Capital Market Development in Uganda

Bank of Uganda German Technical Co-operation Financial System Development (FSD) Project
CAPITAL MARKET DEVELOPMENT IN UGANDA PRIVATE SECTOR OPINIONS ON LISTING
Andrea Bohnstedt Alfred Hannig Ralph P. Odendall
FSD Series No. 2
CAPITAL MARKET DEVELOPMENT IN UGANDA PRIVATE SECTOR OPINIONS ON LISTING
Andrea Bohnstedt Alfred Hannig Ralph P. Odendall
FSD Series No. 2
Financial Systems Development (FSD) Project 2000 Responsible: A. Hannig Publisher: Bank of Uganda German Technical Co-operation Financial System Development (FSD) Project 37/43 Kampala Road P.O. Box 27650 Kampala, Uganda Printer: Graphics Systems (U) Ltd. 8, Buvuma Road, Luzira, Port Bell P.O. Box 22631, Kampala
Private Sector Opinions on Listing
Contents Annexes........................................................................................ ii Abbreviations............................................................................... ii Preface......................................................................................... iii Executive Summary.................................................................... iv

1 Introduction ...................................................................................1 1.1 1.2 2 3 Background ...........................................................................1 Structure and Methodology...................................................3
Capital Markets in Sub-Saharan Africa.......................................5 Uganda: Country Background ...................................................11 3.1 3.2 3.3 3.4 3.5 Macro-Economic Environment............................................11 The Fiscal Environment ......................................................12 The Legal Environment.......................................................14 The Banking Sector ............................................................15 The Capital Market..............................................................16 Capital Markets Authority (CMA) ........................................19 Uganda Securities Exchange (USE)...................................20 Regional Integration of the Capital Markets in East Africa .21 General Economic, Fiscal and Legal Environment.............23 Corporate Finance ..............................................................26 Awareness Levels about Capital Markets in Uganda .........28 Listing Requirements ..........................................................31 Market Extent and Participants ...........................................33
i
Institutional Infrastructure .........................................................19 4.1 4.2 4.3
Private Sector Opinions on Capital Market Development ......23 5.1 5.2 5.3 5.4 5.5
Capital Markets Development in Uganda
6 7
Conclusions: Impediments and Potentials .............................. 37 Recommendations...................................................................... 41 7.1 7.2 7.3 Creating an Enabling Environment..................................... 41 Actively Encouraging Listings ............................................. 42 Actively Encouraging Shareholding .................................... 43
References................................................................................... 45
Annexes Annex 1: Annex 2: Annex 3: Annex 4: List of interviewees Cover letter and questionnaire Keynote by Prof. Dr. Siebel at the Dialogue Seminar in February 1999 Summary of discussions of the Capital Markets Panel at the Dialogue Seminar in February 1999
ii
Abbreviations ASEA BoU CDS CEO CMA EADB EASRA ERP FDI FSA FIS GDP GSE GTZ IMF IOSCO LuSE MOFPED NSE NSE PTA SEC SEM UMFSA African Stock Exchanges Association Bank of Uganda Central Depository System Chief Executive Officer Capital Markets Authority East African Development Bank East African Member States Securities Regulatory Authorities Economic Recovery Programme Foreign Direct Investment Financial Services Authority (UK) Financial Institutions Statute Gross Domestic Product Ghana Stock Exchange Deutsche Gesellschaft fuer Technische Zusammenarbeit/German Technical Cooperation International Monetary Fund International Organisation of Securities Commissions Lusaka Stock Exchange Ministry of Finance, Planning and Economic Development Nairobi Stock Exchange Namibia Stock Exchange Eastern and Southern Africa Trade and Development Bank Securities Exchange Commission (USA) Stock Exchange of Mauritius Uganda Merchant Finance and Stockbrokers
iii
UNDP US-AID USE VAT
Association (Guarantee) Limited United Nations Development Programme United States Agency for International Development Uganda Securities Exchange Value Added Tax
iv
Preface We believe that the capital market has the potential to make a substantial contribution to Uganda's economic development and offers a much-needed platform for companies to raise funds for expansion and investment. In a nascent market as Uganda, however, the private sector is as yet reluctant to make full use of this facility. To determine the attitude of the Ugandan private sector towards listing on the USE and the impediments they perceive, CMA and USE requested the Financial System Development (FSD) Project to conduct an independent study. Under the Financial System Development Project (FSD), GTZ supports the Capital Markets Authority (CMA) and the Uganda Securities Exchange (USE) in identifying problems in capital market development and designing incentives to overcome them. This study was the starting point of and information base for a number of joint follow-up activities. A major area of co-operation will be the design of public information campaigns that are, at this stage, crucial to generate interest and disseminate knowledge on stocks. These comprise public awareness campaigns, training programmes and focused seminars and workshops. The establishment of an Information Resource Centre with linkages to other regional information centres will enable interested parties to obtain further information on stock markets. Another strategy is the sensitisation of employers towards promoting collective investment schemes. We are proud to present this paper as part of our ongoing efforts to develop the domestic capital market and, in this endeavour; we address directly the concerns of the private sector. We are indebted to all interviewees for their openness and the time and effort devoted to answering the questionnaire and attending the
subsequent workshop. Their contributions constitute the core of this paper. Furthermore, we gratefully acknowledge the support provided by the Ministry of Finance, Planning and Economic Development (MOFPED), Bank of Uganda (BoU) and the German Embassy. This document incorporates a process of public consultation to ensure that conclusions drawn from the findings answer to stakeholders' perceived impediments and can thus make a contribution to the development of a domestic capital market, directly addressing the concerns of private sector entities as a future key player on the securities exchange.
Dr. Alfred Hannig

Teamleader Financial System Development Project
Japheth Katto
CEO Capital Markets Authority
Simon Rutega
CEO Uganda Securities Exchange
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Executive Summary Capital markets can contribute to growth by raising long-term finance for productive investment, diversifying investors' risks, improving the allocation of funds, and improving the management of firms. While these benefits are generally acknowledged, stock markets in Africa have so far not attracted a significant proportion of the global capital flows. There are, however, a few promising examples of stock exchanges in Africa, e.g. in Kenya, Namibia, Mauritius and Ghana. Factors that contributed to their success include divestiture of parastatals through the stock market, international co-operation and tax incentives. In Uganda, the government's decision to look for strategic investors rather than to sell the majority of privatised companies on the stock exchange had a profound impact on the availability of tradable stock. At the same time, the private sector is not yet forthcoming to list. Thus the Capital Markets Authority (CMA) and the Uganda Securities Exchange (USE) commissioned an independent study to determine the attitudes of the private sector towards going public. In a number of interviews carried out in February and March 1999, members of the private sector expressed the following opinions: Compared to the mid-1990s, the confidence in the Ugandan economy has decreased. The tax regime was considered problematic. This, and exchange rate fluctuations, particularly influenced the manufacturing sector, commerce and trade. Specific attention was drawn to the implementation of the tax regime. The legal framework in Uganda was not noted as a massive hindrance, yet companies considered it outdated and not enabling. Confidence in the financial sector was low at the time of the survey. Under these conditions, multinationals were generally reluctant to list on the USE. They depend largely on own funds and less on other sources of funds. There is a general concern about the dilution of ownership and the character of potential shareowners.
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Smaller companies in particular feared the loss of managerial grip on their company. While there were no serious objections to the requirements for listing on the USE, companies found them difficult and also costly to fulfil. The only bone of contention was the financial disclosure requirements. The analysis, however, also indicated clear potentials. Uganda's banking sector is currently undergoing a process of restructuring. In a strengthened and more competitive financial sector, companies will compare ways of raising capital. Indeed, a number of firms expressed interest in going public. Yet there was a considerable degree of reluctance to be the pioneer. The most promising candidates for floatation on the USE are large domestic firms with mass products that are very well known and everybody can relate to, such as producers of soft drinks and beer, hotels and financial institutions. Companies scheduled for privatisation are still of considerable interest. Current efforts to increase regional integration in East Africa add potential for the Ugandan stock market. An intensification of the already close cooperation between Kenya, Tanzania and Uganda as well as the association with international bodies should be pursued. Interviewees were generally very much in favour of opening the local market to foreign investors, which would help to attract foreign capital inflows. To realise this potential, the following areas need to be focused on: First of all, stock market development depends on an enabling environment, providing macroeconomic stability. Prudential financial sector regulation will lay the ground for a sound financial infrastructure. Further active government support can include bond issues and divesting the remaining state-owned enterprises through listing on the USE to boost trading. With regard to the tax regime, it is above all else crucial that the performance of the Uganda Revenue Authority (URA) be improved. Furthermore, tax incentives can be used to encourage companies to go public. Installing a clearing and settlement system and a central depository system and strengthening the accounting profession are further measures.
viii Capital Markets Development in Uganda
Secondly, stock market development can be furthered by actively encouraging listings. In addition to information campaigns, the successful listing of companies should be marketed as showcases. Incentive schemes and new financial instruments can directly attract new companies. Thirdly, investments in shares have to be actively encouraged, again through the use of listed companies as showcases, and also through focused sensitisation and mass education campaigns.
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1 1.1
Introduction Background
Capital markets help to mobilise savings for productive investments as companies have more choice in long-term finance between equity and debt finance, the former often being more advantageous in recessionary periods. Entrepreneurs, on the other hand, can diversify their risks, and investors have access to new instruments. By encouraging the separation of ownership and management, stock markets help to allocate capital and thus monitor the corporate sector and improve managerial and organisational efficiency (IBRD 1997: 313). Hence capital markets can play an important role in furthering economic growth by making the financial sector more liquid and competitive. This is recognised by many developing countries that strive to establish domestic stock exchanges. The institutionalisation of savings in industrialised countries resulted in capital flows searching for new investments and diversification of portfolio. In the 1990s, the level of portfolio investments in developing countries remained high and led to a substantial increase in market capitalisation (Bittner 1998: 159, 160). This development was often initiated and supported by a general trend towards structural reforms and economic stabilisation and liberalisation. Apart from the stock exchange in South Africa, which belongs to the largest 20 capital markets world-wide and is fairly integrated in the global economy, African stock exchanges, however, have not yet benefited from this trend. At the moment, most African countries still depend largely on concessionary public funds, with foreign direct investment (FDI) in sub-Saharan Africa1 having decreased to 1.2% from 2.3% in 1994
Without South Africa. 1
(Bittner 1998: 164). Yet it is interesting to note that African stock exchanges have at times belonged to the outperformers in the 1990s. Uganda, still being one of the poorest countries worldwide, has made remarkable economic progress in the past decade after reintroducing a civilian government and embarking on far-reaching and market-oriented economic reforms. Stability-oriented macroeconomic management, financial sector and trade liberalisation, as well as law and tax reforms contributed to low inflation and to an improved environment for private-sector activities, resulting in GDP growth rates of around 5-7% since 1995 (IMF 1999b). A regional differentiation of FDI in Africa shows that Uganda belongs to the "frontrunner states" that attracted 24% of the volume of FDI in the mid-1990s (Bittner 1998: 164). It is against this background that Uganda strives to build up a domestic stock exchange. While it was initially hoped that the USE could benefit from the privatisation process, the government's focus on strategic investors prevented substantial flotation of former state-owned companies. Uganda Clays was the first privatised company to be launched on the domestic stock market in November 1999, inviting the Ugandan and foreign public to participate in its ownership and returns. To encourage the supply of tradable stocks, private sector companies thus need to be encouraged to list on the USE. From the general literature as well as from this report and stakeholder workshops, it becomes very clear that successful capital market development depends on a very complex and interrelated set of factors. A stock exchange can enhance economic development, yet it cannot make up for failures and weaknesses in other areas. As a sophisticated facility for raising capital, the implications to be considered are far-reaching. Centred around a survey of private sector opinions on listing, this report aims to draw attention to the many conditions that need to be
2 Capital Markets Development in Uganda
established or improved. It is important, however, to see this as constructive contribution, as the report attempts to scrutinise the situation in Uganda to highlight the potential and the possible way forward, reflecting FSD's systemic and comprehensive approach to financial system development. 1.2 Structure and Methodology
To situate the topic at hand in the context of prior experiences, this paper begins by briefly outlining successful cases of capital market development in sub-Saharan African countries. Then follows a brief country overview of Uganda. Chapter 4 presents an institutional profile of both the Capital Markets Authority (CMA) and the Uganda Securities Exchange (USE). The sources of this profile include interviews with CMA and USE personnel and perusal of documents from both institutions as well as consulting reports as indicated in the references. As outlined above, the availability of tradable stocks is one of the most important aspects of a capital market. In chapter 5, this report summarises the findings of a survey conducted in February 1999. Mr. R.P. Odendall, a senior German banker, and two local consultants, Mr. C. Ntale and Mr. J.T. Othieno from the Uganda Manufacturers Association Consultancy and Information Services Ltd. of Kampala, conducted a number of interviews with representatives from banks, development finance institutions, local and international companies, the Ministry of Finance, Planning and Economic Development and other relevant organisations located in and around Kampala, representing a cross-section of activities in Ugandan industry, agriculture, finance, services, etc. In addition, a number of meetings were held with other stakeholders in capital markets development2 to include a circle of potential issuers, investors and intermediaries. While these interviews cannot claim
A full list of interviewees is detailed in Annex 1. 3
to represent the entire private sector in Uganda, they nevertheless reveal impediments to and potential for building up a domestic capital market. Capital market development at this stage is crucially dependent on dissemination of information and stakeholder involvement. First findings of the study were already presented and discussed at the annual GTZ Dialogue Seminar on Financial System Development in February 1999. Mr. Japheth B. Katto, Chief Executive Officer of the Capital Markets Authority, chaired the panel. The keynote speaker was Prof. Dr. Ulf R. Siebel of Frankfurt a. M., Germany, whose presentation is annexed to this report. The participants on this panel included high-ranking representatives from the Uganda Securities Exchange, Private Sector Foundation, East African Development Bank, Privatisation Unit at the Ministry of Finance, Planning and Economic Development, and the Uganda Investment Authority. In a second step, following the collection and analysis of interview data, GTZ-FSD and CMA/USE held a stakeholder seminar on 2 November 1999, again with a number of high-ranking participants, to present and discuss the findings and subsequently to draw conclusions and recommendations for further action. The outcome of this process of public consultation is integrated in the last chapter of this publication.3
A separate report is available for this workshop. Capital Markets Development in Uganda
Capital Markets in Sub-Saharan Africa
As mentioned in the introduction, African stock exchanges, while at times belonging to the outperformers in the 1990s, still only attract an insignificant proportion of global portfolio investments, even in comparison with other developing countries. African stock exchanges are typically small and illiquid, with low sector diversification and few listings. A small number of listings represent a large share of the market capitalisation. The high concentration ratio may thus subject the stock market to high volatility. The listings traded usually reflect the structure of the economy, focusing on a few sectors such as traditional commodities, breweries, agrobusiness, banks and tourism. Privatised former state-owned enterprises are the bulk of the companies listed, whereas there are hardly any family-owned companies going public. The limited volume of trade renders the market illiquid, with a number of titles not being traded for weeks and investors pursuing a buy-and-hold strategy.4 In many countries, foreign investments are still curtailed. Restricted trading hours and the lack of a central depository and clearing and settlement system mean that the risk of default on payment or delivery is large, and delays in delivery also increase the market risk. In these instances, chain reactions may have systemic consequences. Legal and custodial risks arise when there are no adequate ways of proving ownership, exacerbated when legal recourse is lengthy and costly. Similarly, the rights of minority shareholders are often insufficiently protected. Finally, investors have to consider information and regulatory risks and costs. There is hardly any substantive information available on firms due to a common lack of qualified
Ironically, the low degree of integration in the global economy and thus low covariance with international stock markets adds certain stability to these markets. 5
accountants and auditors in combination with weak accounting and auditing standards (Bittner 1998: 169-176; IBRD 1997: 309-311). The environment for stock markets is further impeded by interest subsidisation and foreign exchange risk guarantees that render corporate finance through debt more attractive. Companies interested in going public are often deterred by the prohibitively high costs of listing. An unstable economic environment characterised by government interventions, erratic financial, foreign exchange and general economic policies, low transparency and weak supervisory authorities stifle the development of a securities exchange. Thus the environment for building up capital markets in most African countries is still far from conducive. Uncertain political and economic circumstances deter investors as well as public ownership. Nevertheless, a few success stories can be identified even in such challenging conditions. The following paragraphs, while being far from comprehensive, represent a few examples of successful stock market development in Africa and indicate potentials for development:5 Officially established in 1954, Nairobi Stock Exchange (NSE) in Kenya is one of the oldest stock markets in Africa. Having evolved from a voluntary association, recognition from the London Stock Exchange as an overseas stock exchange was central for its credibility. Uncertainty of the post-independence years, economic slump after the oil crisis and a 35% capital gains tax severely hampered the performance of the stock exchange. However, the NSE benefited from structural reforms in the 1980s and early 1990s as well as from internal capacity building. A major push, however, was the privatisation of former state-owned enterprises that did not only increase the
The following information is largely based on Media Profile/Reuters, African Stock Exchanges Handbook '99, Johannesburg 1999. 6 Capital Markets Development in Uganda
market value, but also improved public awareness about such investment instruments. This trend was supported by the removal of restrictions on foreign investments and the licensing of venture capital funds, dealing firms and other collective investment vehicles. Ghana Stock Exchange (GSE) began trading in 1990. Between 1990 and 1996, a number of state-owned companies were prepared for listing. Ghanaian investors, however, have a highyielding and safe investment opportunity in government treasury bills with up to 45% interest. Yet in recent years, 15 out of the 21 listed companies have outperformed the treasury bills. After a difficult beginning, the demand for stocks has risen to an extent that surpasses the limited stock available, creating surplus demand. Government incentives to encourage going public include three lists with different listing requirements to further local access to the stock exchange and a reduction of corporate tax from 45% to 32%. While privatisation has furthered trading on the GSE, local firms are still reluctant to go public. Generally, expectations about the development of GSE are positive as far as the companies traded are concerned; yet doubt about the political stability in Ghana remains. Against the background of a long history of share trading, the Stock Exchange of Mauritius (SEM) was formally established in 1988 and began trading in 1989. Apart from a very few restrictions,6 foreigners can invest freely on the SEM. In comparison to other African countries, Mauritius' track record as an "African success story" is reflected in the listing of 40 local and two foreign companies7 and ten corporate debentures. One of the main reasons for this success is the incentive regime offered by the government to participants in the capital market. The incentives include a 10% corporate tax
Foreigners must not hold more than 15% in a sugar company (Profile/Reuters 1999: 83).
7
As of December 1997 (Profile/Reuters 1999: 83). 7
reduction for listed companies, removal of stamp duty on share transfers and capital gains tax and low tax on dividends received from listed companies. The SEM's success is mirrored in relatively sophisticated facilities: In the 1990s, SEM installed a new electronic trading system and a Central Depository System (CDS), established new listing regulations and introduced new financial products. Mauritius was also one of the founding members of the African Stock Exchange Association (ASEA). The future of the Mauritian economy and thus also of the SEM depend, however, on the ability of the economy to maintain and build upon its momentum of the past years. Namibia's independence in 1990 gave an incentive to set up a local stock exchange, with operations on the Namibia Stock Exchange (NSE) beginning in 1992. NSE profited from its close connection to South Africa through dual listings of the larger domestic companies on the capital market in Johannesburg. In addition, NSE trades bonds issued by governments and parastatals. Since 1994, there were also a few Namibia-only listings, but the majority of the almost 40 companies is still traded in South Africa as well. As a result of the dual listing, NSE is one of the biggest stock exchanges in terms of market capitalisation and is equipped with a sophisticated infrastructure. The World Bank, the International Finance Corporation and UNDP as well as the Zambian government contributed to the establishment and the first two years' operating costs of the Lusaka Stock Exchange (LuSE). Joint efforts were made to set up a modern infrastructure to meet general international investment standards with, for example, a central depository system. LuSE has a tiered market with official listings that need to fulfil the listing requirements in the first tier, and quoted companies in the second tier. The latter comprises public companies not yet admitted to the official list, and will allow smaller and medium companies to raise capital. LuSE has been able to attract the listing of private sector companies,
including international banks, through the incentive of lower corporation tax for listed companies. A major push for LuSE is expected from planned privatisation. Yet an attempted coup in 1997 and the ensuing unstable political situation as well as a balance of payment crisis had a far-reaching impact on the economy in general. The above country examples only capture a part of the stock exchanges currently operating in sub-Saharan Africa. Yet they already outline a few lessons: The privatisation of former stateowned enterprises as a part of structural and institutional reforms can be a substantial element for the development of a domestic capital market by providing a critical mass of stock for trading. In addition, this helps to raise awareness in the population about investing in shares as a savings instrument and thus encourages public participation. In a broader perspective, successful privatisation programmes through public floatation can incite international investors' interest as they signal functioning stock markets, transparency and accountability in the traded companies and a gradual adoption of international standards, thus supporting the creation of a financial infrastructure and confidence for direct investments (Bittner 1998: 177/178). Tiered markets and tax reductions can be an incentive for firms to go public. Particularly in countries with low domestic savings rates and low incomes, it is important to attract foreign funds. Thus the removal of restrictions on foreign investments can contribute to raise capital. As in the case of Kenya and Namibia, close cooperation with internationally established stock exchanges can help to promote the domestic stock exchange by supplying tradable stock and international recognition. Donor support can be usefully employed to establish an adequate and up-to-date technological infrastructure in the individual stock exchanges that improves the efficiency of settlement and clearing procedures and meets international investors' expectations.
Finally, the importance of the general macroeconomic environment and political stability must be emphasised. Historically, the development and success of stock exchanges in Africa depended on political stability (Media Profile/Reuters 1999: 42), which is crucial for any investor, whether domestic or foreign. Investors also scrutinise privatisation campaigns for signs of political interferences as an indicator for a competitive development of the economy. Stock market development in Africa will be a difficult and complex endeavour, yet its potentials and benefits go beyond returns for individual investors. Equity finance requires a long-term perspective with the entrepreneur being accountable to more than one person and the shareholder value being indicated by the market. This will ultimately improve corporate governance and competitiveness. Foreign investments can also lead to technology and know-how transfer. Within the financial sector, it can contribute to setting standards for transparency and efficiency, serving as an impulse and benchmark. A diversified financial sector increases competition and allocational efficiency and can counterbalance cartel-like and clientelistic structures in the banking sector. In the long term, financial institutions stand to benefit from this development, as the transparency induced by listing requirements will enable banks to better assess credit risks. On a global level, functioning stock markets have a signalling function that indicates to foreign investors that internationally accepted standards are gradually being adopted (Bittner 1998: 177-181).
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3 3.1
Uganda: Country Background Macro-Economic Environment
The reintroduction of political stability in Uganda and the efforts of the government's Economic Recovery Programme (ERP) since 1987 allowed the country to return to a sustainable growth path with an average annual GDP growth of about 6% over the past decade (MOFPED 1999: 3). More than a hundred parastatal organisations were restructured and partially privatised under the auspices of the Privatisation Unit of the Ministry of Finance, Planning and Economic Development (MOFPED). Agricultural products markets were liberalised and the economy was opened to foreign investors. In this environment, the private sector could gradually become the motor for individual enterprise, more employment and thus growth. Tight fiscal control finally managed to stabilise the exorbitant inflation inherited from the previous government at below 10% p.a. over the past five years. It has been maintained at this level despite a rather concerning depreciation of the Ugandan Shilling of 15% towards the end of 1999. However, as Uganda has to import its basic energy supplies, rising oil prices since February 1999 temporarily increased inflationary pressures. Private sector competitiveness in Uganda is impeded by the high costs of utilities, especially electricity and telephone services, and poor infrastructure. This is intensified by the landlocked geographic location of Uganda, which increases transport costs. Qualified labour is still not widely available in a rural, largely subsistencebased economy where 90% of the population depend on agriculture (USAID 2000, CIC 1999: 18). The high costs of capital also impede private sector development: Commercial loans cost over 20% as compared to 8-10% on international markets. However, while starting from a very small base, the manufacturing
Capital Markets Development in Uganda 11
sector has grown from 4.7% of total domestic output in 1987 to 9.0% in 1997, which translates into an average annual growth of 14.5% p.a. (MOFPED 1999:3). Uganda is still among the poorest countries in the world as it recovers from years of political instability and economic decline. However, the current Medium-Term Competitive Strategy for the Private Sector, elaborated by the MOFPED (1999), represents a coherent and ambitious strategy to improve the national infrastructure, create an enabling framework for economic growth and continue the privatisation efforts. 3.2 The Fiscal Environment
Despite having risen to 14.7% of monetary GDP in 1998 from 7.6% in 1986, public revenue remains a critical issue in Uganda. The reasons given for this poor performance are low-income levels in the country, whose economy has only small industrial and service sectors with low formal employment, and the fact that direct taxation of the large agricultural sector is limited. Moreover, Uganda has a poor tax-paying culture that can only change slowly over time. Thus a considerable share of total revenue collected used to stem from taxation of international trade. The overall public deficit8 was reduced from 15% of GDP in 1991/92 to 7.2% in 1997/98 (MOFPED 1999: 3). Yet a deficit remained in the public sector budget, which could only be filled by foreign aid. According to World Bank (1996) figures for the fiscal year 1994/95 for instance, 84% of public investments in this reported period were donor-funded. Total external debt remained high, but Uganda is one of the first countries to benefit from the HIPC initiative for debt relief.
Excluding grants. Capital Markets Development in Uganda
12
A study on "Taxation and Private Sector Competitiveness" by the Private Sector Foundation published in 1997 shows that during the period from fiscal year 1988/89 to fiscal year 1994/95 the tax/GDP ratio doubled from 5.22% to 10.76% with a further increase to over 11% in 1995/96. Yet, the broadening the taxation base over the years and the substantial increase of GDP during this period imply that this percentage figure is providing only limited information: total taxes collected had in fact increased over the period by 1070%. Customs tax, sales tax and income tax with a percentage of 36.56%, 26.13% and 14.78% respectively, of total tax revenue in the fiscal year 1994/95, were the largest contributors. The study mentions, however, that the prominence of indirect taxes was detrimental to the propensity to save as the burden of these taxes had to be borne by the final consumer who reacts by adjusting demand. The World Bank stated in its Uganda Strategy Paper of August 1997, that "tax policy has been a relatively neglected area as efforts have focused on achieving rapid increases in public revenue. This has resulted in high tax rates which are likely to adversely affect private investment." Efforts undertaken to reduce the gap between public revenue and expenditures to make the country less dependent on external aid include various tax reforms that increased the number of taxpayers by issuing identification numbers to some hundred thousands of individuals and businesses. Moreover, tax exemptions and the reliance on taxes from international trade were widely reduced. As suggested by the World Bank, taxation policy moved to direct taxation and, through the introduction of VAT, to higher indirect taxes, although smaller businesses are still exempt from charging VAT. As underlined by the IMF (1998: 4), it is important to "regain the momentum in the improvement of revenue collection while liberalising and rationalising the tax structure."
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3.3
The Legal Environment
Under the auspices of the Law Reform Commission and with funding from the IMF and the World Bank, commercial laws are currently being reviewed and amended to modernise and consolidate them. Some laws were newly conceived. A draft of the new Companies Act, dated 14 July 1998, contains 181 articles and is still under discussion with the relevant ministries. The Commission has reached an advanced stage in its work and the respective bills are soon to be submitted to Parliament. The introduction of court divisions helped to improve the pace of judicial proceedings. In spite of these changes, investors still perceive weaknesses in the legal system, not only in terms of the legal and regulatory framework, but with particular regard to poor law enforcement, as aptly observed by the MOFPED (1999: 26): "Most of Uganda's commercial laws need some amendment: they are often outdated, create administrative difficulties and raise costs to private sector firms. However, in many cases, the key problem is not the law itself, but the fact that it is largely ignored and not enforced, because of administrative problems within government, and poorly functioning commercial courts and registries." This paper also notes the absence of insolvency proceedings, which leads to the inefficient use of assets, aggravates the poor repayment culture and curtails financial institutions' lending. A review of the legislation directly concerning the capital market9 shows that the internationally required protection of the rights of investors plays a primordial role in the drafting of these texts and regulations to attract not only domestic funds, but also foreign investors. The objective appears to be to eliminate all restrictions
The Capital Markets Authority Statute of 1996, the Capital Markets Prospectus Requirements Regulations of 1996, the Uganda Securities Exchange Limited Rules and Regulations of May 1997, and the Uganda Securities Exchange Limited Listing Rules Manual - Review by Mr. Odendall. 14 Capital Markets Development in Uganda
and enhance financial intermediation between suppliers and users of capital funds. The possibility of up to 100% foreign ownership in listed Ugandan companies, the fact that the Uganda Securities Exchange introduced a two-tier market to allow listing of smaller companies, and the existence of a draft legislation on collective investments before Parliament further enhance the impression that the legal framework pertaining directly to the capital market, is very favourable. Foreign investors are permitted to own land as long as their interest in the said land does not exceed leasehold tenure. This is neither difficult to obtain nor limited. A foreign investor, for example, can have a 99-year lease in Uganda. 3.4 The Banking Sector
Since 1987, the Ugandan government has liberalised the financial sector through far-reaching reforms in monetary policy and operations, commercial banking, and foreign exchange. The reforms include the complete liberalisation of external capital transactions and the removal of all interest rate controls, credit ceilings, and administrative credit allocations. Legislative reforms comprise the Bank of Uganda Statute 1993, which renders Bank of Uganda (BoU) independent in maintaining low inflation, as well as the Financial Institutions Statute (FIS) 1993, under which BoU sets and enforces prudential regulations for commercial banks. The independence of the Governor of BoU is contained in the constitution (IMF 1999: 3). Structural reforms in agreement with the IMF foresee that BoU will reduce the use of primary issuance of government securities for managing bank liquidity, but rely more on open market operations with its own stock of government securities (IMF 1998: 6). The market-oriented reforms of the previous years also led to restructuring and privatisation of financial institutions, forcing them to deal with problems resulting from a bad loan structure and an overall bad debtor mentality, as partly indicated by the high
spread. By 1999, four banks had been closed. Past experiences with an underdeveloped financial system and the bank crisis contributed to a general loss of confidence in formal financial institutions. Confidence in the banking sector is gradually returning. Therefore, a substantial part of the country's liquidity still appears to be held outside the financial sector.10 This not only causes problems for the banks with regard to refinancing their loans, but also seriously hampers their growth potential. A recent study prepared on behalf of the World Bank (CIC 1999: 6) indicates that foreign investors perceive access to finance as one of the main problems in setting up a business. This painful process of financial sector restructuring is far from complete. Currently, the Financial Institutions Statue is being reviewed with the objective of strengthening and tightening the regulatory and supervisory capacity of Bank of Uganda. 3.5 The Capital Market
There are as yet hardly any mechanisms for the intermediation of long-term funds in the Ugandan market. Real competition for funds between public and private issuers has not occurred in the Ugandan capital market. So far, the bond market has only been tapped by two parastatal development institutions, the East African Development Bank (EADB), whose capital is held with equal parts each of 25.78% by the governments of Kenya, Tanzania and Uganda, and the remaining 23.68% shared by private shareholders, and the Eastern and Southern Africa Trade and Development (PTA) Bank. These bonds are predominantly of interest to a few institutional investors. Individuals or corporations will not use bonds as money replacements because their yield is
10
Weig (1998: 4), however, quotes a successful limited partnership fundraising effort as an indication that there may be capital available in Uganda for investment opportunities. Some bank managers estimate the amount of hidden savings as high as 60% of M1 (Information received by Mr. Odendall in interviews). Capital Markets Development in Uganda
16
not attractive enough compared to the interest offered by the commercial banks for short-term deposits. In addition, it is difficult for any bond issue to compete with the government-issued treasury bills which offer various periods to maturity (91, 182, 273, and 364 days) and are administered by the Bank of Uganda. Interest payments on treasury bills are tax free, whereas bond interest payments are subject to taxation. This is a clear advantage for government-issued paper, as by definition, a government obligation is always of prime quality, so that the investor does not have to assume any additional risk. Treasury bills can easily be discounted in the market in case of cash needs, whereas the bonds are rather difficult to liquidate. Commercial banks will not place any excess liquidity in a bond issue because with 100% such placements weigh just as much as any other credit or loan on their books on the risk ceiling imposed by Bank of Uganda, whereas the treasury bills do not fall under such weighting. They are predominantly used for monetary policy as opposed to raising long-term funds, yet absorb most of the Ugandan market's liquidity. During the financial year 1997/98, the issue of treasury bills of a volume of USH416.5bn was oversubscribed by 80% (The Monitor Newspaper, 04 Jan 2000, p. 6). Approximately 78% of the treasury bills are held by commercial banks. These figures indicate a high level of excess reserves. The Government of Uganda announced plans for a bond in the 2000/2001 budget (The New Vision, 16th June 2000, and The Monitor Newspaper, 16th June 2000). In January 2000, the Uganda Securities Exchange (USE) began the secondary trading of Uganda Clays, the first company to be listed and also the first former state-owned company to be divested through public floatation. The share issue of 325,000 shares at USH 4,000 per share, representing some 65% of the company's equity, was oversubscribed by 15%.
17
18
4 4.1
Institutional Infrastructure Capital Markets Authority (CMA)
The Capital Market Authority (CMA) was set up by enactment of the Capital Market Authority Statute by the Parliament of Uganda in 1996. As the regulatory authority, it was charged with the responsibility of promoting and developing an orderly, fair and efficient capital market. Under the Statute, rules on licensing, prospectus requirements, establishment of stock exchanges, conduct of business by licensees, advertisements, accounting and financial requirements have been developed (IMF 1999: 21). Under these regulations, the CMA does not only regulate the USE, but also stockbrokers/dealers or any other persons dealing in securities within the national territory. Finally, on all policy matters concerning capital market development, the CMA has an advisory and consultative role. The legal and regulatory framework as stipulated by the Capital Markets Authority Statute seems adequate to enable the CMA to fulfil its tasks of regulating the Ugandan securities market. As the CMA is empowered by statute to make its own rules and regulations as and when necessary, it has all the means on hand to enforce an efficient market supervision to safeguard the interests of investors. The latter is of utmost importance to foreign investors who wish to enter and operate on the Ugandan securities market. Under the Capital Markets Prospectus Requirements Regulations, the CMA can ensure from the very beginning that full and reliable information for all securities issues is being given to the public, to foster the confidence of investors in the Ugandan securities market. The CMA also operates a Compensation Fund to compensate investors who incur losses due to the failure of licensed brokers or dealers to honour their contractual obligations.
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4.2
Uganda Securities Exchange (USE)
The Uganda Securities Exchange (USE) Ltd. developed out of Uganda Merchant Finance and Stockbrokers Association (Guarantee) Limited (UMFSA), founded in 1996 by five banks. After its members, whose numbers had risen to ten, had received their licences as stockbrokers and investment advisors, UMFSA was transformed into the USE in June 1997. It is owned by the licensed brokerage firms in the country and licensed by the CMA to operate as an approved stock exchange and perform selfregulatory functions in its operations and to its members. So far, an open outcry trading system is used, with trades being registered on a board. Efforts are under way to acquire the infrastructure for electronic trading at the USE. A Central Depository System (CDS) has been installed with Bank of Uganda. As mentioned, there are at present two bond issues and one equity listed on the exchange, the latter being Uganda Clays, the first privatised company to be launched on the domestic stock market. Moreover, the exchange is actively involved recording rediscounts in government treasury bills. The USE Rules and Regulations, approved by the CMA and published in May 1997, provide a professionally set-up basis for allowing trade in a fair and efficient securities market, as do the stipulations contained in the USE Listing Rules Manual. The "Basic Conditions to be Fulfilled by an Applicant for Listing", e.g. the amount of minimum capital required, the time a company must have published or filed its accounts, the request that the accounts must have been drawn up and audited in accordance with standards regarded as "appropriate for companies of international standing and repute," the evaluation of profit forecasts or the minimum number of shareholders etc., fully comply with international usage. The stipulations of the listing rules are clear and as such acceptable to almost any stock exchange in the world. However, while allowing for certain exemptions, compliance with
20
the Listing Rules is likely to be a challenging task for a great number of Ugandan companies. There is a clear commitment to attain international standards. While not yet formally endorsing its standards, both CMA as well as USE are in regular close contact with the International Organisation of Securities Commissions (IOSCO) and CMA became a member in May 2000. 4.3 Regional Integration of the Capital Markets in East Africa
Acknowledging the benefits to be derived from a larger East African market, the respective statute governing the Ugandan securities market largely conforms with the disclosure and reporting standards applicable in Tanzania and Kenya. Both the CMA as well as the USE are members of the East African Member States Securities Regulatory Authority (EASRA), under whose auspices efforts are made to harmonise securities laws and standards with a view towards integrating the individual markets, building up a regional exchange, and establishing cross-border investments and listings (IMF 1999: 21). Further, USE is a member of the African Stock Exchanges Association (ASEA) while CMA has observer status in this institution. Other relationships with bodies of the industry include the Securities Exchange Commission (SEC) of the United States, the Financial Services Authority (FSA) of the United Kingdom, and the Financial Services Board of South Africa (IMF 1999: 21). The USE was recently approached by the South African University of Stellenbosch to participate in a programme of its Centre for Investment Analysis, to exchange information with a view to publishing all quotations on the African exchanges on a daily basis. The long-term perspective is to establish an overall African market index. Despite the fact that there is a political will to further the East African regional integration, the realisation of this development
might take more time than is expected. Harmonising the macroeconomic parameters, e.g. fiscal policies, interest rates and withholding taxes, of the three countries will take time. The traditionally agriculture-based Ugandan economy will have to open its borders for the products of a more industrialised country like Kenya. While the large Common East African market will take time to achieve, the cooperation between the capital markets authorities and stock exchanges may succeed earlier because the economic interest of issuers and investors will push this development further. Interestingly, in contrast to earlier attempts towards an East African regional integration, the current developments on the securities markets are largely driven by the private sector.11
11
Personal interview with the Legal and Compliance Officer of the Capital Markets Authority (CMA). Capital Markets Development in Uganda
22
Private Sector Development
Opinions
on
Capital
Market
It is important to note that the following paragraphs are based on a summary of the interview questionnaires, thus representing statements and opinions given by members of the private sector. 5.1 General Economic, Fiscal and Legal Environment
The confidence in the development of the economy and thus in a favourable environment for private sector activities seems to have suffered in the past year. Companies note a low level of competitiveness, macroeconomic instability and other factors like corruption that cause uncertainty and impede efficiency. For many of the respondents, government expenditure per se did not pose particular difficulties to business. Only a few businesses that do considerable business with government are affected by national budget allocations and cuts to their business sectors. Yet they criticised the government's spending on military affairs (which constrains expenditures in other sectors). It was also noted that frequent changes in the budget and the failure to implement budget proposals could render business planning more difficult. All the businesses interviewed, apart from those dealing in fast-selling consumer goods, are affected by shortages of cash in the economy. Most severely affected are those companies that do business with government. Government is the biggest spender in the economy and its seasonal expenditure control measures directly affect cash flow in their business. The tax regime has considerable influence on the private sector. Companies engaged in manufacturing, commerce and trade are most adversely affected by taxation. A number of businesses lamented that the tax rates are high, particularly for imports, which is a constraining factor for investment. The tariff rates on various
inputs and commodities vary considerably during the financial year, thus rendering company budgeting difficult and causing cash flow problems. Companies engaged in service provision such as banking, insurance and other professional services are least affected by the tax regime. Only one of the breweries found the tax regime favourable and the government receptive for suggestions, which subsequently contributed to the company's turnover and profits. Interviewees observed, however, that the tariff rates have become more stable and the tax policies less stringent over the past two years. Similarly, fluctuations in the exchange rates affect those businesses engaged in import and export of products, manufactured or processed products and raw materials. While the exchange rate had been stable over a few years, recent exchange rate deteriorations have restricted business by rendering raw materials more expensive. This is particularly important with regard to the fact that taxes in general and import duties in particular are considered high, thus affecting the purchase of raw materials necessary for the manufacturing industry. There were a number of complaints about the implementation of the tax regime, particularly with reference to instances of corruption in the Uganda Revenue Authority (URA). Specific accusations were made to the effect that the URA turned to established companies to cover the deficits when tax targets are not achieved, and that the duty drawbacks for exports were not reimbursed as promised. The inflation rate over the past four years has not been a problem to the businesses of the respondents. This is attributed to the strict macro-economic stability measures adopted by government. Many of the respondents believe that the macro-economic stability is one of the major forces driving investment in Uganda. All the interviewees stated that Uganda has a very low savings rate. Yet at the same time the conclusion was not uniform: it was
not a major concern that this would affect the availability of funds for business investment. Apart from the banking and insurance companies, many interviewees are not affected by the domestic savings rate in the country, as they do not currently depend substantially on savings for their investment. Regarding the influence on business, it was also considered that a low savings rate was beneficial for businesses as consumption was higher. It was, however, generally argued that the savings rate should be raised through concerted efforts of government. The smaller companies are affected more than the larger ones by bank lending and overdraft rates. This is due to the fact that the smaller companies depend more on bank borrowings to finance their operations than the larger companies. Those respondents who primarily rely on bank loans and overdrafts consider interest rates very high, thus reducing profitability and discouraging borrowing for expansion. Larger companies and multinationals can rely, to a greater extent, on their own reserve funds for their financial requirements. The general feeling among the respondents about the legal environment is that the laws do not pose substantial problems to the operations of businesses in Uganda. Nevertheless, in spite of not being massively affected by the legal framework, interviewees made it clear that it was not enabling either. They consider company and commercial laws as outdated and irrelevant in many instances to the current business environment and recommended a review of and amendments to the laws. The Law Reform Commission that subjects the legal framework to a complete overhaul is currently undertaking this. Greater concerns to most interviewees, however, were substantial problems with the implementation and enforcement of the laws. Judicial procedures are slow and court decisions take considerable time, hinting at inefficiencies in the legal system. The enforcement of the law is severely undermined if there is corruption among the enforcement officials. Further, the lack of commercial courts was criticised.
In the case of banks, the Land Law contains particular impediments as banks may lose money if they accept land as collateral for credits or loans. There have been cases where the courts set loan defaulters free without any adequate explanation to the lenders whose rights were not protected. 5.2 Corporate Finance
The financial system in Uganda is widely regarded as underdeveloped and inefficient. Apart from the foreign-owned and some domestic banks, the majority of the licensed commercial banks are facing serious problems due to the low level of deposits, a high percentage of non-performing loans in their portfolios and the necessity to increase their own capital base in order to fulfil the increased capital requirements by the Bank of Uganda. Most of the financial institutions are concentrated in Kampala, whereas the countryside is substantially underbanked. The survey has shown that most of the multinational companies operating in Uganda as well as some of the larger local companies rely to around 80% or more on own funds and then to a lesser extent on bank loans and overdrafts. By comparison, many of the local companies and in particular the smaller local companies have to revert to bank loans and overdrafts for their financing requirements. The majority of the businesses interviewed had plans to step up operations of their businesses either through expansion, diversification or capitalisation. One car dealer, however, observed that the small local market and the high taxes would actually render downsizing more efficient. While a number of interviewees were generally willing to raise capital from other sources such as issue of shares, bonds, private placements or commercial paper, these currently seem to be options rather than concrete plans. The multinationals were particularly sceptical about raising capital through the issue of securities in the Uganda market. They argue that such a move would have to wait until Uganda's corporate structure and capital
markets were well developed. They would prefer to continue sourcing capital from their foreign entities because they felt that Uganda's economy, and in particular the private sector and savings rates, were still too shallow to raise substantial capital for their investment needs. Some multinational companies policy is to list their shares only on those stock exchanges that they consider better established. Concerns about an immature corporate structure and insufficient players do not yet attract large issuers. In relation to this, a number of multinationals hesitate because they are weary of who would buy the shares of their company. Multinationals operating in Uganda usually also have the advantage of being able to fall back on their own reserves, so they do not need to raise additional capital or borrow from the public in Uganda. Finally, some of the large companies in Uganda were, until recently, still either wholly or partially owned by government. These companies are currently being restructured and/or divested and feel that they cannot list on the stock exchange as long as they are not sufficiently profitable. Local companies reflect the problem that public awareness about capital and financial markets in the country seems very low, as indicated in the following section. Therefore many companies do not seem familiar with the operations of a capital market in Uganda. Thus, the absence of a busy operational stock market, i.e. lack of companies listed on the USE, has in itself been a setback for developing and popularising the capital market in Uganda. Family businesses in particular were reluctant to go public for fear that this would dilute their ownership and managerial grip on the company. A few of the local companies, however, were willing to list their shares on the Uganda Securities Exchange as soon as they are mature enough. A number of firms consider that they have not yet attained sufficient profitability and competitiveness while for some, the company policy does not yet allow for listing.
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This confirms a general tendency found among the interviewed firms: while a number of companies seem, in principle, very interested in the financing options that a listing on the stock exchange would offer, there is a high degree of reluctance to be among the pioneers, as expressed in the following statement: "We don't want to be the first. The general public doesn't know (about capital market operations). We need to do publicity and sensitisation we are uncertain of who will invest in case we list. That is why we have to observe developments first. Another reason why we are reluctant to list is attracting a number of powerful shareholders investing in our equities. We are not keen to have one individual buying more than 5% of the shares. For this reason, we are looking at our stakeholders, like employees, distributors and farmers to invest in our equity instruments initially." Further, there was a mention that listing on the Ugandan stock market is not an option at the moment because there was considerable lack of transparency and dishonesty in the market, thus the company would prefer to keep its internal information confidential. These comments coincide with the opinion of a development finance institution that Uganda has as yet "no shareholder climate" as people are not used to holding equity, but instead focus on short-term returns in most transactions. In relation, there were frequent observations to the effect that companies are unsure about the character of potential buyers, and would therefore prefer to sell shares, if at all, to their own employees. 5.3 Awareness Levels about Capital Markets in Uganda
All of the interviewees stated that they were familiar with the terminology used for tradable securities to different degrees. Some explained, however, that this was mainly due to the fact that they had lived or worked in countries with developed stock markets. They were generally aware of the CMA as a regulatory institution for the capital market and acknowledged its importance, as they
underlined that transparency, fairness and commonly established standards were crucial for the development of a stock exchange as they would safeguard investors' interests and build up confidence. All respondents knew about the USE, although most of them were unsure about the ownership structure.
Rating of Knowledge on Terminology about Capital Markets Terminology Level of Knowledge High Medium Low Financial Markets Securities High Medium Low High Medium Low Stock Exchange Listing on the Stock Exchange High Medium Low High Medium Low Company Respondents Knowing the Terminology (%) Ugandan Capital Markets 25 60 15 75 15 10 15 20 65 15 20 65 15 25 60 Multinationals 80 20 90 10 80 20 80 20 0 70 25 5
Interviewees agreed that the general public is neither familiar with the terminology of a stock exchange nor aware of its activities and the products it offers. According to a number of responses, it was doubted that the social elite were fully informed on the functioning of capital market operations. The model rating of the respondents'
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knowledge on capital markets terminology is illustrated in the table above. Most of the persons interviewed were of the opinion that the general public should at least have a notion of the functioning of a stock market. They considered it necessary to raise public awareness: if incomes are rising, the population should be aware of new ways of saving and investing. Developing a savings culture would contribute to the economic development of the country. However, a few voiced the concern that it was too early to expect significant involvement from the general public, considering that Uganda was a largely rural-based economy, and so suggested to first encourage the listing of companies. Respondents noted that the low awareness levels in Uganda might indicate that the CMA should step up its efforts in sensitising the public to this subject. When asked for suggestions as to how the public could be made more aware about capital markets, interviewees proposed a number of different strategies: on the one hand, awareness among the general public should be increased through public education, using mass media such as radio and newspapers, and conducting promotional activities on a regular basis. It was suggested to integrate education about capital markets into school curricula. Targeted training e.g. for company executives and employees was also envisioned. Another observation made was that potential investors need to have tangible experiences of a capital market to become interested - an operational capital market would generate an increase in operations itself. This might also be supported through the establishment of mutual funds or unit trusts. Respondents suggested that there must be first some pioneer companies successfully trading on the stock exchange. This would in turn encourage those companies that are sceptical about listing on the Uganda Securities Exchange to review and change their position. Because the idea of capital markets is new to the majority of
Ugandans, a practical demonstration of how capital markets operate would be the best way to familiarise and give experience to the public. The CMA and USE should carefully select companies that are likely to perform well. Particularly in the initial stages, it was imperative that these companies be successful. Any mistakes at this stage could have far-reaching implications for the future of the capital market in Uganda. A successful pioneer capital market, however, could be in itself a way of making the capital market popular. 5.4 Listing Requirements
All interviewees agreed that the listing requirements were not a decisive factor that would keep them from listing on the USE. They considered the full disclosure requirements for listing adequate and acceptable as fair standards to protect investors and ensure confidence in the market. Nevertheless, a number of the participants acknowledged that the requirements seemed difficult to fulfil. Serious objections to the listing obligations were only made regarding financial disclosure requirements. Although they were not a problem for the multinational and larger local companies, the obligations were noted as a major hindrance for the smaller local companies to list on the stock exchange. Public disclosure will also inform the tax authorities on profits and tax returns filed. In addition respondents were concerned about the cost of meeting the initial listing requirements. The costs of hiring professional advisors and accountants, of publishing the prospectus as well as the listing fees may turn out to be prohibitively high. Many of the respondents from the local companies believe that the minimum capital requirements for listing on the USE are too high for local companies in Uganda.
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Some respondents suggested that the rules should be tailored to suit different company needs and be relaxed to adapt to various business sizes, experiences and number of shares. Respondents, especially from local and smaller companies, believe that fiscal concessions could be the most attractive incentive for them to issue securities on the Uganda Securities Exchange. These should be in the form of tax incentives, e.g. a lowering or waiver of corporate tax or withholding tax on dividends from shares or interest payments on bonds and other fixed income securities. Support with the costs of listing or lower capital requirements would also be helpful. Yet they cautioned that their willingness to list would depend on the extent of incentives and tax reductions. These firms also mentioned the possibility of issuing shorter term fixed income securities. On the other hand, respondents, particularly from the multinational companies, believe that the benefits accruing from such incentives, in monetary and on business terms, would trigger an earlier decision for them to list on the USE. Interviewees furthermore suggested selling the public enterprises destined for privatisation through the stock exchange to kick-start the capital market and to give it experience. As mentioned before, it is interesting to note that a number of interviewees said that they would, in principle, be interested in floating or buying shares themselves, but were watching the market, waiting for someone else to take the first step. The interviewees were asked whether they would be prepared to provide guarantees, e. g. fixed assets or collateral when this was required for issuing debentures, bonds or securities of any kind. To most firms, this was an acceptable procedure to protect investors from losses. Yet there were critical remarks that the provision of guarantees cannot compensate for a transparent, prudentially regulated and credible system and that guarantees cannot ensure the viability of an investment.
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5.5
Market Extent and Participants
Interviewees expressed lower confidence in the economy at large, not least due to cases of corruption in public services. In addition, crops were bad in the recent years. When asked to evaluate a number of factors on their importance for the development of the Ugandan capital market, they did not identify a single, dominant impediment. The lack of public awareness was considered a major impediment, as was the lack of confidence in the financial system. Then followed the lack of information on companies and the market, the lack of listed or tradable companies and bonds, and the lack of incentives for listing. Fiscal incentives for investors were considered to be of medium importance, as were the low savings rates. While some interviewees found that the disclosure requirements were not overly important, a few participants did not comment on this question. This could be seen in conjunction with the fact that some considered the fear of having the fiscal authorities discover undisclosed earnings, reserves, etc. as being rather influential, whereas others again did not have an opinion on this factor. Another important factor was the corporate structure in Uganda, which is generally considered weak. When asked which business sectors the public would be interested to invest in, interviewees quoted petrol, coffee/tea, soft drinks and beer, and international financial institutions. The participants were then asked which companies they themselves would like to see listed. Most expressed an interest in large multinationals such as BAT, Shell and Total. The banking sector and the services industry, in particular hotels, were also mentioned. The listing of multinationals was thought to be helpful in encouraging capital market development in Uganda. In addition to their sustained profitability, these companies are considered attractive because of their international prestige, good public image, and international backing, not only in financial terms. One respondent cited the fact
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that Uganda's landlockedness increases the costs of inputs and thus renders the manufacturing sector unprofitable. With regard to the role of the government, interviewees would like to see privatised companies being floated on the stock exchange to open ownership to a wider circle, as opposed to the government policy of only looking for strategic investors. Yet it was criticised that the companies currently proposed for listing were unprofitable. There is widespread support to open the Ugandan market to foreign investors. Similarly, subsidiaries of foreign companies should be encouraged to raise funds through the Ugandan capital market, not least because they are often better managed and their capital base is stronger. They also suggested improving the regulation of the financial sector to increase confidence in the system. In addition, they suggested deliberate policies to raise the savings rate and incentives for companies wishing to go public. Finally, the questions as to whether more funds could be mobilised through collective investment schemes and whether the interviewees would invest in such a scheme rather than in individual shares, were raised. A number of participants were not familiar enough with this instrument to comment on the question. Others pointed out that collective investments help to reduce investor risks and offer investment possibilities to small investors without a strong capital base. Yet brokers in particular warned that the idea might be premature, as the necessary legal framework was still in preparation. In addition, a collective investment scheme would have to generate sufficient returns to pay for its professional management. The majority of respondents believe that a common stock exchange for the three East African countries Kenya, Uganda, and Tanzania could be beneficial. First of all, it would provide an opportunity for Uganda to attract foreign capital from a larger market. At the moment, Uganda still has the least developed stock market compared to the other East African countries. A joint
market with the other countries would help to build and promote Uganda's stock market and kick-start its development. However, for any advantages to accrue from the common stock market respondents underlined the need for a uniform, efficient and effectively regulated market. Most interviewees were very aware of the difficult political implications of an East Africa economic integration. Its success hinges decidedly on the political will to make the East African union work, as selfish interests and political strains could gravely impede the functioning of an integrated stock market.
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Conclusions: Impediments and Potentials
As observed in the introduction, this study takes an approach of constructive criticism to draw attention to areas that require improvements and highlights the potentials for the way forward. The brief overview over the stock market development in Africa made obvious that there is a need for profound changes to build an enabling environment for the development of a local stock market. The complexity of this endeavour cannot be overestimated. In Uganda, the government's decision to look for strategic investors rather than to sell the majority of privatised companies on the stock exchange had profound impact on the availability of tradable stock. At the same time, the private sector is not yet forthcoming to list on the USE. The above analysis of the findings from the survey shows that there are a number of factors that private sector companies perceive as impediments. It is reassuring, however, to see that these impediments are amenable to reform in the medium term, either by the CMA and USE with the support of donor organisations, or through committed government policy and support. The recently published draft Medium-Term Competitive Strategy Paper for the Private Sector by the MOFPED (1999) is a highly encouraging sign as its findings overlap with the points raised in this study, and it represents a coherent strategy to create an enabling environment for privatesector companies. Thus it will be both directly and indirectly conducive to capital market development. The paper also emphasises the important role of the government and the need for a redefined and strengthened partnership between government and the private sector. Compared to previous years, the confidence in the Ugandan economy has decreased. Findings revealed that frequent changes in the national budget are a minor difficulty. The tax regime, in contrast, is considered a lot more problematic, and exacerbated by exchange rate fluctuations, where the manufacturing sector,
commerce and trade are particularly affected. In this context, companies are uncomfortable with the financial disclosure requirements. Specific attention was also drawn to the implementation of the tax regime. The legal framework in Uganda was not mentioned as a massive hindrance, but companies consider it outdated and its enforcement lax. Confidence in the financial sector is low, as it is regarded as underdeveloped, inefficient and mainly concentrated in Kampala. Under these conditions, multinationals are generally not interested in listing on the USE. Relying largely on own funds and bank loans, they do not require other sources of funds. There is a general concern about the dilution of ownership and questionable shareholders. Smaller companies in particular fear the loss of managerial grip on their company. While there were no serious objections to the listing requirements, companies found them difficult and also costly to fulfil. The financial disclosure requirements were the only area of contention. Such concerns in the private sector and the broader difficulties that a developing economy has to go through are representative of the fact that building up a capital market is a highly complex endeavour. Under such circumstances, it is encouraging to see that the above analysis also revealed clear potentials areas where focused action will create a substantial impact. Uganda's banking sector is currently undergoing a process of restructuring and weeding out of ailing banks. This process will hopefully curtail instances of malpractices within the banking sector. In a strengthened, more transparent and competitive financial sector, companies will compare ways of raising capital. For some companies, bank finance can be very expensive and at times difficult to obtain. Indeed, a number of firms expressed interest in going public. Yet there is a considerable degree of reluctance to be the pioneer. Multinationals generally have more convenient access to corporate finance. On the other end of the spectrum, small and family-owned businesses often do not meet the necessary requirements for a
listing nor want to give up private ownership. Thus the most promising candidates for floatation on the USE are large domestic firms. Interviewees particularly pointed out sectors that produce mass products that are very well known and everybody can relate to. Privatised companies, if not sold to strategic investors, are, however, still very interesting. The utilities in particular could be successfully sold through the stock exchange. Other examples of stock exchanges in Africa showed that these could substantially boost trading on the domestic capital markets. Current efforts to increase regional integration in East Africa may also indicate potential for the Ugandan stock market. As indicated in chapters 2, successful stock exchanges in Africa have benefited from either dual listings, as the Namibian stock exchange, or from international recognition, as the Nairobi Stock Exchange. Therefore an intensification of the already close co-operation between Kenya, Tanzania and Uganda in regulatory and supervisory issues as well as the association with international bodies should be pursued. This will at the same time increase the offer of tradable stocks for potential investors and increase investor confidence. Interviewees were generally very much in favour of opening the local market to foreign investors, which will help to attract foreign capital inflows.
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40
Recommendations
In order to be able to adequately exploit this potential and create suitable conditions for the development of the Ugandan capital market, the following three areas need to be focused on: 7.1 Creating an Enabling Environment
First of all, stock market development depends on an enabling environment. It requires macroeconomic stability and predictability for business planning to instil confidence in the economy. Active support by the government should encourage the development of competitive markets. Prudential financial sector regulation will lay the ground for a sound financial infrastructure. It is argued that the Ugandan government currently focuses too much on treasury bills. Government bond issues could not only provide more instruments available for trade, but would also provide a benchmark from which the yield curves of other instruments can be priced off, thus acting as precedence for corporate debt issues from the private sector. Treasury bills also represent a problem insofar as they are not taxed, whereas returns from corporate bonds and shares are subject to taxation. As privatisations have traditionally given a boost to the trading volume of stock exchanges, the government should consider divesting the remaining state-owned enterprises through listing on the USE. With regard to the tax regime, it is above all crucial that the performance of the Uganda Revenue Authority (URA) be improved. Incidences of corruption and random recovery of tax collection deficits will be a strong disincentive towards disclosure, without which a stock market cannot operate. Furthermore, tax incentives can be used to encourage companies to go public, as well as to promote private investments in stocks. While it may be difficult to generally lower taxes, differential tax rates on dividends and capital gains should be restructured to encourage investors to
hold shares. Similarly, concessionary tax rates or temporary tax exemptions for companies with serious intentions of listing may lead to short-run distortions and yet could also provide the necessary push for gathering a critical mass of listed firms. The institutional structure for trading shares can be improved by installing an electronic clearing and settlement system (central depository system) to make the transfer and payment of stocks more secure. Strengthening the accounting profession will improve companies' access to accounting services and enhance transparency, which is essential to fulfil the disclosure requirements. In summary, it is recommended that CMA and USE address the following topics in workshops with the respective policy makers: Encourage Government to issue long-term bonds; Encourage Government to continue privatisation through public floatation; Improve the performance of the Uganda Revenue Authority; Encourage Government to provide tax incentives for companies willing to list; Provide tax incentives for individuals willing to invest in shares; Treasury bills should not be given preferential tax treatment; Strengthen the accounting profession. 7.2 Actively Encouraging Listings
Secondly, stock market development can be furthered by actively encouraging listings. To overcome reluctance of companies to go public, the successful listing of companies should be marketed as showcases to illustrate the process and the benefits. The preparation of Uganda Clays for floatation and its listing on the USE as well as the subsequent trading of shares could already, for example, be presented in a case study.
In this area, donor support can play a useful role through designing and setting up incentive schemes and funding information campaigns. It would be possible to offer companies support so that they would be able to afford the costly listing procedures. There are difficulties in outright funding of initial public offerings, unless this support was structured in a way to encourage competitive results, as for example on a first-come, first-serve basis. Listing can be made more attractive to companies if new financial instruments that meet their specific demands are offered, for example the issue of non-voting preference shares for companies that fear a dilution of ownership. CMA and USE will best address this area through information and sensitisation campaigns targeted at companies in the following areas: Disseminate information on listing requirements and possibilities to obtain input from e.g. business support institutions; Develop information material to illustrate tangibly the procedures of listing (e.g. case study of a successful IPO); Attend trade fairs and meetings of business associations to inform the stakeholders and business associations about possibilities of raising funds through the securities exchange; Develop financial instruments to address the financing needs of smaller companies; Develop incentive mechanisms for companies interested in listing. 7.3 Actively Encouraging Shareholding
Thirdly, shareholding has to be actively encouraged. Currently the majority of the Ugandan population is not adequately informed about the options available. Showcases of listed companies can be used here as well to make this savings instrument more tangible. Again, donor support can contribute to focused
sensitisation and mass education campaigns to raise interest in savings instruments in general and shareholding in particular. Attention should also be devoted to reassuring the public. The financial industry seems to be generally viewed with some suspicion, which must be allayed in appropriate ways to increase public involvement. Previous experiences with public companies have also lowered public confidence in their viability as an investment. Thus measures to reassure the public of their protected rights are clearly needed. Such measures to reassure and protect potential investors are necessarily long-term, requiring strong companies to enforce compliance. Independent financial reporting needs to be encouraged to provide the lay public with information. Similarly, capacity building and harmonisation of accounting standards in the accounting profession will help to provide the public with reliable company data. CMA and USE should strive to implement far-reaching and carefully designed public sensitisation campaigns and make it their institutional mission to educate the Ugandan public about investing in securities through the following initiatives: Identify target audiences to be addressed and create respective information materials, making use of adequate media to disseminate the information. Establish a resource centre as a permanent point of contact for anyone interested in learning more about capital markets; Promote qualified and independent business reporting.
44
References
---: Capital Markets Authority Statute, 1996 ---: Capital Markets Prospectus Requirements Regulations of 1996 African Development Bank Group: African Development Report 1998 Bittner: Aufstrebende Maerkte? Die Boersenlandschaft in Afrika (Emerging Markets? Stock Exchanges in Africa), in: Afrika Spektrum 33 (1998) 2, pp. 157-188 Capital Markets, Journal for the Capital Markets Industry, JanuaryMarch 1998, Kampala, Uganda, April/Dec 1999 Consorzio Italiano Consulenti (CIC), Foreign Investor Perceptions on Uganda, 1999 Survey Results, Paper presented at the World Bank Conference "Assessing Outcomes for a Comprehensive Development Framework" in Kampala, Uganda, 26-28 October 1999 Fundanga/Mwaba: Privatization of Public Enterprises in Zambia An Evaluation of the Policies, Procedures and Experiences, Economic Research Papers No. 35, African Development Bank Group 1999, http://www.afdb.org/news/publications/ersp35.html IMF: Uganda Enhanced Structural Adjustment Facility, Policy Framework paper, 1998/99-2000/01, Washington 1998, http://www.imf.org/external/np/pfp/uganda/102998.htm IMFa: Experimental Report on the Observance of Standards and Codes, Washington 1999, http://www.imf.org/external/np/rosc/uga/index.htm IMFb: IMF Approves Third Annual PRGF Loan for Uganda (Press release), Washington, 10 December 1999, http://www.imf.org/external/np/sec/pr/1999/pr9959/htm
45
MOFPED: Medium-term Competitive Strategy for the Private Sector (1999-2005) (Draft), Kampala 1999 MOFPED/Enterprise Development Project: Six-Monthly Statutory Report to Parliament, Report for the Period 1st July 31st December 1997, Kampala 1998, plus attached update for 1999 Musoke: Treasury bills oversubscribed 80% - BoU, The Monitor, Tuesday, 04 Jan 2000 Private Sector Foundation: Taxation Competitiveness, Kampala 1997 and Private Sector
Profile Media/Reuters: African Stock Exchanges Handbook '99, Johannesburg 1999 USE: Rules and Regulations, May 1997 USE: Listing Rules Manual USE: Listing on Uganda Securities Exchange Limited - Who, Why, How? September 1997 Weig, D.W: Final Report Uganda Securities Markets Development, IMCC Consulting Assistance for Economic Reform (CAER) II Project/Harvard Institute of International Development, http://www.hiid.harvard.edu/projects/caer/papers/paper30.h tml, April 1998
World Bank: The Challenge of Growth and Poverty Reduction Country Study on Uganda, Washington 1996 World Bank, Uganda Strategy Paper, Washington 1997a World Bank: Private Capital Flows to Developing Countries The Road to Financial Integration, Oxford University Press: Oxford etc. 1997b
46
ANNEX 1:
LIST OF INTERVIEWEES Development Finance Company of Uganda Ltd. Ministry of Finance, Planning and Economic Development (MoFPED) Privatisation Unit, MoFPED Bank of Uganda United States Agency for International Development (US-AID) Law Reform Commission Embassy of the Federal Republic of Germany Capital Markets Authority, Uganda Securities Exchange BoU-GTZ Financial System Development Project East African Development Bank Private Sector Foundation Mpigi Municipal Council Friedrich Ebert Foundation
Panworld Insurance Stanbic Bank Nice House of Plastics Ernst & Young Lonrho Motors ROKO Construction Mukwano Industries Vitafoam Bank of Baroda Unilever Sembule Group Uganda Breweries Madhvani Group Nytil Picfare Shell (U) Ltd BAT Monitor Newspaper New Vision Nile Breweries Stanbic Investment Advisors Equity Stock Brokers MBEA Brokerage Firm Jubilee Insurance Greenland Insurance
ANNEX 2:
COVER LETTER AND QUESTIONNAIRE
The German Technical Co-operation (GTZ) is assisting the Capital Markets Authority of Uganda (CMA) as well as the Uganda Stock Exchange (USE) in their efforts to promote the trading activities on USE. To this effect, GTZ intends to interview a number of private sector companies, banks, market intermediaries (broker firms), potential institutional investors (pension schemes), and individuals likely to contribute with ideas to this subject to permit GTZ to analyse the information thus collected for conclusive recommendations to CMA and USE. In order to obtain the required information, which is to be presented at a dialogue seminar in Kampala on February 24th and 25th 1999, the German experts conducting this study will be assisted by two research officers, Messrs. Charles Ntale and John Othieno from the Uganda Manufacturers Association Consultancy and Information Services Ltd. We thank all companies and individuals to be contacted in this matter within the next few days for their co-operation and the time and diligence they put into answering the following questions, which may appear simple, but which we deem essential for a successful presentation of the results of our study to the final recipients, i.e. CMA and USE. Our study is based on the assumption that a number of impediments did not allow the Ugandan financial market to develop properly over the last years. The hindrances to this effect may be of a varied nature. They may rest in the actual economic or legal environment; they may consist of an insufficient level of awareness within the public about what a capital market does mean, its chances and risks. They may also be based on too stringent requirements set up by the USE for listing, on cost considerations, or other. In short, we assume there are bottlenecks to overcome if the CMA wants to achieve its goal to promote and
facilitate the development of an orderly, fair and efficient capital market in Uganda that may not only attract local issuers and investors, but also international ones in the long run. We assume that Ugandan businesses would benefit if they became less dependent on bank financing and could in future issue risk capital to prospective shareholders or issue bonds or debentures in the market to cover their financing needs. The first part of questions relates to your function as an entrepreneur or manager of a commercial business, a bank or broker firm. It relates to your possible function as an issuer of equity or debt in the capital markets. The second part will help us to become acquainted with some of your personal views and thoughts about capital markets, investments or investors. This part will see you as a possible investor. All answers received through this questionnaire will be treated confidentially and processed anonymously. The individual answers will not be divulged to the final recipients of this study.
A: 1
Economic Environment Do any of the following data pose any particular difficulties for your company? a) At present?
Data National budget Tax policy Inflation rate Savings rate Money supply Exchange rate Bank lending rate Bank overdraft rate Other (Specify) Yes No If yes, how?
b) In its development?
Data National budget Tax policy Inflation rate Savings rate Money supply Exchange rate Bank lending rate Bank overdraft rate Other (Specify) Yes No If yes, how?
Legal Environment 2 Do you think that the Ugandan company law and commercial laws in respect to your business are to be considered as too strict, too wide, outdated and therefore inefficient, thus causing problems in the day-to-day operations of your business? Please elucidate. Would you suggest that these laws be amended in order to make your business more efficient and effective? Level of Awareness about Capital Markets What is the level of your personal knowledge as to what the following terms mean? (The following rating applies: 1= very high, 2 = high, 3 = moderate, 4 = low, 5 = very low): Capital markets, financial markets, stock exchanges, listing on stock exchanges, securities. The term securities to be traded on a stock exchange or other exchanges can comprise various different types of which the most widely known are shares, bonds, and debentures. They are commonly called tradable or marketable securities. Do you know that these are vehicles of financing for business activities? 6 Do you think that a great number of people in your country have any idea what these terms mean and what these instruments are supposed to be used for? Do you think the general public should at least have a notion of what the terms capital, securities, stock exchange or capital markets mean? If not, why? 8 Do you know that the purpose of an official capital market supervision is to ensure the utmost transparency of all activities on such markets for a fair, orderly and moreover
3 B: 4
efficient trade in the interest of market participants and to enhance the confidence of the public? Do you know that in the case of Uganda such a supervisory authority exists, the Capital Markets Authority (CMA)? 9 Do you know of the existence of the Uganda Securities Exchange Ltd., which is owned by about ten brokers or merchant banks? This company operates the Uganda Stock Exchange (USE). _________ 10 What are the current sources of finance for your business?
Method of finance Own funds Bank loan Bank overdrafts Other sources of finance Total 100% % of total
11
Do you have plans for a capital increase for your business in the short or long term?
Business Plan Expansion Diversification Capitalisation Other (Specify) Yes No
12
Would you be willing to raise capital from other sources if there was an opportunity to use the capital markets e.g. bonds, issue of shares, debentures, and loans from financial institutions?
Form of Capital Issue of shares Bonds Private placements Commercial paper Other, (specify) Yes No
13
To issue debentures, bonds or securities of any kind, you may be required to provide a guarantee, e.g. fixed assets/collateral to guarantee the investor and to ensure a timely payment of interest and the redemption of the bonds at maturity. Is this procedure acceptable to you? If not, why?
14
The listing of a company on a stock exchange is subject to a number of requirements. Do you know that any company applying for listing has to fully disclose its financial situation not only to the CMA and the Uganda Securities Exchange, but also to the public at large? Would this be acceptable to you? If not, why?
15
Has this requirement until now prevented you from seeking a listing on the Uganda Stock Exchange? If yes, give reasons.
16
To make you aware of the essential requirements for listing you should know that these comprise among other the following obligations: You must regularly publish your company accounts and annual reports; Hire professionally acceptable auditors to certify the company's accounts for the last three or five years and in all future years; Engage professional advisers (e.g. a sponsoring broker or merchant bank) to assist your company to prepare your application for listing and to meet its obligations to the CMA and the Stock Exchange; Publish a detailed prospectus for the initial offering or any subsequent issues of your securities in the market, this prospectus needing the prior approval of the CMA; Regularly furnish the public with details about your company, e.g. material changes to shareholders, board of directors, financial position of the company, etc.; Abide by the standard ethical and professional requirements of CMA and USE; Make immediate public disclosure of any material information which may affect its share price in the market (in order to avoid trading by insiders); Accept conditions and fees involved for listing on the Uganda Securities Exchange (for these please refer to some extracts from the Uganda Securities Exchange Ltd, Listings Rules Manual with respect to minimum capitalisation requirements, percentage of stock to be listed and offered to the market, and especially fees). Do these procedure pose difficulties for your company? If yes, which difficulties?
17
In case your company does not need the capital markets for financing purposes, would you nevertheless consider listing (despite costs) for other reasons, e.g.
Widespread ownership for reasons of Prestige Image (public relations) Marketing (brand name) Other (specify) Yes No
18
If your company was to receive incentives, e.g. fiscal incentives, such as a lower rate of corporation tax, lower withholding tax or other advantages, to list on the Uganda Securities Exchange, would you consider listing your company? Mention some other incentives that would be attractive for listing your company on the stock exchange.
19
If the overhead costs or other requirements of the Uganda Stock Exchange associated with listing your company were reduced for at least the first two years, would you consider listing of your company? Do you know that stock exchanges exist in the neighbouring countries Kenya and Tanzania? Would you think that a combined East African Stock Exchange comprising these exchanges with the USEe could be more attractive for issuers and investors alike? Could you name some advantages? Could you think of some disadvantages?
20
21
Do you have as a business executive any other remarks to make regarding possible impediments to the listing of the companies on the Uganda Stock Exchange?
The following questions relate to your individual knowledge of the Ugandan economy and companies and your role as a prospective private investor in securities: 22 23 24 25 26 27 28 29 In your view, which business sectors in Uganda would the public be interested in for investments? Could you name any prospective companies here you might wish to see listed? Which attributes in your view do these companies have that appeal to the public? Would you personally buy shares in the companies named above, if you had the means? If you had funds to dispose for investment what would be your first choice for an investment venture? Do you have any ideas as to how the public should be made more aware about operations on capital markets? Would you like companies that are undergoing privatisation to be floated on the stock market? Would you be open to foreign investors in the Uganda market? Very open Restricted Not open - Please give reasons
30
Should the subsidiaries of foreign companies in Uganda be allowed to raise funds through the Uganda Stock Market? If not, why? When a company is listed on the stock exchange, there is a risk of loss by market fluctuations. Would you as an investor be prepared to bear the consequences in such cases? Even total loss? If not, why?
31
32
One or several of the factors below may account for the low level of development of a functioning stock market in Uganda. Please rank them according to their presumed impact on the capital markets. (The following rating applies: 1 = very high, 2 = high, 3 = moderate, 4 = low, 5 = very low) Lack of public awareness; Lack of confidence in the financial system; Lack of information on companies and markets; Lack of demand = liquidity (low savings rate); Lack of fiscal incentives for investors; Lack of companies or bonds listed which one can buy; Lack of incentives for listing companies; Disclosure requirements by CMA and USE; Fear to have the fiscal authorities discover undeclared earnings, reserves, etc.; Bureaucracy/red tape; Other (specify). One way to lower the risks for investors in marketable securities is to promote the development of collective investment schemes. Do you think that more funds from investors could be mobilised using such schemes?
33
Would you yourself invest in such schemes rather than directly into individual shares? Thank you for your kind help in participating in this inquiry.
ANNEX 3:
KEYNOTE BY PROF. DR. SIEBEL AT THE DIALOGUE SEMINAR, FEBRUARY 1999
GENERAL REMARKS Financial markets are essential for economic growth by facilitating access to short, medium and long-term capital required to finance trade, industry and government. Acknowledging the importance of capital markets for the economic growth of developing countries, the German Government has put this subject on the official agenda of German Development Assistance. That might explain our presence today in your beautiful country. The rather manifold problems with which you are confronted in the efforts to develop a Ugandan capital market are in no way unique but global since the first days of stock exchange business over 200 years ago. THESIS: KNOWLEDGE TRUST INVESTMENT You cannot reverse this chain since trust without knowledge means gambling and investment without trust even more so. Knowledge you achieve by education. In connection with the development of financial markets the public must be informed about the functioning, the chances and the risks involved by investing their savings in securities traded on the exchange. This requires adequate publicity of the relevant facts and all that on a continuing basis. In Germany alone we are spending hundreds of millions of Euro every year for brochures, TV-spots, advertisements etc. and this includes the Government. Knowledge also means adequate and correct information accessible by any potential investor of the economic facts behind
any security like annual reports with audited figures, composition of the board, major shareholders etc. Trust depends on a number of important factors that should briefly be mentioned: adequate legal framework - including penal law provisions - i.e. not trying to copy the US Securities Acts plus the Rule Book of the NYSE with over 2,000 printed pages; neutral competent supervision - no corruption, no insider dealings etc. - and observing the rules of professional secrecy; well trained professional stock exchange employees; experienced dealers with sufficient financial capacity; thorough screening of listing application; continuous control of observance of listing rules and regulations; neutral rating agency. THESIS: SUFFICIENT AVAILABLE CAPITAL FOR INVESTMENT IS
We can observe in many countries around the globe including Uganda that such private funds remain outside of the financial markets and are kept at home, invested in real estate sometimes rather speculative, in livestock etc. and the rate of return on bank deposits is unattractive. Understandably capital flight - uneconomic as it is - remains on a very high level not only from Russia. Attractive investment alternatives must be developed to keep the money in the country and put it to work for the domestic economy. Bond Market International Organisations - only EADB and possibly in the future other EAC organisations like airlines; railroads etc. Treasury papers - available but only up to 360 days
Local authorities etc. - unavailable Special project finance like in the UK Private Financial Initiative - PFI - unavailable Private industrial issues - none Equity None at present - possible sources: Privatised companies; going public; local subsidiaries of foreign companies as e.g. at the Nairobi or the Ghana Stock Exchange; Public Private Partnership PPP. Mutual Funds THESIS: FACILITATING ACCESS TO LONG-TERM FUNDS Major drawback is the unavailability of long term funds in the domestic financial markets. So, longer-term investments must be financed on a short-term basis jeopardising future development and the bank rates are excessively high by comparison to official inflation rate. Bonds Possible solution for non-equity papers is the rollover system (example Hoechst Nigeria in Naira floating rate) Equity Major impediments: Sufficient return on investment must be assured on continuous basis.
Unlike other countries - e.g. Ghana - so far no shares in privatised companies were offered to the public via the USE. Family business and other closely held companies shy away from going public.
Typical arguments everywhere: 1. unpreparedness to publish the audited accounts; 2. afraid of non-family shareholders influencing management and might even ask for representation on the board; 3. Observance rules of good governance; 4. What about shareholder value? 5. Cost element of listing; 6. Possibility of non-voting preference shares (Henkel). General Problem: quick settlement presupposes central depository agency; central clearing organisation; computerised trading; So-called dematerialisation i.e. no printing of securities to effect cost saving. THESIS: TAX IMPACT AS MAJOR IMPEDIMENT Major worry, globally, is again that fiscal authorities get informed about real income figures. This consequence is unavoidable even generally speaking - in the case of bearer papers. Fiscal legislation should cope with this situation: Withholding tax on interest and dividends should be at a uniform rate and treated as prepaid income tax, a cap might be introduced; No double taxation on profits of corporation and on shareholders;
Liberal capital gains tax; and No stock transfer tax.
THESIS: START WITH MINI-MARKETS Mini-markets apparently can only be expected. All stock exchanges have started on such basis and broadening their basis as time goes on. Consequently, size is not a decisive impediment. Regional Markets are the order of the day. It can be achieved by co-operation - Deutsche Brse - LStE. Other ways one main exchange with local outlets, see West African Stock Exchange Abidjan. And the East African Exchange? All member exchanges to be accessible by traders.
ANNEX 4:
SUMMARY OF DISCUSSION, CAPITAL MARKETS PANEL, DIALOGUE SEMINAR, FEBRUARY 1999
Capital markets can be an important contribution to development as they increase transparency and, in creating more competition with banks by providing alternative means of savings and other financial instruments, they reduce costs. They allow companies to find an optimum balance between equity and debt finance. At the moment, most enterprises in Uganda are family-owned and reluctant to go public. The Ugandan Government supports the privatisation of businesses to further economic development. The process of divestiture of state-owned enterprises is ongoing. This, in turn, will contribute to the development of capital markets. With regard to the privatisation of state-owned enterprises, participants noted that so far, there were only inadequate attempts to attract funds from the general public and divestiture only focused on core investors. This was justified by the fact that sometimes the turnaround has to be achieved very quickly. In addition, books are often not available. Indeed one of the main impediments identified for the lack of capital markets is related to taxation. While disclosure is crucial for the development of a capital market, bookkeeping is as yet not very non-transparent in Uganda. Usually separate sets of books are kept so as to reduce tax payments. It was generally felt that the government should provide incentives for companies to disclose the correct information and for family businesses to float shares by either relaxing or even eliminating taxes on returns so that capital market development would be kick-started. It was pointed out that this might reduce fiscal income in the medium term, even if fiscal income might be raised in the long term. In addition, it was observed that tax holidays tend to encourage
speculative investors. But while the necessity of disclosures is undoubted, the extent depends on the size of the company. Closely connected to this is another shortfall: there are currently less than 100 qualified Ugandan accountants, who are based mainly in Kampala. A new initiative for a training institute aims at increasing the number of qualified staff and attempts to develop (exam) standards. Currently, only members of this institute can undertake the accounting for a prospectus required for disclosure and subsequent listing of a company on the securities exchange. It was stressed repeatedly that the establishment of a capital market depends largely, on the development of an enabling environment and trust in the economic and financial system. This in turn requires sound macroeconomic fundamentals, improved supervision, and adequate legal framework and settlement practices. At the present time, the Companies Act does not cover public limited companies liabilities. Similarly, the private sector requires considerable infrastructure such as roads and telecommunications in order to prosper. The Uganda Securities Exchange (USE) aims to move towards more efficiency and even to an electronic savings system. Training of staff is one priority, but raising awareness in the public is also considered necessary, as widespread share ownership should be promoted. This should go hand in hand with systematic provision of information to the public on a regular basis. With regard to trading shares, there is definitely a problem with infrastructure in general, the poor banking infrastructure and the subsequent lack of rural banks in particular. There are, however, licensed brokers that may have representatives in the entire region. USE's ultimate objective is to have a central deposit system with share ownership by receipt/certificate. Participants repeatedly observed the fact that low incomes do, to a certain extent, reduce the savings capacity in the population. It is very important to introduce easy savings mechanisms such as
payroll deductions. The Ugandan government, still being the largest employer, has already established such mechanisms. It was suggested that such mechanisms should also be used in the private sector and that professionals should be employed to manage these funds so that better rates than in the national pension funds can be obtained. This will require the government to break up the monopoly of the National Social Security Fund to allow the private sector to participate. While savings are a traditional element of the Ugandan culture, many people do not trust the financial system. This is also connected to the fact that adequate institutionalised mechanisms for savings and investment are still lacking. Concluding the discussion, Prof. Dr. Siebel underlined that he was very impressed by the contributions of the participants and the widespread awareness of the impediments to capital market development.

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Bank of Uganda German Technical Co-operation Financial System Development (FSD) Project

CAPITAL MARKET DEVELOPMENT IN UGANDA PRIVATE SECTOR OPINIONS ON LISTING

Andrea Bohnstedt Alfred Hannig Ralph P. Odendall

FSD Series No. 2

CAPITAL MARKET DEVELOPMENT IN UGANDA PRIVATE SECTOR OPINIONS ON LISTING

Andrea Bohnstedt Alfred Hannig Ralph P. Odendall

FSD Series No. 2

Private Sector Opinions on Listing

Institutional Infrastructure .........................................................19 4.1 4.2 4.3

Capital Markets Development in Uganda

Private Sector Opinions on Listing

Capital Markets Development in Uganda

Private Sector Opinions on Listing

Capital Markets Development in Uganda

Private Sector Opinions on Listing

UNDP US-AID USE VAT

Capital Markets Development in Uganda

Private Sector Opinions on Listing

Capital Markets Development in Uganda

Private Sector Opinions on Listing

Dr. Alfred Hannig

Capital Markets Development in Uganda

Private Sector Opinions on Listing

Private Sector Opinions on Listing

Private Sector Opinions on Listing

Capital Markets Development in Uganda

Private Sector Opinions on Listing

Without South Africa. 1

Capital Markets Development in Uganda

Private Sector Opinions on Listing

Private Sector Opinions on Listing

A full list of interviewees is detailed in Annex 1. 3

Capital Markets Development in Uganda

Private Sector Opinions on Listing

Private Sector Opinions on Listing

Capital Markets in Sub-Saharan Africa

Capital Markets Development in Uganda

Private Sector Opinions on Listing

Private Sector Opinions on Listing

As of December 1997 (Profile/Reuters 1999: 83). 7

Capital Markets Development in Uganda

Private Sector Opinions on Listing

Private Sector Opinions on Listing

Capital Markets Development in Uganda

Private Sector Opinions on Listing

Capital Markets Development in Uganda

Private Sector Opinions on Listing

Uganda: Country Background Macro-Economic Environment

Private Sector Opinions on Listing

Excluding grants. Capital Markets Development in Uganda

Private Sector Opinions on Listing

Capital Markets Development in Uganda

Private Sector Opinions on Listing

The Legal Environment

Private Sector Opinions on Listing

Private Sector Opinions on Listing

Private Sector Opinions on Listing

Capital Markets Development in Uganda

Private Sector Opinions on Listing

Capital Markets Development in Uganda

Private Sector Opinions on Listing

Institutional Infrastructure Capital Markets Authority (CMA)

Capital Markets Development in Uganda