The need for demutualization of stock exchanges

Demutualization of stock exchanges implies that a mutually owned stock exchange is converted into a company owned by shareholders. In other words transforming the legal structure, of an exchange form to a business corporation form is referred to a demutualization. The ownership, management and trading is separated and are in different hands. They are clearly separated like a commercial entity. The management of the exchange is separated from the shareholders and the brokers.

Need for demutualization:

• Stock exchanges owned by members tend to work towards the interest of members alone, which could on occasion be detrimental to rights of other stakeholders. Division of ownership between members and outsiders can lead to a balanced approach, remove conflicts of interest, create greater management accountability, and take into consideration the interest of other players.
• To cope with competition, stock exchanges require funds. While member-owned stock exchanges have limitations in raising funds, publicly owned stock exchanges can tap capital markets.
• Publicly owned stock exchanges can be more professional when compared to member-owned organisations. Further, as a result of the role played by shareholders, strengthening of the management and the organization, there is greater transparency in dealings, accountability and market discipline.
• This would enhance management flexibility. A publicly held company is better equipped to respond to changes when compared to a closely held mutually owned organization. Further, a company can spin-off its subsidiaries, get into mergers and acquisitions, raise funds, etc.

A company can spin off subsidiaries, get into mergers and acquisitions, raise more monies, etc. For instance, the NSE which started out as a corporate body has spun off wholly-owned subsidiaries like the National Securities Clearing Corporation (NSCCL) and more recently, NSE.IT, a dedicated info-tech company.

The world’s capital markets have changed remarkably owing to financial market globalization trends and new information technology advancement technology growth, which have resulted in much more sophisticated investor demands. Intensifying competition among exchanges to attract issuers and investors have prompted leading exchanges worldwide to change their organizational structures and business approaches to become more flexible, efficient and responsive to market needs, with a greater orientation on profitability. For Example In the Asia/Pacific region, the Australian Stock Exchange has already transformed itself into a fully corporatized entity, while the exchanges in Hong Kong, Singapore and Japan are also moving in the same profit-driven business direction. These corporatized exchanges are aggressively targeting regional and international companies and investors as potential sources of growth.

But, the trouble is that their decision-making is often painfully slow and conservative. This is seen from the reluctance of smaller, regional exchanges in India to merge with the larger exchanges just so that they retain their individual character. This, despite the fact that many have no trades in a whole year. Internationally too, it was seen that the members of London’s International Petroleum Exchange had voted against demutualising, and had rebuffed an overture for a merger from the New York Mercantile Exchange.

There are many apprehensions and questions being raised as to if an exchange go public, what would happen to its role as a self — regulatory organization.

However, the corporate structure by itself does not make any difference, as seen from the example of the NSE. But, the conflict of interest could arise if the boards of the stock exchanges are not independent as also at the time of listing of the demutualised exchange. The conflict would arise due to a clash in the exchange’s role as a regulator and its commercial objectives. This issue needs to be looked into by the capital market regulators in the country.

In some jurisdictions regulators have reacted to a stock exchange’s demutualization by removing regulatory responsibilities from the stock exchange while the stock exchange itself runs like a business corporation.