Demutualisation: A new beginning for DSE

Demutualisation has been a new issue in the capital market in Bangladesh. As in the case of many other stock exchanges all around the world, steps have been taken to turn the traditional mutual stock exchanges into demutualised ones. Normally demutualisation means turning a non-profit organisation into a profit-oriented organisation, and also turning a mutual organisation owned by members into a company that is owned by shareholders. The company could be either a listed or unlisted entity that may be closely held or publicly held. Demutualisation divides a member's rights into two segments-ownership rights and trading rights. In addition to the trading rights, a member acquires the ownership rights, which have a market value. So, demutualisation converts a mutually-owned organisation into a company, which is owned by shareholders.
The main differences between a mutually-owned organisation and a demutualised company are the functions of ownership, management and trading. In a mutual exchange these functions are handled by a single group, but in a demutualised exchange these three functions are separated and managed by different bodies.
Demutualisation transforms the legal structure of a mutual exchange into a business entity. The legal structure of a traditional stock exchange is its close link between ownership and direct access to trading. The owners are the managers and also customers. Net gains are shared in proportion to their ownership. Decisions are made democratically. Each member gets one voting right. Sometimes decisions are made by committees. They are the representatives of member firms. The ownership rights of a mutual exchange are not freely exchangeable and if any member cancels his membership, his rights will also cease to exist. Another important feature of traditional exchanges is that it may expressly or impliedly adopt a non-profit structure and it does not distribute any kind of surpluses. So, injection of outside funds is not permitted.
If a traditional exchange transforms itself into a demutualised exchange, it will have different departments for ownership, management and trading. Through election the shareholders choose their board of directors, who will have the decision-making power. Removal of the board of directors is also done by the shareholders.  Shareholders' voting rights are commensurate with their economic interest in the corporation-one share, one vote. The exchange has the right to raise new capital from different sources. Conversion of memberships into shares is done by a semi-government institution. The process may or may not be a public issue of shares. In a profit-oriented and publicly-traded company, ownership and trading facilities are perfectly separated. Brokers are no longer called owners, they are just customers.
The property rights theory explains that property right is an outcome of the bargaining power of interested parties. Property rights are regularly modified to avoid financial losses and implement new ideas and possibilities. When traditional stock exchanges fail to ensure flexibility and liquidity needs which de-motivate the profit-seeking investors and might lead them to turn to other stock exchanges, demutualisation of stock exchanges can stop this trend. The demutualisation process and listing permit the stock exchange to raise more capital by selling shares and also motive the management to take effective business initiatives. Demutualisation addresses and responds to the new changes and technological advancement and investors have a new ownership structure and higher yields.
Demutualisation reduces the agency costs associated with the organisational structure of an exchange. Demutualisation is essential for ensuring efficient corporate governance and enhancing transparency. Demutualisation separates trading, ownership and management activities and thus helps achieve greater independence. In such an exchange the management works in the best interest of the exchange and the shareholders and aims at profit maximisation, which is linked with interests of the owners. A demutualised stock exchange is obliged to report to the shareholders so it ensures transparency.
The rapid changes in the transaction system due to new electronic systems hasten the move towards demutualisation. Technological advancement in the stock exchanges leads to lower transaction costs, helps find out better prices and cuts the probabilities of market manipulation.
The Dhaka Stock Exchange (DSE), the leading and largest stock exchange and also the first stock exchange of Bangladesh, is preparing to convert its business structure into a demutualised one. Its board of directors consists of 24 members. Of them, 12 are elected and another 12 are nominated by the non-DSE members and approved by the Bangladesh Securities and Exchange Commission (BSEC). Its 22 members out of 238 are registered by the BSEC for conducting securities business. The DSE has recently submitted its concept paper on demutualisation to the BSEC after the passage of the Demutualisation Act. The DSE has submitted a Memorandum of Association to the Registrar of Joint Stock Companies and Firms seeking to start its operation as a public limited company.
In the Memorandum of Association, submitted by the DSE, it has been stated that the DSE will be a public limited company with the authorised share capital of Tk 25,000,000,000, which will be divided into 2,500,000,000 shares with a face value of Tk 10 each. And the exchange has the right to reduce or increase its capital and can convert its shares into different classes.
The Dhaka Stock Exchange Limited will have the power to acquire any company or establish its subsidiary or to take part in the management of other companies. These facilities are not limited to the country. These are also applicable to foreign operations. It will have the full power to operate its activities. The ownership structure of the stock exchange will be diversified. The Demutualisation Act clearly states that any individual other than a strategic investor can hold not more than 5.0 per cent issued shares. Again for a strategic investor this limit is 25 per cent. And any company holding the TERC (Trading Right Entitlement Certificate) and registered with the commission cannot hold more than 40 per cent shares issued by the exchange. So it is much more diversified than the traditional exchanges, where the ownership risk lies only with the members.
The DSE demutualisation will lead it to go for a profit motive. It will ensure greater flexibility in decision making. The Dhaka Stock Exchange Limited will be able to expand its business in other business areas and will be accountable to its shareholders for its performance. For ensuring transparency, it will establish an Investor Protection Fund to protect interests of investors.
Most of the exchanges around the world use a two-step demutualisation process-initially they change the organisational structure and then go for public listing. But the Dhaka Stock Exchange is moving very fast to adopt both the changes at a time. The management should be careful about any future conflict of interests. It would not be easy to handle the pressure and new challenges initially. It would not be also easy to implement new policies overnight. So the DSE should apply new rules and regulations carefully.
Hopefully the demutualisation will be a blessing for the DSE. It will ensure efficient corporate governance and attract foreign investments through the exchange. Many multinational institutions in Bangladesh have to follow many regulatory frameworks as per guidelines of their parent companies. Demutualisation is one step towards ensuring a level playing field for those companies and let the local companies adhere to it. The more accurate the structure of the stock exchange is, the more interested will be the investors to divert their savings. Demutualisation will also create new jobs in investment banks, brokerage houses, credit rating agencies and banks. With the passage of time general investors will start getting benefit of demutualisation.
The writer is an MBA student of the Department of Finance at the University of Dhaka. [email protected]