Regulation of the alternative investment market (AIM) - a tale of potential woe?

Citation

Keasey, K. (2007), "Regulation of the alternative investment market (AIM) - a tale of potential woe?", Journal of Financial Regulation and Compliance, Vol. 15 No. 2. https://doi.org/10.1108/jfrc.2007.31115baa.001

Regulation of the alternative investment market (AIM) - a tale of potential woe?

Regulation of the alternative investment market (AIM) - a tale of potential woe?

One of the biggest “success” stories of UK equity markets in recent years has been the growth of the alternative investment market (AIM) market which has more than 1,500 companies now listed. There are many reasons for this growth but many argue that the light “regulatory touch” has been the main cause of the “success”. There are a number of anecdotal stories, the current Torex scandal being just the latest, which suggests that the success of the AIM market has come at a cost to a number of companies and investors, and if the scandals continue, company flotations and equity investment by smaller shareholders may be undermined.

The purpose of this editorial is to consider briefly the AIM market and how its current structure does not seem to protect those most at risk.

Equity markets are a critical component of any modern market economy as they transfer surplus funds to those companies in need of risk capital. For equity markets to work the companies need to feel that they will be treated fairly, advised properly and if needs occur, also be a source of further funds at a fair price. Equally, the small investor (and these are important for liquidity) needs to be able to feel that he/she will be provided with information and available actions (for example, a rights issue) which does not put them at a disadvantage to the institutional investors. My fear is that a number of companies and investors who have experienced AIM are not able to offer positive endorsements along these lines.

To be more specific, I will consider each of the key participants in the market and how they interact across three activities – flotation, normal business and financial restructuring.

Companies which seek a listing on AIM are normally smaller, private companies where the directors will not be experienced in the ways of public markets. They will have been sold by advisors the notion of an AIM listing providing tradable paper, a partial exit, a valuation of the company, higher profile and the opportunity to raise more cash if needed. They will not be fully aware of the costs of going public, the costs of staying public, the general illiquidity of the market for most companies and the dilution costs of further fund raising. They will not know what to expect in terms of service from the market and their nominated advisor and they will not be aware that in times of financial difficulties the institutions will work with the nominated advisor to protect themselves to the cost of all others. Let us be clear, while the nominated advisor is, in theory, there to protect the company and all shareholders, they are part of the same club as the institutions. The most the small shareholder might hope for is that the market gives a nomad and or a group of institutions a “slapped wrist” for the poor behaviour – little use, if your shareholding has been massively diluted because the institutions have insisted on pre-emption rights being negated if they are to invest more funds at the time of a restructuring.

The institutional investors know that they are normally ahead of other investors in terms of information flow, will be able to seek preferential terms in any financial restructuring and will have good access to the company as it develops. Basically, they are in the driving seat so long as they can gain the necessary information from the company.

The advisors have a very simple objective function to pursue in all of this – to maximise their fees while staying within legal bounds. At the time of flotation they have every incentive to make it as costly as possible and competition is limited across the advisors. Remember that there have been so many flotations and the number of advisors have not grown in any form of proportionate amount, that the “demand” for advisor services massively outstrips supply. In this type of setting, the companies and small shareholders are at the mercy of what the advisors wish to provide and the charges they can get away with. During normal business, they take their fees and minimise service levels, while at the time of restructuring they have the opportunity to gain more fees given they have to be used due the rules of the market. All in all, the advisors have done well from the growth of the AIM market.

In terms of the small investor, he/she will always be behind the institutions in terms of information flow, they will often struggle to sell shares given the illiquidity, they will be last in the queue in any financial restructuring, etc. Quiet simply, my experience tells me that the AIM market is an extremely risky place for small investors. In addition, it is not clear what incentive the market has to take the concerns of the small investor seriously. The market needs the institutions because of their spending power and they will not want to undermine the “market” through small shareholders accusing the institutions of privileging themselves through their access to nomads, etc.

In conclusion, I believe there is a lot of “potential smell” with the AIM market and it is up to independent researchers to start to turn over some of the stones before the market has more costly scandals of Torex ilk. This is a market ripe (an unfortunate word in this context) for insightful field research which takes account of the detail of the participants, their incentives and their interactions given the context of a “light touch” regulatory regime.

Kevin Keasey