Ben Aris, Nadia Damon, Robert Smyth and Dominic Swire -

For years, the bosses of some of the stock markets in Central and Eastern Europe have dreamt of building a single exchange that would allow investors to trade shares from Tallinn to Ljubljana. Nice idea, but not a very likely one now that the region's largest exchange, Warsaw, and its fastest-growing, Sofia, have both told bne that they are lining up deals with major international players.

Warsaw is the key to creating this regional exchange, which would retain domestic autonomy for local investors but create some sort of meta-platform that would allow Czech investors to buy Romanian shares in Prague and vice versa - a kind of CEE version of Euronext, which was formed in 2000 when the exchanges of Amsterdam, Brussels and Paris were merged as virtual equals.

With a market capitalisation of about €150bn and €2.5bn of IPOs in the first half of this year - already more than all the offerings in 2006 - the Warsaw Stock Exchange (WSE) dwarfs all the other exchanges in the region and is even poised to overtake some of its Western rivals; the Vienna bourse has a market capitalisation of €200bn, but has only a third as many companies listed on it.

The Polish player

However, Ludwik Sobolewski, chairman of the WSE, has effectively killed this idea by saying that even though he has already rebuffed offers of marriage from both the Scandinavian exchange OMX and Euronext, a deal is nevertheless drawing close.

"I can't exclude an alliance or close cooperation with one of our competitors - I consider Euronext and OMX both as very attractive partners. I don't think we have many other alternatives that can reach the same objectives," says Sobolewski. "I see little chance for the WSE if it stays totally independent [and] is not building up an international market - we can't remain a local exchange."

However, any tie-up would have to wait until the political turmoil in Poland dies down and a decision can be made over the privatisation of the exchange. The bourse is still 98.8% owned by the state, making it the only one with a majority state control in the EU besides Malta and Cyprus.

The current Polish government, headed by one half of the Kaczynski twins, has had an odd attitude toward reform of the country's economy. On the one hand it has presided over a booming economy and falling unemployment, but since assuming power has seemed more concerned with rooting out imaginary communist spies and other reactionary forces. Wojciech Jasinski, the Treasury minister, has been working on a plan that would sell off packets of 5-10% of the exchange to outside investors, but needless to say it comes with the nationalistic twist that buyers would have to be Polish institutions. And there are no plans for the state's share to drop below 51%. These ideas have inevitably drawn fire from the European Commission, which has warned Warsaw that it is impermissible to discriminate among member states and would take action if it went ahead with the plan.

It may not come to that. Poland is in the midst of an election campaign and opinion polls put the ruling Law and Justice party and the main opposition party Civic Platform neck and neck. Civic Platform is, by its nature, a more reformist party and analysts say a win for it would see the resumption of a whole swathe of privatisations that have stalled under the present regime.

"We have talked about privatizing the stock exchange for a long time. If we win we will certainly consider it," says Adam Szejnfeld, a Civic Platform MP who is in charge of his party's economic programme.

In the meantime, Sobolewski says there is more work to do in developing the structure of the country's equity market before he is ready to do a deal with a larger rival. A wave of IPOs has swept through CEE - with Poland and Russia leading the field by a distance - but analysts say the trend is only just starting to gain momentum. Most of the IPOs are still happening on domestic markets, with a few exceptionally big companies choosing to list in London, but the WSE wants to make itself the default choice for CEE companies looking to sell shares.

"We want to attract companies from across the region. Once we have more liquidity and absorb more capital, the effect will be to pull in more companies who want to enter the WSE," says Sobolewski.

Progress has been good. Last year, 38 companies listed on the WSE, raising a total of about €2.5bn, including six companies from neighbouring countries. This year the exchange has already become home to another 43 companies in just the first six months of this year, raising about the same amount again. Sobolewski expects some 60-70 companies to have floated by the end of this year, including half a dozen foreign companies.

The first Ukrainian company listed last year when Astarta Kiev, a large agro-holding focused on sugar production, floated 5% on the WSE in August 2006 and raised $31.7m. Investors from across Europe bought the stock, but the real appeal of Warsaw-based listings is that the market is backed by a well-developed profile of domestic and foreign investors that no other market can boast.

Why has the WSE been more successful than the region's other exchanges? Most analysts put it down to the reforms made to the social security and pension systems, which have meant that domestic institutional investors already account for a third of the money invested into equity on the WSE, with private individuals accounting for another third and the rest made up by foreign investors. The WSE has also been busy signing up brokers in other markets including London, which accounts for about 80% of all the foreign investment, or 10% of the total turnover, up tenfold on the level in 2006.

"We have developed this structure over the last few years and it already lends stability to the market. There is a strong domestic investor base and this is attracting more international investments," says Sobolewski. "We also have a network of IPO partners - banks and brokerages in other countries - that can arrange an IPO on the WSE for these foreign companies."

And it is relatively cheap. The cost of a Warsaw listing is typically 5-7% of the company's valuation at the time of the float, which is three or four times cheaper than floating on London's Alternative Investment Market (AIM) - a popular venue for many CEE companies looking to list.

Not only is the cost of a Warsaw IPO attractive, but Sobolewski says the WSE is a more appropriate venue for CEE companies, who can get swamped by the sheer number of companies that are listed on AIM. He claims that leading Ukrainian real estate developer XXI Century is thinking about moving its listing from AIM - or at least organising a dual listing - as the company's owners are not satisfied with the volume of trade that their company's stock has nor the profile it enjoys on the London market.

The PSE

However, others in the industry put the WSE's success down to less-praiseworthy factors, namely an extremely supportive law that protects the domestic capital markets. This dictates that those newly reformed and liberalised Polish pension funds must invest 95% of their assets in the domestic market.

"Can you imagine the UK passing a law forcing all big banking funds to invest 95% of their investment funds just in the London Stock Exchange? Funny, isn't it? Funny in any country in the world but not in Poland. It's a waste of time to ask if I would like that law here - nobody would even think about such a crazy thing in any OECD country," sniffs Koblic, the head of the Prague Stock Exchange (PSE).

Indeed, Koblic maintains that it's actually cheaper and easier from a technical and legal point of view to hold an IPO in Prague than in Warsaw. He cites an independent report by international legal firm Allen & Overy who helped organise the dual listing of Czech firm Pegas Nonwovens on both the Prague and Warsaw markets in July. In several respects, the report found the system in Prague to be less complicated than Warsaw, not least because the whole process can be done in English, which is not possible with the WSE. The report was scathing about the Polish national depositary, which it called, "an extremely formalistic and inscrutable institution, which may seriously complicate a public offering in Poland."

Nevertheless, none of this changes the fact that, on paper at least, comparisons with Poland in almost every respect still make Prague look like an unimportant regional backwater. As such, the PSE looks as though it should be one of exchanges pushing hardest for a regional Euronext - but it isn't.

"I keep hearing about a 'strategic alliance' or a 'Euronext of Central Europe.' What is it? What is it?" cries Koblic. "I'm happy to talk to anybody about any idea, but based on some real and reasonable numbers - and I've been repeating that for three years. Every time someone meets me and starts a discussion with the words 'let's make an alliance,' I usually stop them after three sentences and say, 'I've told you many times, bring me the numbers.' Nobody's talking to me anymore because there are no numbers."

However, many observers point out that joining some kind of cross-regional exchange would help Prague attract a greater number of listings that it desperately needs in order to be taken seriously. The Czech Republic has been slow to catch the IPO bug sweeping CEE; in December 2006, the Czech company Pegas Nonwovens became only the third-ever company to IPO in Prague. At the time, Koblic said he expected more companies to issue shares in 2007; so far none have been forthcoming.

One exchange that is seeing a rapid rise in the number of IPOs and would be a boon to any regional tie-up is Bulgaria's, but Like Warsaw, it too is intent on bigger things.

New and nifty

In the last couple of years, a flurry of IPOs, EU accession and healthy profits have helped push the Bulgarian Stock Exchange-Sofia onto the radar screens of European investors. During the first half of 2007, the exchange's turnover stood at BGN2.72bn (€1.39bn), which was an 86.5% increase over the same period in 2006. But while this dynamic market already cuts a dashing, albeit small, figure, the bourse is planning to raise its game by linking up with a strategic partner such as Deutsche Boerse or OMX.

"For the last year or so, we have been looking at ways of integrating the Sofia exchange into Europe," chairman and founder of the board of directors, Victor Papazov, told bne. "One way is to get a strategic partner on the European stock exchange - a buyer, stakeholder or technology provider - and there are a number of options available to us."

According to Papazov, there are seven potential candidates at present, three or four of them serious contenders. These include: Deutsche Boerse, the Nordic exchange operator OMX and Borsa Italiana. However, he acknowledges that the latter's interest may wane in light of its acquisition by the London Stock Exchange.

However, like the WSE, Sofia's bourse needs to sort out its relationship with the state before striking a deal with any strategic partner. The Bulgarian state retains a 44% stake in the exchange and any sale of this holding is unlikely to take place before 2008.

"I don't know where the government stands on this issue at the moment," admits Papazov. "Just six months ago, it was up for selling its stake, but with so many options available to the stock exchange, it is unwilling to risk making a mistake. Recent changes in government have also taken the spotlight off the stock exchange, and these will remain the case with the forthcoming elections [due to take place this autumn]."

While Deutsche Boerse, OMX and Borsa Italiana represent the big European solution, the Bulgarian exchange is also considering a regional approach, which would take the form of a tie-up with the Athens Stock Exchange.

"There are pros and cons with going directly to Western Europe or staying regional," says Papazov. "It's not a simple solution; the important thing is finding the strategic partner and changing the trading platform, which will make us much more accessible to investors across Europe and the world, updating or streamlining processing, increasing efficiency and introducing really good standards here on the market."

Such regional thinking will cheer the Vienna and Budapest exchanges, which are regarded as having the most to lose from the CEE's major players going their own way.

Divide and rule

The WSE's rebuff will come as an especially hard blow to the Wiener (Vienna) Boerse, which was hoping to take the lead in the consolidation; In 2004 a group of Austrian banks and Vienna's exchange bought a 68.8% stake in the Budapest exchange as part of its plans to expand across the region and was revving up to bid for the WSE in any privatisation. But the privatisation was too long in coming and, in the meantime, the WSE has outgrown its would-be bride.

"The Vienna bourse is bigger in terms of market capitalisation, but the difference is not big," says the WSE's Sobolewski. "However, the WSE already has three times the number of listed companies. Vienna has a higher volume of trade, but the dynamics of growth are better at the WSE as we have a bigger economy. If we don't make any mistakes, we will soon become the most important market in Central Europe, so I would rather think about a partnership with one of the international exchanges, rather than a regional exchange."

Stung by criticism of its sluggish approach to what is happening in its backyard, the Wiener Boerse has made a flurry of moves lately designed to raise its profile. On September 18, it announced a new East European sector index, the CECE Infrastructure Index, and on August 31, it revealed plans to work with the Ukrainian exchange to formulate indices.

The Wiener Boerse would not comment on its future plans in the region, though its head, Michael Buhl, admitted in an interview with the Wprost weekly earlier this year that he sees the WSE as the Vienna stock exchange's main competitor, though the two could avoid a head-on clash if the WSE focuses on Eastern markets, while the Wiener Boerse concentrates on Western European corporations operating in Central Europe.

That may be wishful thinking. And it's noticeable that the person most vocal and keen on a policy of "united we stand" between CEE's bourses in a bid to create the region's own version of Euronext is the chairman of the board at the Budapest Stock Exchange, Attila Szalay-Berzeviczy.

Szalay-Berzeviczy says he believes in a CEE union of national exchanges that, "serve as individual pillars, with national exchanges run by a common trading system on which the members of the Budapest stock exchange can trade in Polish, Czech and Austrian shares, and vice versa."

Szalay-Berzeviczy believes no one CEE exchange is big enough to prevail over the others. "Therefore, competing with each other is silly - Vienna, Budapest, Prague and Warsaw can be interesting together," he says. "Romania can surely be part of this alliance as an EU member where the euro might be introduced sooner than in Hungary."

However, others look at Wiener Boerse's stewardship of the Budapest exchange and don’t like what they see. It's over two years since the Austrian acquired a majority of the Budapest Stock Exchange, but despite optimism that a plethora of companies would list, a steady flow of companies leaving is the sad reality as it degenerates into a regional backwater. Unfortunately for the Austrians, their options to improve the exchange's fortunes appear limited - except, of course, for that regional Euronext.

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