According to the 2005 World Bank Financial Sector Assessment, a report deriving from the Financial Sector Assessment Program (FSAP) that was completed in 2003, the small size of Kenya's capital market is, in part, due to the inability of most companies to issue stocks and bonds. The assessment suggests that while Kenya has a reasonable legal framework for its capital markets, enforcement is weak due to a lack of institutional capacity and poor financial supervision. The laws that apply to all companies that issue securities are the Capital Markets Act, the Companies Act, and the regulations of the Capital Market Authority. The principal regulator is the Capital Market Authority (CMA). The secondary regulator is the Nairobi Stock Exchange. The FSAP report notes that regulatory oversight is weak and recommends that the CMA's supervisory and enforcement capacity be improved by making the CMA operationally independent and supplying it with more resources for training. Components of a 2004 World Bank project that would improve securities regulation seemed to have made little progress.

General Overview

The World Bank Financial Sector Assessment Program (FSAP) was completed for Kenya in 2003, and published in abbreviated form in 2005. Its main conclusion was that "The legal framework for the capital markets has largely been put in place, but the enforcement of market rules and supervision of market participants remain weak" (p. 15). The assessment recommended improvements in the supervisory and enforcement capacity of the principal securities regulator, the Capital Market Authority (CMA). This would be achieved by making the CMA operationally independent and supplying it with more resources for training. Such improvements would permit the CMA staff to carry out market surveillance activities to detect market misconduct such as "manipulation, front running, ramping, cornering, or insider dealing" (p. 16), which currently are done by neither the CMA nor the Nairobi Stock Exchange (NSE). The World Bank report further recommended that Kenya's government should focus on providing a comprehensive legal and judicial framework and improving its supervision and regulation of financial institutions and markets to promote a sound and competitive financial system. The small size of Kenya's capital market is, in part, due to the inability of most companies to issue stocks and bonds. The assessment suggests that capital market development relies on improved regulation, supervision, disclosure standards, clearance and settlement structures, and investor protection. Also, coordination of responsibilities between the CMA and the companies' registry should be established to ensure sound regulation of companies. Improving the efficiency of clearing and settlement of securities would encourage trading in the market. In addition, better management is needed for investment compensation and guarantee funds.

In its 2004 "Project Appraisal Document on a Proposed Credit in the Amount of SDR 12.2 million (US$18 million equivalent) to the Republic of Kenya for a Financial and Legal Sector Technical Assistance Project," the World Bank lists the components of the project. Some of these were designed to improve securities regulation, including "Financial and Judicial Sector Strategy Development" (p. 8), "Strengthening Financial Sector Regulators and the Deposit Protection Fund Board" (p. 9), "Strengthening Debt Management and Debt Markets" (p. 9), and "Legal and Judicial Reforms" (p. 10). The World Bank's 2006 "Status of Projects In Execution - Fy06 SOPE" report indicates that the World Bank Financial and Legal Sector Technical Assistance Project for Kenya was approved in October 2004 with the goal of improving the soundness of the financial system and providing greater access to financial and related legal services. However, in its evaluation of the project's progress, the World Bank found that there has been little progress in implementation, with only one consultancy activity and one training activity having taken place in the 10 months prior.

A 2003 paper by La Porta et al. reports that all companies that publicly offer shares must comply with the Capital Market Act, the Companies Act, and the CMA's regulations. The CMA was established by the Capital Market Act and may disseminate rules and regulations within its jurisdiction, as determined by the Capital Market Act. It is also empowered to carry out enforcement and sanctions. The NSE is the secondary regulator of the securities market. It is a self-regulating organization (SRO) under the supervision of the CMA. All members are subject to the NSE Rules and Regulations of 1997. The Capital Markets Tribunal, established by the Capital Market Act, hears grievances about CMA decisions. According to the 2005 World Bank FSAP, including the CMA under the State Corporations Act has undermined Authority's relative independence.

According to the 2007 U.S. Department of Commerce's (DoC) Country Commercial Guide, the NSE is divided into three parts. The Main Investment Market is the dominant segment and favorable for "mature companies with strong dividend streams" (p. 54). The Alternative Investment Market is favorable for small and medium sized enterprises. The Fixed Income Securities Market "allows businesses, financial institutions, and government and supranational authorities to raise capital through the issuance of debt securities" (p. 54). Starting in 2005, all equity trades have been settled through an electronic Central Depository System (CDS). The NSE has been diversified by trading in commercial paper and corporate bonds issued by private companies. The guidelines that regulate the trading permit private companies to raise capital without being listed (p. 60). A secondary market has developed for the government's one-year floating rate bond after the establishment of CDS, providing opportunities for small investors. Hostile takeover defenses are rare. A company's articles of incorporation may place restrictions on foreign investors. The 2007 U.S. DoC Guide reports that the capital market in Kenya is small, consisting of the NSE, 15 investment advisory firms, 11 investment banks, 10 stock brokers, 14 fund managers, one credit rating agency, two capital venture funds, five collective investment schemes, and five authorized depositories. At the end of 2006, market capitalization was KSh 726.8 billion, up from KSh481.2 billion at the beginning of 2006.

Kenya, Tanzania, and Uganda are preparing to integrate their capital markets to create a regional East African Capital Market. However, the 2005 World Bank FSAP points out that to do so, the weaknesses and inefficiencies of the domestic markets need to be addressed. The first steps would be to improve enforcement of market regulations, modernize market infrastructures, and fortify market intermediaries. The assessment commends the integration effort because it would facilitate flows of capital; but reiterates the importance of a strong institutional capacity and the need for common institutional structures.

The International Organization of Securities Commissions (IOSCO) website discloses that the CMA is an ordinary IOSCO member.

The Principles

1. The responsibilities of the regulator should be clear and objectively stated.

II

A 2003 paper by La Porta et al. reports that all companies that publicly offer shares must comply with the Capital Market Act, the Companies Act, and CMA regulations. The CMA was established by the Capital Market Act and may disseminate rules and regulations within its jurisdiction, as determined by the Capital Market Act. Its mandate also includes enforcement and sanctions. The NSE is the secondary regulator of the securities market. It is an SRO under the supervision of the CMA. All members are subject to the NSE Rules and Regulations 1997. The Capital Markets Tribunal, established by the Capital Market Act, hears grievances about CMA decisions. However, the publicly available information does not directly address Nigeria's compliance with this principle.

The CMA website lists the objectives of the CMA. They include (1) developing all aspects of the capital market, including the removal of disincentives and the creation of incentives for long term investment; (2) establishing a nationwide stock market and brokerage services that allow the for the participation of the general public; (3) creating, maintaining, and regulating a securities market with orderly, fair, and efficient trading and self-regulatory participants (to the reasonable maximum extent); (4) investor protection; (5) operating an investor compensation fund; and (6) developing a framework that utilizes electronic commerce in the development of capital markets.

2. The regulator should be operationally independent and accountable in the exercise of its functions and powers.

NC

A 2003 paper by La Porta et al. reports that the board of the CMA is appointed by the president of Kenya and the rest of the board is appointed by high-ranking government officials. According to the 2005 World Bank FSAP, including the CMA in the State Corporations Act has undermined its relative independence and its lack of independence often inhibits enforcement of regulations.

3. The regulator should have adequate powers, proper resources and the capacity to perform its functions and exercise its powers.

NC

The 2005 World Bank FSAP recommends that the CMA's supervisory and enforcement capacity be improved by making the Authority operationally independent and supplying it with more resources for training. Its lack of independence often inhibits enforcement of regulations.

4. The regulator should adopt clear and consistent regulatory processes.

II

La Porta et al.'s 2003 paper indicates that the CMA is authorized to independently establish rules, regulations, and guidelines that fall within three criteria. First, they must be in line with the CMA's purpose, to promote and maintain an efficient and effective securities market. Second, they must be available for scrutiny by stakeholders and the public for 30 days. Third, they must be published in the Kenya Gazette. However, the publicly available information does not directly address Kenya's compliance with this principle.

5. The staff of the regulator should observe the highest professional standards, including appropriate standards of confidentiality.

II

Confidentiality is listed as one of the core values of the NSE, according to the NSE website. However, the publicly available information does not directly address Kenya's compliance with this principle.

6. The regulatory regime should make appropriate use of Self-Regulatory Organizations (SROs) that exercise some direct oversight responsibility for their respective areas of competence, to the extent appropriate to the size and complexity of the markets.

EN

The CMA mandate, as presented on the CMA website, includes creating, maintaining, and regulating a securities market with orderly, fair, and efficient trading and self-regulatory participants (to the reasonable maximum extent). La Porta et al.'s 2003 paper notes that the NSE is an SRO. The CMA's rules require that a securities exchange must establish rules to govern certain elements of the securities market. The rules must be approved by the CMA and they can not be modified or repealed without the CMA's authorization. The NSE Rules and Regulations charge the NSE with investigating brokers, dealers, authorized representatives, and executive directors who are suspected to be in breach of the Rules and Regulations and the articles of association of the NSE, and provides it with the power to demand the production of any records necessary for the investigation.

7. SROs should be subject to the oversight of the regulator and should observe standards of fairness and confidentiality when exercising powers and delegated responsibilities.

II

The NSE is licensed by and under the supervision of the CMA. According to La Porta et al.'s 2003 paper, the CMA must approve the rules of the NSE and they can not be modified or repealed without authorization by the CMA. However, the publicly available information does not directly address Kenya's compliance with this principle.

8. The regulator should have comprehensive inspection, investigation and surveillance powers.

II

According to the 2005 World Bank FSAP, regulatory oversight is subpar. The report recommends that the CMA' supervisory and enforcement capacity be improved by making the CMA operationally independent and supplying it with more resources for training. Coordination of responsibilities between the CMA and Companies registry should be established to ensure sound regulation of companies. However, the publicly available information does not directly address Kenya's compliance with this principle.

La Porta et al.'s 2003 paper reports that, in an investigation, the CMA can demand documents from any person. The NSE Rules and Regulations charge the NSE with investigating brokers, dealers, authorized representatives, and executive directors suspected to be in breach of the Rules and Regulations and the articles of association of the NSE and provides it with the power to demand production of any records necessary for the investigation. The CMA can not demand testimony from witnesses, but the Capital Markets Act grants the Capital Markets Tribunal the power to call witnesses.

9. The regulator should have comprehensive enforcement powers.

II

The 2005 World Bank FSAP asserts that the one of the first steps to creating an East Africa regional capital market would be to improve enforcement of market regulations. However, the publicly available information does not directly address this principle.

10. The regulatory system should ensure an effective and credible use of inspection, investigation, surveillance and enforcement powers and implementation of an effective compliance program.

II

There is insufficient publicly available information to fully address this principle.

11. The regulator should have authority to share both public and non-public information with domestic and foreign counterparts.

ID

The Financial Sector Reform and Strengthening (FIRST) Initiative's 2005 "EASRA: Advice on Achieving Compliance with IOSCO MMoU" reports that the East African Securities Regulatory Authorities (EASRA), which is made up of delegates from Tanzania, Uganda, and Kenya and is working to create an East Africa regional capital market, is promoting co-operation between capital market authorities in Tanzania, Uganda and Kenya. The EASRA signed the Multilateral Memorandum of Understanding (MMoU) to align its capital market objectives with those of the East African Community treaty; and requested the help of the FIRST Initiative to achieve compliance with the MMoU.

In its 2005 report, the FIRST Initiative declares that its goal is to improve the cooperation of securities regulation enforcement by the EASRA countries and ultimately to enable to countries to become signatories of the IOSCO MMoU. The IOSCO's MMoU is based on the thirty IOSCO Objectives and Principles of Securities Regulation adopted in 1998 and the experience gathered by securities regulators in using bilateral MoUs. The IOSCO MMoU provides a standardized framework for sharing enforcement-related information and a gradually expanding network of participating regulatory agencies. IOSCO members who wish to sign the IOSCO MMoU participate in a comprehensive screening process to establish that they have the legal capacity to fully comply with the terms of the IOSCO MMoU.

The 2005 World Bank FSAP reiterates the importance of a strong institutional capacity and the need for common institutional structures for the establishment of an East Africa regional capital market.

12. Regulators should establish information sharing mechanisms that set out when and how they will share both public and non-public information with their domestic and foreign counterparts.

ID

See principle 11.

13. The regulatory system should allow for assistance to be provided to foreign regulators who need to make inquiries in the discharge of their functions and exercise of their powers.

ID

See Principle 11.

14. There should be full, timely and accurate disclosure of financial results and other information that is material to investors’ decisions.

II

The 2005 World Bank FSAP indicates that inadequate corporate disclosure deters institutional investors from investing in debt and equity securities. In addition, it points out that meeting the disclosure requirements of listed companies is very costly. The assessment recommends that the Companies Act be updated and Companies Registry strengthened to decrease the cost of transparency. However, the publicly available information does not directly address this principle.

La Porta et al,'s 2003 paper reports that a prospectus must be filed with the Companies Registry and approved by the CMA. The prospectus must include the directors' existing relationships with the company, majority shareholders, shares held by the director, the nature of contracts being entered that are not a part of the ordinary course of business, and directors' interests. The Capital Markets Act and the Companies Act do not include a provision requiring a company to disclose all information that might be of interest to a reasonable investor. The CMA has the power to sanction nondisclosure by disqualifying a professional, distributing financial penalties and sanctions, requiring a guilty party to correct the conditions, and revoking a license. The Capital Markets Act, Companies Act, and general criminal law provide for criminal sanctions such as delisting and imprisonment. In addition, they are subject to civil liability.

The Corporate Governance Code mandates the disclosure of director and senior executive remuneration. In addition, the board must present the annual accounts to ensure that they follow the International Accounting Standards (IASs). According to Nganga et al., writing in 2003 for the London Business School (LBS), the introduction of IASs and the Corporate Governance Code has led to a significant improvement in companies' disclosure. Not only is more information being disclosed, but the information is provoking media scrutiny. However, the publicly available information does not directly address Kenya's compliance with this principle.

15. Holders of securities in a company should be treated in a fair and equitable manner.

II

The 2003 Nganga et al. report on corporate governance in Africa indicates that share ownership is freely transferable, the one-share/one-vote principle is applied, signifying that a shareholder's voting power is directly proportional to the number of shares owned, and shareholders may vote by proxy, including by mail. Minority shareholders collectively holding 10 percent of share capital may call for an extraordinary meeting and choose to bring the issue to commercial court. The corporate governance code includes a provision for shareholder approval for major company decisions, such as major asset disposals, restructurings, mergers, acquisitions and reorganizations. Shareholders must approve director remuneration. Shareholders are also entitled to complete and timely information about annual general meetings. In 2002, the Private Sector Corporate Governance Trust (PSCGT) produced its "Principles of Good Corporate Governance," which state that the code of best practices requires that shareholders are entitled to any information that significantly concerns their membership, participate in meetings of members, elect directors, and participate in pertinent resolutions. The Nganga et al. report cites shareholder apathy and ignorance as a problem in Kenya, but notes that the PSCGT is taking measures to train shareholders and establish a shareholders association in order to heighten shareholder involvement. However, the publicly available information does not directly address Kenya's compliance with this principle.

Minority shareholders rights are lacking in some respects, according to the Nganga et al. 2003 report on corporate governance in Africa. A large number of companies have majority shareholders, and these are oftentimes multinationals. In cases where the majority shareholder is not the government, unsatisfied minority shareholders only have twp options: sell their shares or sue the company. The report asserts that while this may be a problem, minority shareholders in Kenya nonetheless receive better treatment than in most other emerging markets. On the other hand, the report cites shareholder apathy and ignorance as a problem in Kenya, but notes that the PSCGT is taking measures to train shareholders and establish a shareholders association to heighten shareholder involvement. Minority shareholders are not entitled to proportional representation on boards or any specific oppressed minorities mechanisms.

16. Accounting and auditing standards should be of a high and internationally acceptable quality.

EN

The Institute of Certified Public Accountants of Kenya (ICPAK) is the accounting and auditing standard-setting body in Kenya. The 2001 World Bank's Report on Standards and Codes (ROSC) on Accounting and Auditing practices in Kenya noted that Kenya adopted the International Accounting Standards (IASs) and the International Standards on Auditing (ISAs) in 1998. Thus they were moving forward in "closing the gap" between national and international practices. The report pointed out, "however, compliance with the requirements of IASs and ISAs is partial, due to enforcement mechanisms that continue to evolve" (cover page).

The legal framework for financial reporting and auditing requirements in Kenya is largely based on the Companies Act, which is supplemented by the Accountant's Act. According to the 2006 ICPAK self-assessment, under the Companies Act, listed and private companies are required to have their financial statements audited. Under the Accountant's Act, the self-assessment further noted, the ICPAK is empowered "to issue regulations and standards for use in auditing financial statements" (p. 49). According to the description of the Kenyan regulatory framework as detailed in the 2005 ICPAK self-assessment, banks are regulated by the Central Bank of Kenya (CBK). However, the CBK does not set any additional accounting or auditing requirements. The Banking Act and the Central Bank Act specify the minimum disclosure requirements. The securities market is regulated by the CMA which monitors compliance with IASs and ISAs for listed companies. The ICPAK document asserts that under the Capital Markets Authority Act and the Capital Markets (Securities) (public Offers, Listing and Disclosures) Regulations of 2002, "listed entities must prepare interim reports, have an Audit Committee, and comply with rules on corporate governance." This requires that the head of their finance and accounting departments be a member of ICPAK. However, the CMA does not play a role in setting auditing standards. Noncompliance with financial reporting, accounting, and auditing standards can lead to the imposition of fines or suspension from the NSE. The World Bank's 2001 assessment notes that enforcement of accounting standards was not rigorous and that the stock exchange did not have any mechanism for improving the quality of financial reporting by listed companies.

According to the 2003 Nganga et al. report on corporate governance, the introduction of IASs and the Corporate Governance Code has led to a significant improvement in companies' disclosure. Not only is more information being disclosed, but the information is provoking media scrutiny.

17. The regulatory system should set standards for the eligibility and the regulation of those who wish to market or operate a collective investment scheme.

II

According to the CMA's 2006 Annual Report, the Capital Markets (Collective Investment Schemes) Regulations were established in 2001 and seek to facilitate collective investment schemes and provide investors with opportunities, including professional management, economies of scale, and diversification of portfolio and risk. However, the publicly available information does not directly address this principle.

18. The regulatory system should provide for rules governing the legal form and structure of collective investment schemes and the segregation and protection of client assets.

II

See Principle 17.

19. Regulation should require disclosure, as set forth under the principles for issuers, which is necessary to evaluate the suitability of a collective investment scheme for a particular investor and the value of the investor’s interest in the scheme.

II

See Principle 17.

20. Regulation should ensure that there is a proper and disclosed basis for asset valuation and the pricing and the redemption of units in a collective investment scheme.

II

See Principle 17.

21. Regulation should provide for minimum entry standards for market intermediaries.

II

There is insufficient information publicly available that directly addresses this principle.

22. There should be initial and ongoing capital and other prudential requirements for market intermediaries that reflect the risks that the intermediaries undertake.

II

There is insufficient information publicly available that directly addresses this principle.

23. Market intermediaries should be required to comply with standards for internal organization and operational conduct that aim to protect the interests of clients, ensure proper management of risk, and under which management of the intermediary accepts primary responsibility for these matters.

II

There is insufficient information publicly available that directly addresses this principle.

24. There should be procedures for dealing with the failure of a market intermediary in order to minimize damage and loss to investors and to contain systemic risk.

II

The 2005 World Bank FSAP recommends that Kenya ensures the proper management of investment compensation and guarantee funds. The amount of money in these funds should be determined by the trading volume in the market and there should be clearly defined processes of how the funds will be distributed, so that in the case of a market intermediary failure, the funds will be available to meet investors' claims. However, the publicly available information does not directly address this principle.

25. The establishment of trading systems including securities exchanges should be subject to regulatory authorization and oversight.

II

There is insufficient information publicly available that directly addresses this principle.

26. There should be ongoing regulatory supervision of exchanges and trading systems which should aim to ensure that the integrity of trading is maintained through fair and equitable rules that strike an appropriate balance between the demands of different market participants.

II

There is insufficient information publicly available that directly addresses this principle.

27. Regulation should promote transparency of trading.

II

According to La Porta et al.'s 2005 paper, the CMA has the authority to disqualify professionals suspected of providing misleading information about listed companies. It may also revoke licenses and provide other sanctions for violating the CMA's regulations. The NSE Rules and Regulations charge the NSE with investigating brokers, dealers, authorized representatives, and executive directors suspected to be in breach of the Rules and Regulations and the articles of association of the NSE, and provides it with the power to demand the production of any records necessary for the investigation. However, the publicly available information does not directly address this principle.

28. Regulation should be designed to detect and deter manipulation and other unfair trading practices.

II

There is insufficient information publicly available that directly addresses this principle.

29. Regulation should aim to ensure the proper management of large exposures, default risk and market disruption.

II

There is insufficient information publicly available that directly addresses this principle.

30. Systems for clearing and settlement of securities transactions should be subject to regulatory oversight, and designed to ensure that they are fair, effective and efficient and that they reduce systemic risk.

ID

According to the 2005 World Bank FSAP, improving the efficiency of clearing and settlement of securities would encourage trading in the market. In its 2004 Project Appraisal Document for a Financial and Legal Sector Technical Assistance Project, the World Bank indicates that "the main weakness in the current [securities settlement] system is that there is no coordination within the Banking department, which transfers interbank funds, in the case of settlement banks" (p. 31). Consequently, settlement risks are increased because there are no links between the transfer of funds and the transfer of title. To reduce the risk, market participants oftentimes directly settle with each other, rather than using a broker. "If the counterparty does not have an interbank limit, he will be required to complete his leg of the transaction first" (p. 31). The World Bank report suggests that this weakness could be resolved by introducing a "modern Scripless Securities Settlement System and an associated Central Depository System (CDS) with appropriate Wages to a suitable [Real Time Gross Settlement (RTGS)] system" (p. 32). This would facilitate the settlement of funds and transfer of securities in a manner consistent with international best practices as set forth in the Bank for International Settlements' Core Principles for Systemically Important Systems, which were initially issued by IOSCO.

The World Bank's 2004 Project Appraisal Document for a Financial and Legal Sector Technical Assistance Project describes its plans to provide Kenya with the technical capacity and funding to acquire a Scripless Securities Settlement System, making it possible to adhere to best practices. The World Bank will also involve itself in the training of the Central Bank of Kenya's staff to familiarize them with the components of payments and securities system reform. However, according to the World Bank's 2006 "Status of Projects In Execution - Fy06 SOPE" report, there has been little progress in the project's implementation, with only one consultancy activity and one training activity having taken place in the 10 months prior.

According to the U.S. Department of Commerce's 2007 Country Commercial Guide, in February 2005, an electronic CDS was instituted. It was utilized for all equity trades and facilitated the emergence of a secondary market for the government's one-year floating rate bond and provided opportunities for small investors by opening a shop window that offered product in multiples of KSh 50,000 up to KSh 1 million.