The GCC’s first parallel equity market to support business growth

On February 26, 2017 Saudi Arabia became the first country in the Gulf region to launch a parallel equity market – Nomu, named after the Arabic word for “growth”. The new exchange is expected to attract small and medium-sized enterprises (SMEs) and support their growth. It could be a game-changer both for budding regional businesses and investors.

Objectives

The main objectives of Nomu are two-fold: broaden access to capital for issuers while deepening and increasing the diversification of the Kingdom’s capital markets. By creating a new platform for Saudi companies to list, Nomu is also likely to strengthen the ecosystem for private equity (PE) and venture capital (VC), providing an attractive option for exits, opportunities for which have historically been somewhat limited in the Kingdom.

The response to the launch of Nomu has been very positive. In March 2017 Saudi investment bank Jadwa Investment wrote in a note that the new exchange might not only deepen and diversify capital markets, but also stimulate entrepreneurship, enhance the overall business environment, boost the sustainability of productivity increases and create more higher-skilled jobs. “Saudi capital markets are buoyant on the back of the nearing upgrade to MSCI emerging market status and the launch of the Nomu parallel market,” Tamim Jabr, CEO of Deutsche Securities Saudi Arabia, a subsidiary of Germany’s Deutsche Bank, told OBG. “Initial public offerings (IPOs) and real estate investment trusts (REITs) have been oversubscribed and continue to attract interest. The companies listing are mostly medium sized, and are often family-owned companies who are looking to develop to be better positioned for the future.”

Sme Growth

While Nomu is a regional first, it follows long-established parallel markets in mature economies such as the US’s NASDAQ, the UK’s FTSE AIM and Germany’s Neuer Markt. While it is open to all companies, like many parallel markets it is likely to see particularly lively activity from SMEs which have until now avoided or been barred from listing due to the tighter requirements on the Kingdom’s main exchange, the Tadawul. As such, the launch of the new exchange is in line with Saudi Arabia’s Vision 2030 goal of increasing the amount of opportunities for smaller companies to grow.

Historically, SMEs have faced obstacles to expansion through issues like the availability of capital and owners’ reluctance to dilute their holdings. The growth of bank credit to the private sector has slowed sharply in recent years, from 14.9% on average in 2013 to just 1.4% (year-on-year) in January 2017, according to Jadwa. This has led companies to seek other avenues for raising growth capital.

Ownership culture in the Kingdom is shifting, meanwhile, and a younger generation of family business leaders are looking for opportunities to bring on board new investors in search of long-term growth and with the aim of strengthening corporate governance. Jadwa sees particular potential for synergies between the government-institution-backed Musharakah programme for financing SME growth and Nomu, with investors co-financing with the programme later exiting via the parallel market.

Moving Up

The expectation is that the companies that perform well on Nomu will grow to adequate size, improve their corporate governance through the process of listing and trading on the exchange, then graduate to a Tadawul listing. Other than meeting the Tadawul’s requirements, companies must have been listed for at least two years on Nomu to move up, so the first companies to shift onto the main market will do so in 2019 at the earliest.

“One of the aims is to improve corporate governance standards in Saudi Arabia,” Moath Qasem Al Khasawneh, CEO of Riyadh-based Falcom Financial Services, told OBG. “Companies will evolve on Nomu and then shift to the main exchange. Often these are third-generation family companies that want to institutionalise as much and as quickly as possible.”

Listing Requirements

Nomu’s listing requirements are not less stringent than those laid out by Tadawul, per se, as the intention is to ensure that good-quality, well-run companies are on the exchange. But they are broader and somewhat more flexible, giving more space for smaller and younger businesses to list. The Capital Markets Authority (CMA), which oversees Nomu, has taken a careful approach in developing the exchange, with a detailed but clear regulatory framework that is stricter than many international equivalents. Parallel exchanges are by their nature somewhat riskier and more volatile than mainstream markets, and the regulator is keen to avoid some of the pitfalls of established international counterparts which have been dogged by the perception of weak regulation. As Jadwa Investment noted, the CMA has given “priority to sound regulation ahead of hurried implementation”. More broadly, the offering process is simpler, and not dissimilar to a private placement. The process of accreditation is generally less costly than that of the main exchange, lowering the barriers to entry.

While the Tadawul requires companies to have a minimum market capitalisation of SR100m ($26.7m), for Nomu the requirement is SR10m ($2.7m). On the main market, at least 30% of the company must be offered in an IPO, whereas the parallel market has a minimum of 20%, with no single investor owning more than 5%. Tadawul-listed companies are required to have at least 200 public shareholders. On Nomu, if the expected aggregate market value of all shares being listed is above SR40m ($10.7m), then there must be at least 50 public shareholders. If the value is expected to be lower, at least 35 are required. Once listed, stocks on Nomu can fluctuate by as much as 20% above or below their opening price daily, twice the limit of the Tadawul. This allows for the lower liquidity of Nomu, at least at first, and the smaller market capitalisation of the listed companies. Disclosure requirements are much the same on both exchanges, except that Nomu-listed companies have 45 days to publish quarterly financial statements at the end of the period, as opposed to 30 days for the Tadawul. This takes into account the fact that SMEs often have more constrained administrative and accounting capacity. As on the Tadawul, Nomu-listed companies must publish audited annual statements.

To list on the Nomu, companies must be able to demonstrate a minimum of one year of financial and operational performance, audited by a Saudi firm registered by the Organisation for Certified Public Accountants, though no track record of profitability is required. Lastly, the company must be a Saudi joint stock company, or a joint-stock company majority-owned by citizens of GCC countries and based in a GCC member state. For the purposes of comparison, on the FTSE AIM, quarterly disclosures are voluntary, there are no operational listing requirements and there is no cap placed on daily price fluctuations.

Qualified Investors

Investment on Nomu is limited to qualified investors, with these being clearly defined by the CMA. Three such groups are recognised, the first being corporate groups, including state-owned enterprises, GCC-based investment funds and discretionary portfolio managers. The second group are “natural persons”, these include those individuals who have conducted at least 10 transactions per quarter on the Tadawul over the previous 12 months with a minimum value of SR40m ($10.7m), or individuals who have a portfolio of at least SR10m ($2.7m). Also included in this category are those individuals who hold the relevant CMA certification. The third group are qualified foreign investors (QFIs), who must have a minimum of SR3.75bn ($1bn) in assets under management and who must also have been operational for at least five years. Individual QFIs can own a maximum of 10% of issued shares in a listed company, and overall non-GCC foreign ownership cannot exceed 49%.

Initial Public Offerings

Nomu’s launch saw seven companies debuting on the new exchange, making the first quarter of 2017 the busiest in the Gulf for IPOs in five years. In the third quarter of 2017 there were nine companies listed, from sectors including retail, consumer goods and software.

The May 2017 IPO of clothing company Thob Al Aseel was a significant boost to the market, raising SR383.3m ($102.2m), the biggest offering in terms of volume to date, and 150.3% oversubscribed. The company accounted for around 10% of Nomu’s overall market capitalisation as of mid-2017, according to Al Khasawneh. The company, founded in 1987, is the largest in its sector, with a substantial market share and a solid track record of dividend payments, zero debt and a steady cash flow. Following the listing, it plans to expand from wholesale into retail, opening new outlets and building long-term growth. Demand for Thob Al Aseel’s shares showed a good mix of investors, including private investment funds, government entities and, most of all, retail investors. Foreign investors are, for the time being, mostly keeping their powder dry, waiting for the market to find its feet, according to Al Khasawneh. The Thob Al Aseel IPO was followed by that of Al Kathiri Holding Company, which raised SR60m ($16m) through an offering of 26% of its shares. Following investors piling into IPOs, there has been a drop-off in the overall index, as values have stabilised. The overall index slid from 6000 points at its launch to around 3000 in October 2017. However, this is not unusual given the age and size of the market, meaning that liquidity is quite low. Further listings expected in the coming quarters should lift the market again.

“Demand from SMEs to list on Nomu has been higher than we first expected it to be, and there are a lot of companies interested,” Al Khasawneh told OBG. “While overall liquidity has not been huge, the liquidity-to-market-capital ratio has been higher than on the Tadawul. Quarter-on-quarter, investors will see companies growing and paying dividends.”