Composite Index. The poor performance of the GSE in terms of all the above-mentioned market indicators indicate that the nature of the composite index would be rather unreliable and would not reflect the true picture of market performance. One solution to the problem is to select only the leading companies (blue-chip companies) and construct the index for these companies. Indeed, such approach is employed by Georgian Investment Bank Galt & Taggart (G&T) Securities LLC, which publishes so-called G&T Blue-Chip Index. This is shown in Fig. 4.1.1.5:
The problems facing GSE. Below is the problem tree describing the set of problems currently facing GSE:
General recommendations for improving the performance of GSE. The fact that at present there is no sound and liquid capital market in Georgia can be attributed to two fundamental problems: (I) A low potential of the capital market in Georgia; and (II) A high unrealized potential of Georgian capital market. The government of Georgia (GoG) should undertake both, long-term and short-to-medium term measures in order to improve the performance of Georgian Stock Exchange (GSE).
(I) It is suggested that the potential of the capital market in Georgia could be increased by means of:
Long-term goals:
Increasing the rate of country's economic growth;
Reducing the size of the shadow economy;
Attracting higher Foreign Direct Investments (FDI).
short-to-medium term goals:
Conducting the 2nd round of the privatization through GSE by involving investment funds into the privatization process;
Including the majority of leading Georgian companies into the listing of the securities traded at GSE.
(II) A high unrealized potential of Georgian capital market can be explained by low confidence (trust) amongst the investors towards the stock market, which in turn is the result of the problems existing in terms of protecting the shareholders' rights. In order to solve the latter problem, there is a need: (i) to improve the corporate governance practice, and (ii) to ensure the fairness of the market. These mainly are the goals that can be achieved in short-to-medium term.
The measures needed to improve the corporate governance practice in Georgia include:
To simplify the tax system;
To adopt the International Standards on Auditing (ISA) into law;
To enforce the International Accounting Standards (IAS).
These measures are designed to remove the incentives to pay bribes for the purposes of hiding profits and avoiding paying taxes, which would result in lower levels of corruption in tax administrations and increased transparency of corporate disclosure.
Another measure to improve the corporate governance practice in Georgia is:
To conduct an educational campaign amongst shareholders, company directors and the members of supervisory boards.
The objective of the educational campaign is to lessen the entrenched culture of abusive self-dealing and to give to shareholders sufficient knowledge about their rights. The entrenched culture of abusive self-dealing can also be alleviated by means of putting in place effective regulations and institutions for controlling the self-dealing. All these should lead to regular shareholder meetings and increase the role of the supervisory boards in giving the strategic direction to companies.
Another important factor for improving the corporate governance practice in Georgia is to have an active market for corporate control. Namely, there is a need:
To put in place an adequate legislation for investor protection. More specifically, to introduce the investment compensation schemes, strengthen the bankruptcy system and adopt the rules for takeovers;
To adopt the legislation regulating the financial intermediaries (such as private pension funds and mutual funds), which at present are absent in Georgia.
Properly functioning financial intermediaries would act as large domestic institutional investors and ensure that large volumes of capital resources are directed to the market. This, in turn, would facilitate the competition in the financial market and lead to an active market for corporate control.
The measures needed to ensure the fairness of the market include:
To Enforce a trading transparency;
To deter an unfair trading.
The last two objectives can be reached by means of ensuring an effective functioning of the National Securities Commission of Georgia (NSCG), which should be capable of ensuring an effective enforcement of the securities regulations. More specifically:
The NSCG should have an adequate Inspection, Investigation and Enforcement power, including the criminal prosecution authority;
The Government of Georgia (GoG) should increase the budgetary support of the NSCG to ensure a proper functioning of the agency;
The NSCG should be more accountable to GoG for its activities regarding the regulation of Georgian capital market;
The NSCG should develop a program to supervise the activities of Self‑Regulatory Organizations (SROs); and
The NSCG has to develop a code of ethics for its staff.
Another measure needed to ensure the fairness of the market is:
To enforce adequately the rights of the shareholders, which should be done through the improved court system.
In order to improve Georgian court system, it is important to conduct training of judges in the topics concerning the corporate law and operation of the securities market
All the above-described measures are designed to achieve in future a sound and liquid capital market in Georgia.
Specific recommendations for improving the performance of GSE. More specific recommendations, together with the objectives to be achieved, performance indicators, responsible agencies, duration, etc., are presented in the next page. Objectives given in parenthesis correspond to the Problem Tree given in the above:
Recommendations
Objectives to be Achieved
Performance Indicators
Responsible Agencies
Duration
Comment
· Conduct the 2nd round of the privatization process through GSE;
· Involve the Investment Funds into the privatization process.
· Privatization process is improved (Objective 13);
· Potential of the capital market is increased (Objective 2).
· The companies included in the privatization list of the 2nd round should be privatized through GSE;
· A number of (at least 3-5) Investment Funds take part into the privatization process.
DSPM
NSCG
GSE
· 1-2 years
· With the technical assistance of the WB.
· About 80% of the leading Georgian companies, which currently are not traded at GSE, have to be included into the list of the securities traded at GSE;
· Government of Georgia (GoG) must introduce some incentives (e.g. simplified tax regime) for those corporations that decide to be listed at GSE.
· Majority of leading companies are traded at GSE (Objective 4);
· Majority of leading Georgian companies are listed at GSE;
· Simplified tax regime is introduced for the corporations traded at GSE.
PoG
MoF
· With the technical assistance of the WB
· Prepare and adopt the amendments into the Tax Code of Georgia (TCG);
· Conduct the tax administration reform.
·
· The tax system is simplified (Objective 7);
· There is an adequate tax code (Objective 6);
· Incentives for paying bribes/Hiding profits are reduced (Objective 11);
· The level of corruption is reduced (Objective 10);
· Transparency of corporate disclosure is increased (Objective 12);
· Reliability of financial disclosure is increased (Objective 28);
· Corporate governance practice is improved (Objective 17).
· Business-friendly tax code is in place;
· Simplified tax regime for securities and corporations are established;
· No frequent changes into the tax code are made;
· Collection of taxes is increased;
· Companies file more reliable information about their profits;
· Companies increase the transparency and quality of corporate disclosure.
STD
· 6 months
· Ongoing
· With the technical assistance of the WB;
· In consultations with NSCG.
· Make amendments into Law on Audit Activity (LAA) to adopt International Standards on Auditing (ISA);
· Ministry of Finances (MoF), together with Parliamentary Council on Audit Activity (PCAA), requires audit companies to conduct audits in compliance with the International Standards on Auditing (ISA).
· ISA is adopted into the law (Objective 34);
· There are adequate auditing standards (Objective 33);
· International Standards on Auditing is adopted into law;
· Audits are conducted in compliance with International Standards on Auditing;
PCAA
· In consultations with NSCG and GSIA.
· National Securities commission of Georgia (NSCG) requires reporting companies to prepare their financial accounts in compliance with the International Accounting Standards (IAS).
· IAS is enforced (Objective 9);
· There are adequate accounting standards (Objective 8);
· Reporting companies prepare their financial accounts in compliance with the International Accounting Standards;
· 3 months
· In consultations with GSIA.
· National Anti-Corruption Bureau of Georgia (NACB) conducts the assessment of the activities carried out by the tax administrations.
· Index of corruption is lowered;
NACB
· Georgian Securities Industry Association (GSIA) should conduct training courses, seminars, workshops, etc. amongst shareholders, company directors and members of supervisory boards on the best practices of corporate governance;
· NSCG enforces the corporate governance standards.
· Educational campaign is conducted (Objective 27);
· Shareholders have sufficient knowledge about their rights (Objective 26);
· Entrenched culture of abusive self-dealing is lessened (Objective 16);
· Shareholders' meetings are held regularly (Objective 29);
· The role of supervisory boards is increased (Objective 35);
· Majority of company directors and members of supervisory boards, as well as interested shareholders take part in training courses;
· NSCG conduct quarterly/annual audits of JSCs;
· Shareholders' meetings are held annually;
· Supervisory boards' meetings are held on a quarterly basis.
GSIA
· 1 year
· With the financial and technical assistance of the USAID.
· Prepare and adopt the regulations for Pension Funds;
· Prepare and adopt the regulations for Mutual Funds.
· Legislation for financial intermediaries is adopted (Objective 23);
· Financial intermediaries are well-developed (Objective 21);
· Large domestic institutional investors are present at GSE (Objective 20);
· Larger volumes of capital resources are directed to GSE (Objective 18);
· There is a competition at GSE (Objective 22);
· There is a strong market for corporate control (Objective 30).
· Private Pension Funds start functioning in the country;
· Mutual Funds start functioning in the country;
· Large domestic institutional investors take part in trading at GSE;
· Volume of trades at GSE is increased substantially;
· Number of participants in trading at GSE is increased;
· Investment funds take active role in the work of supervisory boards/shareholders meetings.
· Adopt the investment compensation schemes;
· Strengthen the bankruptcy system;
· Adopt the rules for takeovers.
· Adequate legislation for investor protection is adopted (Objective 24);
· Investment compensation schemes are in place;
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