Eight kilometres off the west coast of Sabah in the South China Sea lies Asia's only offshore financial centre. Formerly a British colony and now a federal territory of Malaysia, the island of Labuan will soon also be the site of Asia's only offshore stock exchange.
Labuan is due to open its own bourse - the Labuan Financial Exchange (LFX) - in October, following in the footsteps of more established tropical tax havens such as Bermuda and the Cayman Islands.
Recently, officials from the Kuala Lumpur Stock Exchange (KLSE), which owns the LFX, have been promoting it as a source of funding for new Malaysian technology and dotcom companies. On the face of it, this would seem to place the LFX in direct competition with the Mesdaq, which the government set up in April 1999 to allow growth companies to access funds. But there are some major differences that set them apart, and these are likely to see much more tech and dotcom activity on the new LFX than the older exchange.
This won't be too hard. Until the beginning of this month compiling an index of Mesdaq stocks would have been a simple task. There was only one stock listed - Supercomal Technologies, a manufacturer of cables and wires for the electronics industry. Supercomal was super lonely for over 12 months, until it was joined by Intelligent Edge Technologies on August 2.
"Most tech companies have in the past gone to Singapore," says Franklin Tan, head of research at OCBC Malaysia. A big reason for this has been the strict regulations imposed by the government whereby a majority of the IPO money raised on the Mesdaq has to be spent within Malaysia, as well as another requirement that 50% of assets or the operations of the listed firm must be based in the country. Major structural problems with the trading system until April this year also inhibited interest.
The LFX, though, is exempt from most of the over-regulation that many associate with Malaysia. It is governed by the Labuan Offshore Financial Services Authority, and not the Securities Commission. The exchange has a disclosure-based regime, is free from Malaysia's capital controls and will trade financial instruments denominated in US dollars. It also aims to have its listing process take less than three weeks.
Like most offshore exchanges it will, however, be very illiquid. In fact, no time frame has been set for when trading functionality will be added to the exchange. But, according to Chin Chee-Kee, managing director of Matheson Ambrose Trust and chairman of the Association of Labuan Trust Companies, start up companies looking for venture capital might want to consider the LFX as a source of US dollars. "This makes it different even from Singapore and Hong Kong's GEM," he says. "We may not be able to compete directly with them, but we'll see. We have very different markets. They're for more established firms, for us we're looking at the start-up area."
Start ups, though important, are unlikely to make up much of the LFX's potential capitalization. Most offshore exchanges - like Bermuda, Channel Islands and Luxembourg - consist mainly of secondary listings of large multinational firms, global depositary receipts and funds based in these offshore financial centres.
The LFX will be a benefit for the funds industry in Labuan because those seeking a listing will no longer need to deal with stock exchanges in different time zones such as Dublin or Bermuda. Funds that haven't listed before will find it easier to do so, and as a result open themselves up to the sections of the investment community that are prohibited from investing in unlisted funds.
Chin, who also sits on the Exchange Committeee of the LFX, says that another sector that might express interest in the exchange is Malaysian multinationals, who can use the exchange to list foreign currency bonds. The LFX also has plans to list Islamic instruments, based on endorsements by any internationally recognised Syariah Council.
Rebuilding from crisis
Labuan was set up as an offshore financial centre in 1990 with a beneficial tax regime and regulatory structure conducive to foreign investment. It grew at a reasonable pace and many Korean companies established a presence there, but Labuan didn't attract the scale of foreign currency operations anticipated by the government.
According to some observers many Malaysian companies also weren't interested, because taking advantage of the tax and regulatory benefits meant having a physical presence on the island. Malaysian banks were a different story though and many used their offshore Labuan branches to get around government lending regulations. When the financial crisis hit in mid-1997 Labuan took it pretty hard.
"Of course the past few years everybody suffered, same in Labuan," says Chin. "But I think this year things have come back. Banks are showing some profits, and so are trust funds. If you look at the number of corporations at June this year we had 255 companies, as opposed to previous years around 100 plus."
It remains to be seen whether Labuan's exchange can build itself to the level of other offshore bourses such as the Bermuda Stock Exchange, which has already captured the interest of many Hong Kong companies, including the Jardine Matheson Group. If its goal is to become to the rest of Asia what the Caribbean tax havens are to North America, at the very least it also offers beaches and scuba diving.