOMAD Nominated Advisor (on the London stock exchange)

NYSE Euronext New York Stock Exchange Euronext

Platforms Places where one can invest in enterprises and organisations. Among the

platforms are the main stock exchanges, the Multilateral Trading Facilities

and other platforms such as equity research bureaus that offer their

business information services on their website and internet banks offering

cheap equity services and easy access to retail services to their clients.


SFAF Société Française des Analystes Financiers (French Association of

Financial Analysts)

Solvency II This regulation regards the amount of capital EU insurance companies

must have to minimise the risk of insolvency. Both Solvency II and Basel

III reduce the possibility to invest in high risk assets such as listed SMEs.

Superannuation This means in Australia that people have arrangements in order to have

enough funds at retirement age.

WSE Warsaw Stock Exchange


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Annex 3: Case Study AIM London

A3.1 Executive summary

AIM is London Stock Exchange’s market for smaller and growing companies. Since its launch in

1995, more than 3,100 companies have joined AIM, raising over GBP 67 billion to fund their growth.

AIM is a Multilateral Trading Facility and has, as such, a certain degree of freedom in setting rules

for the exchange. AIM has a few key characteristics that are not seen at other exchanges. The two

main characteristics are the modified information requirements and the obligatory use of a

nominated advisor (Nomad) to support a company in providing the required information at IPO and

when listed.

AIM rules are much simpler than the rules of the European framework and the rules applicable at

the major exchanges. For example, the Prospectus Directive is often not applicable, as AIM uses

the permissible caveats in the Directive such as the majority of the placing’s concern an offer to a

limited number of institutional investors. Once listed, an AIM company must publish annual

accounts, a half-yearly report and continuous disclosure on all relevant developments, but has no

obligation to publish quarterly reports. Investors have qualified the information requirements set by

AIM as sufficient.

A commonly shared view is that investor relations are needed to attract investors. Any liquidity

problems mainly originate from poor investor relations by the listed company. In this sense, investor

relations may be more important than research offered by information providers.

Research on listed SMEs is mainly provided by a Nomad that also offers research services.

Through their involvement in the preparation of the admission document, Nomads have an

enormous knowledge of the companies that they support. This research is paid for by the listed

company.

A second category of information providers are independent research providers. There are three

main independent research companies in the UK: Edison, Hartman, and Equity Development. The

research offered by these companies is paid for by the listed company.

A third type of business model for the provision of information services may consist of a researcher

offering the research to retail investors and other parties. For retail investors, research is paid for

via trading commission. For other parties, like institutional investors and brokers, research can be

offered for free, provided that those parties yield other revenues for the research provider, like

brokerage fees. It is not yet clear if such a model can function on a stand-alone basis.

A3.2 Background

AIM is London Stock Exchange’s market for smaller and growing companies. Since its launch in

1995, more than 3,100 companies have joined AIM, raising over GBP 67 billion to fund their growth.


AIM has no minimum market capitalisation and no prescribed level of shares to be in public hands.

There is no trading record requirement at AIM and for most transactions no prior shareholder

approval is required. Although it is not a specific requirement in the AIM Rules, a listed company

will normally appoint a registrar in order to maintain and keep the register of shareholders up to

date.

There are no requirements in the AIM Rules for a prospective company to be of a certain size. AIM

does not make the decision as to whether a company is suitable for admission to AIM – this

responsibility is placed on a nominated advisor. According to the Guide to AIM, company

characteristics that the advisor seeks in a strong AIM candidate are:34

a record of sustained growth over at least three years;

forecasts that show sales continuing to grow;

a record that compares favourably with its peer group.

AIM considers a number of factors to have contributed to their success including:

A balanced approach to regulation which facilitates a smooth transition to becoming a public

company and allows companies to focus on growing their business once on market;

A network of advisers that is experienced in supporting companies from the time they first

consider a flotation;

An international investor base that has the knowledge and understanding to effectively provide

capital to companies as they progress and has confidence in the regulatory environment.

In addition, AIM is a very cost-effective way of creating money. In the last 5 years, 80-90% of the

money raised on AIM concerned follow-up tranches of finance. The cost of finance for these rounds

is approximately 2-3% of total money raised.

The regulatory situation of AIM

AIM is a multilateral trading facility and has, as such, a certain degree of freedom in setting rules for

the exchange. Regulation at AIM builds on market conventions that were in place long before AIM.

AIM is based on the idea that a differentiated regulatory environment is needed for smaller

companies - SMEs can not comply to the usual requirements of the main exchanges - to reflect the

different state of small companies and large companies. To this effect, AIM has a few key

characteristics that are not seen at other exchanges. The two main characteristics are the modified

information requirements and the obligatory use of a nominated advisor (Nomad) to support a

company in providing the required information at IPO and when listed.


AIM tries to find the balance between regulation/investors interests and SMEs interests by means

of intelligent regulation. For example, the LSE sets the accounting standards for companies, which

do not have to meet international standards. AIM has also significantly improved the size and

quality of the information provided in a prospectus to reduce compliance costs for the candidate,

while meeting the information needs of investors. For example, AIM requires the candidates to

make any risks more transparent by setting clear disclosure obligation for prospectuses. This room

for own rules is available under the Prospectus Directive, which exempts certain categories of

IPOs, as IPOs on AIM usually are aimed at less than 500 investors.

Reporting is twice a year for AIM stocks. These lighter requirements play an important role in the

choice for AIM by SMEs and small-caps.

34

Guide to AIM, p. 14.


Nomads

In order to be eligible for AIM, an applicant must appoint a nominated adviser and an AIM company

must retain a nominated adviser at all times. The role of Nomads is so important, that trade in a

stock is suspended if that company loses its Nomad.

The task of Nomads is to guide companies through the admission process and its subsequent life

as a public company. This includes coordinating and overseeing the preparation of the AIM

admission document with information about the SMEs to be listed. Nomads also have to make sure

that information is kept up-to-date and correct and ensure the company abides by the rules.

According to the Guide to AIM, the Nomad will, among other things:35

Undertake due diligence to ensure the company is suitable for AIM;

Ensure the directors are appropriate and capable of acting as a board for a company trading on

a UK public market;

Provide guidance to the company throughout the flotation process;

Co-ordinate and oversee the preparation of the AIM admission document;

Confirm to the Exchange that the company is appropriate for AIM;

Prepare the company for life on a public market;

Act as the primary regulator throughout a company’s time on AIM by keeping abreast of

developments at the company, and ensuring the company continues to understand its

obligations under the AIM rules.

Nomads offer in-depth knowledge of the regulatory environment. This is especially useful for AIM-

listed companies as these companies, usually among the smaller exchange-listed companies, often

do not have the size for a complete department for regulatory issues.

For their services, Nomads receive a charge for bringing a company to the market (varying from

GBP 70k -100k or sometimes a percentage of the capital raised), as well as an annual retainer for

the ongoing Nomad activities (approximately GBP 50k). If a Nomad also offers broker services, a

broker fee (usually in percentage-points) is paid. The amounts Nomads receive depend on the

sector, complexity and the size of restructuring required. The retainer fees seem quite substantial

considering they need to be paid for by relatively small companies. However, this is considered to

be compensated by the added value that Nomads offer through their targeted approach towards

investors in primary as well as secondary listings. Nevertheless, there are instances of companies

withdrawing from AIM due to the costs associated with maintaining the AIM quotation.

General commentary on the market

In addition to transactions that takes place on the AIM, multiple market makers are offering trades

to retail investors by means of a request for quote model. Under this quote model, when market

makers receive a request they will offer the retail investors a price at which they will buy or sell,

which they will usually hold for a short time frame (usually 15 seconds). These trades are cleared

bilaterally without AIM, or any clearing house being involved. The existence of market makers who

offer trades outside the exchange improves liquidity of the market and thus stock valuation.

However, this model functions less effectively for less liquid stocks due to the regulatory regime on

short selling which allows 3 days to settle. For liquid stocks, compliance to this regime is no

problem, for less liquid stocks it is.

35

Guide to AIM, p. 10.


Explanation of the market

The table below presents a number of key AIM statistics.

Table A3.1 Key figures of AIM

Number of AIM companies

UK companies

International companies

1,092

866

226

Aggregate market value

Value of UK companies

Value of international companies

GBP 63.4 bln

GBP 44.6 bln

GBP 18.8 bln

Total number of admissions

UK admissions

International admissions

3,376

2,779

597

Total capital raised

At admission

Through further issues

GBP 80.8 bln

GBP 35.7 bln

GBP 45.1 bln

Capital raised by UK companies

At admission

Through further issues

GBP 57.2 bln

GBP 26.1 bln

GBP 31.1 bln

Source: London Stock Exchange Statistics.

A clear peak in the number of admissions and money raised was seen in the period 2004 to 2007.

The economic and financial crisis in Europe caused a considerable decrease in admission from

2007, and since then, no recovery is evident. The table below presents the market value of AIM

since its inception, and confirms the effects of the crisis on the number of new companies and

admissions.

Table A3.2 Development of AIM

Number of companies Market

value

(£m)

Number of admissions Money raised £m

UK Inter-

national

Total UK Inter-

national

Total New Further Total

1995 118 3 121 2,382.4 120 3 123 71.2 25.3 96.5

1996 235 17 252 5,298.5 131 14 145 521.3 302.3 823.6

1997 286 22 308 5,655.1 100 7 107 341.5 350.2 691.7

1998 291 21 312 4,437.9 68 7 75 267.5 317.7 585.2

1999 325 22 347 13,468.5 96 6 102 333.7 600.2 933.9

2000 493 31 524 14,935.2 265 12 277 1,754.1 1,338.3 3,092.4

2001 587 42 629 11,607.2 162 15 177 593.1 535.3 1,128.4

2002 654 50 704 10,252.3 147 13 160 490.1 485.8 975.8

2003 694 60 754 18,358.5 146 16 162 1,095.4 999.7 2,095.2

2004 905 116 1021 31,753.4 294 61 355 2,775.9 1,880.2 4,656.1

2005 1,179 220 1,399 56,618.5 399 120 519 6,461.2 2,481.2 8,942.4

2006 1330 304 1,634 90,666.4 338 124 462 9,943.8 5,734.3 15,678.1

2007 1347 347 1,694 97,561.0 197 87 284 6,581.1 9,602.8 16,183.9

2008 1233 317 1,550 37,731.9 87 27 114 1,107.8 3,214.5 4,322.3

2009 1052 241 1,293 56,632.0 30 6 36 740.4 4,861.1 5,601.6

2010 967 228 1,195 79,419.3 76 26 102 1,219.4 5,738.1 6,957.6


Number of companies Market

value

(£m)

Number of admissions Money raised £m

UK Inter-

national

Total UK Inter-

national

Total New Further Total

2011 918 225 1,143 62,212.7 67 23 90 608.8 3,660.3 4,269.1

2012 870 226 1,096 61,747.7 47 24 71 707.1 2,448.7 3,115.8

Total 2,784 598 3,382 35,757.5 45,281.9 80,999.5

The chart below shows the representation of AIM listed companies by industry.

Figure A3.3 Breakdown of AIM listings per sector


The table below presents the distribution of companies by market value range.

Table A3.4 Distribution of companies by market value range on AIM

Market value range (GBP mln) No of companies Share (%)

Over 1,000 6 0.6

500 – 1,000 10 0.9

250 – 500 33 3.0

100 – 250 97 8.9

50 – 100 135 12.4

25 – 50 157 14.4

10 – 25 233 21.4

5 – 10 131 12.0

2 – 5 155 14.2

0 – 2 101 9.3


For LSE as a whole, 19 percent of the investors are retail investors and 81 percent institutional. The

lion’s share of investors are from the UK (57 percent), followed by Americas (25 percent) and

Europe (12 percent).

Financials, 225

Technology, 104

Oil&Gas, 129Basic

materials, 179

Industrials, 198

Consumer goods, 60

Health care, 64

Consumer services, 105

Telecoms, 13 Utilities, 13


No official data in this respect are available for AIM specifically. Estimated share of investors on

AIM are 50% institutional investors, 20% retail investors with 30% held by the company itself.

Institutional investors are important for strategic long-term investment. Retail investors offer

liquidity.

A3.3 Information required by trading platform when listing an SME

For the information requirement at listing at the stock exchange, the core requirements of the

Prospectus Directive has been taken, but the AIM rules are much simpler. Often, the Prospectus

Directive is not applicable, as the majority of the placing’s concern an offer to a limited number of

institutional investors.

To join AIM, an applicant must produce an admission document disclosing information including:

Financial information;

Operating and financial review;

Capital resources;

Research and development, including patents and licences;

Profit forecasts or estimates;

Remuneration and benefits;

A statement by its directors regarding accuracy of the presented facts and figures.

A3.4 On-going disclosure rules

Once listed, an AIM company is required to publish annual audited accounts which must be sent to

its shareholders not later than six months after the end of the financial year to which they relate.

The company also needs to prepare a half-yearly report, containing at least a balance sheet, an

income statement, a cash flow statement and comparative figures for the corresponding period in

the preceding financial year. No quarterly reports are required, as quarterly reporting is by many

stakeholders considered too frequent for smaller companies. The current information requirements

of AIM are not seem as overly onerous by the sector: every company ought to be able to deliver

this on regular basis.

AIM listed companies also have an obligation to provide continuous disclosure on all relevant

developments. An AIM company must issue a notification without delay of any new developments

that are not public knowledge concerning a change in:

Its financial condition;

Its sphere of activity;

The performance of its business; or

Its expectation of its performance, which, if made public, would be likely to lead to a substantial

movement in the price of its AIM securities.

In addition, according to the AIM rules for companies, AIM requires listed companies to maintain a

website on which the following information should be available, free of charge:36

A description of its business and, where it is an investing company, its investing policy and

details of any investment manager and/or key personnel;

36

LSE, AIM rules for companies, p. 10.


The names of its directors and brief biographical details of each, as would normally be included

in an admission document;

A description of the responsibilities of the members of the board of directors and details of any

committees of the board of directors and their responsibilities;

Its country of incorporation and main country of operation;

Where the AIM company is not incorporated in the UK, a statement that the rights of

shareholders may be different from the rights of shareholders in a UK incorporated company;

Its current constitutional documents (e.g. its articles of association);

Details of any other exchanges or trading platforms on which the AIM company has applied or

agreed to have any of its securities (including its AIM securities) admitted or traded;

The number of AIM securities in issue (noting any held as treasury shares) and, insofar as it is

aware, the percentage of AIM securities that is not in public hands together with the identity and

percentage holdings of its significant shareholders. This information should be updated at least

every 6 months;

Details of any restrictions on the transfer of its AIM securities;

Its most recent annual report published pursuant to rule 19 and all half-yearly, quarterly or

similar reports published since the last annual report pursuant to rule 18;

All notifications the AIM company has made in the past 12 months;

Its most recent admission document together with any circulars or similar publications sent to

shareholders within the past 12 months; and

Details of its nominated adviser and other key advisers (as might normally be found in an

admission document).

A3.5 The importance investors place on the information available

Key information for investors include the long term financial plan and objectives (per 6 months), all

significant information (including press releases) and stock exchange information. Reducing

disclosure would scare investors away. Therefore AIM chooses to reduce the requirements / type of

information to disclose, but not the disclosure itself. AIM believes in continuous disclosure, rather

than quarterly reports that don’t match SMEs cycles. This approach is supported by both

institutional and retail investors.

Institutional investors have quite a high level of knowledge. For example, institutional investors

often use financial modelling / analysis. Larger institutional investors also have dedicated small-cap

products.

A commonly shared view is that investor relations (IR) are needed to attract investors. Any liquidity

problems mainly originate from the companies themselves, for example because of poor IR. The

poor performing companies (in term of liquidity of stock) are often companies with poor IR. A

company needs a good story, not only when joining, but also later on when listed. A good story

leads to good following and easier access to capital. This requires time dedicated by the company

itself / by its management. IR ought to be core business for a manager.

A3.6 The importance information providers place on information available to them

in the market

Information providers of listed SMEs can draw upon information from the company itself as they are

exclusively paid for by the companies. Importance of other information in the market was not

discussed during the case study.


A3.7 The number of SMEs covered by research in the market concerned

All AIM listed companies are usually covered by at least, but often also not more than, one

organisation. Research often exclusively takes place by the broker that is selected by a listed

company. This broker is usually also the Nomad, offering a combined service to the listed SME.

Some companies decide to hire an independent research company to conduct their research.

There are three main independent research companies in the UK: Edison, Hartman, and Equity

Development. The choice to use an independent research company (instead of using the Nomad /

broker) is, in part, based on a wish to have more control on who is writing the research. It also

allows a wider reach for the information through the distribution channels of the independent

research organisation. An additional benefit to using an independent research company is that the

listed SME is not allowed to give forecasts, while an independent research company can.

A point of attention on independent research that was raised during the interviews is the question

whether the research can be posted on the company website. European rules allow little room for

interpretation. For example, interviewees indicated that in Italy posting research on the website is

allowed, while in the UK it isn’t allowed for either the research company or the listed company to

present research on its website. Such “research” is treated as a “financial promotion”. Institutional

investors are entitled to receive such information. Retail investors are not and, accordingly, issuers

cannot publish such research on their websites.

As a result, almost the only source of information for private investors is to rely on publications such

as Investors Chronicle. Yet the participation of private investors in the secondary market is

important to maintain liquidity and keep spreads down. We believe that the health of the quoted

markets could be improved by better access to more research and analysis.

A3.8 How investors rate different types of research

The value of research is acknowledged by institutional investors. Retail investors are less willing to

pay for information. This may either be caused by an underestimation of the value of research or by

the size of investments being too small to retrieve the money paid for obtaining the research.

The question comes up whether company paid research should be considered independent. Some

investors, fund managers and analysts may perceive company paid research as less independent

(as it is paid for by the listed company), some still value it as serious research, as the company is

still challenged on its story. In any case, there are no signals in the market that the independency of

independent research companies should be doubted.

A3.9 Description of British research providers

The most important category of information providers is the Nomads that offer research as an

additional service to the listed SMEs they advise. Through their involvement in the preparation of

the admission document, Nomads have an enormous knowledge of the companies that they

support. This allows the Nomad, who often also offers brokerage and research services, to act as

broker or researched for the company. As such, Nomads play an important role in the provision of

information about SMEs for both AIM and potential investors.


The costs for research services depend on the size of services requested. For example, the price of

a full-year report and short half-year note is approximately GBP 15k-20k per year. The average

number of companies for which a Nomad provides research is not available. Two complicating

factors in determining the average number of companies for which a Nomad provides research are:

Not all Nomads offer research services;

AIM listed companies also make use of independent research providers.

A second category of information providers are independent research providers. There are three

main independent research companies in the UK: Edison, Hartman, and Equity Development.

These companies all provide independent research on listed companies, but with the listed

companies still being the sole source of finance. Independent research is mainly targeting retail

investors and used especially for non-main-stream technology. The cost of research by an

independent company depends on the size of the research required and is similar as the amount

paid for research by the Nomad/broker.

A third type of business model for the provision of information services may consist of a researcher

offering the research to retail investors and other parties. For retail investors, research is offered on

commission basis. For other parties, like institutional investors and brokers, research can be offered

for free, provided that those parties yield other revenues for the research provider, like brokerage

fees. It is not yet clear if such a model can function on a stand-alone basis.

A3.10 Summary of recommendations and findings that help our study


The success of AIM can, at least partially, be attributed to the lighter regime of information

requirement imposed on listed companies. At IPO, the main focus lies on targeting a limited group

of investors in order to avoid the obligations of the Prospectus Directive. Safeguarding the provision

of sufficient information to investors is achieved by AIM’s own rules on mandatory information to be

provided at IPO. While listed, AIM requires bi-annual reporting instead of the quarterly reporting that

is usual at the major exchanges.

Investors have qualified the information requirements set by AIM as sufficient. A reduction of

current information requirements for SMEs under the European regulatory framework to the level

used at AIM should be considered.

Investors relations

Investors and other stakeholders have stressed the importance of investor relations for achieving

liquidity for listed SMEs. With solid investor relations, the need for business research may be less

relevant, as investors obtain all relevant information directly from the company itself.

A3.11 Sources of information

Interviews

For the case study, we drew on information obtained from interviews with:

Two exchanges;

Two Nomads/brokers/information providers;

One market maker;

Three listed SMEs;

Two investors;


Two associations (one for listed companies, one for investors);

One other party.

This includes interviews conducted in an earlier phase of the project.

Literature:

LSE, A guide to AIM, 2010;

LSE, AIM rules for companies, 2010;

LSE, AIM rules for nominated advisors, 2010;

LSE, London Stock Exchange Statistics.


Annex 4: Case study Australia


This study is based on interviews with representatives of the Australian Stock Exchange “ASX”, the

Australian Treasury, the Australian Securities and Investment Commission “ASIC”, Heads of

Research at 6 banks and brokers (some international and some domestic) and 6 investment

research analysts. The analysts work or have recently worked for long only fundamental equity

funds, managing money for institutional and retail investors which is invested in Australian small

and mid cap/SME companies. The study was focused on the general information provision for listed

SMEs in Australia and specifically on a pilot scheme run by the ASX to sponsor research provision

for SMEs.

In summary:

Australia has absolute clarity around its economic and political structure with one regulator

governing the securities market and a dominant exchange for large and small cap listings;

It is compulsory for employers and employees to make arrangements to save for retirement.

This creates a sophisticated investment culture with a significant amount of money to be

invested either directly or through funds. The private equity and venture capital markets are

relatively immature and there is no corporate bond market. Companies therefore tend to come

to the exchange to raise capital at an early stage;

There is no agreed definition by any participants or the regulator of what constitutes a small and

mid cap stock or an SME. The ASX applies the definition of a market capitalisation of AUD$300

million (€210 million) or below which means that 85% of the listings are small and mid cap/SME

stocks. Investors may include firms with up to AUD$1 billion (€0.7 billion) market capitalisation

in their definitions. Even specialist funds rarely invest in companies with a market capitalisation

of less than AUD$100mn (€70 million). This suggests that investors in the free float of a

company with a market capitalisation of less than AUD$100mn are almost 100% individual retail

customers;

ASX is by far the largest of several exchanges that exist in Australia and it is responsible for

most listings in the market. Regulation, similar to MiFID, allowing alternative platforms to

compete in secondary trading of stocks has recently been introduced. This has required the

ASX to defend the trading of large cap stocks which is where most revenue is generated, but

competition is currently limited. At the same time, brokers and investors report a decline in

margins and profitability when it comes to fees earned on funds, and payments paid for

research and for trading. They also generate the majority of their revenue from large cap stocks

and would traditionally cross subsidise to cover the less profitable SME business. Reduced

profitability means decreased research budgets and less capacity to focus on SMEs;

Unbundling practices and commission sharing agreements are already being introduced in

Australia but are not required by law. Some firms believe this is detrimental SME research;

The Institutional investors interviewed are motivated to invest in small and mid cap stocks/SMEs

as there is greater potential for higher returns and the fees generated for managing money in

this sector are greater than the main index stocks. However it is a specialist business as

economies of scale are hard to generate. All the investors interviewed undertake their own

research and see the fact that there is less information available as an advantage for their own

position. However most of them use 3rd party research in the market and place considerable

value on it. Access to management and site visits are also extremely important for them and in

most cases they will look to a broker to provide these services;


Other information such as company accounts, websites, disclosures and shareholder registers

are considerations in the process but carry less weight than research and company visits.

However, investors believe that there could still be improvements to the provision of the

disclosure process, the amount of information available in share registers and they would like a

longer IPO process. Virtually all participants believed that a listed company should have a

website. Sector information is also very helpful and widely sought;

Liquidity of an SME will always be a critical part of the decision to invest;

ASX has been running a pilot project to stimulate research provision in stocks that are not well

covered by research. In 2012, ASX proposed to provide AUD$1million to fund the production of

research for companies with a market capitalisation of less than AUD$1 million. Brokers were

invited to tender to provide research on stocks that had less than 3 analysts currently covering

them. There were three different grades of report that could be produced i)a company fact

sheet, (ii) a retail report or (iii) institutional research. Brokers interviewed tendered with pricing

based on a cost oriented schedule as they stated there was little incentive for them to allocate

resources to a stock unless their costs were covered. Institutional brokers interviewed all stated

a similar cost to them of approximately AUD$40,000 (€28,000) to cover a stock and

approximately AUD$250,000 (€175,000) to hire a good analyst. Most brokers felt that simply

producing research would not immediately increase business for them but they were supportive

of the scheme and were willing to participate, providing their costs could be covered. The ASX

previously stated that it is recouping the cost of its scheme by raising listing fees for all

companies;

Not all institutional investors interviewed were aware of the ASX scheme but were supportive of

the concept providing the scheme was transparent, of good quality and managed conflicts of

interest. It was not clear to them how these elements were being assessed. From a perspective

of corporate citizenship they felt it would contribute to the market overall. However, the value

they place on research that is paid for by a third party such as the exchange is lower than the

value of research produced by a broker of its own accord. It is important to note that no retail

investors were interviewed and the institutional investors have a privileged position as they can

afford to undertake some of their own research. Retail investors might place a much greater

value on the research being provided;

Institutional investors had two other concerns about the project:

- All participants were allowed to select the stocks they wanted to cover which meant that less

attractive stocks would always suffer from lack of coverage;

- A potential bias towards the larger investment banks rather than rewarding some of the

smaller specialist brokers.

The ASX has announced that the scheme was a success and embarked on a second year,

doubling the funds available to AUD$2 million (€1.4 million). It says that participating companies

have improved their relationships with analysts and overall coverage has improved since the

scheme began. Within that period, approximately 62% of participating companies experienced a

rise in the turnover of their securities, compared with the previous year. Listing fees have

increased but the ASX says the cost of the scheme is only one consideration when setting fees

and there is no direct pass through;

The ASX Research Scheme demonstrates that information about listed SMEs can be produced

and improved through commercial means. However, the characteristics of the market and

motivation of participants are important factors to be taken into consideration when judging that

success.


A4.2 Background

This study is based on interviews with the Australian Stock Exchange “ASX”, the Australian

Treasury, the Australian Securities and Investment Commission “ASIC”, Heads of Research at 6

banks and brokers (some international and some domestic) and 6 research analysts who work or

have recently worked for both domestic and international long only fundamental equity funds

managing institutional and retail money which is invested in Australian small and mid cap/SME

companies. Although a significant number of retail investors exist in Australia it was not possible to

interview a meaningful amount of individuals to represent this group of investors.

Australia was chosen as a case study because it was desirable to review on market outside of the

EU and it has an active small and mid cap market. It was also of particular interest due to a recent

project by the ASX to stimulate the provision of information on small and mid cap/SME stocks. This

has been created via a pilot scheme where the exchange sponsors brokers to provide research on

stocks that currently have less than three analysts covering them.

A4.2.1 The Economic and Regulatory Environment

Australia is a large geographical region that has benefited from a single economic and political

structure. This includes one language (English), one currency, a broadly homogenous legal and tax

structure and a centralised treasury and banking system.

Although a number of regulatory bodies existed historically, these were unified by law and there is

now one entity regulating the securities market, the Australian Securities & Investments

Commission, “ASIC”.

The resources sector is a major contributor the economy and represents around 45% of the listed

companies in Australia.

General Regulation Governing Corporations, Investors and brokers

The Corporation Act of 2001 governs company law including financial reporting and fund raising.

Every company (small or large) must provide half yearly accounts. ASIC oversees the financial

reporting for listed companies but the Treasury also has a separate financial reporting and Auditors

team.

ASIC oversees investor protection and licensing of brokers. There are some client classifications in

Australian regulation but according to ASIC personnel who have experience of working in Europe

the client classifications are not as specific as those in Europe. This may change and there is

currently a project, FOFA – The Future of Financial Advice – which is reviewing this as part of its

remit. At present clients are classed as sophisticated or professional if they have AUD$500,000

(€350,000) or more to invest.

Research is provided by banks, brokers and independent research houses as part of their regulated

activities.

There is no obligation for the asset manager to seek best execution on behalf of its client which

means that the asset manager is not obliged to deal with the broker offering the best price and is

able to allocate business to brokers at its discretion.


There is no regulation around unbundling or corporate access in Australia and soft dollar

arrangements are allowed. However, many of the investment firms and banks and brokers are part

of large international organisations which comply with US and European regulations such as the

requirements to ensure research departments are independent from banking or the UK focus on

unbundling of research from execution payments and more recently the focus on corporate access.

As a result, some firms may apply different procedures and standards to their business over and

above what is required under Australian law/regulation. According to participants there has recently

been a push from some asset managers to introduce unbundling.

There is no requirement to make exchanges unbundle data feeds as long as everyone is offered

data on the same terms then the regulator is satisfied.

There is a requirement under the Corporations Act for firms to have a share register and for anyone

to have a right to inspect the share register. Companies usually outsource it to a share registry

company. However a fee is likely to be charged for access to the register. The share register only

shows the ownership at a nominee level, therefore it is not easy to know who the underlying

beneficial owners may be. It is common practice for the top 20 shareholders to be listed in the

annual report but this may change in the interim period.

Regulation Relevant to SMEs

There is no law or regulation that is focused on SMEs alone. The Corporation Act covers all

companies. However within the Corporation Act there is detail about prospectus disclosure and

there are carve outs for small scale companies undertaking a listing where they may not have to

provide a prospectus if they meet certain criteria i.e. if they are doing a rights offering or if they are

offering stock to employees. This is largely self regulated and there is no requirement to lodge any

documents with the regulator.

Finance for small and medium business was the subject of a Parliamentary Joint Committee on

access to Small and Medium businesses in April 201137. There were no new regulatory proposals

that came out of the study. However there were some suggested amendments to the Codes of

Banking Practice and Mutual Banking Practice to standardise the notice period for notifying

business borrowers of changes to loan terms and conditions that may be materially adverse to

them.38 In the meantime, the government has been pushing more informally for a corporate bond

market to be established.

This case study found that there is no agreed definition by the Government or any market

participants in Australia as to what constitutes as a small or medium business. Each of the

participants interviewed had their own definitions which varied considerably. This is line with the

findings of the above mentioned Parliamentary Joint Committee which recommended more uniform

definitions to help track data for policy formation and analysis.39

The Exchange refers to SMEs as being companies with a market capitalisation of AUD$300mn

(€210mn) or less. Investors and broker dealers’ terminology for this case study varied but

suggested that anything with a market capitalisation of AUD$1bn (€0.7 bn) or less may be deemed

an SME.

37

Parliamentary Joint Committee on Corporations and Financial Services: Access for Small and Medium Business to

Finance, Commonwealth of Australia, 2011. 38


Finance, Commonwealth of Australia, 2011, Recommendation 3.48. 39


Finance, Commonwealth of Australia, 2011, Page 2 & Recommendation 1.21.


A4.2.2 Explanation of Market Infrastructure and the Competitive Environment for Exchanges

The Australian Stock Exchange, “ASX”, is the main exchange in Australia. It demutualised in 1998

and merged with the Sydney Futures Exchange in 2006. They jointly became ASX Limited which is

now a listed company with its shares listed on its own market. ASX is a vertically integrated

organisation, owning both the clearing and settlement bodies for its market. The exchange was a

self regulatory organisation until 2009 when ASIC took on responsibility for oversight of the

exchange in preparation for a move to a more competitive market that would allow other new

trading platforms to compete with the incumbents.

The existence of multiple exchanges has historically been recognised in Australia and there are

several other licensed market operators in Australia. These include NSX – National Stock

Exchange (formerly, Newcastle Stock Exchange), a regional exchange offering smaller companies

an alternative path to listing, SIM, an exchange in Bendigo and also APX an exchange that is

currently not active. However, these exchanges did not compete for trading in each others’ stocks.

More recently alternative trading platforms have been allowed for this process, similar to the

changes in Europe under MiFID where Multi Lateral Trading Facilities, “MTFs”, were introduced.

The first such example is Chi-X Australia, “CXA”, which is not a listing venue but competes for

secondary market flow in ASX listed stocks. CXA does not compete on the full stock universe of

ASX listings, focusing instead on a subset of the most liquid and more profitable stocks at the ASX.

ASX has responded to the threat of competition in a similar manner to other incumbent exchanges

in Europe and the US; the exchange has become more innovative in the areas where it is most

under pressure which is blue chip trading. It has developed new order types to match the

functionality of CXA and offers a premium “liquidity” centre for co-location services, making it more

attractive for high frequency traders. At the same time it has felt the pressure of competition on its

price per transaction and intra day trading prices on the lit order book have reduced signalling a

decrease in profitability in cash equity trading.

In response to the onset of competition, ASIC has taken on more market surveillance activities,

which used to be covered by the ASX. In order to recoup some of the cost of their new surveillance

responsibilities, ASIC has passed the cost back to market participants via a transactional levy.

Capital Raising Alternatives

According to market participants interviewed, the venture capital and private equity industry is much

less mature in Australia than markets such as the US. The corporate bond market is also virtually

non existent. As a result, companies have fewer alternatives for raising money and tend to come to

the market much earlier in Australia than they would in other markets; hence the ASX is particularly

active for smaller companies.

The ASX Listings & Market Segments

ASX remains the competent listing authority for its market as do other exchanges with listing

capability. The number of listed companies on the ASX has remained fairly stable but there is no

sign of significant growth and a slight decrease in the number of listed companies since 2008.


Figure A4.1 The Number of Listed Companies on the ASX between 2007 and 2013

Source: ASX.

The Australian market is particularly dominated by mining, resources and financial stocks.

However, there is an increasing focus on life sciences. The nature of companies such as mining

and life sciences means they need a lot of capital to realise their ambitions.

The ASX operates a “one size fits all” market with the same set of rules and procedures for all

companies. According to ASX, a significant portion, about 85%, of the 2049 companies listed on the

exchange are what they would define as SMEs which is anything with a market capitalisation of

AUD$300mn (€210mn) or less. 900 of the firms are “junior” mining companies with a valuation of

AUD$5mn (€3.5mn) or less. The exchange rules are that they have to have a value of AUD$10mn

(€7.7mn) in order to list but once listed the valuation often drops.

The ASX does not have free float restrictions which means that some small companies can be very

illiquid. However, depending on the amount of the stock being floated, there must be a minimum

number of shareholders. In terms of velocity (the ratio of trading to market value), according to

Bloomberg data for the 6 month period to March 2013 shows that the top 100 stocks have a median

velocity of 91%, (by market cap), the next 100 (101-200) a median velocity of 88%, the next 100

(201-300) a median velocity of 44%, and the rest a median velocity of 16%.

The ASX is actively competing for listings in foreign markets such as the Americas and Europe. It

says it is successful in winning some listings from the US as Sarbanes Oxley (US regulation for

listed companies) adds too much of a cost burden for small and mid cap companies. The US

culture of litigation and liability also adds to the burden that small companies have to bear.

Additionally, as the ASX has a high international profile in the mining and resources sector, it

competes for global listings with other exchanges that have similar strengths such as the Toronto

Stock exchange.

Trading

Most of the trading of listed stocks is undertaken on exchange or alternative platforms such as

CXA. Dark pools (off exchange trading platforms) exist but trade reports are consolidated. Trading

is currently completely anonymous on the exchange. The ASX is considering whether or not Broker

IDs should be shown in order to encourage brokers to make markets and it is also considering

whether or not to implement intra day auctions to concentrate liquidity for less liquid stocks.

0

500

1000

1500

2000

2500

Number of DomesticCompanies Listed

Number of ForeignCompanies Listed


A2.2.3 General Market Commentary

Investors

Due in large part to its compulsory superannuation system, Australia boasts the largest pool of

funds under management in the Asia-Pacific region, and the 4th largest in the world. It therefore

has a sophisticated institutional investment market and many retail funds under management.

Increasingly there are more self managed superannuation funds. The compulsory superannuation

system and a push to move from defined benefit to defined contribution schemes means that

Australia appears to have less of an issue with pension fund liabilities than exists in other Western

markets.

Given the compulsory superannuation schemes in Australia, there is a lot of money to be invested.

This means that there is less of a need to attract foreign investment as companies tend to be able

to raise money quite easily. There is a view held by market participants interviewed that some funds

have become lazy. This is because they have not had to work hard to attract money to manage and

needed to be galvanised to invest in lower end stocks which generally require more effort and skill.

However, given that much of the trading is concentrated in the top 10 stocks, 4 of which are

financials and the rest are mining stocks, it is becoming harder to outperform competitors and add

value. For many investors now it is easier to buy a product linked to the main index than to buy

individual blue chip stocks. It is therefore becoming harder for managers to outperform each other

in the companies with a large market capitalisation. Participants say there is an increasing demand

in the small and mid cap market as investors look for better returns.

There do not appear to be any official statistics regarding foreign versus domestic investors and

institutional versus retail customers. According to the ASX 20 -25% of the market is held by retail

participants but this amount drops off in when the market takes a downturn. This was corroborated

by the estimates of other market participants which put retail holdings at between 20-30% of the

market but some estimated that retail holdings have been as high as 50% and as low as 10% at

peak times in the economic cycle. Foreign holdings are estimated by participants to be

approximately 20% of the market but much lower in small and mid cap stocks.

All investors interviewed for this study are long only fundamental equity investors with both

institutional and retail funds. They manage specialist mid and small Cap funds but also have funds

that invest across a spectrum of large and small cap stocks. Investors have their own definition of

SME/Small and Mid Cap valuation but for some it can be as high as a market capitalisation of

AUD$ 1bn (€0.7bn). Most investors talked about investing in firms with a market capitalisation of

AUD$200-£300mn (€140-210mn). Only one investor interviewed invests in companies with a

capitalisation as low as AUD$100mn (€70mn). This suggests that holdings in companies with a

market capitalisation of less than AUD$100mn are almost 100% retail.

Dedicated small and mid cap funds ranged in size of funds under management from AUD$100mn

(€70mn) up to AUD$500mn (€350mn). Most funds were managing money from large pension funds

and some were running retail funds on behalf of individual investors. Managing retail funds is

regarded as higher margin business as the fees that can be charged are higher and the funds tend

to be more captive over a longer period.

Institutional investors based in Australia tend to invest in Australian and New Zealand companies

only. Investments in other markets are handled through other offices worldwide. Language is

therefore not a barrier to investment for Australians who wish to invest in the closest neighbouring

country.


Generally investors did not agree with the sentiment that there was less investment in small and

mid cap stocks in times of economic recession. A number of investors said that they deliberately

tried to pick stocks that were robust in different economic cycles which meant firms with little debt,

good transparency and a professional management. Liquidity of stocks was cited as a bigger issue.

General Trends in Broker Relationships and Payment for Research

Brokers and investors reported that there has been a move to more direct access and algorithmic

trading at the same time as high frequency trading has entered the market. This has in turn led to

lower fees and lower margins. Increasingly investors are paying execution only fees which mean

that overall commissions to brokers have reduced making it harder for brokers to be profitable and

creating a squeeze on the amount of research provision. This makes it particularly difficult for

brokers to make money in servicing small and mid cap stocks.

At the same time, multi national firms have pushed for unbundling and introduced commission

sharing agreements. However, the market is technically not fully unbundled. Interviewees describe

a panel process where investors have a panel of brokers that they deal with and a voting process in

order to allocate research commission. A significant part of the budget is allocated to those brokers

on the panel. The pension fund managers must show the pension fund consultants how they

allocate their budget.

One investment firm cited that large cap stocks might have 10 times the liquidity of a medium size

stock which means that there is much more revenue potential and incentive for a broker to cover a

larger cap stock than a smaller one. However, there has been a move towards indexing the top 20

stocks which has lowered fees for investment managers and therefore the commission available to

pay to brokers. Conversely, this appears to be creating a greater incentive for fund managers to

invest in stocks outside the main index where they might get paid higher fees and may be able to

generate more alpha.

As brokers have felt the squeeze on their own margins they have been putting pressure on ASX to

reduce fees. The introduction of competition has increased regulatory fees being applied by ASIC

and brokers also estimate that connecting to a new alternative trading platform such as CXA costs

around AUD$1 million (€0.7mn). In a generally falling market brokers they have been hit with a

pincer movement of reduced revenue (driven by smaller turnover and end users awareness of

'cheaper' markets to trade) and rising costs (driven by costs of market access and ASIC cost

recovery procedures).

In the 2012 ASX Annual Report, ASX reported AUD$36.4 million (€22.5 million) gross revenues

from trading fees. The Australian market is concentrated among the top 10 brokers, with the

dominant brokers holding around 10% market share each. This suggests a broker, even after

adding its own margin, is only making AUD$ 5 million gross from execution fees. Out of this, not

only do their own costs need to be recovered, but also any costs associated with accessing multiple

platforms (e.g. CXA) as well as the new cost recovery charges and research provision.

Given the general trend to more index products in the blue chip indices, clients are also less willing

to pay brokers for any added value in these stocks.


A4.3 Information Required About a Listed SME

A4.3.1 The IPO and Listing Process

When a firm lists there are several tests that might be applied by ASX to assess its suitability:

1. A profitability test (which is not used very much);

2. An asset test (most used):

a. Either a post money value of AUD$10mn;

b. Or a minimum net tangible asset of a minimum AUD$3mn.

There is no requirement under the ASX rules for a company to appoint a corporate advisor.

In most cases, a prospectus or similar disclosure document is required to list. The prospectus must

be lodged with both the Australian Securities and Investments Commission (ASIC) and ASX. The

prospectus must contain:

The assets, liabilities, financial position, profits and losses, and prospects of the organisation;

and

The rights attaching to the shares;

The due diligence process surrounds the preparation of the prospectus, allowing all parties to

satisfy themselves of their legal responsibilities and the structure of the transaction.

ASIC creates the prospectus regulations and then it vets the prospectus before final publication. It

used to be more prescriptive but now the onus is on the companies and on the brokers to ensure

the prospectus meets the standards. The prospectus is lodged with ASIC which has 7 days to vet

the prospectus and make comments. It can extend it to maximum of 14 days in total but if no other

comments are received then the company can list. If there are any defects with the prospectus then

ASIC has a right to put a stop to it. Participants say that this makes the process very streamlined.

ASX also looks at prospectuses to ensure the company complies with the JORC code which is the

Australasian Code for Reporting of Exploration Results, Mineral Resources and Ore Reserves. It

sets minimum standards for public reporting of minerals exploration results, mineral resources and

ore reserves to ensure an extra level of disclosure that the company is not misrepresenting what

they have which has been a problem historically.

A4.3.2 Capital Raising

The exchange has recently reduced the rules around capital raising for small and mid cap

companies (Rule 7.1.a)40

. Originally a small and mid cap firm could only raise 15% of capital

without shareholder approval. However a firm can now raise an additional 10% without shareholder

approval if it is approved in principle at the AGM.

A4.3.3 Company Reports

Company reporting is 6 monthly in Australia which firms tend to find less onerous than other

markets.

40

http://www.asx.com.au/documents/resources/listing_rules_7.1a_user_guide.pdf.

http://www.asx.com.au/documents/resources/listing_rules_7.1a_user_guide.pdf


A4.3.4 Shareholder register

There is a requirement under the Corporations Act for firms to have a share register and for anyone

to have a right to inspect the share register. Companies usually outsource it to a share registry

company. However a fee is likely to be charged for access to the register. The share register only

shows the ownership at a nominee level, therefore it is not easy to know who the underlying

beneficial owners may be. The top 20 shareholders are usually listed in the report but this may

obviously change in the interim period.


The ASIC and ASX believe that their disclosure rules are amongst the strictest in the world. The

rules are that a firm has to declare any information that might have an impact on the price at any

point during the day. The market has to pause trading every time there is a significant

announcement and participants believe this is a good thing. There have been some

misunderstandings about disclosures recently so the ASX has reviewed this and says, in the

simplest terms, that if a firm becomes aware of important information but the impact is unknown,

the firm should make a disclosure. However, there are some carve outs for example where a

takeover might be being discussed but it remains confidential.


Investors were asked to rate the importance of the information available to them during the

investment process (see table below), allocating a total of 100 points to the various pieces of

information they might use. It is quite clear that research and access to company management are

the most critical pieces of information for investors although the value that investors place on

company disclosures, the accounts and even the shareholder register is not insignificant.

Table A4.2 The Value Investors Place on the Information Available

Information Inv 1 Inv 2 Inv 3 Inv 4 Inv 5 Inv 6

Your own in-house research (please put 0 if you do

not have any in-house function)

15 40 30 40 70 n/a

The presence of other research in the market (other

than your own)

20 25 0 15 5 n/a

The company accounts 20 12 20 0 5 n/a

A company website 10 5 0 15 2 n/a

The Shareholder register 10 1 0 0 2 n/a

Access to management (inc site visits where

relevant)

15 10 30 30 10 n/a

On-going company disclosures 10 5 20 0 5 n/a

The on-going bid and offer price (market data

feeds)

0 2 0 0 1 n/a

Other – Please specify 0 0 0 0 0 n/a

Total 100 100 100 100 100 n/a

N.B. Investors were asked to allocate 100 points to reflect the value they place on the information available about listed SMEs.


A4.5.1 Research

In-house Research

All of the investment management firms spoken to as part of this survey employ their own analysts

in order to undertake research into the small and mid cap sector and place considerable value on

this research in the investment process. However, not all of them are willing to disclose publicly the

number of in house analysts and some analysts work across different size companies so are not

necessarily fully allocated to SMEs (see Fig 3).

It is important to note that most investors cited that their motivation for investing in this sector of the

market is the ability to add value where there is less information available. Investment in small and

mid Cap stocks is also thought of as a way of diversifying a portfolio and ensuring it is not

concentrated around the financials and mining sector which is the main weighting in the large cap

stocks. Investors were at pains to point out how much liquidity also matters and that however good

an investment might look, they have to consider their ability to get in and out of an investment.

Some investment firms declined to comment on the cost of an analyst but those that did all gave a

cost of approximately AUD$250,000 (€175,000) for a good senior industrial resource analyst and

less for a junior analyst. One firm estimated that in order to afford to pay for in-house analysts, an

investment firm needs to have at least AUD$250mn (€175mn) of assets under management so as

to generate enough fees to pay for the analyst. Travel budgets can also be considerable as

analysts often need to travel to meet companies and undertake site visits.

However, in most cases the budget does not stretch to having more than 3 or 4 for most investors;

it is therefore important for them to supplement this with other research information available in the

market.

Third Party Research

Despite the fact that all participants like an environment where there is less information available,

they still place considerable value on the presence of other research in the market (Fig 2) and use a

number of channels to obtain it (Fig 3). They tend to use a small number of brokers, around (Fig 3),

though it is not clear if they use the same brokers or different ones.

Most investors referred to broker research as a useful reference point. One investment firm

expressed a view that bank and broker research tends to be much more short term due to the way

that banks and brokers work and the high turnover of their staff. This does not necessarily fit with

their investment process which is longer term. Some investors are keen on using independent

research where possible and most do not use, or have not had experience with, research that was

paid for by the issuing company.

The opinion provided on research such as BUY, SELL or HOLD, is less important to the analysts

than a valuation of the company. There is a view that research without a valuation is inconclusive.

Investors said that independent researcher firms often do not provide a valuation on their research

which makes it less valuable. Some investors stated that companies can get too fixated on the

recommendation that an analyst makes i.e. if the analyst suggests the company is a SELL it can

upset the company. In the investors’ views, it is better for a company to have coverage despite the

recommendation than to have none at all.

A number of investors described their investment process as a “top down” process where their

intention is to create a wider construct of the industry sector before focusing on a particular firm. For

this reason, sector pieces of research are important but often lacking as most pieces of research

are company specific.


Table A4.3 The number of 3rd party firms the investors dealt with for the provision of Listed SME

research and the numbers of their own internal analysts

Inv 1 Inv 2 Inv 3 Inv 4 Inv 5 Inv 6

Independent Research paid for by

the issuing company

0 1 0 3 0 n/a

Independent research paid for by

another 3rd party entity (i.e. the

exchange)

0 3 0 3 0 n/a

Independent Research when it is

paid for by you

5 3 1 3 0 n/a

Broker research 10 15 5 10 4 but may

use a

further 6

on

occasion

n/a

Other types of research (please

specify)

0 0 0 0 0 n/a

How many internal analysts do you

have that research listed SMEs

9 3 Not willing

to

disclose

Not willing

to

disclose

Not willing

to

disclose

n/a

Budget Allocation for Research

Unsurprisingly, the majority of the investors’ budget is being spent on internal analyst salaries and

broker research which is considerably higher than what investors are spending on their own

research budget (Fig 4). The majority of payments to brokers are paid via brokerage commissions

with an increasing amount being paid out via commission sharing agreements. Investors described

a process where the number of suppliers that they deal with has decreased and a number of their

research provision companies have either gone out of business, been acquired due to consolidation

or are no longer offering services in small and mid cap companies.

Table A4.4 How Research is paid for and how the budget is allocated by the investors interviewed


Independent Research paid

for by the issuing company

0% 5% 0% 2% n/a n/a

Independent research paid

for by another 3rd party entity

(i.e. the exchange)

0% 0% usually

paid for by

indirect

brokerage

0% 1% n/a n/a

Independent Research when

it is paid for by you

5% 10% paid

for by

CSAs

Paid for

directly but

not willing

to disclose

percentage.

3%

Paid

through

commission

sharing

agreements

n/a n/a

Broker research

75% paid

via broker

commission

30% paid

for via

commission

and CSAs

Unsure but

paid out in

commission

and via

CSA’s

44%

Paid in

commission

90% is spent

directly on

brokerage

commissions

and 10% via

n/a



CSAs

Your own research paid for

directly in salary costs

20% 55% Not willing

to disclose

50% n/a n/a

Other types of research

(please specify)

0% 0% 0% 0% 0% n/a

A4.5.2 Corporate Access/Site visits

Corporate Access is considered by all interviewed to be a critical part of the investment process

and meeting and getting to know the management is even more important when investing in a

smaller company with less of a track record. One firm stated that they would not invest without

meeting the management at least twice and another stated how that if they are not given enough

time to meet management they would automatically not invest.

Site visits are also particularly important where the premises are a core part of the service such as

retail, manufacturing or mining and telecoms. A visit helps to assess the quality of the assets. It is

less important in sectors such as Finance and Insurance where the intellectual property is in the

systems and the quality of the staff which is less evident from a site visit.

Investors relied in many cases on brokers to provide the access to the companies. This is because

either the brokers held the relationship with the company from an early stage and it was easier to

facilitate meetings through the broker or because the broker may bring together a number of

investors at one time saving travel time and money for either the investor or the company.

If the investment firm had been a long term shareholder in the firm then they did not need the

broker to provide access. Some investors said that there was an increasing trend not to pay for

corporate access which is becoming a problem and potentially an issue when investing in small and

mid cap stocks.

Often the investor would like to meet more than just the top management. For example they may

want to meet a divisional head.

A4.5.3 Information Required by the Listing Platform

Investors are generally satisfied with the IPO process, prospectus rule and accounts. However,

there are some suggestions for improvements:

Some companies change the format of their accounts too often thus making it harder for

analysts to follow;

The significant holding section of the annual report often obscures the underlying holders so

that the custodian names (nominee names) are all that is seen. Some investors would like to

know who the individual shareholders are;

There is no information about how much a stock is being shorted. Some investors would like

this information;

The IPO and capital raising process is often too short. For example a two week process for an

IPO does not allow for much access to management. If the investment firm does not get

satisfactory contact with the management in that period it will not invest. Two examples were

given: one of a recent IPO for an IVF clinic where the investment firm was only offered 30

minutes to meet the management and the other was the ASX’s own capital raising which took

place in a day which was considered too short. These short time periods can be mitigated by

investment bank/broker research analysts who undertake a pre-road show to provide


information and round up interest but the research analyst’s information is often less accurate

than the final prospectus and accounts;

Some of the prospectuses are probably too long and complicated for the retail investor but if

made more succinct there is a risk that important information might be excluded.

A4.5.4 Disclosure Rules

All the investors interviewed are generally happy with the disclosure rules. The longer a firm goes

without a disclosure, the more the investor might worry about the health of the firm.

However, several investors pointed out that despite being generally satisfied with the rules, the ASX

could still do more to enforce the rules. They described the rules as a tick box or procedural

exercise which when followed could result in a less than satisfactory disclosure of information, as

the amount and quality of information that is given may vary. This is particularly a problem for the

illiquid smaller companies where the price can swing dramatically when an announcement is made.

Good disclosure creates confidence in the market and the ASX needs to promote this.

A4.5.5 Websites/Webcasts

Most investors interviewed think that all listed companies should have a website though it was

pointed out that most of the necessary information was made available to them through the ASX

required.

Most investors listen to web casts where available.


The shareholder register is important for some investment firms but not all. Some firms consider

their own research is enough to provide conviction to invest regardless of whom the other

shareholders are. Others want to know more and find that the current shareholder register at the

nominee level is not enough. These investors said that they want to know the types of shareholders

that they are investing alongside. One investor said that he would like to see more information

about which stocks were being shorted.

A4.5.7 Other

Some investors reported on the rise of use of intelligence companies. For example the use of

expert networks such as the Gerson Lehrman Group which puts investment firms directly in contact

with experts from relevant industries including ex employees of firms or subject matter experts. This

may often prove more insightful than talking to broker analysts and the investor is willing to pay

additional fees for access to this information.

A4.6 The Importance Information Providers Place On Information Available

The banks/brokers who provide information on SMEs had varying views of what constituted a small

or medium cap stock but unless the broker is a small and mid cap specialist they are unlikely to

cover a stock below AUD$400mn cap. In some cases they defined SMEs as having a market

capitalisation as high as AUD1.5bn (€1.05bn).


Banks/brokers were asked to rate the value they placed on certain pieces of information in the

market when researching a company (Fig 5). The existence of other research is a factor for two but

others said it is not relevant. Most put an emphasis on other pieces of information such as access

to company management, accounts and disclosures.

Table A4.5 The Value 3rd Party Information Providers Place on the Information Available

INFORMATION B1 B2 B3 B4 B5 B6

The presence of other research in the market (other

than your own)

10 0 15 0 0 n/a

The Company Accounts 20 15 15 20 20 n/a

A Company website 15 5 2 5 10 n/a

The Shareholder register 20 5 2 5 5 n/a

Access to management 15 50 30 40 30 n/a

Site Visits where relevant 15 20 20 10 10 n/a

On-going company disclosures 5 5 15 20 20 n/a


feeds)

0 0 1 0 5 n/a

Other – Please specify 0 0 0 0 0 n/a

Total 100 100 100 100 100 n/a

N.B. Banks/Brokers were asked to allocate 100 points to reflect the value they place on the information available when

researching a company.

A4.6.1 Research

In-house Research

Most of the brokers interviewed are part of large international firms and clearly stated that their first

priority is to adhere to international practices where research and the investment banking business

have to be completely separate with Chinese Walls in place and linking research to revenues in the

banking business is deterred. Even domestic firms cited the separation between research and their

corporate business as being important. Although they understand the reasons for the separation it

has not been helpful given that there is no cross subsidisation of the cost of research allowed.

However, several brokers pointed out that they are unlikely to win a corporate deal if they are not

covering the company from a research perspective so research provision is important.

As well as assessing what other information is available in the market, brokers look at the liquidity

of stock and the relevance to their client base before deciding whether to undertake research on a

stock. They may also be incentivised to cover a number of companies in a sector just because it

helps to learn more about the sector rather than a specific company.

Some brokers declined to comment on the cost of overall research but one participant said that

approximately 15% of their overall research budget is allocated to the small and mid cap sector.

Brokers stated that it is much harder to find analysts to cover the resources sector where industry

knowledge and understanding is crucial because, for example, you need to be a qualified and

experienced engineer to understand when a mining company says they have found something what

the likelihood of getting it out of the ground is. There is a lot of competition for good analysts. Other

industry sectors do not require the same industry knowledge and insight and teaching general

analysis skills is easier. Brokers were mostly agreed that the cost of a good analyst was

approximately AUD$250,000 – AUD$400,000 (€175,000-€280,000) depending on experience and

industry knowledge. All the brokerage firms were clear that their main priority is to make money for

their shareholders and they will not cover a stock if it does not make commercial sense.


Banks/brokers are uncertain about the effect any unbundling regulations might have on the industry

but in general see unbundling as having a negative effect on the small and mid cap market. One

broker thinks that unbundling would decrease the amount of coverage on small and mid cap firms

as independent firms have no ability to cross subsidise. Research coverage would therefore

migrate to cover large cap stocks only.

Language is not an issue for most of their investors but most brokers that are part of international

firms publish some research in Japanese. This appears to be due to a long term historical

commitment to the Japanese market where some international firms have established a sizeable

presence that covers the cost of producing research in another language. No firm discussed the

imminent production of research in other languages.

Third Party Research

Brokers tend to pay minimal regard to the presence of other research in the market before deciding

to cover a stock and they are unlikely to have access to it as it belongs to a competitor.

A4.6.2 Corporate Access

Getting close to a company is important for the brokers’ own analysts as well as being critical to

their clients. Brokers also often arrange site visits for their clients.

A4.6.3 Information Required by the Listing Platform

Brokers are generally satisfied with the listing requirements.

A4.6.4 Disclosure Rules

Banks and brokers say that the disclosure rules work well though several cited some previous

problems that have recently been addressed through new ASX guidelines.


Generally brokers stated that there is not enough information provided in the share register as it

only goes to nominee level and they would like it to go to individual level.

A4.7 The number of listed asx smes covered by research

The table below shows the number of analysts that cover stocks listed on the ASX by market

capitalisation. It shows that 1,529 stocks have less than 3 analysts covering them and the majority

of these have a market capitalisation of less than AUD$200mn (€140mn).


Table A4.6 Table showing how many analysts cover the companies on the ASX (by market

capitalisation)

Source ASX and Bloomberg. As at end March 2013.


Investors were asked to rate the value they place on certain types of research and how that value

might change depending on whether or not there is other research available in the market. In most

cases investors significantly discount the value of any research that is paid for by the company

even when no other research exists. They all value their own research more highly than anything

else available. There is a mixed view on how valuable independent research is but when paid for by

the investor it is generally deemed to be of a higher value than if paid for by another party such as

the exchange. Broker research is seen by all investors to be of a medium value.

Market Cap of Company

Number of Analysts <$50m $50m to $200m $200m to $1b >$1b Total Number of Companies

0 1,061 125 29 19 1,234

1 137 62 12 2 213

2 22 47 11 2 82

3 15 35 14 2 66

4 5 16 10 2 33

5 2 19 13 2 36

6 8 15 23

7 1 6 16 2 25

8 3 15 3 21

9 2 11 7 20

10 1 14 6 21

11 3 6 9

12 11 11 22

13 1 9 11 21

14 6 23 29

15 3 23 26

16 5 18 23

17 1 16 17

18 3 11 14

19 3 3

20 3 3

21 1 1 2

23 2 2

24 1 1

Total 1,243 325 203 175 1,946


Figure A4.1 Investors were asked to rate the value (out of 10, 1 being a low value and 10 being high) that

they put on research in the market: a) depending on whether any other research is available and b) according to which type of information provider has published it and who has paid for the

publication:

How Research is Valued when no

other research is available

How Research is Valued when other

research is available

INFORMATION Inv

1

Inv

2

Inv

3

Inv

4

Inv

5

Inv

6

Inv

1

Inv

2

Inv

3

Inv

4

Inv

5

Inv

6

Independent Research paid

for by the issuing company 4 3 0 2 0 n/a

2 3 0 2 0 n/a

Independent research paid

for by another 3rd party

entity (i.e. the exchange)

7 6 0 3 3 n/a

6 6 0 3 0 n/a

Independent Research when

it is paid for by you 10 7 5 8 0 n/a

9 7 5 8 0 n/a

Broker research

6 6 5 6 5 n/a

5 6 5 6 5 n/a

Your own research 10 10 10 8 10 n/a

9 10 10 8 9 n/a

Other types of research

(please specify) n/a n/a n/a n/a n/a n/a

n/a n/a n/a n/a n/a n/a

A4.9 The ASX Equity Research Scheme

A4.9.1 Background

In March 2011, ASX launched a review, “SME, Mid Cap and Micro-Cap Equity Market Review” and

consulted with the market about how to address the needs of smaller businesses whilst protecting

investors. The consultation resulted in a paper Strengthening Australia’s equity capital markets41

in

April 2012. This paper proposed amendments to the listing rules and an assessment of possible

changes to the market such as trialling intra day auctions for mid and small cap stocks and

introducing market makers. It also announced trialling a scheme to sponsor equity research for

small and mid cap companies with minimum research coverage which is the main focus of this case

study.

A4.9.2 ASX’s Implementation of the Scheme

Following on from this, ASX commenced a 12-month trial of the Equity Research Scheme which

was intended to provide high-quality, independent research for ASX-listed companies with a market

capitalisation below $1 billion (which was around 92% of all listed companies at that time). ASX

contributed AUD$1 million to fund the trial and stated that the scheme could be expanded with up to

AUD$10 million funding per annum if it was successful. ASX have stated that they intend to raise

41

Strengthening Australia’s equity capital markets, ASX proposals and consultation, April 2012, ASX.


listing fees for all corporates if the pilot scheme works so that they can create a pool of money to

support the scheme. However the ASX is not directly passing on the cost of the scheme to the

corporates, it says that it is more likely to be one of a number of factors taken into consideration

when assessing listing fee changes.

The intention is that by improving the quality and availability of research in the small to mid-cap

sector, the Scheme will provide a broader range of opportunities for investors. Over time, this will

assist the investor relations activities of small to mid-cap companies and improve their ability to

raise capital.

The idea of the scheme was to provide the following types of information over the 12 month trial:

Company snapshot reports – for companies with a market capitalisation below $50

million. This is produced by an independent research firm, Morningstar Australia for all eligible

companies. Each company snapshot is updated daily and includes information drawn from

publicly available sources. It is available on the ASX website;

Retail reports – for companies with a market capitalisation between $50 million and $200

million. For the 12-month trial, ASX selected 10 licensed research providers to produce three

standard retail research reports with analysis and commentary on approximately 30 companies

chosen by the research providers. Reports were branded by the research providers and

distributed through their existing distribution channels;

Institutional reports – for companies with a market capitalisation between $200 million

and $1 billion. For the 12-month trial, ASX selected 6 licensed market participants with an

established institutional research function to produce three standard institutional reports with

analysis and commentary on approximately 20 companies chosen by the research providers.

Reports were branded by the research providers and distributed through their existing

distribution channels.

The ASX said that those that participated would get preference in the on-going scheme the

following year.

The ASX developed criteria to determine the list of stocks that might be eligible for coverage in the

sponsorship program; the most important criteria being any company that was covered by less than

3 research analysts. This data was taken from Bloomberg (Fig 7) which was deemed the most

accurate source of data available, although not entirely foolproof.

A4.9.3 Participants’ view of the Scheme

4 companies that provide institutional reports and 2 companies that provide retail reports were

interviewed as part of this case study.

Brokers were put through a competitive tendering process. They were asked to tender for a number

of stocks and choose which stocks they wanted to bid for. The fact that brokers could choose which

firms they would bid for was considered a positive part of the scheme as brokers did not want to

pick firms that they did not believe in. Most brokers did a certain amount of due diligence on the

companies prior to the bidding process, though one broker complained of not enough time to do

this which resulted in reputational concerns for the broker once the scheme had commenced.

All brokers tendering for business said they submitted quotes on a cost oriented basis; the most

important issue is to recoup their costs as their first responsibility is to ensure that they are

profitable for their shareholders. Therefore covering their costs was a significant consideration in

the bidding process.


The interviewees that bid for institutional business said that they put in bids for between

AUD$10,000-$40,000 (€7,000-€28,000) per stock. Brokers bid for a number of stocks but generally

did not get allocated everything they bid for as they were outbid in the process by another broker.

Mostly they were bidding to cover about 5-6 stocks but were allocated 2 or 3. One firm said it is

covering 10 stocks which appears to be the maximum number of stocks covered by any one firm in

the scheme. The interviewees tendering for retail business bid around AUD$5,000-10,000 (€3,500 -

€7,000) per stock but they felt that they should be paid similar amounts to institutional brokers as

they have to undertake a similar amount of work. Retail brokers felt that the exchange did not

understand the small and mid cap sector well and that the requirement to have market share in the

top 200 stocks was biasing the scheme towards firms that only covered large cap stocks.

A number of brokers suggested that it would be easier to bid for a package of stocks in order to fully

cover the cost of resources. For example, it is not helpful only to win business in one or two stocks

because the cost is not enough to pay for a full time headcount. A package of 10 stocks is more

likely to cover the cost of hiring someone. The cost of hiring a good analyst was estimated by most

brokers to be around AUD$250,000 (€175,000).

All brokers said they haven’t seen business pick up notably as a result of the scheme but as

liquidity is low they wouldn’t expect to see trading pick up significantly. As long as they covered

their costs this was not an issue. One broker conceded that they had possibly won some business

that may have resulted from covering a stock.

The exchange has not put any restrictions on the brokers and they would put an SELL opinion on a

company but haven’t done so yet. Brokers interviewed said that at the moment everything is a BUY

recommendation as they selected stocks they believe in.

Brokers said they would participate in the scheme going forward but they needed more stocks in

the scheme. Ideally it would help the market if 4 or more analysts were covering a stock. Some

brokers suggested that the scheme could be utilised to go higher up the index and help larger mid

cap firms.

The brokers mostly found the ASX to be flexible in its approach to the scheme.

A4.9.4 Investors’ Views of the Scheme

Many investors were not aware of the scheme that was being run by the ASX. Nonetheless, they

generally thought it was a good idea that ASX was trying to stimulate market activity. They thought

that if the scheme is well run, it can be for the benefit of all market participants. It is likely to

stimulate M&A and deals and make investing easier as well as increase the value of the company.

The table in Fig 7 suggests that although companies that have very little information published

about themselves and often have to pay for their own research, institutional investors generally

place little value on this information even when no other research is available. The existence of

research paid for by an alternative “neutral” sponsor is more valuable.

However, many investors did not rate research paid for by an exchange to be as highly valued as

that paid for by a broker. Given that the ASX is simply paying a broker to provide and distribute

research in the same way as it undertakes its normal business, it is not clear whether an investor

would really differentiate between these two types of research. Investors qualified their comments

saying that the overall quality of would be more likely determined by the quality of the analyst and

the associated budget to pay for that analyst.


As firms were not necessarily aware of the scheme they were not sure about how much disclosure

had been agreed about the provision of research. A number of participants noted that there should

be proper disclosures on any broker research that ASX has paid for this research. They also

wanted transparency about the selection process of why those brokers were chosen, to ensure that

the exchange was vetting the quality of the research and also that it was managing any conflicts of

interest. Several participants noted that the ASX was perhaps a less trusted organisation since it

became a listed company but others said that the exchange had the ability to be seen as more

independent.

A number of the investment firms interviewed were shareholders in the ASX itself. Whilst they

believed that this may be a good idea to help the market they were not sure, as shareholders, that

the ASX was going to recoup the money spent on this project.

Market participants noted that ASX runs “Spotlight” conferences for smaller companies which is

also deemed to be helpful.

Some investors expressed concerns that the scheme was favouring larger cap brokers. Smaller

brokers had expressed concerns to some clients that they were only receiving one fifth of what the

large investment banks were receiving in terms of sponsorship (this may be because they were

producing retail grade research although the broker’s argument is that it takes a similar amount of

work). Additionally, some of the original criteria set by the exchange appeared to favour firms with a

more significant market share in large cap stocks even though the specialist skills in dealing with

small and mid cap/SME stocks are different.

A4.9.5 ASX Follow Up

Since this case study was conducted the first year of the scheme was completed and the ASX

decided that the pilot scheme had been a success. It has launched a second year of the scheme

with funding doubled to AUD$2 million (€1.4mn) and with the participation of more research

providers (17), covering more companies (approximately 1,314). They announced that participating

companies in the first year’s scheme were reported to have improved their relations with analysts,

with more than half of the companies receiving coverage beyond the initial research provided

during the trial. Within that period, approximately 62% of participating companies experienced a rise

in the turnover of their securities, compared to the previous corresponding period.

The second year scheme commenced with a completely new list of eligible stocks so that no

research coverage from the previous period was automatically carried over, although some stocks

may have requalified. In this instance the exchange looked to allocate coverage to a different

broker. It is not known how many brokers have continued to cover the stocks they were awarded in

the previous year that are no longer eligible for the scheme.

Although the findings of this case study were not made known to the exchange prior to the

commencement of the second year period, the exchange says it has addressed disclosure issues

and also removed the requirement for a broker to have significant market share in the top 200

stocks.

The exchange has increased listing fees but says the increase in fee has taken many factors into

consideration and is not a direct pass through of the cost of the research scheme.


A4.10 Summary of findings and implications from the case study

The general provision of information in the Australian market appears to work well. However,

investors provided thoughts on a number of areas that may be improved either by changing

guidelines or via policy changes, namely:

The exchange could still do more the improve investor confidence by enforcing good quality

disclosures;

Guidelines to companies on consistency in accounts would be helpful for both the companies

(who may not realise the impact of changing formats) and analysts;

It would be helpful if shareholder registers and the significant holding section of the annual

report showed shareholders to the individual level (however, this may not be easy to produce);

A report on stocks that are being shorted would be helpful;

All listed companies should have a website and web casts are a useful way of reaching many

investors at once;

The IPO and capital raising process is often too short;

Improved best execution rules for asset managers would also promote more unbundling and

ensure that research budget is allocated to those firms that provide the best quality research.

Research is clearly the most important element of information available about a company but

corporate access and, for some industries, site visits are also critical.

The cost of hiring research analysts is considerable for both institutional investors and brokers,

between AUD$250,000 (€175,000) and AUD$400,000 (€280,000). They both need to generate

enough fees to cover the cost of research and profitability is decreasing. The illiquidity of small and

medium companies makes it harder for brokers to generate enough to commission via trading to

warrant covering a stock. The investor requires a certain amount of funds under management to

generate enough fees to pay for their own and third party research. The separation of research

from the banking business has made it harder to cross subsidise costs.

There were no conclusive views on unbundling. Most participants had a view that unbundling would

deplete the amount of research provided. However, it is important to note that the market is not fully

unbundled so the effects cannot be known and most participants interviewed would have a vested

interest to maintain the status quo.

It is important for investors to have sector information when investing in SMEs.

The ASX pilot scheme has been a success and the exchange has been prepared to double the

funds spent on it as a result. It therefore appears that it is possible to have a commercial scheme in

place to support an increased supply of research and the exchange may be the best entity to

undertake this. However, the characteristics of the market and motivation of participants are

important factors to be taken into consideration when judging that success. It is yet to be seen if the

increase in listing fees has a detrimental effect on the companies in the market.

Research paid for by an exchange and produced by brokers appears to be more highly valued than

other types of research that might otherwise be produced.

Brokers in the market will support such a scheme if they can cover their costs. Institutional investors

will support the scheme but place less value on the research because it has been paid for by a third

party. For these investors, liquidity will always be the first consideration no matter how much

research is available. It is much harder to judge the effect on the retail investors who most likely to

be the beneficiaries of the increased amount of research.


Annex 5: Case study France


In this case study, we analyse the financial market in France with a focus on the situation of listed

SMEs. In particular, we analyse the market provision of financial analysis and business information

services on quoted small and mid-caps and the policy initiatives that have been taken to promote

this.

The French regulatory situation is broadly in line with European directives, with only a small number

of specific national regulations, such as the optionality of the unbundling provision. The financial

market for SMEs is thin and weak from a number of different angles: financial analysis, investment

managers, brokerage, and attractiveness for capital operations for SMEs. Listed SMEs on the

financial market (= small caps) in France are generally defined as companies with a market value

below €1 billion. This is not fully aligned with a European definition since different definitions exist

on different financial markets.42

The semi-regulated Alternext market is growing in terms of number

of listings and total market value. Its sectoral representation is also quite diverse. The SME market

on the regulated Euronext exchange is rather decreasing. The listing fees on average do not

compose a large share of the total cost of an IPO. However, it is not clear to which extent this

statement applies for SMEs. The structure of listing fees (decreasing in proportion to market value)

is somewhat beneficial for large caps to the detriment of small and mid-caps. Comparing the public

market with the private equity channel, it is clear that private equity provides financing for a larger

number of companies and also in terms of total amount of capital raised it outweighs financing

through the public market.

Disclosure requirements are generally satisfactorily managed in France, according to both investors

and analysts. The information requirements on the semi-regulated market Alternext are somewhat

lower than on Euronext. This makes it an attractive market for SMEs. Investors mainly base their

investment decisions on their own in-house analysis. On top of this, access to management is of

high importance and is a key factor in judging a potential investment. The same holds for analysts.

They also base their recommendations mainly on corporate access and their own analysis. The

small and mid-cap business is much more about personal contact than the large cap market which

is much more about numbers and macro-economic variables. There are different types of business

models available for financial analysts, but in general independent analysis is a very difficult market

in France.

The Lagarde initiative in the context of the “Conseil de l’analyse financière” was a worthwhile effort

to promote financial analysis on listed SMEs in France. Its results can be described as a moderate

success at best and a moderate failure at worst. The interest in extending this initiative is currently

not very high. However, to fully assess the potential of this mechanism, one has to take the difficult

economic conditions of the time period in which the initiative was taking place (2010-2012) into

account as an important factor. A number of recommendations that could potentially make the

financial market for SMEs more dynamic are proposed in section 10.

42

It is also not aligned with the SME definition by the European Commission, as this definition depends on different

indicators than market capitalization (http://ec.europa.eu/enterprise/policies/sme/facts-figures-analysis/sme-definition/).


This case report is based on 8 interviews with 13 interviewees that we conducted with a number of

stakeholders of the financial market in Paris. In addition, we also obtained some insights from a

couple of written reports. This document therefore does not represent an opinion, an idea or a line

of reasoning of the authors themselves.

A5.2 Background

A5.2.1 Regulatory situation and market context in Paris

The regulatory situation on the financial market in Paris is largely driven by a number of European

directives on the functioning of financial markets (Source: interview AMF):

The Prospectus Directive (2003/71/EC);

The Markets in Financial Instruments Directive - MiFID (2004/39/EC);

The Market Abuse Directive (2003/6/EC);

The Transparency Directive (2004/109/EC).

French regulations are thus generally in line with the European regulatory framework. A specific

element of the French situation is the regulatory provision surrounding the unbundling of

commission payments from investors to brokers/analysts. Since 2007, it is possible for asset

managers to pay for business information services using commission sharing agreements. This

means that part of the payment goes to brokers for execution of the order, whereas another part is

kept separate to pay for research. This research can be executed by the broker himself, but could

also be used to pay for an independent financial analyst. The system is inspired by the unbundling

requirements in the UK, with the difference that it is a mandatory system in the UK whereas it is an

optional provision in France. The unbundling provision has not been formally evaluated in France,

but there is a sentiment among most market players that it has generated fairly little effects. The

estimate of the share of broker contracts that use commission sharing agreements is only around

5%. Another difference with the UK is the relatively lesser degree of regulations concerning the

profession of financial analysts. The only provision for financial analysts is the CIF-certification

which is a code of good practice for financial analyses that is developed by the SFAF (the French

association for financial analysts). (Source: interviews financial analysts, Observatoire, AMF).

The small and mid-cap market in France is small and weak. This observation holds for all different

market players. Since the financial crisis in 2008, institutional investors have become much more

risk-averse. The listed SME market is perceived as risky since liquidity is low. Liquidity can be seen

as “affordability to make a mistake” and allows one to move out of a stock when it turns out to be a

bad investment. Moving out of illiquid stocks is difficult, thus making small and mid-cap an

undesirable investment for large asset managers. Moreover, fund managers can also face large

redemptions in case of a sudden market crisis in which everyone wants to sell off their assets, blind

for any fundamental values, such as in 2008. Thus, the small and mid-cap market is a relatively

unattractive market for them to be in. Also, the incentive structure is such that asset managers’

remuneration packages often include a bonus of which the amount depends on assets under

management. Therefore, they all want to attract additional funds, grow and naturally move into the

large cap market. There is no remuneration for the additional risk that asset managers need to take

in the SME market, even if performance is much better than that of a comparable large cap asset

manager. Retail investors have not really filled the gap that institutional investors have left, because

they generally do not have the specialized knowledge that is required to be profitable in the SME

market. (Source: interviews Observatoire, CDC, ID Midcaps).


Regulatory requirements such as Solvency II also did not help in directing financial flows to listed

SMEs, as they have driven insurance companies out of the equity market and out of the SME

market for certain. It is anticipated that Basel III will lead to a tightening of availability of bank loans.

This could be a serious issue for SMEs as they are still highly dependent on bank credit for their

financing needs. Therefore, new solutions for SME financing need to be found. The recent

introduction of a number of IBOs (Initial Bond Offering) through Euronext exchange could be an

innovative instrument to provide SMEs with a new instrument to secure their financing needs

through the public market. However, new needs emerge, such as rating agencies, analysts, etc. to

inform investors about each IBO risk profile. (Source: Interviews financial analysts, Observatoire).

From the side of the analysts, the market conditions are such that the SME market is not profitable

any more for intermediaries (such as brokers). There are very little IPO’s and only the secondary

market is not profitable enough for brokers to remain active in. Therefore, brokers are cutting costs

in the area of SME analysis. Analysts are typically among the first to be cut in times of crisis,

because they are perceived as a cost center. Also, independent analysts are having a hard time to

compete with brokers in a market in which research reports are sometimes hand out for free by

brokers. They try to use this research as a service to attract customers. This leaves independent

analysis as a very small and weak actor in the market.

Finally, on the side of emitters it must be noticed that the financial/economic crisis of the past few

years has not helped in boosting a dynamic financial market. If their results are not positive or they

cannot present a growth story, SMEs are not interested in the increased visibility brought about by

a financial analysis. Therefore, SME analysis and SME investment is more likely to benefit from

economic growth perspectives, rather than by certain specific policy initiatives. Also, SMEs

sometimes perceive being listed as a good move from a strategic or marketing perspective, but are

not really interested in carrying out all the required information provisions that go along with being

listed on the public domain. They restrict themselves to the minimum required to maintain the listing

status. Thus, there is also a need for some education and awareness building among listed SMEs

themselves to improve their contribution to information services. This leaves the small and mid-cap

market in a situation that is relatively weak and under-researched in France, in spite of the attention

given to this issue by policymakers, the regulator & the exchange platform to improve their market

conditions. Also, the fact that the low valuation of listed SMEs allows for strong financial

performances to be made in this market is insufficient to attract the large mutual fund managers

and big asset managers. Most financing for SMEs in France still comes through credit from banks

and they increasingly turn to private equity as well. The IBO-instrument (Initial Bond Offering) that

has quite recently picked up on NYSE Euronext could be an interesting evolution to obtain public

financing through financial markets if bank credit tightens given Basel III requirements. (Source:

interview NYSE Euronext).

A5.2.2 Definition of the public SME financial market and descriptive overview

The SME market in France is generally defined as containing all listed companies with market

capitalization below €1 billion. (Source: NYSE Euronext, 2013) It consists of three submarkets:

Eurolist compartment B is part of the regulated NYSE Euronext market. It is meant for midcaps

with market capitalization between €150 million and €1 billion;

Eurolist compartment C is part of the regulated NYSE Euronext market. It is meant for small

caps with market capitalization below €150 million;

AlterNext is a semi-regulated market that is attractive for SMEs due to its lower level of

administrative & information requirements. There is a threshold of at least €2.5 million free float

on this market, which corresponds grossly to a market capitalization of at least €25 million and

up to €100 million.


In the remainder of this text, we will refer to the listed SME market as consisting of these three

different submarkets.

NYSE Euronext has recently launched the EnterNext program which is an initiative to promote SME

financing through the stock exchange. This program will embody the three SME submarkets

outlined above. The listing of company’s shares will remain on each of these submarkets to prevent

unnecessary shifting costs. Still, the aim of EnterNext is to pool the market valuation of SMEs which

is available on the financial market to increase its market size. It is well-known that market size is a

critical parameter in order for it to be profitable to be covered by brokers, analysts, investors, etc.

(Source: Interview NYSE Euronext)

The overall market size of NYSE Euronext in Paris is shown in Figure 1 and the sizes of its different

submarkets are put into perspective.

Figure A5.1 Different submarkets of NYSE Euronext Paris

Source: NYSE Euronext 2013.

AlterNext is still the smallest market, both in terms of number of firms and market capitalization, but

has been increasing over the past few years, up from 119 listings with a market capitalization of

€2.2 billion in 2008 to 182 listed SMEs with a market capitalization of around €6.5 billion currently.

In contrast, the number of listed firms on EuroNext compartment B & C has decreased from 672 in

2008 to 410 firms currently. There have been quite some transfers of firm listings from Euronext B

& C to Alternext (25 transfers only in the years 2010 & 2011) which explains part of the observed

trend. Another reason is the higher rate of introductions on Alternext than withdrawals (for example,

19 introductions in 2011 in comparison to 8 withdrawals from the market that year), in combination

with the very low number of introductions on Euronext and the higher rate of withdrawals (3 against

22 in 2011).

130

410

182

Number of firms

EuroNext A

EuroNext B +C

AlterNext

Euronext A; 1357

Euronext B + C; 63

Alternext; 6.5

Total market capitalization (in € billion)


With respect to market capitalization, the trend on Alternext largely follows the increasing tendency

in number of listed firms. However, market capitalization on Euronext compartment B & C can be

described as fluctuating rather than downward. This is also due to rearranging of firm listings

between compartments on Euronext following their market capitalization. For example,

compartment B has known a strong increase in market capitalization following the financial crisis,

which can be attributed to firms losing market capitalization and being downgraded from comp A to

B. In any case, an average firm on Euronext B is around €330 million market cap, on Euronext C

around €50 million market cap and on Alternext around €35 million market cap. In a European

perspective, one has to stress the diversity of the SMEs listed on Alternext in terms of sectoral

representation, as shown in Table 1. In comparison, with LSE-AIM for example, which is of course

much larger but also much more concentrated on the energy and financial services sectors,

Alternext provides a nice diversification in terms of sectoral representation. For example, innovative

sectors such as life sciences or technology are quite present on Alternext. (Source: NYSE

Euronext, 2013)

Table A5.1 Sectoral representation of SMEs listed on Alternext, 2011

Sector of main activity Alternext - listed SMEs Alternext - in % of total

Materials 5 2.69%

Consumer goods 27 14.52%

Consumer services 44 23.66%

Health 22 11.83%

Industry 29 15.59%

Oil & gas 3 1.61%

Technology 48 25.81%

Telecommunications 5 2.69%

Services 3 1.61%

Total 186 100%

Source: Giami, 2012.

Concerning market operations, it can be seen in Figure 2 that capital increases amounted to €1756

million in 2011 on the French listed SME market. The bulk of this amount consisted of secondary

financing operations; only €147 million was raised through IPOs in 2011.

Figure A5.2 Capital increase on the French SME market


Regarding liquidity, it is estimated that free float is around 25%-35% of total market value on the

French listed SME market. For example, market liquidity on Alternext exchange represented €1.8

billion in 2011. This is 38% of the market capitalization in that year. As regards investors, it can be

estimated that around 15% are retail investors whereas 85% are institutional investors.

Furthermore, the institutional investors in the midcap market are for 95% mutual funds asset

managers. On Alternext, in contrast, mutual funds have much lower activity and only hold 25% of

shares. The largest investors here are specialized funds that are dedicated to investments in SMEs,

in innovative investments or in firms that are located in proximity (40%). These specialized funds


benefit from an advantageous tax treatment in France. Most investors are domestic. The share of

domestic vs. foreign investors is around 75%-25% and probably a bit more uneven. This share has

also been increasing over the past few years as the French SME market has lost some of its

attractiveness for foreign investors after the financial crisis (for reasons given above). The share

domestic – foreign also depends on how foreign investors are classified: according to subsidiary

location or according to location of headquarters. The 75%-25% rests on the presumption of

subsidiary location identifying nationality of investor. (Source: interview NYSE Euronext &

Observatoire)

A5.2.3 Listing fees and competitive market conditions for the exchange platform

The listing fees on Euronext have remained unchanged since a couple of years now. The basic fee

that should be paid for any IPO is €10,000. On top of this, there is a listing fee that proportionally

decreases with market value of the firm, from 0.06% to 0.01% for the share of market value that is

above €1 billion. In addition to this, a yearly cost of notation has to be paid which is again

proportionally decreasing with market value of emitted shares. This cost is generally much below

the cost for an IPO (around €2,800 in case of a small SME). Also, in case of a secondary operation

the exchange again calls for payment of a fee which is below the one of an IPO. One has to put

these payments into perspective, as the total cost of IPO amounts, on average, to 7.5% of the

capital raised through this operation, with the largest share going to legal advice, investment banks,

etc. The exchange is responsible on average for only 5% of total cost of listing, or a cost of 0.4% of

the total capital operation. Still, it is clear the fee structure used by the exchange is somehow

benefiting large caps and is not beneficial for SMEs. Also, the exchange cost of an IPO could be

more significant for an SME than is represented in the average numbers. The NYSE Euronext

exchange foresees a number of rebates on listing fees in the context of the EnterNext program.

Transfer costs for a transfer from Euronext to Alternext are reduced by 50% and the costs for a first

listing are reduced by 10%. Finally, it should be mentioned that the business model of NYSE

Euronext is much more oriented towards trading than towards listing. Trading fees are a significant

profit stream for NYSE Euronext. Therefore, the SME market is not a very profitable venture for

Euronext but its activities on that market are also motivated by its societal role. (Source: interview

NYSE Euronext; NYSE Euronext, 2013).

The competitive environment for exchanges has significantly changed after the introduction of

MiFID, that allowed semi-regulated Multilateral Trading Facilities (such as Alternativa in France, or

Chi-X/BATS and Turquoise in the UK) to challenge traditional exchanges on their role. However,

since the large cap market is generally much more profitable, these MTFs have had the largest

impact on the large cap market with effects on listed SME markets being fairly limited. Another

consequence of the increased competition is the fragmentation of liquidity. This is the fact that one

share gets listed and traded on multiple platforms, which could lead to a drop in ‘local liquidity’ if the

traders or asset managers only have access to one or a limited set of platforms. This can clearly

have detrimental effects, especially in the small and mid-cap markets where liquidity is already a

significant concern. Currently, already 50% of midcaps and 15% of small caps are fragmented. If

this trend continues, it could lead to a further deterioration in the liquidity of listed SMEs. (Source:

interview NYSE Euronext, Observatoire).

Finally, to have a more complete view on the different avenues for SME financing, we will now

provide a comparison of the financial flows coming from the public market and those provided by

private equity financing. A large share of financing needs of French SMEs is still covered by bank

credit, but we do not cover it here.


Table A5.2 Overview of financial flows into SME companies (in € million) through public market

operations and private equity – 2011

2008 % 2009 % 2010 % 2011 %

Financial

market

#companies

with market

operations

34 2.9% 55 4.5% 61 4.3% 93 6.5%

Total capital

raised

€839 25.8% €2616 52.3% €1641 36% €1756 33.2%

Private

equity*

#companies

with

investment

flows

1135 97% 1180 95.5% 1374 95.7% 1331 93.5%

Total capital

raised

€2411 74.2% €2385 47.7% €2915 64% €3537 66.8%

* Private equity in this table consists of venture capital and growth capital.


It is clear that private equity still a major player in the financing of SMEs. Private equity actually

provides a larger source of financial funds both in terms of total capital invested and certainly in

terms of number of SMEs invested in. Table 2 shows how the number of SMEs that have access to

private equity financing is much larger than those who use the public market for their financing

needs. In terms of total capital raised, however, the situation is more balanced. We can deduce that

for small capital operations (in SME standards), the public market is still a difficult venue and private

equity plays a major role. For somewhat larger capital operations, SMEs can and do turn to the

financial market. It should be stressed that the public SME financial market is also an important

enabler for private equity capital flows as it allows private equity to sell off and monetize their

investments. The liquidity that this provides can subsequently be re-invested in new promising SME

firms. If the public market does not function well or is unattractive to SME investors, the private

equity financing chain could come to a halt.


The listing requirements for an SME that wants to go public depend on the exchange that he wants

to be quoted on. The requirements for being listed on the regulated Euronext exchange are a little

tighter than those for the semi-regulated exchange Alternext. There is also a small difference in

terms of on-going requirements for entities listed on Euronext in comparison to Alternext.

Table A5.3 Conditions for listing and ongoing requirements for quoted entities on EuroNext and

AlterNext

NYSE EuroNext AlterNext (Public offering,

private placement or transfer)

At listing

Past financial statements 3 years certified 2 years, with last year certified

Financial intermediaries Listing agent (= investment

Service Provider)

Listing sponsor required

Other advisors Optional:

Legal advisors;

Accountants;

Auditors;

Tax advisors;

Optional:

Legal advisors;

Accountants;

Auditors;

Tax advisors;


NYSE EuroNext AlterNext (Public offering,

private placement or transfer)

Financial advisors;

Communication advisors.

Financial advisors;

Communication advisors.

Minimum free float 25% of share capital or 5% if this

represents at least €5 million

€2.5 million (minimum 3 different

investors in case of private

placement)

Information required EU Prospectus approved by

regulator

EU Prospectus approved by

regulator (public offering) or

Offering circular approved by

NYSE Euronext (private placement

or transfer)

Regulatory approval Required Required in case of public offering

Accounting standards IFRS IFRS or national GAAP

Ongoing requirements

Periodic financial reports Audited annual and limited review

of semi-annual financial

statements, quarterly/interim sales

reports by press release

Price sensitive information

Audited annual and unaudited

semi-annual financial statements

Price sensitive information

Declaration of breaches of

threshold

Multiple threshold declarations

Multiples of 5% voting rights

Limited number of threshold

declarations – 50% and 95% of

voting rights

European Directives Market abuse directive

applicable;

Transparency directive

applicable.

Market abuse directive

applicable;

Transparency directive non

applicable.

Declaration of management

transaction

Yes Yes

Source: NYSE Euronext, 2013; interview AMF.


As can be seen in Table 3, listed entities have a number of disclosure requirements with respect to

sensitive information that could affect their quoted shares. Provisions for disclosure of this

information are in place and are generally based on the principle that all critical information should

be available to all market participants at the same time. Investors find that this requirement is

reasonably well fulfilled in France as it is in most European markets, provided that you have a

subscription on the services of information integrators such as Reuters or Bloomberg. (source:

interview investors/asset management firms).

Trading halts occur sometimes, on demand of the regulator. They are more concerned about risk

than previously, making the frequency of such events increase. Still these events can be

considered as relatively rare. More frequently occurring are the trading freezes, which are technical

‘trading halts’ to mitigate the effects of high frequency trading. (source: interview NYSE Euronext).


On the subject of financial reporting, the time period in which financial reports have to be delivered

is also slightly different, and depends on the listing market. Semi-annual financial statements are

due two months after closing of the period on the Euronext exchange. This is a regulation that is

imposed and monitored by the AMF, the French financial market regulatory body. Given the

revision of the Transparency directive at European level, however, it can already be anticipated that

starting in 2015 the time window will be brought to 3 months instead of the current 2 months. This is

seen as a positive evolution in France as it allows taking the time to establish an informative report,

rather than having to rush to draw up a report before a tight deadline. There are no regulatory

provisions imposed by the AMF on Alternext, but NYSE Euronext imposes a time frame of 4

months for publishing semi-annual reports. For the annual report, the time window is 4 months after

closing of the period both for the regulated Euronext markets and for Alternext. The difference here

is that there is no requirement to establish reports according to IFRS accounting principles on

Alternext. (Source: interview AMF; Euronext, 2013).

With respect to disclosure of private information that can have an effect on the share price or

information about market transactions of company directions, the regulatory provisions of Euronext

and Alternext market are the same. The European Market Abuse directive is applicable to both

stock markets. (Source: interview AMF).


It is clear that access to management is a critical parameter in SME asset managers’ investment

decisions. The SME market is much more a people business than the large cap market. The human

element is more important than in the large cap market, because management is a critical driver for

the performance of a company. In the large cap market, in contrast, investments are more often

based on numbers, statistical/economic models and macro-economic indicators. This means that

personal meetings with managers are of critical importance for investment decisions. In addition,

own in-house research also has an important role in deciding on investment decisions. This is more

important than external research, because investors are always a little cautious about it. One

cannot always entirely rely on its quality, nor its independence, as research is sometimes financed

by brokers who are also accompanying the IPO process or by the emitting company itself. (Source:

interviews asset management firms)

Table A5.4 Importance of different types of research/information for investors (Numbers indicate

weights with total equal to 100

Your own in-house research (please put 0 if you

do not have any in-house function)

23

The presence of other research in the market

(other than your own)

5

The Company Accounts 11

A Company website 5

The Shareholder register 5

Access to management (inc site visits where

relevant)

38

On-going company disclosures 8


feeds)

5

Total 100

Source: interview investors.



in the market

Financial analysts who are specialized in the SME market also put a lot of weight on management

access as an input for their recommendations. It is logical that they use similar types of information

for recommending a certain share than investors do when taking investment decisions. They also

stress the fact that the SME market is mostly a people business and that management is of critical

importance for the performance of a company. Furthermore, analysts look at company accounts,

they also check the company website and a small presentation of company activities (if available) is

always very helpful. The shareholder register is not a very important component of their analysis

but can provide some background information on the share. It is mostly important to determine free

float and the possibility of a hostile takeover through the market. The current bid and offer price for

the share is unimportant, but can be used in the end as a benchmark to assess the outcome of the

analysis and to decide whether the stock is currently cheap or expensive. (Source: interviews

financial analysts).

Table A5.5 Importance of information to research providers (Numbers indicate weights with total equal

to 100,)

The presence of other research in the market

(accessible to you)

0

The Company Accounts 30

A Company website 14

The Shareholder register 9

Access to management 34

Site Visits where relevant 5

On-going company disclosures 5

The bid and offer price (market data feeds) 3

Total 100

Source: interviews financial analysts.

Payments for financial analysis depend a lot on the type of business model of the financial analysts.

There are the in-house analysts that assist asset managers with investment decisions. It also occur

that asset managers like to do the research themselves. This is especially the case with asset

managers active in the SME market. On the other hand, there is also financial analysis at the

broker side, but this is increasingly getting under pressure given the thinness of the SME market in

Paris which renders SME analysis unprofitable. Independent financial analysis is a difficult business

model in France because the culture of French asset managers is such that they do not like to pay

for financial analysis. Moreover, the difficulty brokers have to monetize their research puts

additional downward pressure on the prices. Independent analysts can thus form an alliance with

asset managers to provide them with tailor-made research. They can also opt for a hybrid business

model combining research on listed companies with other types of corporate finance consultancy

assignments. Finally, there is also a small market of financial analysts who conduct research on

small SMEs and who are paid by the SMEs with the aim to increase their exposure in the

financial/investment community. (Source: interviews financial analysts and CDC).

A5.7 Number of SMEs covered by research in Paris

The detailed information on the number of analysts covering the different firms, according to market

capitalization, does not seem to be publicly available. It could be requested from Bloomberg or

another financial information platform.


Table A5.6 the number of firms that are listed on the financial market in Paris according to market

capitalization, the information on the number of analysts that cover them is not publicly available


Own research and corporate access to the management of the SME are the most important

sources of information for asset managers active on the SME market. Besides this, independent

research paid for by the investment company itself is probably the most reliable piece of external

information, even though it is not very common to buy research from external sources. The reason

for this is that there are no incentive biases to be overly optimistic when the asset managers pay for

the research. The only incentive is to provide a good piece of analytical work. For broker research,

in contrast, this is not always the case as brokers get paid a commission of the successful

placement in case of an IPO, for example, and therefore may be biased to make an overly

optimistic report. Also, independent research paid for by the issuing company itself is somewhat

suspicious as it is unlikely that the analysts will be very negative about a company paying for the

report. On the other hand, one also has to take into account the motivation of the issuing company

paying for a research report; it is quite likely that they want to use a report to showcase good news.

Therefore, the act of paying for a research report in itself could already be seen as a signal that this

company has positive prospects for the future. As shown in Table 7, the importance of different

types of research for investors does not depend on whether other research is available or not.

External research will only be used as interesting complementary information, but will not affect the

necessity for doing own research before investing in a certain stock. (Source: interviews investors,

interviews financial analysts)

Table A5.7 Importance of research type to investors/asset managers (Number indicate importance with

higher number = higher importance

When there is no other research available/when

other research is available

Independent Research paid for by the issuing

company 2

Independent research paid for by another 3rd

party entity (i.e. the exchange) 4

Independent Research when it is paid for by you 7

Broker research 4

Your own research 10

Other types of research – Corporate access! 10

Total Investment in SME research

Source: interviews investors.

The number of firms that provide services to asset managers is highly dependent on the size of the

asset management firm. In general, brokers are the most important business service providers in

the SME market as they can provide a number of important services besides the research in itself,

most importantly corporate access. This is a highly valuable service for investors active on the SME

market. Currently, corporate access is paid for as another business information service, but in the

UK there are plans to prohibit payments for corporate access which is perceived by SME investors

Market Cap of Company

Number of Analysts

Alternext

<$50m

Euronext C

<€150m €150m to €1b >€1b Total Number of Companies

Total 182 277 133 130 722


as problematic. In France, there are no plans or discussions going to regulate payments for

corporate access. Most SME investors still pay for BIS using direct broker commissions that jointly

include a part for execution and a part for research. The option to unbundle broker commissions

has had relatively little to no effects on the French market up to now and independent research

providers remain a very small and weak group in Paris. (Source: interviews investors).

A5.9 Description of the Lagarde initiative – disposition of the “Conseil de

l’analyse financiere”

We have focused our attention on one particular policy initiative that was taken by Ms. Lagarde in

the context of “Le conseil d’analyse financière”. This was an initiative that followed from a number

of meetings between a number of stakeholders of the financial market for small and mid-caps. At

these meetings, the following actors were represented (Source: Gabai, 2011):

AMF, financial regulator;

NYSE Euronext, exchange platform;

SFAF, Financial analyst association;

ID Midcaps, an important financial analysis and services company;

AFG, Association representing investors and asset managers;

AFIC, Association representing private equity investors;

AMAFI, Association representing the interests of financial market participants;

Middlenext, Association representing listed small and mid-cap companies;

CDC, an important investor in French SMEs;

OSEO, a direct investor in French SMEs;

DG TPE, Direction Générale du Trésor – French Ministry of Economics and Finance.

This group started from the observation that the financial market for SMEs was small and shrinking.

The objective was put forward to promote financial analysis as a tool for investors to better get to

know SMEs as an interesting investment opportunity. After all, the low valuation of SMEs entails

that they can provide interesting investment opportunities for investment fund managers. The idea

was to break the vicious circle of low liquidity – low interest in the market – low demand for financial

analysis – low level of analysis – low interest and liquidity. By promoting financial analysis, the aim

was to start a new positive dynamic that would boost investment, lead to associated higher liquidity

and boost investment again. (Source: Gabai, 2011; interview Observatoire).

The mechanism was to bring together the four major financial market parties: investors, the

exchange, analysts and emitters (SMEs). The cost of a financial analysis was established at

€20,000 per analysis. Each of the four parties would bear an equitable share of €5000 of this cost:

the analysts would conduct an analysis at €15000, which represented a rebate over the ‘normal

cost’ of such an analysis of €5000. The 3 other participants were found willing to pay €5000 of the

remaining €15000 cost. Asset managers were incentivized to participate by promising a period of

15 days exclusivity for the analysis that they financed. The exchange was willing to pay €5000 for

each analysis conducted as well as the emitters who could benefit from a relatively cheap way to

increase their visibility through a financial analysis. In total, the budget amounted to €600,000 with

each of the 3 financing partners being prepared to pitch in €150,000 allowing a total of 30 analyses.

(Source: interviews Observatoire, NYSE Euronext, financial analysts, CDC).

The eligibility of the SMEs for a financial analysis was a compromise between the demands

formulated by the different actors. The analysts did not want to lose the little coverage they had on

the SMEs that were already being analysed. The exchange and the asset managers demanded a

minimum market capitalization and liquidity of the SMEs covered in order for the initiative to be


interesting. Therefore, the following conditions were established for SMEs to be shortlisted (Source:

interview Observatoire):

Not having benefited from any financial analysis in the last 18 months;

Non-negligible market capitalization: at least €30-50 million market cap (depending on the

market);

Non-negligible liquidity with at least €5000-€10,000 market volume per day (depending on the

market);

Finally, it was also decided that this initiative should only concern French SMEs.

This led to a list of around 60 SMEs eligible for financial analysis that could be interesting from the

point of view of asset managers and who did not benefit from any financial analysis in the past 1,5

years (from a total pool of +/- 540 SMEs). A trial period of 2 years was established for this initiative

after which it would be evaluated and modified/continued/aborted depending on its success.

(Source: interview Observatoire).

The Lagarde-initiative ran for about two and a half years in the period 2009-2012. It was first

thought that this initiative would take up by itself given that the rationale for analyses and the

interest in it seemed clear. An announcement letter from the minister, however, did not turn out to

be sufficient as only 2 analyses were conducted during the first 18 months of the initiative.

Therefore, the analysts were incited to take up a more active role. They were matched with a

number of eligible SMEs by their sectoral field of specialization and were allowed to approach the

SMEs directly for conducting a financial analysis. This lead to a moderate success as 11 additional

SMEs were analysed in the next 6 months of the initiative’s lifetime. Currently, the initiative is still

formally active but has seemed to die out as no more activity was recorded. Demand and interest

from both the emitters’ side and the asset managers’ side is not very high. NYSE Euronext still has

a budget available for a number of additional analyses to be conducted. (Source: interview

Observatoire, NYSE Euronext).

In total 13 analyses have been conducted on a total pool of 60 eligible SMEs. This can be

evaluated as a moderate success or a moderate failure, depending on the point of view. Currently,

the initiative seems to have gone out due to limited interest by asset managers and SMEs. For

evaluating this initiative, however, one also has to take the difficult market conditions in the period

of the initiative (2010-2012) into account. When the emitters have no good knows to tell, or strong

results or growth prospects to forecast, it is unlikely that they will be big demanders of financial

analyses. Therefore, it is clear that the general economic growth prospects also have a strong

effect on the demand for business information. The dynamism of the financial market and the

demand for business information are caused by the growth prospects of the market, rather than the

other way around. In any case, it is clear that financial information in itself is not a sufficient

condition for a strong growth in the SME market. Moreover, it turns out that financial information is

not always desirable, even for listed SMEs, in particular when growth and performance are rather

low. Thus, this initiative has not been sufficient to make asset managers come back to the SME

market, and the market for SME financial analysis has remained equally small and tight. (Source:

interviews Observatoire, NYSE Euronext, AMF, financial analysts).

All the information on the SMEs covered by an analysis in the context of this initiative and related

analyses of the SME market in Paris is available on the following webpage: www.pme-bourse.fr.

http://www.pme-bourse.fr/



The Rameix & Giami report (2011) explains that financing access is currently not a big constraint on

SME growth in France. The vast majority of SMEs cover their financing needs using bank loans on

the debt side, whereas the shareholder equity side can be reinforced by setting up reserves of

positive earnings, by raising funds from people close to them and by turning to venture and growth

capital. This led to a respectable financial basis for French SMEs in 2011, in spite of the financial

crisis (Rameix & Giami, 2011). However, this quite positive current situation should not be taken as

a guarantee for a smooth financing access in the coming years. Basel III regulatory requirements

are expected to put a significant drag on bank lending, which is a very important financing source

for French SMEs. The withdrawal of the insurance companies from the equity market and from the

SME equity market in particular, following Solvency II, has shown the extent of the effects that

these regulatory provisions can entail.

Therefore, it is imperative to already explore and develop new ways of financing and new eco-

systems to prevent that lack of finance could put a drag on SME/economic growth in the near

future. A relatively new financial instrument, the IBO (issuing of bonds on the public market) for mid-

caps/small caps, could be a first hint at how the financial market could cover these financial needs.

However, these new instruments give rise to new needs, such as, for example, specialized small &

mid-cap rating agencies (Rameix & Giami, 2011). It was also stressed previously that private equity

and the financial markets should be seen as complementary to each other in a way, rather than as

substitutes. This gives additional weight to a smoothly functioning public financial market in

establishing a financial flow towards SMEs.

During the interviews that we conducted, recommendations were made to keep looking for a market

based mechanism (avoid regulatory interventions or direct subsidies) to enhance coverage of

SMEs in terms of financial analysis and to make the listed SME market more dynamic. Solutions

could be sought in the direction of involving large exchange platforms (such as NYSE Euronext,

Deutsche Börse, etc.) in an initiative and call upon their societal role in order to stimulate the SME

market, as happens already today. Furthermore, promoting the establishment of well-known

platforms for sharing research reports on SMEs could also be promising as it could increase

exposure of both the SME market and financial analysts to the investment community. (Source:

Observatoire, CDC).

Concerning the case study on the specific policy initiative that we conducted, the main conclusion is

that business information/financial analysis in itself is not sufficient to secure interest in the financial

SME market. Strong fundamentals and growth prospects are a better tool to stimulate interest and

would likely lead to higher interest in financial analysis as a consequence of it. A number of specific

measures could, however, be envisioned to stimulate the dynamism of the quoted SME market.

Lowering administrative requirements for SMEs is certainly a viable candidate as is demonstrated

by the relative success of the Alternext exchange in comparison to the Euronext markets which are

more heavily regulated. In addition to this, Rameix & Giami (2011) propose in their report a number

of measures that could be taken:

Increasing the involvement of SME and mid-caps representation bodies within the panel of the

regulatory body and other stakeholder meetings;

Consider de-listing provisions as quoting on the public market should not be perceived as a

‘one-way ticket’;

Consider tax-incentives for stimulating investment in particular funds that are dedicated to SME

investments;


Develop dedicated investment vehicles that can cope with investments in relatively illiquid

market (such as closed funds or funds with a periodic and anticipated liquidity window, similar to

venture capital funds);

Stimulating the exchange (NYSE Euronext in this case) to strengthen its commercial effort to

attract SMEs or to revise its fee structure in a more beneficial way towards SMEs;

Open up the regulated exchange platform market to competition, which could come from

exchanges active in other European countries, but keep an eye on fragmentation of liquidity.

Another measure, which could be taken at the European level, is the broadening and harmonization

of the definition of SMEs on the stock market (i.e. small caps). In France, this is generally assumed

to embody the Alternext, Euronext – comp C and Euronext – comp B market, entailing that it

consists of all firms with market capitalization below €1 billion. However, at the level of the

European Commission, there is no harmonized definition for listed SMEs or small caps. In France,

the sentiment among all financial market participants that have a concern for listed SMEs is that the

implicit threshold used for European initiatives is quite low. Harmonization of this threshold would

probably be a good evolution for the EU internal market, because it would also lead to a more

harmonized application of ‘SME financing’ policy measures.


Interviews:

AMF (Financial Markets Authority) – the independent body that is responsible for safeguarding

investments in financial instruments and in all other savings and investment as well as

maintaining orderly financial markets;

NYSE Euronext (Paris) – the financial services corporation that operates multiple securities

exchanges, among which the exchange platform in Paris;

ID Midcaps – a company that provides expert advice and tailored services to professional

customers (asset management companies, brokers, private equity, etc.). Its specialization is the

small and mid-cap market in Paris;

NG Finance – a financial consultancy firm focused on small and mid-cap market in France

(listed and non-listed firms) with a specialization in corporate finance, financial services and

financial analysis;

Greensome Finance – A firm specialized in independent financial analysis with a focus on listed

small cap market;

Otus Capital – A hedge fund specialized in small and mid-cap investments in continental

Europe;

Caisse des Dépôts et Consignations (CDC) – A large institutional investor and one of the main

investors in the listed SME market in France;

“L’observatoire pour le financement des entreprises par la bourse” - Observatory for enterprise

finance through the financial market (www.pme-bourse.fr). A research and policy advice

institute;

Dr. Karine Gabai – Author of a PhD thesis on ‘Financial analysis in French law in the presence

of European and Anglo-Saxon law’.

Other sources consulted:

NYSE Euronext (2013). Overview of the domestic market: Q1 – 2013;

NYSE Euronext (2013). Alternext report: Quarterly review Q1 – 2013;

Giami T. (2012). Rapport annuel 2011 de l’observatoire du financement des entreprises par le

marché;


Rameix T. & Giami T. (2011). Report on the financing of SME and mid-caps by the financial

market;

Comité d’orientation stratégique PME-ETI de NYSE Euronext (2012). Pour la création de la «

bourse de l’entreprise »;

Gabai K. (2011). Place financière: L’analyse financière indépendante sur le marché français.

Banque Stratégie N° 291;

Gabai K. (2008). PhD thesis: L’analyse financière en droit français à la lumière du droit

européen et des droits anglais et nord-américain. Université Pantheon – Sorbonne (Paris 1).

Diffusion ANRT.


Annex 6: Case study Sweden


In this case study, we analyse the performance of the market for business information in the

northern part of Europe (Denmark, Finland, Norway and Sweden) with a special focus on Sweden.

Sweden is an interesting case as business information providers that are paid by the listed

companies themselves seem to be quite successful here. In particular we focus on the market

performance of business information providers regarding small and midcaps that are listed on

NASDAQ OMX Stockholm and the growth market First North, and on the Swedish policies that are

related to this. We zoom in on a successful and commercially viable business information provider

from Stockholm whereby the listed companies are paying for the research.

The Swedish regulated market we have looked at is NASDAQ OMX Nordic. Besides this main

market where small caps are listed, there is a growth market for small companies: First North. First

North is a MTF where listed companies are supported by Certified Advisers, that can be corporate

finance firms, accounting firms, or investment banks. These Certified Advisers help the companies

in the listing process and to abide by the rules and regulations. Although the concept of Certified

Advisers is useful, conflicts of interest also arise.

In Sweden retail investors are the dominant investors in listed small and mid caps. This is due to a

long Swedish heritage where people are incentivised by the tax and pension system to invest in

equity. Therefore, in Sweden the man in the street prefers equity instead of bonds.

In Stockholm there have been very few IPOs on the market during the last years. Large caps are

traded on more stock exchanges, which lead to more liquidity in these stocks, which decreases the

availability of capital for listed SMEs. There is considerable cross border investment in the four

Scandinavian countries in which NASDAQ OMX Nordic operates (Sweden, Denmark, Finland,

Iceland). The cost of cross border clearing and settlement do not seem to cause deterrents.

Every news item that can influence the share price has to be immediately disclosed, both on the

main market and on First North. However, trading is only halted when there is a take over of a

company. In Sweden the shareholder register is more publicly accessible than in other countries.

Major shareholdings are published on the websites of the listed companies. However, this is not

obligatory on First North. The Market Abuse Directive does also not fully apply to First North as this

is an MTF. All interviewees were in favour of unbundling legislation although one institutional

investor we spoke with foresaw some implementation issues at the beginning.

In Sweden the demand for business information services regarding listed small and midcaps is

mainly from retail investors. The institutional investors have their own research departments, or

make use of the services of brokers or large investment banks. The latter agents mainly are

engaged with preparing and advising on the IPOs when new money goes into the system; they

don’t make money on the existing shares. Institutional investors are really interested in contact with

the company (site visits, lunch presentations, etc.) because the business model of small companies

is not known by them. Research reports and the shareholder register are important as well.

In Sweden there are many competitors in the market of business information services. On the one

hand, the brokers and the investment banks in Sweden provide the traditional soft services to


institutional investors; on the other hand, there exist many suppliers of research for retail investors

in the form of magazines and portals. Even so, there is still a very low coverage of equity research

on listed SMEs. The equity research results provided to retail investors is mainly in Swedish, which

is an obstacle for foreign investors. However, these investors are often only interested in Swedish

blue chips anyway.

For this case study we interviewed three asset managers, one stock market, two research bureaus

/ brokers and one certified adviser. The interviewees provided us with a number of

recommendations:

Too much regulation puts a large administrative burden on listed SMEs; there was a plea to

make the regulations simpler but keep the frequency of reporting. Every three months a new

research report should be provided as research reports older than three months are considered

outdated;

Another recommendation was to provide investors with tax incentives when investing in listed

SMEs. Investors should become interested in small caps first, and research coverage will follow

in turn;

An interesting advice from a business information provider we spoke with was to concentrate

the trading in SME stocks in a few hours per day or only a few days per week. This may help to

increase the liquidity in these stocks.

A6.2 Background

A6.2.1 The regulatory situation on the Swedish securities market

The Swedish securities market has a tradition of self-regulation. The corporate sector and other

stakeholders in the securities market formulate and decide upon its regulation. Thereby, the

technical expertise and practical experience that are present in the Swedish market are fully

utilised. Furthermore, this involvement of market participants is reflected in the composition of the

regulatory authorities. Recently some aspects of self-regulation had to be replaced by or expanded

to include European legislation. However, new ways to use self-regulation have been developed

within the European framework.

The regulatory status with regard to the provision of information is for the main market, NASDAQ

OMX, similar to all main stock markets in the EU that fall under MiFID, the Prospective Directive

and mandatory disclosure rules. However, First North is the growth market of NASDAQ OMX in

Sweden. As an MTF, First North is not a regulated market. A rulebook exists at First North, which is

made in consultation with investors and Certified Advisers.

The regulatory requirements on the one hand put high demands on the market and the publicly

traded companies; on the other hand, due to compliance the financial market will become more

transparent.

Although there is at present a discussion on unbundling in Sweden, no legislation is in place yet.

The traditional investment banks still have research departments that are cross subsidised from the

transaction commissions they receive from investors.

A6.2.2 General commentary on the market

The interviewees mentioned that in Sweden share holding is very popular among retail investors.

This is stimulated by government policy. Consequently, the share ownership by retail investors

drives liquidity in many stocks. Even at schools, the awareness of equity shares is raised among


youth. People can allocate their pension money by themselves. Therefore ordinary people invest in

shared funds. This equity ownership among retail investors is different from other countries in

Europe, where investors prefer to have bonds. There are two internet banks in Sweden, Avanza

and Nordnet, which provide cheap equity services and easy access for retail investors, provided

they have a deposit at these banks.

Trading in equity shares is constrained by regulations like Basel III and Solvency II. The first

regulation concerns the amount of higher-quality capital that banks in the EU must have to prevent

illiquidity during tough times and the second regulation deals with the amount of capital that

insurance companies must have to avoid insolvency. During the economic recession of 2008-2010

the trading of shares of small caps went down more than those of the large caps. Small caps tend

to be more volatile than large caps, particularly during an economic recession.

A6.2.3 Explanation of the market

Sweden has two regulated markets, being NASDAQ OMX Stockholm and NGM Equity. In this case

study we have focussed on NASDAQ OMX Stockholm, which is part of NASDAQ OMX Nordic. On

the main market of NASDAQ OMX Nordic, which includes Iceland, Denmark, Finland, and Sweden,

543 companies are listed at present. Figure A6.1 shows the distribution of the main market in

March 2013. The large caps are defined as companies with a market capitalisation higher than € 1

billion, mid caps are between € 150 million to € 1 billion and small caps are under € 150 million.

Figure A6.1 Distribution of the main market of NASDAQ OMX Nordic in March 2013

Source: NASDAQ OMX.

As Figure A6.1 shows, 124 small caps are listed on the main market in Stockholm. The growth

market First North operates parallel to the main market and within the same trading system, but

with less regulated listing requirements and ongoing disclosure rules. The number of companies at

First North is 131, with two more to come shortly. Companies with a market capitalisation in excess

of € 1 billion can be on First North, but due to the fee structure they are incentivised to go to the

main market. Approximately five companies per year move from First North to the main market. The

number of small and midcaps on the main market is considerably higher than on First North, which

may be because the advantages of First North only apply when companies are still young. Liquidity

on the main market may be another explanation.

22 26

59

4

28 38

67

7

110 55

124

0

50

100

150

200

250

Iceland Copenhagen Helsinki Stockholm

Num

ber

of

liste

d c

om

panie

s

Small Cap

Mid Cap

Large Cap


Figure A6.2 Distribution of market segments across sectors in March 2013

Source: NASDAQ OMX.

When looking at the sector distribution of the three market segments in Figure A6.2, we see that for

all segments it holds that the majority of the companies is in Industrials and Financials. There are

relatively many large caps in Oil and Gas and Basic Materials, while mid caps have high

percentages in Consumer goods and services compared to the other two size classes. Most

remarkable is the high share of small caps in Technology. Also for First North it holds that most of

the companies are in Industrials, Health care and Technology, which is thus comparable with the

distribution across sectors of small caps from the main market.

All companies that are listed on First North must have a contract with a Certified Adviser throughout

the period they remain listed. Certified Advisers can be corporate finance firms, accounting firms, or

investment banks. These advisers are approved by NASDAQ OMX. They support listed companies

with providing information to the market, financial reporting, compliance with regulations, etc. Small

caps may be able to obtain the services of a Certified Adviser at no charge. Large banks that want

to have an on-going relationship with small caps work as Certified Advisers for free, said one

interviewee. Normally however, a fee is paid by the listed company. Certified Advisers on average

get SEK 12,000- 20,000 (€ 1,300 - € 2,300) per company per month. When a listed company

moves to the main market, having a contract with a Certified Adviser is no longer mandatory. The

company has a choice to maintain its business relationship and pay for the advisory services, or to

stop the cooperation with the Certified Adviser.

The Certified Adviser ensures that the listed company complies with the rules and regulations of

First North. A weakness in this surveillance system with Certified Advisers is that many Certified

Advisers in principle have a conflict of interest. When an investment bank is a Certified Adviser, one

department of the bank is raising the money for the company while another department is trading

on behalf of investors. When a communication bureau is the Certified Adviser, they support with

writing financial reports for a company, while later this bureau has to review the report as a Certified

Adviser.

Regarding fragmentation of markets, the large caps from the main market are often traded on more

stock exchanges, which leads to more liquidity in these stocks. Therefore, more capital is drawn to

blue chips, leading to less capital allocated to small caps. One interviewee mentioned that the stock

0

5

10

15

20

25

30

% o

f to

tal n

um

ber

of

co

mpa

nie

s in t

he s

ize

ca

teg

ory

Large cap

Mid cap

Small cap


exchange in Sweden is not competitive as there are very few IPOs and companies go to private

equity companies because borrowed money is cheap and there are fewer compliance

requirements.

When looking at the proportions of the market that are held by retail and institutional investors,

according to NASDAQ OMX 55% of the main market is held by global investment banks. At First

North this share is only 19%, but the percentage is increasing. Currently the liquidity on First North

is driven by (domestic) retail investors, who have a long tradition in trading growth companies. In

one of the biggest small cap funds from the Nordics, the ratio retail – institutional is 85%: 15%.

During times of stable economic conditions, foreign investors are estimated to have one third of the

Swedish stock exchange. The foreign investors only look at liquid large caps to compensate for the

higher risk of investing abroad. One interviewee claimed that after the crisis, the share of foreign

shareholders had dropped to 15 percent.

The average free float at First North is 69%, with a range from 10-100%. Ten percent is the

minimum free float companies should have. On the main market, the minimum free float is 25%.

The listing fees for listed companies on the main market are in the range of SEK 190,000 to SEK

750,000 (about € 21,650 - € 85,460) per quarter. For First North, this is between SEK 50,000 and

SEK 200,000 (about € 5,700 - € 22,800) per annum. The exact fee within those ranges depends on

the market capitalisation of the listed company. The companies also pay an initial fee and

application fee.

Listings are an important source of revenue for the main market. NASDAQ OMX also offers other

services to listed companies related to Intelligence, Communications, Visibility, and Governance.

Investors pay NASDAQ OMX for investing and accessing data. NASDAQ OMX provides 15

minutes delayed data on their website; for real time data a subscription is necessary. The real time

data is sold as a bundle to the information aggregators. They offer a lot of benchmark indices,

which they also license out.


There are differences between the required information when listing a company on the main market

and on First North. Table A6.1shows some of the most important general requirements and

differences related to information disclosure. It is important to note here again that First North is an

MTF, meaning that it is not a regulated market for listing. NASDAQ OMX makes the rulebook

independently in consultation with Certified Advisers and investors. Furthermore, requirements

slightly differ across the four Nordic countries as NASDAQ OMX wants to let the requirements

match the local situation.


Table A6.1 Differences in conditions for listing for companies on the main market and First North

NASDAQ OMX Main Market First North

At listing

Prospectus A prospectus must be prepared,

published and approved by the relevant

authorities prior to listing.

Publication of a company description. A

prospectus is needed only when

securities are offered to the public.

Examination Legal examination. Examination by Certified Adviser.

Approval Listing approval by the Stock Exchange. Examination by Certified Adviser and

Admission approval by the Stock

Exchange.

Operating history Sufficient operating history, including

three annual accounts.

Not needed.

Documented

profitability

Demands on documented profitability or

sufficient financial resources.

Not needed.

Working capital Documented earnings capacity or

sufficient working capital for twelve

months.

Plans for financing the next twelve

months.

Shares At least 25% of the shares in the

company must be owned by the general

public and there should be at least 500

shareholders.

Sufficient number of shareholders and at

least 10% of shares in public hands, or

an assigned Liquidity Provider.

Market value Minimum market value of EUR 1 mln. No minimum market value.

Administration Demands regarding the administration of

the company.

Administration of the company

supported by the Certified Adviser.

Corporate Governance

Code

Compliance with Corporate Governance

Code.

Not needed.

Certified Adviser Not mandatory. Agreement with a Certified Adviser is

required at all times.

Ongoing requirements

Financial reporting IFRS Local GAAP

Interim reports Quarterly Semi annual

Language Swedish English / Swedish / Danish / Norwegian /

Icelandic / Finnish

Insider register Report to FSA Company website

Source: NASDAQ OMX (2013).

First North does not require a prospectus at listing, but a company description. This is a similar

document but less comprehensive. The prospectus or company description should, amongst other

things, include information on the financial resources that the company possesses to conduct its

activities in the first year after the first day of trading. If there is no documented earnings capacity,

the prospectus or company description should describe when the company expects to be profitable

and outline the plan to finance the company’s activities until the moment that the business becomes

profitable.


The disclosure rules are similar for both the main market and First North. This is to increase the

transparency and information about public companies to the markets. The listed company must

immediately publish decisions or changed circumstances that may have an influence on the price of


the share. The information must be accurate, relevant and trustworthy. Certified Advisers can help

the companies on First North with the disclosure rules.

For the distribution of information to the market, companies should abide by strict procedures. In

Norway there is an immediate trading halt when new information is disclosed. In Stockholm they

only do that when there is a takeover of a company.

Next to the information requirements that were mentioned in Table 1, First North has special

requirements for company’s information policy, which should include: a declaration on the timing of

company announcements, declaration of the timing of the publication of forecast adjustments,

procedures for dealing with rumours and information leaks, practical guidelines and routines for the

production of information (press releases, reports, press and analyst meetings, etc.), and

procedures for updating and publishing the information on the website. The websites should have a

special Investor Relations section where investors can find all information that has been disclosed

to the market and to the stock exchange for at least three years. Furthermore, the following

information should be reported on the websites:

Annual reports and interim reports;

Company prospectus;

Press releases;

Name of the Certified Adviser and its contact information;

List with insiders;

Details of the board of directors and the management, incl. senior management;

The Articles of Association.


Own research reports are most important for institutional investors, followed by meetings with

management, company’s website, the historical track record and quarterly reports. Site visits to the

companies are also a must. Investors want to see a main owner, and they want to hear that person

explain the business model. This can also be done during lunch meetings that are organised by

brokers or investment banks. This seems to happen quite often in Stockholm and it is experienced

as very useful. Investors moreover listen to company’s webcasts and ask companies questions

online. In general all these sources of information are seen as complementary.

Fund managers use external equity research reports, but this can be just as background

information. After reading an external research report, the fund manager can still have another

opinion (buy, sell, hold).

The demand for business information regarding listed small caps from institutional investors is

determined by their interest in small caps:

Institutional investors are often not interested in companies from First North because these

companies tend to be small and illiquid. Normally there is no research coverage for companies

at First North, so the fund managers have to do the research by themselves. Next, it takes often

1-2 weeks to sell small caps shares. Furthermore, investors are also not allowed to have more

than 10% of the shares of a company. There are restrictions for institutional investors with

respect to trading on MTFs (like First North) due to regulations like Basel III and Solvency II.

Due to these reasons, it is not worthwhile to invest in these small cap companies for institutional

investors;


Swedish pension funds are allowed to invest in small caps, although they have the major part

invested in large caps. 85% of the benchmark of the stock market is determined by large caps.

Pension funds follow this benchmark, so the major part of their investments is in large caps;

On the other hand, some fund managers are interested because when investing in small and

midcaps, investors face a higher risk but this offers potentially higher returns on investments.

The problem with business models of business information providers where retail investors have to

pay is that retail investors often do not want to pay as the information becomes quickly outdated,

and the quality is not always perfect. Furthermore, investors have become disappointed in equity

investment because shares have been so volatile due to macro-economic factors. Nowadays,

investors pay more attention to asset allocation strategies (incl. bonds, commodities, gold, etc.)

than individual company research.


in the market

According to the interviewees, especially for small companies, financial marketing and

presentations of the businesses are important to attract investors in an early phase. Research

coverage will follow when investors get interested.

For equity researchers, research reports of other information providers are seen like commodities.

As these reports circulate in digital versions, the information providers can’t make a profit from their

own research. For retail investors these research reports are harder to come by. There are some

portals for retail investors at Avanza and Nordnet. In addition, there are the traditional investment

banks with their own research analysts.

The shareholder register is available at the listed companies and at Euroclear, which keeps the

public register. Companies can authorise the Certified Advisers to access their shareholder register.

Information providers can also access the shareholder register to inform investors about changes in

an individual company. One has to pay for access to the shareholder register, however major

shareholdings are published on the website of a listed company. Although, the names of foreign

shareholders are not given.

A6.7 The number of SMEs covered by research in the market concerned

There is very little research coverage for listed companies at First North. NASDAQ OMX estimates

a research coverage of ten percent of the listed companies from First North; some of them are also

listed on the main market in Stockholm.

As said earlier, this low research coverage is mainly caused by the low interest of institutional

investors. Interviewees think that investors will not become more interested once there is more

research available, but that this low interest is more related to liquidity etc.

Because of the low research coverage, it is generally accepted that companies pay analysts to

write a research report. One may wonder if there are any conflicts of interest, but it is perceived that

companies should start somewhere to get research coverage when their company is not picked up

by business information providers in an early stage of listing.



In Sweden, retail investors do make use of independent research paid for by the issuing company

as long as the independent research bureau has a good reputation. Institutional investors have their

own research department and they make use of research of investment banks for which they pay

by transaction commissions. All interviewees, apart from the exchange, which we did not ask, were

in favour of unbundling as this would stimulate independent equity researchers. Independent

research paid for and subsidised by the exchange would not be a good idea as it would increase

the listing fees and the trading tax.

A6.9 Description of a Swedish independent and innovative equity research

bureau

We will now focus on one business information provider which appears to be successful while its

services are mainly paid by the listed companies.

This Swedish successful equity research bureau has 60 companies as clients. 99% of the investors

that use its analyses are retail investors. This equity research bureau works with the board of

companies that are mainly engaged in technology and life science sectors, which are seen by the

bureau as having global potential. Half of the companies on which the bureau does equity research

have a market capitalisation of below 1 billion USD. The equity research bureau has built up a lot of

sector know-how and they have knowledge about the stock market and investor relations. They

advise companies and find the right investors for them, and research is a tool for this.

To decide whether the bureau wants to cover the company, they check the sector in which the

company is active, the ownership, the management, the business model, the uniqueness of the

product the company offers and the potential gains of the next three years.

The equity research bureau works on two objectives together with the listed company:

1. The share holder base;

2. The financial trade mark.

Advisory services is a main activity of the bureau. If a small company does not have long term

investors, they are not able to have a sustainable business. Together with the company, the equity

bureau finds out the long term objectives of the company, as the small companies themselves often

do not have many resources available to think about this. The companies pay for reaching the two

objectives mentioned above, and business information provision to investors is a tool to meet the

objectives.

A lot of the business information provision services from the bureau are offered on their website. On

this website, 20,000 investors are active (of which 99% is retail). The website consists of many

different information channels for investors. For example, there have a media channel and

company blogs. Many services are for free (but investors “pay” by filling out surveys etc.). Some

packages can be bought separately, like the sector portfolios. Investors can also choose to get

investment cases by SMS or email (when to buy, when to sell). Investors have to be registered on

the online platform. The traffic on the website can be analysed to find out which investors are

interested in certain companies.


When listed companies ask a business information provider to write an equity research report, there

is generally a conflict of interest. This bureau says they are independent because of the following

arguments. A rating model is used to assess a company. The model rates the management

structure, ownership, the growth position, financial health, profitability, etc. If a company is not a

good company for investors to invest in, this company will just get a bad rating. If investors invest in

the top pick list that appears from the current rating model, then these investments beat the

average market return by 10% per year. According to the equity research bureau this is just

because the companies they cover have global potential.

The equity research bureau started in 2003 financed by retained earnings. The company is now

well known in Scandinavia and has a return on equity of 90%. Furthermore, in the focus sectors,

the bureau has a market penetration of about 70 percent. So it can be concluded that it is a

successful company.

The equity research bureau is very creative and fast. Their overhead and fees are much more

competitive than from the traditional and conservative investment banks and brokers. The bureau is

a heavy user of interactive information platforms, including a crowd funding platform for small caps

that will be launched by the end of 2013. The equity research bureau will add own ratings and

research to its platforms. Their business model is commercially viable.

It is not known how many of these equity research bureaus exactly exist in Sweden. However, other

interviewees confirmed that the bureau described above is quite innovative with their online

information platform for small companies and retail investors. This suggests that there are not many

other bureaus in Sweden with a comparable business model.


The research coverage for listed small and midcaps is very low in Sweden. This is mainly caused

by low interest in small caps from institutional investors. The case study in Sweden has taught us

that independent research paid by listed companies can be a commercially viable option. Also the

equity research bureau, which we looked at in more depth had an excellent reputation in Sweden. It

is perceived that small companies need these kind of services (combination of advisory services

and equity research) in order to get their first research coverage.

This business model can be replicated in countries that have large segments of retail investors.

With a transparent model that rates companies an equity research bureau can be considered

objective and reliable by investors.

The interviewees provided us with the following recommendations:

Equity financing is no longer the most obvious option to obtain new funds, especially for small

caps. Private equity funds are increasingly used by listed companies as it is relatively cheap

without the drawback of regulatory compliance. Investors pay also more attention to asset

location strategies. Hence, equity financing should be made more attractive for investors;

If investors get tax incentives for investing in listed SMEs, there will be more investments, which

will attract more researchers in turn. Tax incentives are the reason that there are so many retail

investors in Sweden;

Unbundling will stimulate independent equity researchers. There are large amounts of

commissions paid by the institutional investors. This money will then come available for

independent equity analysts;


The current accounting and reporting standards are problematic for listed SMEs. Interviewees

advised to make the reporting standards simpler. Many listed SMEs find quarterly reporting an

administrative burden. However, if you are a public company you need to be transparent and

give the investors something in return for their investment. Often these small companies have

little resources to do this. However, the material is already there (from reports to the bank and

board of directors). Furthermore, companies do not have to make it look fancy, e.g. with

pictures, graphs, figures, etc.;

It was also advised to concentrate the trading in SME stocks in a few hours a day or only a few

days per week. This will help to concentrate liquidity for small caps;

Regulation on language of business information would not be a good idea, because translation

is expensive and time consuming. This is not needed for smaller Swedish companies who only

attract Swedish investors anyway;

If the stock exchange would require research reports, this would increase the administrative

burden for SMEs, which are already busy with surviving. If the stock exchange would be

subsidising the research coverage, they will increase the listing fees and the trading tax so this

is also not the way to go;

Now there is a restriction on trading in MTFs for institutional investors. This comes from

regulations like Solvency II which prevents investors from taking too many risks. However,

many growth markets on which small caps are traded are MTFs. So restrictions on trading in

MTFs do not help increased equity investment in small caps.


Interviews:

Three asset managers;

Three officials of Nasdaq OMX Stockholm;

Two business information providers / brokers;

One Certified Adviser.

Literature:

Guide to Listing on NASDAQ OMX First North (2012);

http://www.nasdaqomx.com/listing/europe/primarylisting/differencesinadmissioncriteria/

Accessed on June 27, 2013;

Self-regulation in the Swedish securities market. Brochure, available at

www.godsedpavpmarknaden.se;

NASDAQ OMX Nordic / Main market companies / March 2013 [presentation];

Listing Opportunities NASDAQ OMX [presentation].

http://www.nasdaqomx.com/listing/europe/primarylisting/differencesinadmissioncriteria/

http://www.godsedpavpmarknaden.se/


Annex 7: Case study Warsaw


This executive summary presents key observations and recommendations of the Warsaw Stock

Exchange (WSE) case study.

WSE is a listed company

WSE is a publicly listed company, thus financially responsible to its shareholders, with the decision

making largely determined by the state, while the state (Treasury) owns only 33% of its shares.

WSE experiences a larger pressure compared to stock exchanges with a majority ownership of the

public sector (government), as the equity investors have a shorter-term view on return on the equity

investments than other type of investors.

WSE a regional hub

WSE is a becoming a regional hub for companies from Central and Eastern Europe (CEE) (Czech

Republic and Hungary) but also Ukraine, Belarus and Russia.

The main versus alternative ‘NewConnect’ market

WSE runs, next to the main market for large, mid- and small-caps also an alternatives market for

small caps. The alternative market could be described as a kinder-garden for companies to grow up

and graduate to the main market. Small caps learn there to present themselves to the market and

potential investors, to search for and develop relations with investors, to develop their track record,

etc.

Mid-cap should have a capitalisation of at least €100 million in the main market. A small company in

the main market needs to have a capitalisation of €15 million. A threshold for moving from the main

to the alternative market is €12.5 million.

Authorised advisor requirement for a NewConnect company

Small caps in the alternative market are providing business information to the market by

themselves, with a help of Authorised Advisors (AAs), which is similar to the NOMAD model.

A small cap has to hire and pay an AA during the first three years of its listing and a market maker

(a broker house) for the first year of its listing. The AA assists the small cap with listing, disclosures

and updating needed information.

Importance of investment relations

Investment relations (IR) play an important role, as they contribute largely to determining

attractiveness and liquidity of companies. IR include regular meetings of company management

with investors aiming at building and maintaining the trust. As most small caps in the NewConnect

are not covered by research, IR is crucial for them. There is a growing IR industry, with some 4-6

companies established currently in Poland.

WSE offers its client companies IR services through the firm ‘Info Engine’, fully owned by WSE. The

use of the IR services is voluntary and companies using them are charged a fee.


Cooperation and connectivity on the Polish market

The Polish market is relatively small, compared to the UK or Germany. This implies that after 2-3

years of being active on it, various players know each other personally and rely on information and

analysis gained from relationships. Many interviewees stated that ‘Word and trust are more

important than a paper’, deals are made by phone and involved parties keep their word, otherwise

they will lose their credibility and damage their business.

There is a cooperation and exchange of information between the venture capital market and the

NewConnect market players. For instance, when a small enterprise is exiting the NewConnect/

WSE, there are possibilities for its financing through the venture capital.

The following recommendations were proposed by the interviewees:

Improve IR, now voluntary for small caps. Introduce compulsory training courses that will teach

small caps in NewConnect market about the importance of good IR, how to establish and

maintain them;

More disclosure about small caps, as it is minimal now (in-house regulated by WSE).

(Comment: This is being changed in the direction of requirements for the main market);

Better selection of the Authorised Advisors (Comment: This is currently being dealt with by the

WSE);

Standardise the available information and data on SMEs (i.e. reports). Present data available

from WSE, Eurostat and the Polish National Statistical Office in a more user friendly way. It

takes quite a time to find the right information;

Introduce improvement measures for the market as a whole, SMEs form a very small share of

the market but they will benefit from them too.

A7.2 Background

WSE one of the biggest securities exchanges in CEE

The WSE activities in its present form started on the 16th

of April 1991. Since then the WSE has

been developing and growing rapidly and became one of the biggest securities exchanges in

Central and Eastern Europe. An additional market called NewConnect was introduced on August

30, 2007. In September 2008 the stock exchange was recognized as an "Advanced Emerging"

exchange by the Financial Times Stock Exchange (FTSE).

The WSE is a joint stock company founded by the State Treasury. The Treasury holds 33% share

in capital. As a publicly listed company, the WSE is financially responsible to its shareholders, with

the decision making largely determined by the state.

The regulatory situation

Poland has a well regulated securities market from the beginning of WSE functioning, with no major

scandals. This created trust in the market crucial for its proper functioning.

The legal framework for exchange operations is provided by three acts from the 29th

of July 2005:

Act on Public Offering, Conditions Governing the Introduction of Financial Instruments to

Organised Trading, and Public Companies;

Act on Trading in Financial Instruments;

Act on Capital Market Supervision.


Several interviewed pointed to a fast adaptability of the regulatory environment to changing/new

conditions of the market, with an example of the NewConnect regulations that have been adjusted

two times in the last half year in order to accommodate changing market conditions.

Provision of information on the main market is governed by the European regulations. The provision

of information on the NewConnect market is regulated by in-house rules of the WSE, which are

close to the European regulations. According to the majority of the interviewees, regulations

regarding the provision of information as well as the provision of information are not an issue at the

WSE.

There is no discussion on unbundling in Poland. Payments for provision of equity research and

related services are bundled. Large investment banks active in Poland, such as UniCredit, have

their in-house research department with a number of analysts who do research and provide advice

to investors on followed companies.

The market – general commentary

Equity holding is popular in Poland. Polish people are known for their entrepreneurial and risk-

taking attitude, which was mentioned by all interviewed. Poland has had a strong Jewish

community that played an important role in this respect.

Most frequently cited development and factors that have contributed to the creation of the market

are:

Pension reform that resulted in the establishment of 14 pension funds investing in total 300

billons of Zloty. In addition, 12 billions Zloty of new money is coming through pensions annually.

However, this amount is declining as a result of the global economic crises and a declining

share (percentage) for pension contribution from salaries of employees (this share was 7%

some five years ago, while it is only 2.7% now, and is expected to decrease even more). The

expected reform of the pension system in the near future will pay an important role in shaping

the investor market in Poland. Moreover, a regulation, according to which investors can invest

up to 5% of the total amount abroad, have stimulated the domestic demand. However, a change

in this restrictive regulation is expected in the near future;

Privatisation of enterprises, which facilitated their listing on the WSE (opposite to the coupon

privatisation in other CEE countries);

Presence of a large liquidity pool among citizens transformed into retail investing of in total 50-

80 billions Zloty;

Relative high liquidity of companies, even on the NewConnect market, compared to other

regional stock exchanges, determined by the above-mentioned factors.

Next to the presence of active groups of investors on the Polish market (pension funds, mutual

funds, retail investors), the market has been positively influenced and shaped also by:

favourable macroeconomic conditions: i.e. favourable economic growth and FDI inflow,

compared to other EU member states;

international orientation of market players, communicating in English (obligatory) and Russian,

next to Polish.

Moreover, the large size of its internal market makes the Polish market rather autonomous.

The market – explanation

The Warsaw Stock Exchange (WSE) operates two markets: the main market for large, mid-and

small-caps and the alternative market for small caps, called the NewConnect. The NewConnect

could be described as a kinder-garden for companies to grow up and graduate to the main market.


Small companies learn there to present themselves to the market and potential investors, to search

for and develop relations with investors, etc. This study focuses on the NewConnect market.

WSE uses SME definition based on the capitalisation of companies, as follows: Mid-cap should

have a capitalisation of at least €100 million in the main market. A small company in the main

market needs to have a capitalisation of €15 million. A threshold for moving from the main to the

alternative market is €12.5 million. The WSE capitalisation requirements for the small- and midcaps

are lower than applied for this study. The reason for this is a relatively smaller size of companies in

terms of capitalisation in the Central and Eastern European region, including Poland.43

There are 442 companies listed at the main market of the WSE, of which 45 foreign. The Polish

market has recently been popular among Ukrainian agricultural companies. However, entities from

more than 20 countries have been listed in Warsaw, with the vast majority coming from the EU.

The most populated sectors are finance (37), construction (35), other services (34) and IT (31).

The WSE maintains several indices for the main market:

WIG20 index shows real time data;

mWIG40, sWIG80, WIG-Plus and other are displayed with 15 minutes delay;

national indices, such as WIG-CEE, WIG-Poland, WIG-Ukraine;

11 sector indices.

435 small caps listed at NewConnect represent less than 1% of al SMEs in Poland. As Figure 1

shows, the majority of them are in retail (69), support services (59), financial services (42), IT (42),

media (38) and technology (36).

The WSE maintains two indices, which measure the performance of listed companies:

NCIndex, which comprises all companies listed on the NewConnect;

NCIndex30, which covers 30 of the most liquid companies introduced to trading on the

NewConnect market.

43

For general, including statistical, purposes, SMEs are categorised in line with the EC classification, as follows:

Article 105;

A small enterprise is an enterprise that in at least one of the last two fiscal years:

1) employed on average less than 50 employees; and

2) an annual net turnover achieved from the sale of goods, products, services and financial transactions exceeded the

PLN equivalent of € 2 million and did not exceed the PLN equivalent of € 10 million, or total assets of the balance sheet at

the end of one of those years exceeded the PLN equivalent of € 2 million and did not exceed the PLN equivalent of EUR

10 million.

Article 106;

A medium-sized enterprise is an enterprise that in at least one of the last two fiscal years:

1) employed on average less than 250 employees; and

2) an annual net turnover achieved from the sale of goods, products, services and financial transactions exceeded the

PLN equivalent of EUR 10 million and did not exceed the PLN equivalent of EUR 50 million, or total assets of the balance

sheet at the end of one of those years exceeded the PLN equivalent of EUR 10 million and did not exceed the PLN

equivalent of EUR 43 million .N.B.PLN means Polish Zloty.


Figure A7.1 Sector distribution of NewConnect small caps (number of listed companies per sector),

June 2013

SMEs listed at WSE are not trades on multiple platforms and the market for SMEs is competitive to

a certain, limited extent. As the WSE is the only functioning stock exchange in CEE, one could

conclude that SMEs do not have another possibility in the region. However, SMEs are also not

actively looking for other listing platforms.

Table A7.1 Retail versus institutional trading at the WSE

Traders/market Main market (large & mid caps) NewConnect (small caps)

Institutional 90% 10%

Retail 10% 90%

The institutional traders are crucial for the main market and the retail traders for the NewConnect.

The retail traders are rather active in Poland and can make a difference in certain situations/deals.

Table A7.2 Local versus international ownership at the WSE

Ownership/market Main market (large & mid caps) NewConnect (small caps)

Local 75% 95%

Foreign 25% 5%

According to the current legislation, the private pension funds in Poland44

can invest only 5% of

their assets abroad. Thus, most of their money is invested in Poland, especially on the main WSE

market. This was challenged by the European Commission and the percentage of the assets that

can be invested abroad will be increased to 30%.

Foreign investors are interested in liquid large and mid caps of the main market to minimise the risk

of investing abroad. According to most interviewees, foreign investors are in general not interested

in small caps listed at the NewConnect because of:

Asymmetry of business information;

Lack of liquidity;

Small rewards (often not worth the efforts).

44

There are 14 private pension funds in Poland.

0

10

20

30

40

50

60

70


Table A7.3 Free float of listed SMEs

Average free float 40%

Approximate range of free float 25-50%

Minimum free float requirement 15% for the main market

No minimum at the NewConnect

The range of free float of listed SMEs is 25-50%, which is not high. The minimum requirement for

the free float is 15% at the main market. There is no minimum free float requirement at the

NewConnect.

Both the WSE and the National Depository charge fees for admission to public trading and for

listing of shares. According to the PWC Poland:

‘The offering value to a large extent determines the relative cost of the IPO. For the smallest IPOs on the

main market, i.e. those offering less than EUR 15 million, the share of costs in the proceeds from the IPO

stood at 6.01%, while the cost of offerings above EUR 250 million was on average only 0.78% of the value

of the offering. That puts Warsaw in a position of a relatively inexpensive market, as compared to large

exchanges attracting foreign issuers, like LSE and Nasdaq-OMX.

‘The costs of listing on NewConnect in absolute terms are generally much lower compared with debuting

on the main market. There was no listing on NewConnect recorded in 2007-2010 for which the reported

costs (mainly the Authorised Adviser fee, promotion costs and administrative fees) exceeded EUR 0.5

million. However, a large portion of the costs are fixed, so for small IPOs the total cost as a portion of the

funds raised by the offering can vary considerably.’

Shareholder register

The National Depositary (KDPW) holds all dematerialized shares. Brokerage houses and banks

hold accounts at KDPW. All shares have to be held on individual accounts within bank

(depositaries) or brokerage houses. The alternative is that the company can hold shares for some

individuals if they do not have their own brokerage accounts, on the basis of the agreement with a

particular brokerage house. All transactions are cleared by KDPW.


Companies preparing for listing on the NewConnect can conduct the public offering under the same

terms and conditions as companies on the main market, which includes the prospectus preparation

and approval. However, a majority of issuers on the NewConnect chooses a private placement. The

private placement is designed for a smaller group of investors (less than 100), which does not

require the preparation of a robust prospectus but a less complex report. The private placement is

less costly and takes a shorter preparation time, compared to the public offering.

Table A7.4 Information required by the NewConnect for a private placement

Information required Comment

Report Prepared according to instructions provided by WSE.

Accounts

Website Presents also results of the company;

In Polish, translation into English is voluntary.


Small caps listed at the NewConnect provide a report, prepared by an Authorised Advisor (AA),

according to WSE instructions. The AA model is similar to the NOMAD model.

A small cap has to hire and pay an AA during the first three years of its listing and a market maker

(a broker house) during the first year of its listing.

The AA is supporting the small cap in fulfilling disclosure requirements and assisting in IR. The AA

has to pass an exam to receive a permanent licence and can service several companies. There are

cases with an AA servicing 12 small caps.

The profile of an AA is developing and could be characterised by the following phases:

1. Initial phase with many AAs approved (when about 100 AAs were active);

2. Restrictions on the number of AAs introduced, leading to a lower number of AAs (about 50

AAs);

3. Regulatory restrictions introduced, as many AAs lost their credibility (current situation)45

;

4. Changing profile of AAs (expected in the future).

WSE expects that the regulatory restriction introduced recently will lead to a change of AA profile in

the future. The regulatory restrictions consist mainly of punishments.

WSE offers its client companies investor relation services through the firm ‘Info Engine’, owned fully

by WSE. The use of these IR services is voluntary and companies using them are charged a fee.

About half of the small caps are using this service. We were told that some 30 companies listed at

the main market have an own IR officer and some 50 companies have hired a PR agency to

communicate with their investors.


Disclosure rules are well developed and governed by the Alternative Trading System Rules of

WSE. The disclosure occurs on a continuous basis, with a 20 minute delay. There is a possibility of

a trading halt, applied in some specific circumstances, such as an unexpected death of the

company owner in question.

According to the legal condition of 1 June 2013 concerning the Current and Periodical Information

in the Alternative Trading System on the NewConnect Market46

, the issuer shall provide

information, in the form of:

a current report, about any circumstances or events that may have a significant impact on the

business / property;

a periodic report prepared quarterly and annually.

The issuer that is a holding entity shall additionally provide periodical reports in the form of a

consolidated quarterly report and consolidated annual report.

Current and periodical information is provided via the Electronic Information Base (EBI) of WSE.

45

According to the WSE, many investors lost their money at the NewConnect last year (2012), as NewConnect companies

were over-priced and /or were not prepared for listing properly. AAs were blamed for this shortcomings. 46

See http://www.newconnect.pl/pub/regulacje_prawne/Regulamin_ASO_UTP_zal_3_en.pdf.

http://www.newconnect.pl/pub/regulacje_prawne/Regulamin_ASO_UTP_zal_3_en.pdf


Current reports shall be provided promptly but not later than within 24 hours from the circumstance

or event occurrence or the issuer learning thereabout.

The quarterly report/ consolidated quarterly report must be published within 45 days of the end of

the quarter of the financial year it concerns. Financial statements/consolidated financial statements

included in the report are not subject to either audit or review by a registered auditor. The scope of

information to be disclosed in quarterly reports is narrower than that for companies in the main

market.

The annual report/consolidated annual report must be published promptly after an entity, authorised

to audit financial statements, issues an opinion; however, not later than within 7 days of the day the

issuer receives the opinion and not later than six months of the end of the financial year.

A7.5 Research and information

A7.5.1 The importance investors place on the information available

We discuss below the importance of information for institutional and retail investors.

The institutional investors value highly, next to their own research also the access to the

management of the company, including site visits, and the availability of the company accounts.

Meetings with company management and presentations of the company to its investors were

quoted often as crucial for determining whether an investor decides to invest or not. Brokers and

investment banks anticipate on this and require from their client companies that they meet with their

investors regularly. For instance, UBS Invest requires from managers of their listed companies that

they meet investors every 6 months. There is a growing investment relations industry, with some 4-

6 companies established currently in Poland and more expected to come.

As mentioned earlier, the institutional investors are interested primarily in the companies listed on

the main market and only a few NewConnect small caps with a high growth potential. These

companies are covered by research carried out by investment banks, brokers or specialised

individuals. The majority of the NewConnect companies are small caps that are not interesting for

the institutional investors because of their limited liquidity. There is no research done on these small

caps.

The majority of retail investors do not have access to research of companies; they are also not

used to pay for research and may consider it rapidly outdated as the situation in companies on this

challenging market can change quickly. They consider the company accounts, access to

management/investment relations and their own networks as the basis for their investment

decisions.

Small caps of NewConnect do not, in general, utilise services of Info Engine, provider of IR services

to companies listed at the WSE. The main reason may be that these small caps do have a limited

capacity in terms of available staff and /or do not consider IR a priority at a stage of their

development.

Retail investors get in touch with management of small caps of NewConnect often through own

networks and relations. Sometime the contact is facilitated by IR companies, such as Info Engine or

other.


A7.5.2 The importance information providers place on information available to them in the market

A good presentation, including a convincing investment story, to its potential investors is a key to

success of a small company. When a small company succeeds to attract investors and keep their

interest, the company will become attractive also for research providers.

Equity research is provided by brokers and a few specialised individuals. Banks prepare and

present also research to their clients. For an illustration, UniCredit (Investment Bank) has an in-

house research department. Its analysts carry out research and give recommendations to investors

on about 10 SMEs.

Research reports are shared among various actors/business partners active at the WSE who

mutually benefit from it without making profit on their production.

There is a lot of factual information available on the market produced by some 15-20 providers of

factual business information. An example is NOTORIA (a part of a large Polish daily newspaper),

which prepares every half a year an overview of WSE data. ‘PARKIET’ (Polish Financial Times)

presents a lot of information on companies entering WSE, including the NewConnect market, and

comments by various financial experts on actual developments. Moreover, access to the register of

companies in the country is available for Euro 2 per month.

A7.5.3 The number of SMEs covered by research in the market

Equity research is done for the mid-caps listed on the main market and a few fast growers listed at

the NewConnect, which are expected to move to the main market. Equity research is basically

driven by the trading activity. As stated by some interviewees, if there is not enough trading activity

then there is no need for research. As a result, the majority of the small caps listed at the

NewConnect is not covered by research. Among the most frequently cited reasons for this scarce

research coverage are:

Limited attractiveness (trading activity and thus liquidity) of small caps;

Strong reliance on IR and actual information gathered via own networks;

Market players who are not used to pay for research.

A7.5.4 How investors rate different types of research

Investors rely on own research or the research of investment banks for which they pay a

commission as a part of the broker’s fee. The independent research paid by the issuing company is

not much trusted.

There is no discussion on unbundling in Poland, even if it would stimulate the independence of

equity research. The reason for this might be a strong importance given to the investment relations

between a company and an investor.

A7.6 Description of the WSE

The WSE has been chosen for the case study because it is performing relatively well compared to

SEs in other EU countries. This holds for both, the main market and the NewConnect. Although the

crisis is felt also in Poland, its pressure is less severe than in the rest of Europe.


This can be explained by the following factors:

Regulation: (i) Well regulated market from the beginning of the functioning of WSE, with no

major scandals, which created trust in the market. (ii) Fast adaptability of the regulatory

environment to changing/new conditions of the market. For an illustration, the NewConnect

regulations have been adjusted two times in the last half a year in order to accommodate

changing market conditions. (iii) Privatisation of enterprises, which facilitated their listing on the

WSE (as opposed to the coupon privatisation in other CEE countries);

Active (groups of) investors performing on the Polish market, namely:

- 14 pension funds investing in total 300 billons of Zloty. In addition, 12 billions Zloty of new

money is coming through pensions annually. However, this amount is declining as a result of

the global economic crises and a lowering share (percentage) for pension contribution from

salaries of employees. The expected reform of the pension system in the near future will

play an important role in shaping the investor market in Poland;

- mutual funds investing in total about 150 milliard Zloty,

- retail investors investing in total about 50-80 billions Zloty.

Large internal market size, which makes the Polish market rather autonomous;

Favourable macroeconomic conditions: favourable economic growth and FDI inflow, compared

to other EU member states;

Entrepreneurial, flexible and risk-taking attitude of people;

Internationally-oriented market players, communicating in English (obligatory) and Russian, next

to Polish.

Equity research is provided by brokers and sometime individuals. It is paid by a broker’s fee and is

thus bundled. Banks also prepare research reports and presentations for their clients.

Investment relations play an important role, as they contribute largely to determining attractiveness

and liquidity of companies (i.e. contribute to the decision of investors whether they will invest or

not). IR include regular meetings of company management with investors aiming at building and

maintaining the trust.

A majority of the small caps on the NewConnect communicates with investors mainly through

disclosures, with a limited or no IR. The WSE offers its client companies IR services through the

firm ‘Info Engine’, fully owned by WSE, with no special focus on small caps. The use of the IR

services is voluntary and companies using them are charged a fee. It seems that the use of these

services by the New Connect small caps is limited.



analysis gained from relationships. Many interviewees stated that ‘Word and trust are more

important than a paper’, deals are made by phone and involved parties keep their word, otherwise

they will lose their credibility and damage their business.

There is a cooperation and exchange of information between the venture capital market and the

NewConnect market players. For instance, when a small enterprise is exiting the NewConnect/

WSE, there are possibilities for its financing through the venture capital.

The WSE is becoming a regional hub for companies from CEE (Czech Republic and Hungary) but

also Ukraine, Belarus and Russia.


As the Czech Stock Exchange is not working, investors go to the WSE. They choose the WSE

because even NewConnect is liquid enough for them. The WSE has a booming and dynamic

market as well as an alternative to the main stock exchange. The NewConnect is active in the

Czech Republic and has done already three large road shows there, while the Prague stock

exchange is not doing that. The Prague Stock Exchange is dead according to the interviewees and

the Vienna and Budapest Stock Exchanges are in a similar situation. Therefore, their brokers and

information providers have to look for other markets, such as the WSE, to channel their clients’

money and bring companies to the market.

Below we describe the information provision by the Patria Group, based on an interview conducted

with the Group. Patria Online has become the main online equity information provider in the Czech

Republic, servicing not only the Czech market but also the Polish, Hungarian and German market.

In recent years it has noticed a shift of attention by investors away from the Czech market towards

the Warsaw Stock Exchange. The company has responded by moving a large part of its research

division from Prague to Warsaw, in order to better service its Czech and international investors.

With the Patria Model, the Group hopes it can provide better and more in-depth information, while

remaining financially feasible.

A description of the Patria model in the Czech Republic

Patria Group, owned by KBC Bank, is focused on providing brokerage and corporate finance services. It

differentiates its brokerage for institutional clients (Patria Finance) and for retail investors (Patria Direct). As

a part of marketing and support of its retail investors Patria Online provides a free information provision

portal, with similar content and structure as Reuters or Bloomberg. It provides the latest market information

and indication on the main markets and in particular on CEE markets. It also regularly publishes opinions

and reports, yet of less depth and quality than for paid equity research. The basic service is free of charge.

However, compared to the paid subscription version of the same service, the free one has delayed

information and contains less analysis. The strategy behind the provision is that as its investors become

better informed, they will purchase more through Patria. The brokerage fee and revenues from advertising

will finance the information provision.

However, the advertising alone is insufficient and the effect of the portal on the additional transactions is

difficult to estimate. As a result, the portal has always been subsidised by the rest of the company.

Nevertheless, the management is convinced of its value and maintains to keep it, albeit in a different form.

It aims to reduce the information provided to the most important for its clients and with the highest value (as

at the moment it is closer to a regular business news provider). This slimming down will allow Patria to

provide more in-depth research. The website aims to become more user friendly so that using Patria’s

broker service will be but a click away (at the moment it is a bit cumbersome, thus encouraging users to

seek alternative cheaper brokers). Lastly, Patria Online will seek to change the structure of access. A very

basic version is likely to be available to registered users free of charge. More thorough content, non-

delayed information and research will be progressively available to the clients depending on their usage of

Patria’s brokerage services. Importantly it will depend on the frequency of use, rather than volume, thus

maintaining its retail focus.


The WSE is active and doing well, compared to other European stock exchanges. It operates a

relatively young market, with a focus on SMEs. Various factors, including a favourable pension

reform, a solid regulatory base, an entrepreneurial environment, etc. can explain this relatively good

performance.




analysis gained from relationships. Many interviewees stated: ‘Word and trust are more important

than reports.’ Deals are made by phone and involved parties keep their word, otherwise they may

lose their credibility and damage their business.

There is cooperation and exchange of information between various financial actors, i.e. between

venture capitalists and the NewConnect. For instance, when a small cap is exiting the NewConnect/

WSE, there are possibilities for its financing through the venture capital since venture capitalists do

not only use the NewConnect as a means of exit, but also as a means of entry.

The majority of small caps in the NewConnect are not covered by research. Investment relations

are crucial for them. There is a growing IR industry, with some 4-6 companies established currently

in Poland.

WSE offers its client companies IR services through the firm ‘Info Engine’, fully owned by WSE. The

use of the IR services is voluntary and companies using them are charged a fee.

The following recommendations were proposed by the interviewees:

Improve IR, now voluntary for small caps. Introduce compulsory training courses that will teach

small caps in NewConnect market about the importance of good IR, how to establish and

maintain them;

More disclosure about small caps, as it is minimal now (in-house regulated by WSE). Comment:

This is being changed in the direction of requirements for the main market;

Better selection of Authorised Advisors who should act more actively and not carry out only

administrative tasks. (Comment: This is currently being dealt with by the WSE);

Standardise the available information and data on SMEs (i.e. reports). Present data available

from WSE, Eurostat and the Polish National Statistical Office in a more user friendly way. It

takes quite a time to find the right information;

Introduce improvement measures for the market as a whole, SMEs account for a very small

share of the market and will benefit from them too.


Interviews

Table A7.5 The number of interviews conducted by type of stakeholder and the name of stakeholder

interviewed

Type of Stakeholder Number of interviews Name of stakeholder

Broker (information provider) 5 IPOPEMA Securities

Vision Finance

BRE Corporate Finance

Cyrrus (CZ)

Patria Finance (CZ)

Investor 4 V4C

Credit Suisse in Poland

CAIB

Woods & Company (CZ)


Type of Stakeholder Number of interviews Name of stakeholder

Stock Exchange 1 Warsaw stock exchange

Regulator 0

Authorised Advisor 1 Top consulting

Investor Relations 1 CC Group

Total 12

Note: in several cases companies conduct several activities, but are listed here under their main activity.

Literature

PWC, Listing in Warsaw: A guide to listing equity securities on the Warsaw Stock Exchange,

December 2011, brochure at: http://www.pwc.ru/en_RU/ru/capital-

markets/publications/assets/Listind_in_Warsawt__eng.pdf;

http://www.newconnect.pl/?page=root_en;

http://www.gpw.pl/root_en.

http://www.pwc.ru/en_RU/ru/capital-markets/publications/assets/Listind_in_Warsawt__eng.pdf

http://www.pwc.ru/en_RU/ru/capital-markets/publications/assets/Listind_in_Warsawt__eng.pdf

http://www.newconnect.pl/?page=root_en

http://www.gpw.pl/root_en

ECSIP Consortium

p/a ECORYS Nederland BV

Watermanweg 44

3067 GG Rotterdam

P.O. Box 4175

3006 AD Rotterdam

The Netherlands

T. +31 (0)10 453 88 00

F. +31 (0)10 453 87 55

Email [email protected]

W www.ecorys.com

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