Privatisations: the key to Romania’s upgrade to emerging market status
April 2017 | EXPERT BRIEFING | FINANCE & INVESTMENT
Several years of intense reforms and legislative initiatives in Romania seem to be finally paying off. In September last year, Romania, an EU member since January 2007 and currently classified by FTSE Russell, MSCI and S&P Dow Jones as a frontier market, was given the positive news of being added to the FTSE watchlist for possible promotion to secondary emerging market status.
A brief look inside the matrix – eight out of nine criteria fulfilled by Romania
Based on the International Organization of Securities Commissions (IOSCO) Principles for Financial Benchmarks, known to have been developed in conjunction with international investors, the classification process used by FTSE for its annual review of all markets contained in its global benchmarks (classified as Developed, Advanced Emerging, Secondary Emerging or Frontier) revolves around the Quality of Markets Matrix. A change in the classification largely depends on the number of criteria set out in such matrix which need to be passed, ranging from figures for gross national product per capita (as calculated by the World Bank) and credit rating (a more recent addition), to the very relevant materiality (in terms of market capitalisation and total number of listed companies) and the more technical requirements for custody and settlement (such as rare incidents of failed trades, custody competition and clearing in T+2/T+3), dealing landscape (covering sufficient competition between brokers, sufficient market liquidity to support sizable global investments, reasonable implicit and explicit costs for transactions and high level of transparency), regulation and the existence of a developed derivatives market.
According to information released by FTSE, Romania meets eight out of the nine Quality of Markets criteria required for attaining secondary emerging market status, with recent developments in the infrastructure of the market being received positively by international portfolio investors. The one outstanding criterion is liquidity which means, in fact, that the Bucharest Stock Exchange needs more large companies to register high trading values in the coming months.
While it was revealed in the September 2016 annual review that there will be no country classification changes in September 2017, news on Romania could appear in the March 2017 semi-annual FTSE report and the concluding debate is expected to be set for September 2017.
Romania’s MSCI upgrade is also targeted
Named a primary objective by the Bucharest Stock Exchange, the upgrade of Romania to emerging market status by MSCI could follow the FTSE trend. Though qualitative criteria are considered by specialists to have been largely met (with discussions pending around assets transferability and OTC transactions, as well as the lack of a market for securities lending), the MSCI upgrade requires, in terms of quantity, at least three listed companies to meet all size and liquidity criteria simultaneously, i.e., total market cap of $1269m, free float market cap of $635m and security liquidity 15 percent ATVR.
The MSCI Romania Index currently comprises five companies (namely Transilvania Bank, OMV Petrom, Romgaz, Electrica and BRD Groupe Societe Generale) and, according to MSCI, covers approximately 85 percent of the Romania equity universe. With Nigeria being formally added to the review list for potential reclassification to Standalone status in 2017, speculations are being made that Romania may benefit from an increase of its quota in the MSCI Frontier Indexes starting in November this year.
What is expected of Romania while being on the watch list?
Positive signals at the start of 2017. Since the beginning of the year, several positive signals have been given to the market, including the government’s recent announcement that votes will be cast on state-owned companies paying dividends of at least 90 percent of their earnings (Romania already being one of the European countries with the highest percentage of dividends paid in 2016), as well as the setting up of the Sovereign Development and Investment Fund (FSDI) aimed, among others, at contributing to Romania’s efforts to get emergent market status for the domestic capital market by increasing liquidity on the Bucharest Stock Exchange. This is still just a project, but depending on its design, FSDI may prove to be a game changer on the market.
To the same effect, January 2017 brought a boost of value traded on the stock exchange (considered to be the highest January value in the past six years) in the context of the biggest private IPO, that of Med Life, which occurred in December.
Privatisations via the stock exchange are considered to be the liquidity solution. With the main authorities having already officially committed to the paramount objective of Romania’s upgrade, the common voice of big players suggests that the final push remains at the fingertips of the Romanian government. Thus, the most realistic liquidity boost for 2017-2018 is expected to come from several state-owned companies (especially Hidroelectrica for which the process was initiated) which are expected to be privatised by way of primary and secondary initial public offers on the Bucharest Stock Exchange, as well as from the sale of the minority shareholdings held by the Romanian state with companies privatised with strategic investors through secondary public offers. The same effect would be produced by support being offered to minority shareholders in companies in which the Romanian state is majority shareholder to carry out secondary public offers.
Such initiatives of the state would follow the positive trend dating back to 2012 of capital markets development by the successful listings of a number of state-owned companies such as Electrica (June 2014 – the biggest privatisation so far and the only one involving a change of control), Romgaz (November 2013), Nuclearelectrica (September 2013) and the decrease of the state’s holdings in Transgaz (April 2013) and Transelectrica (March 2012).
Legislative changes are also necessary to facilitate any future privatisations by way of listing (e.g., there is no tailored privatisation procedure for this type of process and grey areas involving state owned real estate need clarification), but the commercial and political decision on such listings remains in the hands of the newly appointed government.
Improvements to the general legal framework set to continue. Based on a joint report by MSCI and the World Bank prepared in May 2014, the Romanian FSA approved the Action Plan to Obtain the Status of Emerging Market (the STEAM project), proposing and making legislative changes through 2014-2016. As a continuation of this initiative, the main legislative change of 2017 is the finalisation of the project initiated last year in the form of a new issuers law implementing the European Transparency Directive and the new EU market abuse regime aiming to ensure better compliance.
In addition, besides other necessary harmonisations with EU legislation, changes are to be made to strengthen infrastructure by the merger of the Romanian market operators (the Bucharest Stock Exchange and Sibex), the reauthorisation of the Central Depositary as per EU Regulation 909/2014 coupled with evaluation of the RoClear system for ensuring that the T2Securities can go live in 2017, as well as the initiation of the process for setting up a new Central Counterparty to offer settlement services for all Romanian markets as per EU Regulation EMIR.
Loredana Chitu is counsel at Allen & Overy. She can be contacted on +40 31 405 7777 or by email: firstname.lastname@example.org. The author would like to thank Tudor Naftica, an associate, and Mihnea Radu, a junior associate, for their assistance with the production of this article.
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