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ZAR X CEO on switching on, and the battle with the JSE

Seven companies potentially listing before the middle of the year.

RYK VAN NIEKERK: Welcome to this special podcast. My guest today is Etienne Nel – he is the CEO of ZAR X, one of the new stock exchanges that is on the verge of entering the local market. Etienne, welcome to the show. Where are you now? When do you think you will switch on your exchange and start trading?

ETIENNE NEL: Ryk, thank you very much for having me today. We as ZAR X are technically operational; all our trading systems are fully functional. Just understand the context of a new stock exchange: it’s a bit more difficult to actually get off the ground. So obviously we got our licence on August 31 last year, we then at that stage had a pipeline of potential companies wanting to list, who then formally engaged with us as a licensed stock exchange.

RYK VAN NIEKERK: How many companies were there?

ETIENNE NEL: At that stage there were five; at this junction we added another two in the pipeline, so it’s a total of seven that we should be listing before the middle of the year.

Now, obviously as an exchange you need to regulate those listings, so to the extent that the company has to normalise MOI, they need to set up a listing circular or a prospectus. These things need to be audited, vetted, signed off – so there’s obviously a huge amount of work and compliance that needs to be done by the actual issuer of the shares. So the first ones we anticipate to list in the next three weeks – being Senvest and Senvest Beleggings – they’ve been quite forthcoming and public about their support and listing on ZAR X.


JSE versus ZAR X


RYK VAN NIEKERK: This doesn’t seem to have been an easy process. You have faced several legal challenges, mostly from the JSE, and there’s also another exchange, 4AX, that seems to have combined forces with the JSE against ZAR X. What are the issues here?

ETIENNE NEL: Ryk, I couldn’t comment on the underlying reasoning why the JSE and 4AX have teamed up effectively. All we can say is what we’ve experienced from the JSE. So the suggestion from them that they are appealing the licence based on policy grounds, we think is not entirely true, simply because they’ve tried to halt and stall our entire licence process literally from day one. All their actions that they have actioned against us have been of a stalling nature. So for them to purport to say it’s a policy issue, why then are they only appealing our licence and not 4AX’s?

They were in an appeal process at the end of last year but they withdrew that process, so the question arises now why did they withdraw? Did they withdraw because their original appeal was misguided or purely spurious or are 4AX, in fact, going to change the rules that the JSE have appealed against? So those are the sorts of things, and if it’s a policy thing why then just appeal one exchange licence?

RYK VAN NIEKERK: Just to clarify, they are appealing in terms of a policy; what policy is that and what are there different positions?

ETIENNE NEL: The policy that they refer to is, in broad strokes, the interoperability of market infrastructure or stock exchanges and CSDs. Now, they basically suggest that because of different settlement times and different systems, that there’s obviously systemic risk that now enters into the market. The truth is ZAR X will not be trading any shares listed on the JSE. ZAR X is a standalone stock exchange that will trade the listings on its market and on its various boards. We’ve got a primary market, a restricted market for the BEE and the agri, co-op-type sector and then obviously the invest entities board. Those would be the listings that we would trade.

From a systems perspective we do not interact with the JSE in any shape or form. We do, however, have full functionality and settlement through Strate, which is the biggest CSD in the country; coincidently the JSE uses them as well. Furthermore, the JSE argue that our market introduces risk to the JSE brokers. So to make an example, you have a broker trading in both the JSE and on ZAR X; they are suggesting that by introducing an additional market we would propose risk to their brokers. We have said to the JSE [in] a number of discussions that we’ve had with the JSE – we’ve been in continuous discussions – … our market is pre-funded – we settle in real time, not at the end of the business day. In the JSE context they settle in three working days. The interposing three working days basically refer to a period where the broker actually stands good for that trade, so effectively the broker puts up balance sheet. Now, it stands to reason, therefore, that our market actually poses less risk. If anything, the JSE’s environment imposes risk on us – but they don’t put it like that. They feel that they are the regulator of the regulator, which I don’t think is their place to be.

RYK VAN NIEKERK: Would you need to trade through a stock broker on the ZAR X exchange?

ETIENNE NEL: Yes, the requirement is very clear in the Financial Markets Act that you must use an authorised user of an exchange to transact on that exchange. Obviously in a ZAR X context we will try and make this as easy as possible. We also have a mobile app that’s pretty much done in development and these sorts of mechanisms will make it much easier to transact. We are looking at giving all investors a zero custody fee on the custody of the account. Obviously there’s a transaction fee, which is important, but to open an account and to actually have shares, so if you do nothing in your account it costs you nothing.

RYK VAN NIEKERK: So it’s actually an opportunity for stock brokers to expand their business?

ETIENNE NEL: Exactly. Our cost base to brokers is very, very low and obviously it just adds marginal revenue to their bottom line.

RYK VAN NIEKERK: Have you sat around a table with (JSE CEO) Nicky Newton-King or somebody else from the JSE to discuss this?

ETIENNE NEL: Ryk, we’ve had a number of meetings with the JSE and [in] the last telephone conversation that I had with Nicky, specifically on the policy issue, … her response to us was that we’ve now gone too far down this litigation and appeal route, which will be heard on [January] 30 and January 31 and the Financial Services Board appeal board, and she wants to see the litigation through and doesn’t see any point in actually having a conversation with us. This was in November 2016.

Literally three weeks later they put out a press release saying they have reconciled their differences with 4AX and are, in fact, withdrawing their appeal against their licence. So I’m not quite sure what the motive is behind this. Suffice to say that we think it’s anti-competitive and on the back of that ZAR X have, in fact, laid a formal complaint with the Competition Commission against the JSE.

RYK VAN NIEKERK: Why do you think that is the case?

ETIENNE NEL: Ryk, I’m not a very clever man but in my book, I’ve got a few fairly simple rules, and in my book actions speak louder than words, and the JSE’s actions for the past two years that we’ve been involved in this process have been nothing but obstructive. From a ZAR X perspective, we think that the JSE don’t have a commercial response to the ZAR X product offering and you basically go back to what you know – and being a lawyer, Nicky goes back to litigation.

RYK VAN NIEKERK: South Africa is actually one of the unique countries in the world: we only have one exchange currently; several other markets have many more. The US, for example, I think have more than 50 different stock exchanges. How do you think the entry of a new player in South Africa would change the way capital markets work?

ETIENNE NEL: Ryk, firstly, from a ZAR X context we have been inundated in a very positive way by the response from the market – people wanting to list, do innovative new things – and the way we intend to differentiate ourselves quite simply is through a client-centric approach. We will look at the market participants and the issuers as clients and give them a better service, a better product and better systems. That’s from a business perspective. From a legislative perspective the landscape is a bit more difficult. There are many reference, so for example in the Companies Act, the Exchange Control Act, Tax Act and so on, that refer to the JSE specifically. What should have happened, in fact, was the Act should have referred to a licensed stock exchange. So the minute you now licence a new stock exchange you now sit with a situation where you are an exchange but certain of the Companies Act provisions technically don’t apply, or do they? Tax provisions don’t apply, or do they? Companies that may want to inward list will find a hard time listing on ZAR X. So obviously we’re now engaging with the regulator, the SARB (South African Reserve Bank), National Treasury and these guys to try and actually get these things normalised so that it actually allows for multiple stock exchanges. So it’s a very interesting concept. Furthermore, issuers and the banks have a fairly structured approach towards a listing on the JSE, it’s almost like a cookie cutter approach, and the minute you sit down and have a conversation with them they say, ‘well, we didn’t realise we can do this’. It’s actually quite refreshing to then engage with the banks and issuers to say ‘let’s look at it differently’ because from a ZAR X context we don’t have a rules-based approach to listing – we’ve got a principles-based approach to listing.

RYK VAN NIEKERK: Well, from that it sounds like the JSE really regards ZAR X as a potential significant competitor. Do you think they are scared that ZAR X would steal away new clients?

ETIENNE NEL: Once again I couldn’t comment on what the JSE’s opinion is of us, clearly they see us as a very real threat and possibly the only threat because they are continuing with the litigation against us. Having said that though, our offering, if you think about it practically in a South African context, assuming there were 20 listings in a year, we start off and we just take one listing in the first year, year two we end up taking five listings, those listings, per definition, would have gone to the JSE by virtue of the fact that they were the monopoly. Now all of a sudden there is choice. In terms of our licence conditions it strictly prohibits us from trading any shares listed on the JSE. Nothing stops companies listed on the JSE from actually doing a transfer of listing. This raises another interesting point because up until now in a JSE context you’ve only had the concept of a de-listing, which means your listing gets removed from the JSE. Obviously the rules around a de-listing were built to protect investors, however, there are now multiple exchanges, what happens in an environment where you actually have a transfer of a listing, investors still get the same protection, they still go to another regulated licensed exchange, they still have tradability in their shares, it’s just in another market and on another platform. Surely there should be a mechanism for JSE-listed companies to actually be able to transfer their listing but that doesn’t exist. Once again that’s anti-competitive. So there are quite a few interesting things that are now coming into play in this market.

RYK VAN NIEKERK: Will it be more affordable for a company to be listed on ZAR X than the JSE?

ETIENNE NEL: I’ve always maintained that we as a business if you compete on price alone then you don’t really have a competitive advantage. So in a short answer to your question it is marginally cheaper, probably not significantly so, the benefit comes through maintaining compliance with the listing rules and regulations, that’s where the cost is cheaper. As I said earlier, we’ve got a principles-based approach to listing. So, for example, in our environment you don’t need a sponsor, if you wish to have one you may appoint one, it’s not an absolute requirement. We require IRBA-registered auditors to actually audit your books, not an exchange approved set of auditors. So I see there’s quite a bit of discourse in the market about rotation of audit firms. So, for example, ZAR X have used Nkonki as an audit firm, they are IRBA-registered and 100% BEE. They are obviously not part of the big five but technically they can report on a listed company in terms of IFRS, which is all we require. Those are the sorts of things that we are bringing to the market in terms of having a principles-based listing approach. So in a ZAR X context to have a listing would be more cost effective to maintain the compliance of the listing.

RYK VAN NIEKERK: Now that is interesting. There are some listing requirements that are quite expensive, for example the necessity for companies to advertise their results in financial newspapers, that regulation has changed but it’s still an expensive one because companies are forced to do so. Are there other benefits to rather choosing ZAR X than going to the JSE?

ETIENNE NEL: It’s interesting that you talk about the printing and the advertising, if you look at it we are now living in the twenty-first century, there are so many media platforms available to individuals and corporates alike that we don’t see the need to actually have to advertise your results in a newspaper. We talk about publishing your results and everything can happen electronically, similarly with your prospectus, it may happen electronically, provided that it’s on the company’s website, the ZAR X publishing service, which we call ZAPS and obviously now you can start using other things like Instagram, Twitter and so on, to communicate to shareholders.

RYK VAN NIEKERK: Just from a retailer’s perspective, investor’s perspective, how would your fees compare with the JSE’s fees?

ETIENNE NEL: Obviously as an investor your fees are split into two elements, first there’s the custody component, a big focus for ZAR X is financial inclusion, we really are quite keen to drive an investor and savings culture in South Africa, specifically for the lower income groups. So in an environment where people want to save as little as R5000 or R10 000 we would not charge you a custody fee. So with a R10 000 account imagine a situation where your custody fee totals R1000 a year, that’s a 10% custody fee on your portfolio. That’s significant. Obviously if your portfolio is worth R1 million then it’s not significant to pay R1000 custody fee, so in that context it’s for free. The exchange, being ZAR X, would actually cross subsidise the cost of that account. Furthermore we obviously now as a commercial enterprise need to make some sort of money, we need to kick-start the exchange and trading fees will be set by the stock exchange at 1.5%. So unlike in the current environment where brokers get to negotiate with clients, I also don’t think that’s sustainable, it’s a race to the bottom. People always just talk about my broker is cheaper than the next one but in reality the 0.3% or 0.5% or 0.75% that people pay is, in fact, the revenue line for the broker, it’s not the profit line, off the back of that he still has to pay staff, costs, systems and so on. So we’re basically looking at trying to kick-start this market and to the extent that it works then we will obviously introduce a sliding scale, making things more affordable from a transactability perspective but for the time being it’s 1.5% and those are the costs for an investor.

RYK VAN NIEKERK: Of course, you need companies and shares for investors to trade in, you said earlier you have seven companies lined up to list on ZAR X, how would the growth pattern be, what is the magic number of companies you want to get to, to offer a really diverse portfolio to investors?

ETIENNE NEL: That is actually a really good question, I think the beauty of bringing a second stock exchange into a South African context, keep in mind that investors still have the JSE, so you’re not excluded, so all we’re doing is we’re now adding product choice to an investor’s portfolio. A number of the agri businesses have opted to go the ZAR X route and what’s interesting now is we’re going to create a ZAR X agri index. So for the first time in South Africa, which is technically the breadbasket of Southern Africa, we will have an agri index and all sorts of interesting things start flowing from that. So we will definitely build on that theme going forward. So the magic number, I haven’t really thought about it, maybe it’s 50 listings, who knows.

RYK VAN NIEKERK: Have you spoken to any current JSE-listed companies to transfer their listing to ZAR X?

ETIENNE NEL: Yes, we are in discussions with a couple of them already.

RYK VAN NIEKERK: You applied for the licence in 2015, that’s two years ago, how much have you spent in this whole process so far?

ETIENNE NEL: I’d prefer not to disclose that number.

RYK VAN NIEKERK: But what is the most expensive part an exchange, the trading platform?

ETIENNE NEL: Well, it’s actually a combination, you’ve need to have experienced senior staff who run both from a compliance and a surveillance perspective, the exchange, then you need business development people. So I’d say our biggest component is, in fact, staffing costs and the second biggest component is systems because obviously we need to have built in redundancy in the event of a blackout, so we’ve got triple redundancy on all our systems, which is really expensive but we need to have a world best practice solution on the table.

RYK VAN NIEKERK: But everything is hosted in South Africa, it’s not like the JSE that is being hosted in London.

ETIENNE NEL: Yes, I did have a stint of my career in software and technology and there, once again, I learnt very quickly that the minute you start going into the Cloud there can be storms in that cloud. So what we’ve effectively done is hosted with two independent separate companies, both in South Africa but unrelated to each other, so you’ve got both geographic segregation, as well as business risk segregation in both those entities. So from that perspective I think we are well covered.

RYK VAN NIEKERK: Etienne, just lastly, we have the JSE, we have 4AX and ZAR X coming into the market, how big is the South African market, how many exchanges can we have?

ETIENNE NEL: Ryk, that is a very insightful question and I don’t know what the magic number is. Just looking at it, the response we’ve received from the market, as I said, it’s been really positive. I don’t think more than three, maybe four at a push, provided the exchanges all have a very specific niche. So in my mind I would see the JSE obviously being the biggest exchange covering most markets, maybe there’s space for a dedicated bond exchange, I don’t know, maybe a safix exchange. What I’m trying to say is maybe there is space for very niche, focused-type operators, definitely not another shotgun-type approach to capital markets, which I think are very, very competitive. But time will tell and obviously it’s the ambit of the regulator to decide how competitive he wants this market.

RYK VAN NIEKERK: Thank you, Etienne. That was Etienne Nel, he is the CEO of the ZAR X stock exchange.

Moneyweb has approached the JSE and 4AX for similar interviews. Representatives from both parties will be available next week.

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