One of the major drawbacks of the current Saudi capital market is the small number of listed Saudi joint stock companies available for trading. Most commentators are amazed that the Saudi economy, dominating all others in the Middle East, can only boast of around 79 listed companies to satisfy investor demand. The new public company flotations such as the Sahara Petrochemicals, Etihad Etisalat, Bank Albilad, Almarai, Aldrees Petroleum & Transport Services Co., and, before that, Saudi Telecom Co. provided a welcome boost to the Saudi capital market. The Saudi market is characterized not only by the small number of listed companies, but also by the high level of shareholder concentration of shares in a few hands. As such, the available “free float” of shares for trading is limited and market prices are affected, both positively and negatively, by the sale of a few shares. This magnifies the effect on prices, which in turn affects the rest of stock market prices. Small investors found this out to their cost during the recent stock market price falls.
The addition of new companies provides both depth (through the number of new shares traded), and diversity (through the availability of other industrial and economic sectors). Shareholder concentration is then counterbalanced by the net addition of new shares coming from new listings. Investors have to carefully assess each new listing on its a economic and financial merits. While in Saudi Arabia many would take pride in the fact that world records were broken by oversubscription of shares in recent flotations, other analysts see this as representing a fundamental problem in the capital market structure. On what basis do investors oversubscribe when they know that only a fraction of their allocation will be granted? Do they carry out analysis of economic and financial prospects of these floated companies before they buy, or are there the immediate impulse to make a short term gain on initial purchases and quickly sellout?
This is unhealthy, for it distorts the market price of the new company and affects the rest of established market prices. In this frenzy to buy shares of new company listings, there could be a danger that companies that do not meet certain strict listing criteria are floated. Given the huge demand for new shares, and current market liquidity, there could be a temptation by some company owners to list their companies to gain from the enthusiasm for new flotation. The recent sharp stock market price corrections, or “ crash” to put it more bluntly, hastens the temptation to float companies before Saudi and Gulf investors wizen up and become a little bit more wary in their investment decisions.
This is where a potential conflict arises between the economic and strategic desire to have more companies floated to expand the Saudi capital market base, with the need to protect public confidence that the companies that are being listed are of genuinely good investment risk. In Saudi Arabia, the authorities have generally tended to err on the conservative and cautious side, which is good in one respect, as it ensures that proper due diligence and evaluations are made before a company can be listed on the stock market. The habit of owning shares is still relatively new in Saudi Arabia. Any indications that companies are not scrutinized properly before listing could trigger a lack of confidence in other listed companies.
The markets are now eagerly awaiting new listings by a host of private and government owned companies. Some are solid names, with established management and financial track records, which will add both depth and confidence to the Saudi capital market. The accession of the Kingdom to the WTO could possibly lead to a round of private sector company listings, as the Saudi industrial sector seeks to raise capital and restructure their operations in order to meet the challenges of WTO competition. It is here that one has to exercise some caution, as to which company may or may not be allowed to list their shares for public trading. Authorities should try to assess whether such new listings are being carried out for legitimate business reasons, or because owners had a good hard look internally at their companies and decided they could not compete with international companies after WTO entry. This prompts them to conclude that it is probably the best time now to sellout. Such sentiments calls for a major degree of business and accounting transparency from the new IPO hopefuls, as well as sound, unbiased decisions from the capital market regulators in allowing or declining the listing to go through. The responsibility and pressures on the Capital Market Authority will be great, but so will be the consequences to the whole market if they misjudge new applications.
Let us hope that future listings from the private sector will be of the kind that has a legitimate business basis, so as to ensure that the Saudi stock market remains the leading Arab and Islamic capital market in the world and retain investors’ confidence....
(Dr. Mohamed A. Ramady is visiting associate professor finance and economics at King Fahd University of Petroleum and Minerals.)