Threat to the Junior Market

Please see Aubyn Hill, Financial Gleaner Columnist article on the Incentive Working Group proposal to the Government to remove the Junior Market Incentives. The article can also be seen in the Financial Section of the Gleaner, dated Friday, September 20, 2013 or gleaneronline.com.

“The road to hell is paved with good intentions”. The English writer Samuel Johnson, who lived in the 18th century, used that aphorism often, but researchers treat it as apocryphal. The quote predates Johnson – hell has been around a long time, as have good unfounded intentions – and clearly has succeeded long after his death. Many in the business community willingly ascribe good intentions to the members of the Incentive Working Group (IWC) and have no doubt that its chairman, Dennis Morrison, and his other committee members, which include Chris Bicknell, Joe M. Matalon, Glen Lawrence of Couples and Keith Collister of the Sandals Hotel chain, all mean well.

Although the Omnibus Tax Incentive Act was announced by the minister of finance and his colleagues, along with the International Monetary Fund’s (IMF) Jan Kees Martijn, on February 12 this year, members of the IWC have been working feverishly to get the bill ready for Parliament to pass later this month. Passage is a major IMF performance milestone.

The IWC seeks to make the Jamaican tax regime fairer and more attractive to pay by recommending that the corporate income tax rate be reduced to 15 per cent, with a few wrinkles, and that the withholding tax on dividend be removed.

The withholding tax on dividends was removed by the JLP administration but returned by the current Government after it returned to power in December 2011.

Gutting the Junior Stock Exchange and investors

Concerns are growing that some of the whispered recommendations by the IWC (they have not released a report or study) will rip the heart out of the Jamaica Stock Exchange’s (JSE) Junior Market (JM), and work as significant disincentives to venture capitalists and investors in JM stocks and publicly traded companies.

If these changes come to pass, the small and medium enterprise (SME) sector from which many of the companies listed on the Junior Exchange are drawn, will give up its job-creating activity, such as it is in this moribund economy.

Some committee members make the argument that most of the 18 companies listed on the Junior Exchange went there only to avoid taxes and that the lowering of the corporate income tax (CIT) will help all companies operating in Jamaica and not just the 18 on the JM.

Opponents of this line of argument have strong views on the issue.

A recent case raised at the venture capital forum, put on by the Development Bank of Jamaica last week, makes a dramatic and forceful case to leave the current arrangements which govern the Junior Market in place and untouched. The young entrepreneur stated emphatically that he received over US$200,000 as investment in his project from a local bank and the key consideration was that the project company would get the five-year tax holiday and, critically, the Junior Market exists to provide an exit avenue for investors. Touch the current arrangement and the Junior Market will wither on the vine.

Now that pension funds – and may other financial institutions – are studiously avoiding Jamaican Government (GOJ) securities, many more pension funds than in even the recent past are looking at small and start-up companies as investment vehicles. The pension-fund regulations prohibit these funds from investing in unquoted shares.

A vibrant junior stock exchange is vital not only for entrepreneurs as a place where they can raise money, but as an institution of exit which allows investors in these small companies to take profits or find liquidity for their shares.

The current arrangements are crucial to the deepening of the country’s capital market and it provides an avenue, first to entrepreneurs and then to members of the broader society, to take a stake in Jamaica and buy shares in local companies.

Another consideration the IWC should keep in mind is that the JM acts as a magnet to bring companies and entrepreneurs, who might otherwise operate outside the formal tax system, into the taxpaying regime from inception (NHT, PAYE, NIS, etc), and after a five-year moratorium, into the corporate income tax net.

My main concern is that this fledgling but useful mechanism to provide capital for growth in an economy that has had near to none for decades is about to be killed off by well-meaning mainly business executives. In any event, the regulations which govern the JM, which are out of the interfering hands of politicians, are up for review in 2016 and should be left alone until then.

Economic growth is the most pressing imperative at this time, and this possible move by the IWC will be a serious damper on that part of our business sector which can provide the most economic growth and produce meaningful jobs. It is a poor argument to say the JM has not helped economic growth. How could it have been spectacular in a short four years in the worst recession in 80 years? Even then, the results are encouraging.

Driving investors from the main stock market

The IWC is reported to be seeking to raise their proposed lower CIT from 15 per cent to 25 per cent on all those publicly traded companies which pay dividends. This is an ill-conceived mixture of political hogwash and very unsound economics. Removing the withholding tax on dividends is good – it encourages investors to invest in companies which are profitable enough to pay dividends. Raising the corporate income tax to 25 per cent on publicly traded companies which pay dividends is to tell investors not to invest in these companies because they will be discouraged, by wrong-headed economics, from paying dividends.

In this market where share prices have been in the doldrums for a very long time, the capital gain option has receded long ago to the dividend benefit to investors.

Regrettably, none of the IWC members currently run publicly traded companies – a real oversight by those who appointed them. As such, their companies would always benefit from the lower 15 per cent tax rate.

If these proposals which are reported to be of the IWC were to become law then the Incentive Working Group would turn out to be a group of men who killed the incentives to invest in quoted shares, and work in the jobs market would become even scarcer than it is today.

Aubyn Hill is the CEO of Corporate Strategies Limited and was an International Banker for more than 25 years. Email: writerhill@gmail.comTwitter: @HillAubyn Facebook: Facebook.com/Corporate.Strategies