DealMakers - Q3 2023 (released November 2023)
South Africa: new JSE rules to encourage listings
by Lydia Shadrach-Razzino, Tanya Seitz and Shamila Mpinga |
Baker McKenzie Johannesburg
The Johannesburg Stock Exchange (JSE) has seen listings halve in the past two decades, mostly because of reduced foreign investment and challenging macroeconomic conditions. However, the stock exchange’s onerous listing requirements have arguably led to increased compliance costs and an unprecedented number of delistings. In addition, issuers have been less optimistic about the prospects of raising capital on the JSE, with many trading at double-digit discounts. As a result, the JSE has announced numerous changes to its listing requirements to encourage new entrants and prevent delistings, including the most recent announcement to simplify the JSE Listings Requirements.
The JSE has seen listings halve in the past two decades, from 616 in 2000 to just below 300 in 2023. This is likely as a result of reduced foreign investments into the country due to the unfavourable global macroeconomic climate. However, some analysts have noted that the JSE’s listing requirements are onerous and have arguably led to increased compliance costs and an unprecedented number of delistings in the past five years. While delistings are an ordinary part of capital markets, the scarcity of new listings is a cause for concern.
One of the primary reasons that companies list on the main board of the JSE is to raise capital. However, issuers have been less optimistic about the prospects of raising capital on the JSE in recent times, as many have been trading at double-digit discounts to their net asset values. This has significantly reduced the attractiveness of the JSE to private companies, hence its current efforts to encourage listings. The JSE has, therefore, announced numerous changes to its listing requirements to encourage new entrants and prevent delistings, with the most recent of these changes becoming effective as of 17 July 2023.
The changes to its listing requirements include (i) the introduction of dual-class share structures; (ii) the reduction of free float for new listings; (iii) changes to free float assessments for institutional investors; (iv) changes to the listing requirements for special purpose acquisition companies (SPACs); and (v) making financial reporting disclosures less onerous. Although the changes have been well received by market participants as a means to encourage new listings, they appear to be more geared towards attracting IPOs, rather than adding significant value for existing issuers.
Finally, in September 2023, the JSE announced its intention to completely overhaul the JSE Listings Requirements (Requirements) in an attempt to simplify the Requirements and cut red tape, which is welcomed.
In essence, dual-class share structures exist where a shareholder’s voting control over a company is dispro-portionate to their economic interest in that company. A dual-class share structure typically involves a company having two classes of shares that are identical in every respect but voting rights. One class of shares is a “low vote” share, carrying one vote per share (typically Class A shares), while the other class of shares is a “high vote” share, typically carrying 10 or 20 votes per share (typically Class B shares). Prior to the current amendments, the JSE did not allow companies with dual-class shares to list on the exchange. It also prohibited existing listed companies from issuing dual-class shares. An exemption applies to companies with dual-class shares that were listed before 1999. These exempted companies were allowed to issue additional shares of that class. The amendments relating to dual-class shares are forward-looking and apply to new listings. They do not affect companies that are already listed.
A major concern associated with dual-class share structures is the concen-tration of power in the hands of man-agement, with little to no shareholder oversight. This could lead to dubious corporate governance practices, which makes it important for shareholders to maintain a watchful eye over these companies.
The JSE’s introduction of dual-class shares as “weighted voting shares” has been widely accepted, subject to guardrails to mitigate the abovementioned risks. These include (i) requiring a maximum weighted ratio of 20:1; (ii) requiring that dual class shares be held only by directors of the company; and (iii) capping all shares to one vote regardless of the class for certain matters, such as changes to independent directors and auditors, variation of rights attaching to any class of shares, a reverse takeover, liquidation, or delisting. Dual-class share structures are commonplace on stock exchanges globally, as seen on the New York Stock Exchange, the Nasdaq, and the Toronto Stock Exchange. What remains to be seen is whether there is investment appetite for companies with dual-class share structures on the JSE.
Free float and new listings
Free float refers to a company’s issued share capital that is held by public investors. Prior to the amendment, the JSE required main board issuers to have a free float of 20%. To keep abreast of international developments in Europe, and to encourage new listings, the JSE has reduced the free float requirement to 10%. Making a large portion of the company’s shares freely tradeable can be unsettling, particularly for large companies where there are few shareholders willing to sell their shares. Therefore, this is great news for high-growth companies and those with private equity and venture capital investors, which consider free-float requirements a strong deterrent when considering where to list.
Reducing the free float requirement to 10% will allow new issuers flexibility to structure their IPOs, and open markets to issuers wishing to initially raise smaller amounts of equity. The requirement to float 10% is in line with other local exchanges, such as the Cape Town Stock Exchange, thereby making the JSE competitive in the local market. The fact that the free float requirement has been largely unchanged for over 20 years has been detrimental to Africa’s largest exchange, and has impacted the JSE’s competitiveness as a primary and secondary listing jurisdiction. For in-stance, it is strange that companies that were compliant on premier inter-national exchanges would fall short of qualifying for a secondary listing on the JSE for failing to float 20% of their shares. Therefore, this change is a move in the right direction, as it reduces the burden of shareholder dilution.
Institutional investors and free float assessment
There are limited security holdings that qualify as free float. One type of holding that previously did not qualify was a shareholding of 10% or more. This was not ideal, given that it is common for institutional investors, such as fund managers and portfolio managers, to hold more than 10% of an applicant issuer on listing. As an exception, the JSE allowed institutional investor holdings of more than 10% to qualify as free float. The exemption applied where the interest held was in more than one fund and each fund held less than 10% of the shares in the applicant issuer. This exemption was not the saving grace that it set out to be, as it was rather limited and complex to apply. Therefore, the JSE has resolved to change the rules to recognise institutional investors for free float purposes, provided that they have no relationship whatsoever with the directors and family of the applicant issuer.
The JSE has widened the scope for free-float assessments in two major ways. Firstly, the JSE has removed the 10% exclusion altogether, provided there is a minimum number of shareholders. Requiring a minimum number of shareholders will ensure that the floated shares are not held by only one shareholder and will encourage a competitive share price. The JSE’s second amendment is to exclude shareholders who exercise control (>35%) from the free float assessment. Given that 90% of monthly trades on the JSE are driven by institutional investors, they will benefit significantly from this amendment.
Additional Amendments: SPACs and Financial Reporting Disclosures
In its efforts to retain and attract listings, the JSE has amended its requirements relating to financial reporting disclosures and SPACs, respectively.
The JSE introduced SPACs in 2013. This type of company is primarily incor-porated to raise capital to acquire viable assets, with the aim of listing on an exchange. Viable assets are those that qualify for a listing on an exchange. SPACs are a viable investment vehicle and become more attractive in a volatile economic environment when traditional listings become riskier. We witnessed a SPAC boom in 2020 and 2021, when the markets became volatile during the COVID-19 pandemic, but global interest in SPACs has since dwindled. Despite the reduced interest, the JSE has amended its requirements to make SPACs more attractive for listings, should the demand for them increase.
To retain listings, the JSE has reduced the compliance burden for issuers, who will no longer have to produce an abridged version of their financial results along with their audited annual financial statements. Furthermore, where the previous set of annual results had to be accompanied by a modified opinion, issuers’ interim results will no longer have to include an auditor’s opinion. The JSE has admitted that the previously mandated financial reporting disclosures added no regulatory value or benefit to investors. As such, these amendments have received overwhelming support.
The JSE has announced its intention to simplify the Requirements. Essentially, the JSE plans to rewrite the Require-ments using plain language for the benefit of all stakeholders. This process will include a substantial reduction in the volume of the Requirements, and cutting red tape to ensure that only rules that are fit for purpose survive the purge. The JSE has created a dedicated portal for this project, which will run in stages over 18 months, including public participation throughout the process. We look forward to reviewing the suggested amendments.
The JSE certainly has its work cut out for it, particularly given the rise of other exchanges locally and the success of private equity and venture capital financing in South Africa. With less stringent compliance burdens, competitor exchanges and alternative forms of financing have become more attractive methods of raising capital, thus posing a challenge for the JSE.
In its efforts to encourage new listings and curb delistings, the JSE, through its initiatives to cut red tape, must find a balance between reducing compliance burdens and protecting investors. The previous listing requirements had been in place for over 20 years; therefore, the recent changes are testament to the JSE’s commitment to self-assessment and improvement to encourage capital market reform.
Coupled with the recent amendments to the Requirements, their complete overhaul presents an opportunity for the JSE to reform and regulate listings in a manner that accommodates potential issuers, listed companies, sponsors, shareholders and investors. Balancing these interests is no small feat, but by engaging market participants, the JSE can allay such challenges and pave a path for a renewed stock exchange that can withstand the cyclical nature of global economic conditions.
Shadrach-Razzino is a Partner and Co-Head, Seitz is a Director Designate, and Mpinga, a Candidate Attorney, Corporate/M&A Practice | Baker McKenzie Johannesburg.