February 19, 2007	Monday	Safar 1, 1428

MONEY raised by companies through the corporate bond market in Pakistan sharply declined by Rs5.5billion in 2006 compared to the previous year as the market, pre-occupied with a host of administrative and liquidity-related problems, is fast losing charm for Term Finance Certificates(TFC).

Official data reveals that only three companies were on the list of the Securities and Exchange Commission of Pakistan (SECP) last year(with a paid-up capital of just Rs3.9billion), which issued eight (TFCs) and raised just Rs11.11billion.

In 2005, the situation was a bit brighter as 14 new companies (with a paid up capital of Rs22.63billion) which issued 14 TFCs and raised Rs16.61billion.

The corporate bond market that exists in the form of TFCs is still in its infancy. The corporate debt issues account for just one per cent of the Gross Domestic Product (GDP).

Although the first TFC was launched in 1995, the pace of issuance did not take off until 2001 when the number of new issues were equal to the total number of issues from 1995 to 2000.

A major chunk of borrowings by companies still comes from banks.

Globally, companies finance their needs through four basic options - retain earnings, bank borrowings, corporate bonds and equity. The Asian financial crises have taught one lesson – that corporate bond market is an important tool to improve financial stability, provide competition, and allow more efficient allocation of savings by providing a broader range of assets. It diversifies the sources of funding for companies. This market is vital to reduce the existing large spread between the rates on deposits and advances in the Pakistani banking system.

However, the high cost of issuing TFCs is one of the main concerns of the private sector. In addition to the coupon rate, the process includes listing charges, trustee fees, rating fees and stamp duties. This is one of the basic problems that needs to be redressed for development of local corporate bond market.

According to the market participants, the administrative and regulatory process by the SECP for issuing a TFC is more complicated than obtaining a bank loan and the disclosure requirements and turn-around time for applications is too long because of a tiresome process.

However, official sources in the SECP believe that some recent steps taken by the Commission have considerably simplified the process by removing major hurdles as pointed out by the prospective TFC issuers.

“I can give you many examples in which some people arrived in Islamabad with an early morning flight from Karachi. They applied and got the TFC issued on the same day,” said an official of the SECP.

He said that normally the consultants and advisors did not fully study the procedure and rules and submitted incomplete documents that delayed the issuance of TFC. Besides, the SECP had recently slashed the stamp duty fee to 0.5 per cent on TFC from 0.15 per cent. The initial listing fee had also been reduced to Rs100,000 from Rs500,000 on the recommendations of a Working Group consisted of all the stakeholders.

Sources said that now another special committee is being formed by the SECP that includes representatives of all the stakeholders to remove the remaining bottlenecks from the system. The committee will come up with recommendations shortly.

Creating awareness about the rules and procedure of TFCs issuance is one of the main challenges for the SECP. Sources said that the Pakistan Institute of Corporate Governance (PICG) is not playing its due role and it has so far not even arranged a single training programme for the stakeholders of the corporate bond market.

According to a research paper prepared by Farhan Hameed, a senior economist, the State Bank of Pakistan (SBP) seldom applies its policies and regulations uniformly across the board as far as all the TFCs are concerned: for example, the SBP policy of qualifying TFCs for meeting Statuary Liquidity Requirements (SLRs).The SBP does not consider investment in TFC eligible for SLR of schedule banks. At the same time, the Water and Power Development Authority (Wapda) Sukuk certificates launched in Nov 2005 were approved for SLR for Islamic banks.

“This either suggests that Wadpa bonds are considered sovereign bonds or that an exception is being made for Islamic banks. Ad hoc regulations undermine public/investor confidence in the corporate bond market ,” states the research paper.

The SECP and SBP can also improve liquidity of the secondary bond market by allowing short selling of TFCs. This will improve efficiency of bond pricing by creating more opportunities for trade. The main drawback of this strategy is that it introduces additional risk to financial system and there are concerns regarding local financial institutions’ risk management system.

The paper has also proposed the introduction of “revised bankruptcy procedure” which facilitate corporate debt restructuring. It suggests that the SECP should be proactive in establishing new regulations to accommodate new instruments. This may require that SECP upgrade its technical base to deal with the more complex issues and policies relating to debt market development.

The private sector financing is dominated by banks in emerging markets with an estimated share of 81 per cent of total financing. Similarly, in Pakistan the primary source of private sector financing is the banking system with net loans of $1.89billion in 2005 which represented 63 per cent of the total financing.

A closer look at the existing hurdles in the way of the smooth flow of TFCs reveals that the SECP and SBP have to take more pro-active measures to enable the corporate bond markets system play its due role in company financing.

The special committee, which is being formed by the SECP and which is likely to come up with a set of recommendations soon would have to redress the loopholes that were left out by the Working Group last year.