New Markets for Innovative SMEs --The Cases of UK, Korea, Canada

1. New Markets for Innovative SMEs--The Cases of UK, Korea, Canada Yibin Mu, CFA Senior Capital Market Specialist The World Bank June 2008, Shanghai

2. Outline • Reason of introducing new Markets • Features of new markets • Good practice of new markets • Policy implications

3. Reasons for new markets • Debt finance is not suitable for innovative SMEs • Lack of cashflow • Lack of revenue record • Lack of collateral • Innovative SMEs need equity finance • VC needs an exit channel • SMEs are too small for main markets • Innovative SMEs are too big for informal investors

4. What is new market • Alternative investment market • Two models • Second board • Junior stock exchange

5. Snapshot of new markets

6. Outline • Reason of introducing new Markets • Features of new markets • Good practice of new markets • Policy implications

7. Corporate governance • AIM • Owned wholly by LSE • Operated as a separate entity • TSX-V • Acquired by TSX group • Operated as a separate entity • Kosdoq • Originally, established as a separate entity • Later, merged with KSE • Operated as a separate department with decision-making process • Nasdoq • Existed as a separate entity

8. Relationship with main markets • TSX-V • Cooperative • Encourage best listed firms to move to TSX • Kosdaq • Competitor to KSE • Retain large firms • AIM • Mixed • Nasdaq • When established in 1971, Nasdaq viewed as a market for small-cap firms from the OTC marketplace • When firms grew too big, they naturally moved from Nasdaq to the NYSE • However, as Nasdaq itself grew, it began to retain firms • Competitor to NYSE

9. Market operations • Overall, adopt relaxed listing and maintenance requirements • Example: AIM • Relinquished EU “regulated mkt status” • No need to follow strict EU standards of listing and disclosure • Less prescriptive rules typically include operating history, minimum number of shareholders, past financial performance, number of free-float shares

10. Trading system

11. Relative Market Size

12. Liquidity • Overall mixed • The turnover ratio of Kosdaq is exceptional 690% • The top 100 firms, which account for 10 percent of total listed firms, provide more than 55 percent of the market’s trading volume. • AIM, TSX-V: Rather low liquidity • Solutions • Concentrate on selected liquid shares • Providing liquidity-enhancing mechanisms such as a market maker for illiquid shares

13. Market dynamics • High entry and high exit of firms: reflecting the market orientation toward high-growth SMEs

14. Outline • Reason of introducing new Markets • Features of new markets • Good practice of new markets • Policy implications

15. Good practice • Reduce costs of accessing new markets • Maintain new market integrity • Provide effective supportive services for current and potential listing firms • Link the new market operations with strong industrial policies

16. A.Cost of access A.1. Flexible and tailored listing rules • UK • AIM: formulates and monitors the rules for nominated advisers and companies • LSE: UK Listing Authority (UKLA), a division of the market regulator Financial Services Authority (FSA), formulates and enforces the rules • Korea and Canada • TSX-V, Kosdaq: Offer much lax listing rules for VC firms than the main markets

17. A. Cost of access A.2. Relatively light coproate govanance • AIM • Does not prescribe CG requirements for AIM companies; • The companys’ mentor” (Nomad) and investors ensure that AIM companies adopt appropriate CG standards • TSX-V also applies flexible CG rules, fewer rules than the main market, for example, • TSX-V companies: only a majority of the members of the audit committee must be independent, and there are no financial literacy requirements • TSX companies: all committee members must be independent and financially literate • Kosdaq companies, if their total assets are below KRW 2 trillion • Exempt from having an audit committee, a minimum number of outside directors, and an external executive search committee • Venture firms listed in Kosdaq are not required to have at least one-quarter of their directors to be external

18. A. Cost of access A.3. Relatively lower direct costs • Korea • Kosdaq: A flat KRW 50,000 for VC • KSE: listing fees start at 0.04 percent of the firm’s capital stock. • UK • AIM: A flat annual fee of £4,535 for all its listed firms • LSE: Graduated fee according to listing capitalization (maximum £272,400). • Canada • TSX-V: A listing fee that ranges from C$5,000 to C$15,000 • Main market: C$10,000, along with 0.13 percent of listing capitalization.

19. A.Cost of access A.4. Similar disclosure rules • Listed firms are required to comply with almost the same level of disclosure as in the main market, with only a few exceptions. • Example • Firms listed on TSX-V are given 120 and 60 days to submit annual and interim financial statements, respectively, instead of 90 and 45 days on TSX. • For firms listed on AIM, financial statement reporting is required on a half-yearly basis rather than quarterly.

20. B.Market integrity B.1.Institutional supporting arrangment (1) • AIM: • Mentorship plays a critical role in institutional arrangements. In AIM, the Nomad system is designed to ensure that companies receive ongoing support • The prospective firm appoints an adviser (Nomad) from a list of LSE-accredited advisers • A Nomad works with the issuer to ensure that the issuer is suitable for admission to AIM and, once admitted, complies with AIM rules • Nomads must maintain a ongoing relationship with the firm, assisting its functions of disclosure and corporate governance

21. B.Market integrity B.1 Institutional supporting arrangment (2) • Kosqaq • Underwriters of KOSDAQ-listed firms must have at least a one-year business consulting contract before submitting a registration statement and prospectus to the regulator. • TSX-V • The regulator operates annual workshops to train listed issuers • Each year, more than 500 directors and officers of listed venture capital companies attend these events • Mentors often have a different perspective than venture capitalists, as the latter seek exit after listing, while the former remain accountable for the company’s performance for a certain period of time even after listing. Mentors are responsible for maintaining the reputation of the market.

22. B.Market integrity B.3. Lock-up requirement • AIM: Applies related-party lock-up rules for new listed firm with a two-year track record or revenue • KOSDAQ: imposes a one-year lock-up for major shareholders and related persons • TSX-V: Securities of major shoareholders are escrowed for three years

23. B.Market integrity B.4. Timely and strict delisting of unqualified firms • Why • Support the market’s reputation as a high-risk, high-return market • Maintain a high level of market integrity • Establishing a reputation for disciplined management • To do so, a market surveillance system is needed to support effective enforcement.

24. B.Market integrity B.4. Delisitng criteria

25. C.Supportive service C.1. Promoting institutional investment • The rules barring institutional investors from participating in new markets or allowing them only to participate in the main markets need to be eased. • AIM: • Rlies largely on institutional investors • The share of institutional investors is growing: from 38.3 percent in 2004 to 40.9 percent in 2005 • Korea: • KOSDAQ is driven predominantly by retail investors, which explains the high turnover compared to other markets • Guidelines for institutional investors have been revised since 1998 • By 2005, institutional investors accounted for 9.0 percent of KOSDAQ investors

26. Supportive service C.1. Promoting instituional investment #2 • While TSX is also dominated by retail investors, TSX-V provides a unique way for SMEs to go public through its hallmark Capital Pool Company (CPC) initiative. • Unlike a traditional public offering, TSX-V enables experienced managers to form a CPC (with no commercial operations and no assets but cash), to list on its market, and to raise capital. • The CPC then invests the funds raised in a growing business. • Once the CPC has completed its qualifying transaction and acquired an operating company , its shares continue trading as a regular listing on TSX-V. In 2005, 85 CPCs were listed on TSX-V, raising C$60.1 million, • More than 200 former CPCs had graduated to the main market. Since 1987, the CPC program has enabled more than 1,350 firms to list on TSX-V.

27. Supportive service C.2. Facilitating daily liquidity • AIM • It has market makers (members of the exchange) that provide liquidity for AIM securities • Each AIM-listed company is required to appoint a broker—a securities house that is an LSE member—to promote the company to investors by connecting buyers and sellers and providing research coverage. • The broker can be the same firm as the Nomad as long as a Chinese wall exists between the two functions. As of the end of 2005, there were 85 Nomads and 89 nominated brokers. • KOSDAQ • Planning to introduce market makers to provide liquidity, as in the main market. KOSDAQ Star, KOSDAQ IT, and KOSDAQ Venture cover different sector shares listed on KOSDAQ • TSX-V does not have market makers

28. Supportive service C.3. Enhance the visibility of listed firms • New markets provide more proactive information services to investors compared to the main markets. • KOSDAQ supports a program called KRP (Korea Exchange Research project), • KPP provides analyst reports for small firms to bridge the information gap between listed firms and investors. • TSX-V has two programs that help small issuers to gain visibility: • Company Showcase, a program offered in Canada’s main cities throughout the year • TSX Venture 50, a ranking of the top 10 companies on TSX Venture in five industry sectors. This ranking was first launched in December 2005

29. Supportive service C.4. Raising public awareness of alternative investment • TSX-V runs a Public Venture Capital Campaign to foster public awareness of venture financing. • Kosdaq organizes regular road shows for investment relations both in and out of the country for small listed firms every year.

30. D.Linking with industrial policies Linking with industrial policies • Having a large supply of good-quality equities from the SME sector is a key to creating successful new markets. • To ensure a stable flow of new equities into new markets, the governments offer industry policies to support SMEs • Inroduce a flexible stock compensation system, • Promoting venture capitalism and skills • Provide tax incentives for new market listing and investment • Provide funding support • Promoting networking of angel investors

31. D.Linking with industrial policies D.4. Provide funding support to innovative SMEs • UK • UK has shifted its focus from regulatory and tax policies to bridging the “equity gap” for SMEs • Has established technology funds and regional venture capital funds to support invonative SMEs • Enterprise Capital Funds offers a matching fund scheme in which the government provides a loan to the venture capitalist • US • U.S. Small Business Administration offers public-private financing for innovative SMEs • Canada • Business Development Bank of Canada is the federal government’s main venture capital funding institution • Korea • A public mother fund (a fund-of-funds) provide matching funds to venture and innovative SMEs • Public and private matching funds for information technology SMEs • Two government policy banks provide active support to innovative SMEs

32. Linking with industrial policies D.5. Promoting networking of angel investors • Angel investors are encouraged to invest directly in business start-ups • Canada • The National Angel Organization (NAO) is the primary organization for angel investors at the national level. • The NAO has two main mandates: (a) lobby on behalf of angel investors and (b) provide professional development to angel investors through a national conference. • Europe • European Business Angel Network (EBAN) • Korea • Established in 2003, Korea Business Angel Network (KBAN) is to promote the dissemination of information on venture business and investment opportunities

33. Outline • Reasons of introducing new markets • Features of new markets • Good practices of new markets • Policy implications

34. Policy implications • New markets (NM) contribute to inovative SME development • Not a panacea for all countries • Environment for NM • Large number of inovative business • Financially sustanaible • Policy support necessary • Light costs of regulations, transactions and compliance • Appropraite institutional and policy framework for NM