Money to the Little Companies

November 16, 2019


For Speed Medical, listing on the NileX was an important step to advance its core labs business as well as diversify to building hospitals. “We wanted to raise about EGP 46 million,” says company Chairman Mahmoud Lashin. However, he only raised EGP 21.16 million as the IPO was covered 0.46 times. “It wasn’t bad. But we put the majority of our post-listing plans on hold to determine our next step.”

Ahead of the 2016 listing, Speed Medical had 52 medical labs in nine governorates. “We had treated 1.2 million patients in 2015 and were on track to receive 2 million in 2016,” says Lashin. Also, his plans had been locked-in before the listing. He had already purchased a 3,000- square-meter plot for an EGP 43 million medical facility in New Cairo. “We had a license to build on 98 percent of the plot, which is uncommonly high in our industry,” he says.

Despite its disappointing performance, Speed Medical has been the biggest and most promising IPO on NileX. Since then, no SME has attempted to go public. “It was a case of, if Speed Medical’s IPO didn’t succeed, then no other SME IPO could find success,” says Yasser Emara, CEO of Eagle Financial Consultants, an authorized sponsor in NileX. Their job is to help SMEs list.

To revive the SME-only exchange, the EGX Authority this year signed a deal with international consultants to fix NileX’s problems, according to Mohamed Farid, EGX executive chairman, at a press event in July. However, he stressed such a recovery would take time. In the meantime, SMEs in need of funding can capitalize on several tailored initiatives from the Central Bank of Egypt (CBE) and government. Or they can seek private nonbank lenders to meet their needs via more diversified tools.

Promising Premise

The idea that SMEs need a separate stock exchange come to light in 2007. “The aim is not to attract firms delisted from the EGX or family companies and micro-enterprises,” said then Minister of Investment Mahmoud Mohieldin at the launch event. “The aim is to attract small and medium-sized companies that want to finance expansion and raise production. That would allow them to hire more people, increase their own base and, therefore, resources, and open the door to mergers.”

The pool is enormous. SMEs comprise 80 percent of registered businesses in Egypt, according to Mahmoud Sarg, head of the SME Committee at the Federation of Egyptian Industries. That equals 2.3 million registered small enterprises and 7,792 medium-sized companies as of 2018, according to the latest Arab Monetary Fund report. “Those figures are based on CBE definitions, where SMEs make between EGP 10 million and EGP 100 million annually,” explains Sarg.

Regionally, Egypt is by far the most fertile ground for an SME stock exchange. According to the Arab Monetary Fund report, 44 percent of SMEs in MENA’s 15 countries are in Egypt.

Nevertheless, NileX failed to capture any meaningful IPOs with 26 listed SMEs as of October 21. “Most SME owners have rightly blamed the high cost and complexity of enlisting, given their modest resources,” says Emara. “However, NileX problems run deeper than that.”

Since the last IPO in 2016, Univort, North Africa for Real Estate Investment, Amico Medical, and 12 other companies delisted from NileX. “Those companies, among others, saw no real benefit to remaining in NileX,” says Mohamed Assran, CEO of EVA Brokerage, an authorized NileX sponsor.

Troubled Platform

Those interviewed agree the overarching problem is that NileX’s reputation as an efficient, credible, and competent funding platform is in tatters. “The problem almost entirely revolves around long-term stock investors not making enough money from IPOs. Meanwhile, secondary market trading volumes are low. That makes it hard for investors to enter and exit the market,” says Aouny Abdel Aziz, chairman of Wedian Securities Stock, an authorized NileX sponsor.

The problem started in the exchange’s early years when several listed SMEs failed after going public. “The market wasn’t ready for that type of exchange,” says Hisham Hassan, head of investment at Royal Brokerage, another authorized NileX sponsor. “Some SME owners weren’t skilled enough to manage a listed, bigger company. Others didn’t live up to their pre-listing prospects. Lastly, some SME owners just wanted to exit the business without shutting it down.” According to Hassan, all those scenarios led to the collapse of these businesses in the real world.

Additionally, with no SMEs issuing dividends, NileX became an illiquid market, according to Abdel Aziz. “It became an unsuitable market for IPOs and long-term investors,” he says. “Those investors put their money in local banks. It was safer and sometimes had higher returns than many NileX stocks.”

That created fertile ground for speculators and drove away long-term investors. “While only a handful of listed SME stocks became junk in a matter of months after listing, all NileX stocks suffered as speculators spread in the market,” says Hassan. “That shaped investor perception that NileX was a ‘marketplace for speculators.’”

As a result, the NileX supervisory body suspended stocks to curb erratic transactions and pricing. According to Mohamed Saleh, an economics assistant professor at Cairo University, that scared some SMEs into voluntarily delisting, fearing a freeze on their stock would damage the company’s reputation.

That made it harder for listed SMEs to raise capital and caused unlisted SMEs to stay away. “It created the vicious cycle we are in right now. NileX investors want more IPOs to commit their money, thereby raising liquidity. Meanwhile, SMEs can’t find enough liquidity to raise the money they want,” says Saleh.

The State’s Solution

To create a more attractive NileX, Farid of the EGX this year outlined a long-term plan.

The first part is underway with the EBRD. “With their help, we are preparing a comparative study of NileX and similar stock markets around the world,” said Farid. That will highlight differences and similarities between the various exchanges and NileX, focusing on oversight regulations, governance, and listing terms and conditions. “At this stage, we want to know where we stand relative to the rest of the world.”

The second phase of the plan is to look at how to attract SME equity funds and capital risk investments to NileX. “With the right regulations in place, those institutional investors will snowball liquidity in the SME exchange,” noted Farid.

Private Sector View

For Ehab Saeed, a board member of Osool ESB Securities Brokerage, the key to attracting long term investors to NileX lies with the government listing its smaller agencies. “Such bodies are guaranteed to make money. They are also stable investments with near-certain prospects. Many SME stocks suffer from unmet growth expectations and mismanagement after listing,” he explains. Additionally, it would demonstrate government confidence in the exchange. “That attitude would spill across other stocks, creating a strong base for long-term NileX investors.”

Another plausible solution would be to separate the NileX from the EGX legally. “Right now, NileX is like a secondary platform for traders, similar to the over-the-counter market for delisted EGX companies,” says Abdel Aziz.

Saleh, the assistant professor, highlights the importance of a crowd-funding option within NileX. “Not every SME can survive without outside funding. However, those companies may still be unqualified to go public,” he says, which is the case for many SMEs with unrealized potential but limited financial resources. “Crowd-funding allows them to secure the money they need, but without pushing their administration, costs, or growth beyond their capabilities.”

Another solution might be tax breaks for listed SMEs as compensation for costs they incur to maintain compliance with NileX regulations. “We have already seen the government reduce listing costs,” says Assran. “However, they are still high, especially for small firms.”

Meanwhile, the paperwork the EGX requires for an SME to list on the NileX is the same as for companies on the primary exchange. “They follow the same penalty system too,” adds Assran. “That will always keep unlisted SMEs away and could even encourage listed ones to leave the market. It is just too much complexity for them.”

Back to Banks

Many observers realize NileX problems will not be solved soon. Couple that with how dynamic SMEs are, that makes alternative financing platforms a viable funding avenue.

To that end, in 2015, the CBE earmarked EGP 200 billion for banks to lend at 5 percent interest for small enterprises and 7 percent for medium-sized ones.

The CBE also stipulated that by 2020, all commercial banks must have 20 percent of their loan portfolio directed to SMEs. “In the past, lending always went to low-risk large corporations that needed large loans. That boosted our interest revenue without raising risk,” says Hazem Hegazy, CEO of Retail and SMEs at the National Bank of Egypt. “Now, our focus has shifted toward SMEs to meet CBE benchmarks.” He declined to comment on how close the bank is to the 20 percent mark. However, he said that since the start of the year, the bank reduced the paperwork required to secure an SME loan and given more leeway on collateral. “Our primary basis for approving a loan is the ability of the SME to repay it, not the quality of the collateral,” says Hegazy. “That is the way we reach a win-win situation; the business owner succeeds while paying installments on time.” Lending limits to SMEs vary, though they never exceed EGP 10 million, which Suez Canal Bank offers only for industrial SMEs.

Nonbank option

Another major alternate financer is the Micro, Small & Medium Enterprise Development Agency (MSMEDA), an autonomous government body. According to agency head Nevine Gamea, the MSMEDA can approve a loan with an ID card. “We have a one-stop-shop in MSMEDA to handle all the remaining paperwork an SME needs to secure a loan,” she said on several talk shows in 2019.
Private firms also have pounced on the opportunity to support SMEs, albeit using more innovative tools. Financial leasing companies, for example, rent expensive equipment to SMEs that can purchase it or lease new equipment when contracts expire. According to a news report by Amwal al Ghad, there are 226 leasing companies in Egypt that cater to SMEs.

However, nonbanks lending may soon change as the Financial Regulatory Authority (FRA) develops a new law to “offer micro-enterprises and SMEs more reliable and regulated financing options,” said Mohamed Omran, FRA head.

At the heart of that legislation is a legal definition and criteria for nonbank financing based on clients they fund and how much money they give them. According to Omran, nonbank SME financiers must have capital of EGP 20 million or more. The other part of the legislation is the ERA must license nonbank lenders. “We will be auditing the company’s operation, hierarchy, governing policies, technical expertise, and administration,” Omran during a July 2019 press event. “Once approved, ERA will also audit financiers’ clients to ensure the soundness of the nonbank’s financials.”

Omran, however, stressed that such audits would be to ensure that nonbanks meet ERA’s solvency standards. It will not involve setting or auditing nonbank lending terms and conditions or targeted SMEs.

It is unclear whether the regulations would apply to government-owned MSMEDA.

Long-Term Growth

For Saleh, listing on NileX offers a direct route for SMEs that want to grow and go public on EGX. “Listing on NileX will force SME owners to grow out of the family-business management mentality to have a proper corporate approach with a board overseeing them,” says Saleh.

The other benefit is listing on the exchange will raise some cash for the SMEs, even if it isn’t all they want. “On the flip side, banks are generally more willing to lend to a listed SME than an unlisted one,” explains Saleh. “A listed SME is a more sustainable and institutionalized business.” That funding option will likely stay open as long as the company is not struggling to meet NileX governance requirements, he says.

Accordingly, the key to a successful listing on NileX depends on how much of the company will be listed. On the one hand, it needs to generate enough money to grow the business and create an active board to grow the SME from a family-run business. On the other hand, that listing should still give the owner control regarding the overall direction of the company. “We saw this a lot. When the owner loses control of his listed SME, it usually fails,” says Saleh.

However, he notes that listing on the NileX is a decision SMEs don’t make overnight. “It is a long-term commitment, and the market’s liquidity right now is not so high, even in the EGX,” he says. “The ideal scenario is for SMEs to plan to list in three or five years while seeking short-term financing from banks or alternative channels.”