The Alternative Investment Market in London Stock Exchange - Research Paper Example

AIM in London Stock Exchange Question Definition Alternative investment market can be defined as the exchange market that is controlled and regulated by the London stock exchange. This concept have evolved and developed for eliminating and reducing the problems that is associated with fraud and maintain of transparency. The regulators of the Alternative Investment Market are the private regulators of the London Stock Exchange known as the nominated advisors or commonly known as the NOMADS. The NOMADS verify the individual firms and decide whether the firms can list their shares in the London Stock exchange. The main advantage of this system is that it has reduced the regulatory barriers and constraints and has been able to attract new firms in the market and lot of investment in the market. Private regulation on AIM Alternative investment Market is required to comply and abide by certain specified rules and regulations that has been established in accordance with the rules and regulations that has been established by the act of Financial Services and Market. The Alternative investment market does not include the corporate governance and therefore it has been advised that the NOMADS are required to follow the principles or regulations that have been introduced by the London stock exchange. The rules and regulations includes that the Nomads must be the member of the firm that is associated with professionals of corporate finance and it is required to be approved by the London Stock exchange. The exchange has also provided benefit for the private regulators that is an incentive will be offered for enhancing its value in the market. Importance of AIM The main objective behind appointing the Nomads are that it is appointed as the private gate keepers or as the watch dog in deciding whether the companies that are willing to list their shares in the market are appropriate or preferable for the market and they are the supervisors for monitoring the companies or the firms for ensuring that the standards related to the exchange that is regulated by the corporate governance are fulfilled. The needs and requirements of AIM are very flexible in nature and it does not require market capitalization and also trading requirement. It measures the appropriate value of the cost of the investors. The regulators of Alternative investment market that is the nomads are engaged in the preparation of the working capital report, pro forma financial information, historical financial information and also the report on the financial procedures. The importance of AIM can be observed from the fact that AIM is flourishing and its function is widely recognized. The companies or the firms from around the world are gathered in London market since the extent of regulation is more in other countries and therefore the companies or the firms wants that their shares to be traded or exchanged in the London Stock market. The success of AIM can be observed from the fact that it is being considered as the most successful privately regulated market for implementation of the rules and regulations that are necessary for the functioning of the stock exchange. The rules and regulations of AIM are flexible in nature and therefore they are able to serve the investors properly as compared to the bureaucratic regulations of the government. AIM has facilitated the investors by providing them various options for accessing the capital and the market generally prefers the private regulation as compared to the government regulation. AIM faces fewer problems as compared to other regulators in the market and the success of its rules and regulations have originated from the market. The regulatory reforms are less in case of AIM and therefore many companies have preferred to switch to the stock exchanges that have less regulatory reforms (Stringham and Chen, 2012). The membership rule for Alternative Investment Market mainly encourages and motivates a wide variety of companies or firms to invest and raise capital by maintaining a minimum membership cost. Shortcomings London Stock exchange has listed nine companies that have failed to comply with Rule 26 which was introduced in the year 2007. The companies did not possess website in which they are required to incorporate the financial statements and balance sheet of their companies. Another example is the breach of contract by Regal Petroleum for not complying in accordance with the rules under AIM. Question 2 Reason for Origin of the concept Alternative Investment Market have been introduced for eliminating the problems associated with maintaining transparency and detecting of fraud and reducing the regulatory barriers in the rules and regulations in the London Stock exchange. The other market comprises of large bureaucratic rules and regulations required when the firm or the companies decide to go public. This concept has been developed with the intention of providing flexible, low cost and private regulations in its system. The importance of emergence of this concept can be observed from the fact that the government regulated market were not able to control and prevent all fraud and malpractices existing in the system. Origin of AIM The alternative Investment Market have been introduced in the year 1995 and the concept have been successful and it can be observed from the fact that more than 1200 companies are presently listed with it. It has been introduced for the purpose of providing various benefits and advantages to the small and medium size companies or firms by providing them less requirements for listing in the exchange as compared to the other Main market of UK. AIM has increased its significance during the period of 2004 to the period of 2006. In the year 2012, the Alternative Investment market and London stock exchange have been experiencing a development as compared to other markets of UK. The number of companies has increased from 10 companies in the year 1995 to more than 1000 companies in the year 2012.AIM is considered as the example of the lightly regulated market that is introduced in the year 1995 for enhancing growth and development in the capitalization of the stock market. Function of AIM in London stock exchange Alternative Investment Market of London stock exchange is the main and important example of successfulness of the privately regulated market. Alternative Investment Market is considered as the test bed for determining the impact or influence of the public equity on the growth and development of the small and medium size enterprises. AIM does not impose any minimum requirement for listing and the admission is provided by the financial intermediaries which are commonly known as the nomads in the Alternative investment Market. AIM offers the facility of directly assessing the public equity and it is also inexpensive in nature. The nomad that is appointed by the AIM performs various functions for maintaining corporate governance and inspiring its clients to abide by the standards that are introduced. The effect and the importance of AIM in London stock exchange in comparing whether the companies that are listed with the AIM enjoys better opportunity, facilities and growth and development in the performance as compared to its counterparts that are not listed can be analyzed from the fact that AIM mainly concentrates on those companies which have sound financial structure and strong asset base. But the companies that are listed with the AIM generally enjoys flexibility in the rules and regulations as compared to other markets and it also provides benefit to its shareholders and stakeholders since the listing requirement in case of AIM is much lower as compared to other markets. Role of AIM The role of AIM is different as it appoints the nomad and it is considered as the unique and the key feature of the Alternative Investment Market and it performs the crucial and important role in guiding and advising the companies during the procedure of admission to AIM. The companies or the firms that are joining AIM find themselves in the new situation and circumstances where they are responsible and accountable to their stakeholders and shareholders for reviewing both financial and non financial performances. Question 3 Differences between primary and secondary market in UK The main difference that exist between the primary and the secondary market is that the primary market mainly deals with the investors that buy the securities directly from the companies that issue them and the secondary market is engaged in trading of securities of the investors. The main function of the primary market is that they are engaged in inviting the investors for purchasing of the securities. The secondary market is traded after the securities are traded after the sale of the securities by the primary market. In case of UK, the companies that are engaged in the issue of new shares in the primary market are engaged in the trading on stock exchange that includes the main market of the London exchange as well as the Alternative Investment Market for trading in the secondary market. The important requirement for officially listing of the shares in the UK market is that the shares are required to admit for trading in the London stock exchange (Coyle, 2002). The significant differences between primary and secondary market in UK are capital formation and liquidity. Both the markets are regulated by SEC, except for Alternative investment market which is de regulated and controlled by NOMAD i.e. Nominated Advisors authorised by the London Stock Exchange. When fresh issues are made by companies it adds to their capital formation, whereas in the secondary market already purchased shares are traded on stock exchanges like FTSE 100, AIM , etc where shareholders wealth is maximised. Investors can buy and sell securities like shares, bonds, derivatives, bonds, etc in the secondary market. Thus it requires more liquidity and better regulatory authority. The secondary market pricing is done on the market forces of demand and supply i.e. excess supply will lead to fall in the price of financial instruments and excess demand will pull up the prices. Company’s performance and future growth prospects affect its value which is a key indicator of its attractiveness in the secondary market that affects its price. The primary and the secondary market are influenced by the monetary policy measures of the central bank i.e. Bank of England. The secondary market is affected by the interest rate in the market while the primary market can be influenced when the central banks wants to adjust the money supply in the economy. Primary market is exhaustive as there is single transaction unlike in the secondary market where trade volumes are huge owing to the frequency of buying and selling. Primary Market The LSE helps various classes of companies to float shares and bonds. It has various requirements for different classes of issuance. For smaller companies usually SMEs operate through the Alternative Investment market which has flexible regulatory requirements. Companies which are outside the EU can raise capital through AIM by issuing depository receipts. There are other two specialised markets i.e. professional securities market and specialist fund market. The former facilitates the issue of debt securities like debentures, bonds, depository receipts, etc to professional investors, while the latter facilitates the subscription of various fund vehicles and securities to institutional buyers and highly knowledgeable investors. Secondary Market LSE facilitates trading in the following securities i.e. exchange traded funds, exchange traded products, global depository receipts, common stock, share warrants, bonds, debentures and structured products. There are two other markets in which companies, institutional investors and retail investors’ trade which are the main market and the Alternative Investment Market. The main market comprises 1300 companies across 60 nations with a market cap value of £366 billion. FTSE 100 is the key market index of London Stock Exchange that is a cumulative index of top 100 companies from different sectors i.e. banking, financial, energy, retail, real estate, pharmaceutical, etc. The market index is a key reflector of the performance of the top 100 stocks. These 100 stocks contribute 80% of the total market capitalization of LSE. Thus in the secondary market the market index is a key indicator that guides the investors trade decisions. Question 4 Role of NOMAD Though in today’s world most stock exchanges are regulated by government bodies there are a few stock exchanges which have private regulators appointed by the government regulatory authority that regulate the stock exchange. London stock exchange is regulated by the Securities and Exchange Commission. The other type of exchange is the Alternative Investment Market which is privately regulated. Though it is monitored by the SEC yet it enjoys its autonomy. The government plays no part in the listing requirements of companies and AIM is regulated by Nominated Advisors (NOMAD). NOMADs are private regulators that authorize the companies prior to their enlistment. They approve companies after considering their legitimacy. They are paid by the firms directly and indirectly paid by the investors who buy the stocks of the enlisted companies. The London stock exchange appoints the NOMAD who then jointly forms various enlisting regulations. Nominated advisors are mainly investment banks and financial institutions who have high level of expertise that guide companies to enlist them on London stock exchange’s AIM. The NOMADs are appointed by the London Stock exchange and should fulfil certain criteria before they are appointed as NOMADs. Firstly, they should have prior experience of corporate finance for at least two years. Secondly, they should at least produce three relevant transactions relating to corporate finance during the period of two years. Thirdly, they should at least appoint four qualified executives with high expertise and relevant knowledge. NOMAD is the core of AIM. The London stock exchange requires companies who want to enlist them on AIM need to appoint a NOMAD who will act as a full time advisor to the company. LSE also states that companies should retain NOMADs to ensure transparency, sustainability and for future financing obligations. This would not only harbour client advisor relationship till the time of floatation of stocks but the aim of LSE is to create long term sustainable relationship between NOMADs and the enlisted company (O’Sullivan, 2000). Ethical implications of NOMADs role Low regulatory requirements and faster floatation of stocks have highly contributed to the popularity of the AIM. This has however has also posed serious challenges to NOMAD to ensure that companies with unethical practices and poor governance are not listed on the AIM. Fewer regulatory requirements have led to unethical companies accessing the AIM and this seriously questions the criticality of NOMADs. Recent scandals have shown where companies with poor governance were granted access to AIM by NOMADs. These companies include Torex Retail, Max petroleum, Sky capital, Sibir energy, Langbar international, Lonzim and Regal petroleum. It was further witnessed where LSE fined nine companies for failing to comply with the rule 26. The total fine amount stood at £95000. AIM companies directors rely on NOMADs for their guidance on corporate governance and business ethics. It shows how NOMADs role affects the other companies and the investors in the AIM. Inappropriate regulatory measures and inefficient compliance checks by NOMADs have led to unethical companies that have joined the AIM to procure public money. NOMADs have been subject to disciplinary measures by LSE. A NOMAD formerly named as Blue Oars in 2009 was fined £225000 for its role in enlisting a company called Worthington Nicholls in 2006. The company under the regulation of Blue Oars produced over optimistic financial statements that led to its stock price crash. Disciplinary actions and fines were imposed up to £80000 on other NOMADs who failed to assess the AIM companies’ legitimacy and infringed the default regulatory practices of Nominated Advisors of AIM companies. It failed to keep proper records and written procedures (Mallin, & Ow-Yong, 2010). Better regulatory environment From 2007 onwards owing to such unethical practices by NOMADs, LSE started a review programme where it reviewed the performance of the NOMADs whether they were in compliance with the AIM rules for Nominated Advisors. From 2010 onwards LSE started another review programme where it increased the area of review of the NOMAD companies based on the qualifying criteria of risk appetite, client base, compliance procedures and ethical considerations. Question 5 AIM impact on the market From its inception in 1995 the London stock exchange’s Alternative investment market witnessed high growth. It helped more than 3100 companies to raise more than £67 billion. It has helped small and medium sized companies to raise capital and has opened the market to investors across the world who understands the growth potential of such midsized companies. It has supported companies from more than 40 sectors to raise funds for their expansion. The Alternative investment market of LSE has been through two economic and cycles. Despite such market catastrophes it managed to raise more than £4.5 billion through further issues in 2009. This shows the investment bent of the investors based in London who strongly believed in the growth potential of such small and mid-cap companies. Figure 1: AIM sectors in 2010 (Alternative Investment Market, 2010) The above figure is significant of AIM’s sectors representing the enlisted companies. One pie shows the distribution of various sectors of AIM while the other shows the market value of the sectors. The sectors range from software and computer services to real estate and support services to mining. The companies are widely dispersed across the globe. Since 1995, 520 international companies have joined AIM and currently 241 of these total 520 companies still trade on AIM. Emerging nations across the world have shown interest in AIM and include markets like Asia Pacific, India, Central and Eastern Europe, Australia and Canada (Alternative Investment Market, 2010). Figure 2: Money raised through further and new issues 1995 – 2009 (Alternative Investment Market, 2010) The above figure represents funds raised through the AIM over the years till 2009 from its inception. It shows the total capital raised for small and mid cap companies through new and further issues i.e. IPO and FPO. AIM witnessed the total capital of more than £65 billion. 2007 shows the highest capital that was raised through LSE AIM which accounted for £16.2 billion followed by 2006 which saw £15.7 billion. Impact of AIM on IPO Alternative investment market realized such high growth compared to other stock exchanges owing to its low cost regulatory requirements that favour various small and mid cap companies. Owing to high exchange commission regulation the IPO market of other economies have witnessed a fall compared to the UK IPO market. The UK IPO market rose owing to the streamlined regulations of Alternative investment market. Number of IPOs in UK exceeded the number of IPOs in US in 2001. Moreover the IPOs on AIM exceeded the IPOs on the American Stock Exchange, NASDAQ (Alternative Investment Market, 2010). Figure 3: IPO comparison of AIM and other stock exchanges in USA (Alternative Investment Market, 2010) The above figure represents the growth of IPO on AIM, NYSE and NASDAQ. Over the years number of IPOs has grown for AIM. NYSE and NASDAQ witnessed a fall in the number of IPOs over the years from 1995 to 2010. The growth of small and mid cap companies has also led to the growing need of capital requirement of such companies. This resulted in increasing number of fresh issues. Not only did AIM increment IPOs of small and medium companies but it also witnessed other small and medium companies to move to Alternative investment market to leverage the low regulation requirement and faster process of stock floatation. Normal markets usually take three to six months time to complete the IPO process unlike in AIM where it takes eight weeks to complete the entire process (Carcello, 2009). Cost effectiveness of AIM AIM of London offers low cost in raising capital for small and medium sized companies. Low cost, flexibility and regulation requirements have incentivised companies to access the alternative investment market. Figure 4: Cost of listing on AIM versus NASDAQ (Stringham and Chen, 2012) The above figure shows the direct listing cost of companies on AIM versus NASDAQ. The figure above compares the two exchanges considering a company who wants to sell $50 million shares. It shows that not only will the company save $1 million on initial cost for raising it through AIM but it will annually save $2 million. Such incremental costs are mostly attributed to high regulatory requirements i.e. Sarbanes –Oxley Act. Such low cost in issuing equity attracts companies not only from UK but from countries like Italy, Japan, Canada, etc (Alternative Investment Market, 2010). Question 6 AIM nurture nascent investment AIM has been a catalyst for small and mid cap companies in UK and outside UK. Its low regulatory requirement has been a key influencer for small companies to raise equity in their business expansion. It has witnessed high growth in market capitalization from 1995 to 2013. Owing to such characteristic feature of AIM it has led to similar exchanges that are de regulated in countries like Italy, France, Canada and Japan. The admission process for companies on AIM is de regulated and is approved by NOMADs i.e. Nominated Advisors. Other stock exchanges like NASDAQ, NYSE, FTSE, etc require minimum listing requirement, equity capital, assets, trading history and other related information. This inhibits the entry of various small and medium scale companies to issue equity. They require funds on immediate basis and these stock exchanges takes on an average tree to six months in floating stocks. In Alternative investment market issuing fresh equity takes roughly eight weeks. SMEs take advantage of such market structure that offers so much flexibility to the companies who want to float their shares. AIM allows increased access to public equity for SMEs that does not want to get into the complications relating to information disclosure and minimum capital requirement. It not only offers flexibility in regulatory requirements by appointing NOMADs, but it also offers low cost solution to companies who want to raise capital. As discussed in the earlier section how a company who wants to raise $50 million through equity would save initial and total cost by listing it on AIM than a stock exchange in US. It showed that initially it would save $1 million in costs and on the total transaction it would save $2 million. The associated benefits of AIM have led to its high growth and acceptance among companies in UK, Asia, Europe and America. It provides the necessary support that is required by the SMEs which do not have high capital and serves as an alternative to other forms of financing like private equity, venture capital, etc. This has to lead to rapid growth of the total market capitalization of AIM since its inception. It has risen close to 1000 fold from £82.2 million in 1995 to £63964.2 million in 2013 (May). It also witnessed significant growth in the number of enlisted companies from 10 in 1995 to 1087 in 2013 (May). It not only provided bed for fresh issue for SMEs but it also observed further issue along with other significant SMEs moving to AIM on account of its de regulated structure and flexibility. The number of company listing was higher on AIM compared to LSE from 2001 to 2004. The total listing also surpassed the total listing of other stock exchanges like Amex, NYSE and NASDAQ. As observed in recent trends the number of companies that switched from LSE to AIM has outnumbered those which have graduated from AIM to the main market (Revest and Sapio, 2013). Spillover of AIM Companies listed on AIM have witnessed relatively high growth in total assets, operating revenues and employees compared to similar firms, but it has exhibited lower growth in productivity. Though it is heterogeneous in terms of various sectors but it showed homogeneity in factors like asset and revenue growth for enlisted companies. In other words AIM considered only those companies which had high growth in assets and operating revenue than the industry average and nurtured these companies by increasing workforce strength which was followed by significant fall in the productivity of these companies. Though it favours the necessary platform for small companies to access low cost capital, it should also consider other factors in allowing companies to float their shares that will lead to value added growth of the companies’ i.e. real growth (Stringham, 2002). References Alternative Investment Market. (2010). A guide to AIM. Retrieved from: http://www.londonstockexchange.com/companies-and-advisors/aim/publications/documents/a-guide-to-aim.pdf. Carcello, J.V. (2009). ‘Governance and the Common Good’, Journal of Business Ethics 89, 11–18. Coyle, B., (2002). Overview of the Markets, Canterbury: Global Professional Publication. Mallin, C., and Ow-Yong, K. (2010).The UK Alternative Investment Market – Ethical Dimensions.Journal Of Business Ethics, 95(1), 223-239. O’Sullivan, M. (2000). ‘The innovative enterprise and corporate governance,’ Cambridge Journal of Economics, 24(4), 393–416. Revest, V., and Sapio, A. (2013). Does the alternative investment market nurture firm growth? A comparison between listed and private companies.Industrial & Corporate Change, 22(4), 953-979. Stringham, E. (2002) ‘The Emergence of the London Stock Exchange as a Self Policing Club’, Journal of Private Enterprise, 17, 1–20. Stringham, E.P. and Chen, I., (2012). The alternative of private regulation: the London stock exchange’s alternative investment market as a model. Institute of economic affairs, 1(1), pp. 38-42. Read More