What’s next in Europe?

7th August 2012

Intended to replace the current Euronext and Alternext markets, the new platform would raise both equity and bond finance via IPOs – and, it is believed offer early stage convertible bonds which would be changed into equities when the company finally floated its shares. Euronext has over 900 companies valued at under €1bn.

It's the latest attempt to create an interest for equity investors in general – and institutions in particular – in the shares of companies too small for main market quotes. They hope it will help smaller companies overcome the reluctance of banks to lend to the smaller companies which the market believes are the future powerhouse of economic growth.

The new facility already has "branding" – NYSE Euronext want it to be known as the "Entrepreneurs' Exchange."

Small company markets disappoint

But the history of attempts to jump start equity investment by offering listings to companies which are too small or too young or too wary of the regulation on main exchanges (or all three) is not one of success.  Last week, Mindful Money wrote about the problems with the UK's Alternative Investment Market (AIM), intended as an entrance to equity trading for small companies. AIM faces declining numbers plus a poor image due to a number of companies taking advantage of its easy to list route which turned out to have little or no substance. The Frankfurt Stock Exchange's secondary market   faces many of the same difficulties. Far from creating growth, many so-called growth companies traded both on Frankfurt and London have destroyed investor capital.

And leaving aside the frauds and the failures, there is still little evidence that these junior markets have created real value for investors or the economy although many listings have allowed early stage entrepreneurs a profitable exit for their original investment.

The FT says that the next exchange will ban high-frequency trading, the use of computers to buy and sell stocks in milli-seconds although it would more likely have, if other junior markets are any key, the problem of trying to generate interest in any trading.

Exchange functions fit for the age of austerity

Fabrice Demarigny, chairman of NYSE Euronext's SME Strategic Planning, told the FT that "all the functions of the exchange needed to be redesigned to encourage small and midsized enterprises back to equity markets. We came to the conclusion [after the financial crisis] that markets could not be the same as before."

To succeed it will have to both reduce costs and regulatory barriers and offer investors liquidity in individual shares plus a wide choice of companies. It will also have to cross national boundaries, always more difficult with small companies.  And part of the plan is a so-called "foyer" or junior, junior market where companies could act as if they were listed for two or three years before the formal quotation.

Will it work?

Besides the past history of secondary markets for early-stage or small companies, the new market will have to convince investors to have confidence in start-ups which are,  by their nature, illiquid assets.

Because of uncertainty and lack of information they have to be long term investments rather than trading counters. Some will bear substantial fruit but the need for investors to hold means less liquidity and less business for brokers and trading platforms.

Frustrations and false expectations

Potential shareholders will also have to weigh up the proposed market's desire to speed up the IPO process, with its expectations of gains, against the reality that a profitable sale or flotation might never happen. And, as with existing junior markets, frustrated or false hopes create a lack of confidence.

Companies will still have to find substantial fees for a listing – as well as revealing progress to investors on a three or six monthly schedule that could prove too much and too often for early stage companies.

Alternative solutions for smaller company financing

There is increasingly less need for stock market listings for smaller or younger companies. The growth of peer-to-peer and crowd-funding online allows investors to make a one-time, long-term investment in an entrepreneurial business without that firm having the operational complexities of trying to maintain an active secondary market. These new style platforms can allow trading in equities to arise naturally – with investors self-directing buy and sell facilities. 

Unless the new Euronext market can find a completely new direction, it is likely, as with existing junior markets, to run into the difficulty of being seen as a second tier in an exchange whose main business is hosting transnationals and other global leaders.

Jeff Lynn, the chief executive of Seedrs, an online platform for seed capital says: "While I applaud Euronext for looking for ways to improve access to finance for small and medium sized enterprises, I'm not sure that attempting to create a secondary market – with all the complexities and liquidity issues involved – is the best approach. Simple, on-line platforms that allow primary market fundraising on a peer-to-peer or crowdfunded basis are, I believe, a more effective tool for financing entrepreneurial businesses."

 

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