There is plenty of capital available in New Zealand to grow our listed capital markets, but the current structure of the industry means it cannot be readily allocated to the very area that is pivotal to growing the markets.
KiwiSaver has created a huge pool of capital (now $50 billion) that should be spawning a proliferation of funds looking to invest in the SME sector which, for New Zealand, should form the backbone of a thriving stock exchange.
There are numerous private equity funds and industry players hunting our larger and more established companies before they have a chance to list on the stock exchange. Similarly, start-ups and early stage companies are being nurtured by Angel investors and the like.
Our SMEs, however, are being left out in the cold. With the bulk of KiwiSaver funds concentrated within a relatively small number of providers, it is not practical or economic for many of those providers to allocate small amounts of capital to small and emerging companies. The time taken to research, understand and manage each investment, and the insignificant effect it is likely to have on overall fund performance given the overall size of the funds, makes small investments unattractive for many fund managers.
A minimum investment amount of $5 million to $10m, and a limit on the maximum number of investments they may hold, is common among many fund managers now. Given many SMEs and emerging companies are often only looking for $2-$3m of growth capital, this minimum threshold ensures they cannot access investment capital from these funds.
From the companies we meet daily through our business, it is not inconceivable that a fund of circa $100m dedicated to the SME sector could be the catalyst for up to 20 new listings on the NZX over the next two to three years.
The sharebroking firms, to a certain extent, are also in the same boat as the fund managers. The size of the funds controlled by the top three companies limits their ability to invest in small companies and tranches.
Regulation has also made it very difficult for advisers across the board to invest, or advise clients to invest, in companies which are not researched. It largely means, for the equity markets, they are restricted to the top 50 NZX companies at best.
While some sharebrokers and advisers have a pool of discretionary client funds, compliance around how these are allocated is still problematic and quite restrictive.
Outside of the boutique advisory firms, the large investment banks, both associated with the broking firms and outside of them, also generally show little interest in small SME transactions. The time involved and the limited fees which can be generated, combined with the potential brand risk if an investment goes wrong, makes it unattractive.
Which brings us to the regulators. While everyone is supportive of the need for orderly and regulated capital markets, there also needs to be a balance that reflects, by their very nature, capital markets do carry some risk. After all, isn't that why we have an equity risk premium?
The likes of the NZX and FMA have done a great job in tidying up a lot of the undesirable aspects of the markets, and they need to be commended for that. But compliance is also inhibiting the ability for investors to access opportunities outside of the mainstream.
Smaller companies do not have all the internal governance and processes of the top listed companies (not that this has stopped some of the high-profile failures anyway), but advisers and investors should be able to price these companies based on the risk they are prepared to take on.
There should be a place in every fund or portfolio for SMEs and emerging companies, and regulators should be working with the industry to accommodate this.
The media also has a critical role to play in promoting the capital markets.
Many of the smaller listed companies are never mentioned in the media so it is no wonder there is little public interest in them. This makes it harder for small companies to attract investment and acts as a disincentive to look at listing.
With the media model changing and moving more online, there should be no excuse for not having more comprehensive coverage of the capital markets, especially with new technologies that are available which can enable automated stories from real-time data such as financial results. These technologies could also be used to deliver greater coverage through automated research reports of all listed companies.
And finally, the most important of all, participants are the investors. They should be given an option to either direct a proportion of their investments or KiwiSaver dollars to specific SME funds, other investments outside the mainstream, or to establish their own recognised superannuation scheme as is currently the case in Australia.
The personal superannuation model across the Tasman is the reason why many companies bypass the NZX and list in Australia as there is a huge pool of portfolio funds receptive to being deployed into higher risk SMEs and emerging companies.
• Tim Preston is a Principal in CM Partners, a boutique capital markets advisory firm based in Auckland and an NXT and NZX Main Board sponsor.
