Business owners can fund their business through various means but they fall mainly into two main brackets i.e. equities or debt.
There is occasional structuring that is done to get some in between the two forms of capital sources to enhance the attractiveness to potential investors.
Globally, capital markets play a key role in ensuring that businesses get the requisite funding and that owners of Capital are well protected and get the return that is required.
Most of the investments in the Capital Markets are long-term in nature and it is therefore important that all the players actually understand the products that are offered in the markets before either issuing them to raise funds and also before buying into them.
For instance, with the pandemic, there was a lot of volatility in most markets with the Kenyan equities market for example declining by 8.6% last year.
Despite the volatility, it is important to note that capital markets continue to play a key role in economic development more so as a source of funding for businesses and individuals.
Capital markets’ main role is to link suppliers of capital for example pension schemes or SACCOs with users of the capital i.e. people who are mainly in the production of goods and services across sectors. The capital markets, therefore, play a vital role in economic development as they promote growth in the real economy by enabling access to long-term financing for producers of goods and services, and entities tasked with infrastructure development like the government. To be able to efficiently do this, the capital market players should ensure that they are promoting a saving and Investments Culture, linking suppliers and users of capital as well as facilitating the efficient and effective allocation of resources in the capital markets.
Over time, the Kenyan capital markets have evolved, achieving a number of milestones over the years and in effect, catalyzing economic growth. One such milestone is the establishment of the Growth Enterprise Market Segment, (GEMS), which was set up in 2013 with the intention of enabling venture companies without a profit history as well as Small and Medium-sized firms to list in the NSE. So far, the segment has four listed companies and still attracts more, as recently, Homeboyz Entertainment was listed by way of introduction on the GEMS. Additionally, the Nairobi Securities Exchange (NSE) launched Kenya’s first formal Over-the-Counter (OTC) market platform, the Unquoted Securities Platform, to facilitate the trading, clearing, and settlement of securities of unquoted companies. The OTC will enable unlisted commercial banks, cooperative societies, and private companies to access the benefits of an efficient OTC market anchored on leading technology capabilities and resources.
However, despite such developments in the Kenyan capital markets, there are still factors that hinder the significant growth of the markets such as the overreliance on bank funding. According to the World Bank, banks in Kenya provide 99.0% of funding, with other alternative sources such as the capital markets providing a combined less than 1.0%. This is in comparison to developed markets, where banks provide only 40.0% of the capital in the economy while other sources provide 60.0%. Kenya’s over-reliance on bank funding can be attributed to the lack of knowledge by both suppliers and users of capital on how best to structure and ensure there are products that meet their aspirations. A large amount of capital in the domestic market is still partially affiliated to banks.
In order to deepen the Kenyan Capital Markets and provide alternative platforms for investors, the capital markets should adopt regulations that allow market players to craft their products within the general principles, balance the cost and profit margins as well as diversify risks. In return, this will lead to innovations resulting in deepened and developed capital markets. The authority should also develop policies that will require listed firms to disclose corporate news and price-sensitive information to the bourse before going to the media. This will improve market access and efficiency seeing that in order to achieve efficiency, high quality, and timely information is required. This is derived from better disclosures by listed companies. Additionally, to provide an incentive to issuers so that they invest in the capital markets, Structured Products and Non-Bank Funding needs to be given favorable tax treatment and regulations.
For more information, please see our topical on The Role of Kenya’s Capital Markets on Economic Growth