Demutualized exchanges are sensitive to the issue of transferability of shares, particularly in situations where the shares of a listed exchange are freely transferable (Latimer & Maume, 2015). For instance, in a hostile takeover, new shareholder interests may not be aligned with the obligation of the exchange as an unrestricted entity. Restriction on shareholding is imposed to inhibit the concentration of the holding and the subsequent handover of control. Normally, the stockholding limit is 5 percent, with the exception of the Australian stock exchange, where the limit is 15 percent (Jordan, 2016). The Stockholm exchange has no limit but can evaluate the qualification of a suggested shareholder who plans to hold shares in excess of 10 percent (Jordan, 2016).
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A mere transition from the non-profit structure to a for-profit organization neither ascertains better regulation nor does it reassure investors about the value of the risk (Abukari, 2015). A for-profit organization owned and run by members dispersing the profit earned among them is somewhat similar to a nonprofit mutual company. For example, the Paris Bourse and Deutsche Borse were initially structured as for-profit organizations until the 2001 public offering (Slimane & Padilla-Angulo, 2018). Operationally, these exchanges are similar to mutualized exchanges. According to Padilla-Angulo and Slimane (2018), demutualization becomes a success on the condition that the process prioritizes addressing the concerns of stakeholders and investors. Demutualized exchanges that focus on profits may neglect the process’s self-regulatory obligation.
Demutualized FMIs may encounter difficulties stemming from regulatory oversight when attempting to respond to new opportunities and threats. Regulatory oversight takes up an extensive period of time before the approval of new policies. Thus, demutualization separates the regulatory and corporate authority of the exchange, which creates a conflict of interest. A for-profit organization may fail to sufficiently fund its regulatory actions because of a trivial return on investment during earlier stages (Kaustia, Knupfer & Torstila, 2015). Conversely, the regulatory trading body aggressively fines trading parties to compensate for the lack of funding.
FMIs offer plenty of opportunities to expand and establish other business processes. Diversification of such nature presents the problem of conflict of interest. The internal segregation among businesses necessitates the development of conflict resolution methods. There is also a need for the establishment of greater regulatory oversight to highlight conflict situations (Islam & Hossain, 2016). Nonetheless, the exchange has to remain financially viable without exposure to financial risk by other commercial endeavors. From this viewpoint, imposing capital adequacy norms becomes a topic of discussion. When such norms are necessary, applicability to the exchange or holding company is tentative (Wahid, Adil, Talib & Azam 2017). Even though the corporate ownership structure does not substantiate the imposition of such standards on the holding organization, the threat of monetary resolution of the exchange still looms large.
A new problem of conflict presents itself when the exchange attempts to list its stocks on itself. The conflict is clear in satisfying listing obligations. An example is the case of the self-listed Australian stock exchange, which bid for shares belonging to the Sydney Futures Exchange (Riaz, 2016). Another listed organization called Computershare limited made a counter bid while raising suspicions about the requirements of the exchange to administer listing procedures. Efforts have been made towards resolving this conflict. E.g., The Australian Securities and Investments Commission was given the responsibility of overseeing compliance with listing rules in the ASX case (Riaz, 2016). Also, a regulatory entity may pose the risk of insiders spilling confidential information regarding competitor members resulting in problems of transparency. Another problem arises when the drive for profits compromises governance. Demutualization can create the problem of conflict between management and owners (Ubochioma, 2017). A majority of independent directors are part of the board; hence any decisions made by management and are not aligned with the interests of the board can bring about conflict. A suitable governing system requires the inclusion of external directors on board to uphold integrity in decision making. Public ownership ensures that decision-making and actions pursued are in line with public interest other than being accountable to shareholders.
Demutualization poses difficulties in areas pertaining to regulations and supervision, particularly in the non-liberalized markets of Africa such as Ghana. The process in such areas is hindered by unexpected technological, regulatory, and business challenges caused by disinterested market players, regulatory complexities, and government bureaucracies who choose to remain indifferent to the demutualization process and fail to offer support crucial for the sustenance of the process (Kajuju, 2010). Some African exchanges struggle with the limited institutional capacity to enforce rules. The smaller third world exchanges lack the trained workforce and familiarity to effectively monitor the adopted regulatory regimes. Therefore, abuses are a common occurrence owing to the lack of enforcement actions. Also, shareholders lack the confidence to invest in a market with poor corporate governance systems. Exposure to multiple regulators leads to uncertainties and augmented costs of cooperation with dissimilar regulatory bodies. For example, CMA and NSE serve as regulatory bodies in Kenya, and each body has its membership requirements regarding participation and listing in the market (Kajuju, 2010).
Legal issues may also threaten the demutualization process. Certain jurisdictions where the exchange relates to a guaranteed limited company require reorganizing the demutualization procedure to alter membership into shares. On another occasion, the exchange may be a state-owned entity necessitating privatization instead of demutualization. In the two scenarios, the existing legislations require the enactment of a different piece of legislation to allow the conversion of the stock exchange structure. An empirical example is the case of Malaysia, where legislation affected demutualization under the Demutualization Act. Similarly, the promulgation of new legislation in South Africa paved the way for the demutualization of domestic exchanges. Moreover, amendment and enactment of legislation is a fairly intricate process that may inhibit the timely demutualization of exchanges (Aldeehani & Bouresli, 2017). Also, litigation is an aftermath of the demutualization in matters relating to policyholders. For example, holders of non-participating cash value policies may fail to understand why they receive less than holders of whole life policies. Policy owners who receive policy payments may reject valuation grounded on a below-book IPO value. The time-consuming and costly nature of litigation can damage an organization’s reputation.
Finally, the demutualization process may compromise the performance of present strategies. Even though every demutualization strategy tries to avoid this risk, the success of solutions is not guaranteed. Policies holders expect an optimum performance by their policies, and shareholders as well expect their stocks to perform well, and such a scenario makes it difficult to avoid conflict. Small policies lead to a greater threat of dividend sharing among shareholders.
Abukari, K.A. (2015). Three Essays on Stock Exchange Demutualization and Mergers. Doctoral dissertation, Carleton University.
Aldeehani, T. M., & Bouresli, A. K. (2017). Stakeholders’ perceptions and predictions of stock exchange demutualization: the case of Kuwait stock exchange. International Journal of Economics and Financial Issues, 7(4), 33-41.
Islam, K. M., & Hossain, S. (2016). Demutualization of Dhaka Stock Exchange: Opportunities and Challenges. Web.
Jordan, C. (2016). Success and Failure in Stock Exchange Consolidations: Implications for Markets and Their Regulation. CIFR Paper No. 118/2016. Web.
Kajuju, K. C. (2010). The Perceived Benefits and Challenges of Demutualization of the Nairobi Stock Exchange. Retrieved from University of Nairobi Research Archive (11295/13066).
Kaustia, M., Knüpfer, S., & Torstila, S. (2015). Stock ownership and political behavior: evidence from demutualizations. Management Science, 62(4), 945-963.
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Latimer, P., & Maume, P. (2015). Stock Exchanges and the Promotion of Information. In Promoting Information in the Marketplace for Financial Services (pp. 177-216). Springer: Cham.
Padilla-Angulo, L., & Ben Slimane, F. (2018). Board restructuring and successful demutualization: the stock exchanges. Journal of Organizational Change Management, 31(3), 598-618.
Riaz, Z. (2016). A hybrid of state regulation and self-regulation for remuneration governance in Australia. Corporate Governance, 16(3), 539-563.
Slimane, F. B., & Angulo, L. P. (2018). Strategic change and corporate governance: Evidence from the stock exchange industry. Journal of Business Research. Web.
Ubochioma, W. (2017). From private clubs to for-profit markets: an overview and assessment of the rules on demutualisation of securities exchanges 2015 of Nigeria. Journal of Corporate Law Studies, 17(1), 225-251.
Wahid, A., Adil, I. H., Talib, N., & Azam, K. (2017). The effects of demutualization on expansion of stock market growth: Evidences from Indian stock market and lesson for Pakistan Stock Exchange (PSX). Pakistan Business Review, 19(3), 761-777.