Trust Funds for Protecting and Preserving Wealth

Earlier this week I read a newspaper story about a mineral billionaire who passed away recently, and his estate administration turned into chaos and hate among family members. In digesting what is written I thought about the role of trust funds and how helpful they can be in such situations.
Trust funds are a great way to build, protect and preserve wealth for future generations, but many people tend to shy away from them because they think they are only for the rich. Almost same perception held for stock markets investments. Although it also true that trusts have an association with rich and powerful families, but trust funds can make a lot of sense even if you are a widowed mother who just wants to leave some form of wealth to a child to help him or her complete his or her education.
Before we proceed – let us answer the basic question, what is a Trust Fund? it is a special type of legal entity that holds assets/property for the benefit of another person, group, or organization; and there are three parties involved in almost all trust funds:
• The Grantor: the person who establishes the trust fund, donates the property (such as cash, shares, bonds, real estates, investment units, livestock, art, a private business, and other valuables bequeathed to a minor as is declared in a formal will) to the fund, and who decides the terms upon which it must be managed.
• The Beneficiary: the person for whom the trust fund is established. It is intended that the assets in the trust, though not belonging to the beneficially, will be managed in a way that will benefit him or her, as per the specific instructions and rules laid out by the grantor when the trust fund was created.
• The Trustee: The trustee, which can be a single individual, an institution, or multiple trusted advisors, responsible for overseeing that the trust fund maintains its duties as laid out in the trust documents and applicable law. The trustee is often paid management fee. Some trusts give responsibility for managing the trust assets to the trustee, while others require the trustee to select qualified investment advisors or a custodian to handle the money.
Over time the need for trust funds has become increasingly popular, and in demand, occasioned by the unfortunate occurrence of death or other events, and as it should be beneficiaries (i.e. minors) are practically incapable of making choices on how to use assets/property left for them by their parents or guardians. In such cases, trust funds are great vehicles that ensure the purpose for which assets were set is met.
Even in cases where the deceased may have omitted some dependents knowingly or otherwise, Trustees would normally have discretionary rights on how to have funds distributed, however, whatever it may — it would be best to ensure that the funds are distributed according to the wishes of the deceased. In case beneficiaries they are minors, funds should be set aside as a trust to meet obligations that range from upkeep to school fees in favor of the minor.
So, why would one consider using a Trust Fund? In addition to the beneficiary’s protections, there are several reasons trust funds may be of use, among others, these may be key:
• If you don’t trust your family members to follow the letter of your intentions following your passing, a trust fund managed by an independent third-party trustee can often alleviate your fears.
• Parents often set up trust funds for their children, designed to pay educational expenses. When the children graduate, any additional principal remaining is distributed as start-up money which they can use to establish their post-college life.
• Trust funds can protect assets that you cherish, such as a family business, from your beneficiaries. Imagine you own a bottled water factory and feel tremendous loyalty towards your employees. You want the business to continue being successful and run by the people who work in it, but you want the profits to go to your son and daughter, but who has an addiction problem. By using a trust fund, and letting the trustee be responsible for overseeing management, you could achieve this. Your son would still get the financial benefits of the business, but he would have no say in running it.
What we learn is that, to a great extent, trust funds ease the burden on the guardian or the surviving spouse who now has to raise children alone, even once the children come of age, with the approval of the trustees, the remaining funds can be released to them directly.
How does it work? Trustees normally set up a trust fund which can have a pool of trusts managed professionally by a team of service providers such as a fund manager and/or a custodian who may a bank. This ensures transparency in the day today transactions of a fund. These service providers report to trustees on the schemes of performance and other functions as per their mandates.
However, bearing in mind the costs needed to set up a trust and maintain it, trustees can opt for already existing trust funds in the market, unless it is completely necessary to do so. Under the principle of economies of scale, a pool of trust funds will help in cost saving while maximizing on returns.
Although trustees can opt to continue managing these funds on behalf of the minor, having the funds managed in an established trust fund that houses a pool of schemes is often easier as directly managing the same can be demanding. This has to be done through the consent of the guardian with the sole purpose of helping them better understand the decision and why it is easier. Well set up trust funds ensures money is continually invested and good returns are realized.

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Shareholders Activism for Better Performance of Listed Companies

Often, shareholders of listed companies do not understand their roles in companies that they have invested into. This assertion will particularly in evidence where something has gone wrong with the company, or where there is lack of details about what is happening with such a company, etc. In most of these cases, investors tend to think, it is either the regulators or the stock markets that should play the role. This thinking is both true and wrong — I will explain:

One of the core mandates for the regulator or the stock market, in this context, is to promote investor education, awareness and creating public interest in the capital markets products. The aim real is to ensure that shareholders gain the necessary skills in line with their governance system to hold the board of directors and management accountable in relation to the manner in which they execute their mandates, as stewards of shareholders/investors interests in the company.

Apart from investor education, regulators and exchanges also have the role of carrying out an assessment of any proposed issuance of securities (shares, bonds, etc) to the public prior to raising capital or listing these securities into the stock market. Such assessment seeks to establish the extent to which the envisaged offer meets the eligibility requirements for capital raising from the public and for listing into the stock exchange.

Prior to issuance of securities to the public, the issuer is required to prepare the prospectus or information memorandum that provide details of the prospective security and disclosure of the relevant information that will help investors understand the nature of the security on offer, the company behind the security on offer, its strategies, its financial wellbeing, its future outlook, its risks and risk mitigation as well as its governance and control mechanisms.

Through the prospectus, and during the approval process for the prospective issuer’s prospectus, the regulator and the exchange gets an opportunity to sometimes interrogate the company’s board and management as to the facts stated in the prospectus, challenging their assumptions, ask for further details or seek clarification on matters that requires elaborations, require more detailed disclosures (if need be), etc. Once satisfied, the regulator and the exchange will approve the prospectus ready for capital raising and listing of securities. Up to this stage, the investing public is not so much engaged. Their involvement will start soon thereafter.

Upon approval of the prospectus for capital raising and listing and once the process of capital raising and listing is completed; the company’s board and management are then charged with overseeing that the strategy and operation delivery of the company are in line with indicative disclosures as provided in the prospectus. The board and management are also charged with an obligation to make public disclosures whenever there is any justified material variation from the earlier disclosed outlook and forecasts/projections. They are also required to ensure that there are regular updates to shareholders. Shareholders, through the board of directors are required to approve such updates and other material disclosures that has operation and financial nature. Such updates, by way of continuous listing obligation and/or good corporate governance guidelines, are also reported to the regulator and the exchange.

Furthermore, the board and management are charged with ensuring that there is a sound risk management and controls and that mitigation mechanisms are implemented in timely fashion for smooth business operations.

So, what is the role of a shareholder in all this? I started by indicating that most shareholders tend to think that the regulator or the exchange or both has a key role as to the performance outcomes or governance of listed companies. The truth is, in many cases shareholders are supposed to contribute to the success or failure of the company to meet its performance and governance expectations. What happens is that many shareholders they lose touch with the company soon as the Initial Public Offering (IPO) process — both the issuer and the investor have a shared responsibility to this. Nevertheless, shareholders are required to increase their engagement with the company in which they have invested their money soon after the IPO process; why and how?

Shareholders selects the board to represent their interest to the company. As it is, the board, delegates this mandate to management —however the board retains the responsibility of ensuring that there is a smooth business operations and risk management mechanisms throughout the company.

By attending in the general meetings, shareholders get an opportunity to make major decisions impacting their rights, exercising their ultimate control over the company and how it is governed and managed, as well as engaging the company on any other matters of interest to them — this includes selection of the members of the board, appointment of external auditors, approval of audited accounts, etc.

With recent experiences of accounting scandals, fraud and company’s mismanagement in some parts of the world — shareholders are encouraged to approach their investment philosophy with a sense of activism, with pushy investing behavior — for better corporate governance and in creating more value for all shareholders. Activists and shrewd shareholders, compared to passive shareholders, are what is needed in the current world of investment climate, especially in recent situations where “principal-agent relationship” needs further enhancement.

Managing Investment Risks by using Collective Investment Schemes

Collective Investment Scheme (CIS), also known as unit trusts or participatory interests are investments in which many different investors put their money together into a portfolio, and then these pooled monies are managed by professional investment managers. These professional investment managers invest the pooled money in different asset classes ranging from shares of listed companies to bonds, money market instruments, to property, etc. This way risks that retail/individual investors cannot manage or mitigate given their limited skills in securities analysis, gets managed by professional investors on their behalf.

The total value of the pool of invested money is split into equal portions called participatory interests or units. When you invest your money in a CIS portfolio, you buy a portion of the participatory interests in the total CIS portfolio. The assets of a CIS portfolio are held by the trustees. A closer example of this structure is the Unit Trust of Tanzania.

The unit price of the CIS depends on the market value of the underlying investments in which the pool of money is invested. This unit price rises and falls (fluctuates) according to the value of the underlying investments based on daily calculations.

What are some of the advantages of CIS over direct investment? CIS provides an ability to:
• hire professional investment managers, which may potentially be able to offer better returns and more adequate risk management;
• benefit from economies of scale i.e., lower transaction costs; and
• increase the asset diversification to reduce some unsystemic risk.

There are two types of CIS, namely CIS in Securities and CIS in Property, also known as Real Estate Investment Trusts (REITs). I will focus on CIS in Securities – what are benefits of investing in CIS in Securities?

• They are affordable and easy – these collective investments are affordable as an investor can invest small amounts of money. This makes it possible for more people to easily invest in underlying assets that they normally would not be able to afford.
• Diversification of risk – as collective investments may be invested in a range of underlying assets, it means that your eggs are not all in one basket. The risk associated with your investment is therefore spread amongst the different underlying assets. If any of these assets perform poorly, your total investment will not necessarily perform poorly as there are other assets that may have done very well. The more diversified your capital, the lower the capital risk. This investment principle is often referred to as spreading risk.
• Good returns — the longer you leave your money invested, the greater the opportunity for your investment to grow. An investment in a CIS in Securities can be repurchased at any time, however, it is advisable that you invest the money for at least 3 – 5 years. The reason for this is that the value of the units of a CIS in Securities can go up or down. If invested for a longer period, one can expect to see the benefit of the long-term growth in the market.
• Professional investment management — an investment manager manages your investments for a fee. However, an investment manager must be registered with the Capital Markets regulator as a financial services provider.
• Your money is accessible — CIS in Securities are easy to sell which means that you can sell all or part of your investment at any time.
• Different investment options — CIS in Securities offer flexible investment options as you can make: (i) lump sum investments – these can be made at any time once you have opened your collective investment account; (ii) debit order investments – you can make regular payments, e.g. monthly, into your account; and (iii) switching – as there are many different collective investment portfolios, you can switch between different portfolios at little or no cost.
• Reduced dealing costs – If one investor had to buy a large number of direct investments, the amount this person would be able to invest in each holding is likely to be small. Dealing costs are normally based on the number and size of each transaction, therefore the overall dealing costs would take a large part out of the capital (affecting future profits).

A choice of where to invest: It is important that, before you select a portfolio in which to invest, you first understand what you are investing in, and that you carefully consider the amount you commit to invest. A licensed financial advisor should assess the amount of risk that you are prepared to take and advise you accordingly. Factors such as your age, health, income, alternative liquid assets, financial knowledge, appetite to risk, whether or not you have dependents and what your investment goals are will all influence the choice of investment.

Types of CIS in Securities: There are two types of CIS in Securities: Open-end fund: this is equitably divided into units which vary in price in direct proportion to the variation in value of the fund’s NAV. Each time money is invested, new units are created to match the prevailing unit price and each time units are redeemed, the assets sold to enable redemption matches the prevailing price. In this way there is no supply or demand created for units and they remain a direct reflection of the underlying assets.

Closed-end fund: this type of CIS issues a limited number of units in an Initial Public Offering (IPO). These units are then traded on a stock exchange. If demand for the units is high, they may trade at a premium to net asset value. If demand is low, they may trade at a discount to net asset value.

In many markets the less sophisticated investors who want to participate in the stock markets are protected from the swings of the markets and their implications by investing using CIS. Our experience is that this is the one area that needs to be developed, currently, other than UTT, private sector is yet to actively participate in this key space of the capital markets ecosystem.

Stock Exchanges for Sustainable Development Goals

As part of the global community Stock Exchanges across the global are required to step up and engage stakeholders in the capital markets eco-system (i.e. regulators, investors, financiers and businesses, etc) on their role towards creating better communities. In evaluating the 20-Sustainable Development Goals (SDGs), one will clearly find that four (4) SDGs are relevant to stock exchanges, and that exchanges are best positioned to support these goals. The four goals are Goal 5 – Gender Equality; Goals 12 – Sustainability Information; Goals 13 – Climate Change; and Goal 17 – Global Partnerships.
And so, to start contributing to the achievement of the SDGs, exchanges can make a difference with these 5 steps:
1. ESG Reporting Guidance – Exchanges are required to assist companies by providing guidance in making sustainability information public.
2. Dialogue – where Exchanges can engage fellow exchanges and investors and issuers as well as other stakeholders, in sensitization and voluntary compliances
3. Sustainability Products – Exchanges are expected to help incentivize and mobilize finance for SDG areas through products such as Environmental protection, Social Responsibility and Good Governance (ESG) indices and green bond listings.
4. Listing Requirements – where Exchanges are required to strengthen their listing requirements to encourage the disclosure and use of sustainability information – especial ESG related information.
5. Join a Global Partnership: Exchanges are encouraged to join the UN-Sustainable Stock Exchange (UN-SSE) Initiative as partner exchanges and participate in its workgroups to share best practices and promote sustainable markets.In mid-2016 the Dar es Salaam Stock Exchange made a conscious decision to join the UN-SSE Initiative. And, for the past two and a half years we have focused on engaging our members to raise awareness and sensitizing them to appreciate their role in creating a better world in course of their investments, capital raising, running businesses, etc. Our engagements have been to extent of Capacity building workshops, enhancing follow ups on continuous listing and membership obligations – especially in the area of transparency and good governance.
The other initiative towards these ongoing engagements has been the launching of DSE Members Award, which is annual event involving collection of data and information and our members about their practices and whether in their undertaking, among others, the aspects of environment protection, corporate social responsibility, gender equality, and good governance are clearly considered, monitored and reported. These activities culminate into a final event, of recognizing, and awarding members that have performed better than others in these specific criteria. To our estimate, this initiative has sharpened awareness of ESG, Sustainability reporting and Responsible investing.
Why does this matter? the global interest in sustainable investment is a catalyst for change and some DSE-listed companies, especially those which subsidiaries to multinational entities have made some positive strides in the area of ESG practices and disclosures. As we move towards integrating sustainability reporting as part of our continuous listing obligation and making these part of the listed companies annual reports, which we intend to achieve by 2020 — sustainability thinking into business strategy should be embraced, not only by listed members of the DSE, but other categories of members as well – i.e. stockbrokers, nominated advisers, custodian banks, etc.
As mentioned above, in 2016 the DSE signed into the United Nations (UN)-Sustainable Stock Exchange (SSE) Initiative — a project of the United Nations co-organized by the United Nations Conference on Trade and Development (UNCTAD), the UN-Global Compact, and the UN-supported Principle for Responsible Investment (PRI); partnering with other key stakeholders including the World Federation of Exchanges (WFE) – to which the DSE is an Affiliate member, and the International Organization of Securities Commissions (IOSCO) – for the objective of providing a multi-stakeholders learning platform for stock exchanges, investors, regulators, and companies to adopt best practices in promoting corporate sustainability. In collaboration with investors, regulators, and companies, they strive to encourage sustainable investment.
Being a partner exchange to the UN-SSE Initiative, among other requirements is for the exchange to promote sustainability thinking and strategies as well as to consider ESG factors more explicitly in their practices and disclosures/reporting, in line with international best practices. Our purpose real is about trying to get the market to think more holistically about what is important, then disclose this thinking to our stakeholders, and embedding these factors, and hopefully change their behavior on matters of environmental sustainability, becoming more inclusive and socially responsible, becoming gender sensitive in their choices, as well as pursue and practice best standards of good corporate governance – including become more transparency in their disclosures, not only in relation to the past, but also the future of their businesses.
Some of the exchanges, even in our continent, have already included sustainability and ESG reporting in their listing (membership) and continuous listing (membership) obligations rules. Stock exchanges in South Africa, Egypt, Morocco, etc are in this stage already; other exchanges have creating rules for listing green bonds – South Africa, Egypt, Mauritius, Kenya, etc stock exchanges have green bonds listing rules already, while others such as Nigeria have created Responsible Investment Indices – aiming at sharpening the awareness of responsible investing. For the DSE, as I indicated above, we are at the sensitization and awareness creation stage as well as encouraging voluntary disclosures. However, the intent is to have these issues embedded in our rules by year 2020 – later this year we intend to share with our members the Model Guidance on Reporting ESG Information.