Encouraging Companies to Go Public Won’t Be Easy

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By Michael Greene

Uber Technologies Inc., Spotify Ltd. and Dropbox Inc. aren’t the only household names not listed on U.S. stock exchanges.

In fact, there are about 6 million large and small private companies in the U.S., compared to fewer than 4,500 public companies. Public listings also are decreasing—there are now only about half as many U.S. public companies as there were two decades ago.

The Securities and Exchange Commission’s Advisory Committee on Small and Emerging Companies Feb. 15 will explore why more companies may be choosing to stay private. According to securities attorneys and law professors, there are a variety of reasons for the steep decline in public companies, some of which are beyond the control of Congress and the SEC.

“There is a lively debate about how much regulation has to do with the trend, and it is entirely possible that the main driver is the greater availability” of private equity capital willing to wait for returns, “so that the pressure to go public is reduced,” Georgetown University law professor Donald Langevoort told Bloomberg BNA.

Alan Seem, a Menlo Park, Calif.-based corporate partner at Shearman & Sterling LLP, also told Bloomberg BNA that more companies may be pushing their IPOs further into the future because they can.

“The main driver behind most IPOs is the need to raise capital for growth,” Seem said. “However, in recent years, there have been huge amounts of private capital available to fund companies for multiple private rounds.”

The fact that more companies may be staying private longer is borne out by Bloomberg data. Over the last 12 years, the number of U.S. private companies that have had five or more venture capital-backed financing rounds has substantially increased. In 2016, there were 56 such deals that raised about $9.3 billion dollars. In comparison, there were 29 such deals in 2005 that raised $700 million.

Smaller Companies Unable to Go Public?

While some may choose to stay private longer, smaller companies simply find it challenging to go public.

There are basically two markets that exist today—a market for mid-cap to large-cap companies and a market for small-cap companies, Jeffrey Fessler, a New York-based partner at Sheppard Mullin Richter & Hampton LLP’s Corporate Practice Group, told Bloomberg BNA.

Congress tried to help smaller businesses raise funds through the 2012 Jumpstart Our Business Startups Act. The JOBS Act’s IPO on-ramp provisions facilitate the initial public offering process by reducing financial reporting requirements and allowing for confidential filing with the SEC.

Fessler said that many smaller companies want to go public, but few investment banks are willing to underwrite these types of IPOs. “Even with the JOBS Act, IPOs are still very risky for small investment banks and the benefit in terms of fees generated do not outweigh the costs,” he said.

Conversely, the JOBS Act may also have exacerbated the problem by offering other financing options such as Regulation A Plus. Adena Friedman, the first woman chief executive of Nasdaq, told Bloomberg Markets that the JOBS Act allows “companies to stay private longer.”

Less Disclosure Requirements?

Business representatives, including the U.S. Chamber of Commerce, suggest that regulatory burdens are discouraging companies from going public. The chamber has asked the SEC to overhaul its disclosure regime for public companies, including scaling back some requirements. The business lobby also is calling on Congress and the SEC to roll back certain disclosure mandates under the Dodd-Frank Act, including those focusing on executive compensation.

The cost and complexities of being a public company has made it a less attractive route, Brian O’Shea, a senior director with the chamber’s Center for Capital Markets Competitiveness, told Bloomberg BNA.

What can the SEC do on its own without congressional action? That is an “enormously complicated question,” said Robert Bartlett, a law professor at the University of California, Berkeley. One way may be for the SEC to make it easier for mutual funds to invest in small IPOs, he told Bloomberg BNA.

At a minimum, the SEC should “consider the effects on small business capital formation when it encourages funds to be more systematic in their liquidity risk management,” Bartlett said.

Bartlett, Ohio State law professor Paul Rose and University of California, Berkeley, law professor Steven Davidoff Solomon co-authored a September 2016 paper that found that since 1998—when the Asian financial crisis and other events spurred a flight to liquidity—the largest mutual funds have invested in fewer smaller IPOs.

In October 2016, the SEC adopted a rule requiring mutual funds to establish liquidity risk management programs to ensure they can meet redemption requests. Bartlett said the rule may discourage funds from investing in smaller issuers given their greater illiquidity.

Another action the SEC could take is to alter shelf registration rules to make it easier for over-the-counter companies to obtain financing, Fessler said.

Fessler said he hopes one of the new SEC commissioners is a lawyer experienced in capital markets issues. He or she can look into the current environment and “implement rules that will allow for more capital formation,” he said.

To contact the reporter on this story: Michael Greene in Washington at mGreene@bna.com

To contact the editor responsible for this story: Yin Wilczek at ywilczek@bna.com

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