Square-Off: Should IPO Regs Be Relaxed?
In a May op-ed in the Financial Times, Harvard University professor Hal Scott lowered the boom on the SEC for what he called its “stringent” disclosure regulations for initial public offerings. A strong IPO market is economically desirable because going public allows companies to grow and create jobs. Regardless, the U.S. market has spent most of the past decade in a fairly pronounced slump. If historical norms had held, the number of public companies today would be at least 1,500 greater ..
Are regulations to blame for the downtick in IPO activity over the past few years? Not necessarily. More frequently, private companies are turning toward raising capital in the private market to avoid opening themselves up to public scrutiny.
Also, private equity and venture capital investors dual-track IPOs and M&A transactions and are more inclined to exit through the latter. IPO lock-up periods, while not mandated by regulation, prevent investors from liquidating shareholdings for 6 to 12 months. During that time, investors take a risk that shares will decline in value. That leaves M&A transactions as a more viable strategy for financial sponsors to monetize their investments and then move on to the next venture at a faster pace.
It’s true that many see the enhanced disclosures required for an IPO as a drawback, as it puts a company’s competitive information in the public domain. Regulation is there for a purpose, and going public brings companies a new set of responsibilities.
On the other hand, legislation in recent years has been intended to spur IPO activity by tempering regulatory requirements and protecting investments.
For instance, the Jumpstart Our Business Startups Act (JOBS Act) eases the IPO process for companies. Among the benefits, the law permits companies to submit registration statements for non-public review. The ability to file confidentially keeps the market competitive and gives investors more choices. That benefit has been available to emerging growth companies (EGCs) — companies with under $1 billion in revenues in the last fiscal year before the offering — since the act’s 2012 passage. However, the SEC recently extended the provision to all companies filing registration statements, effective July 10.
For EGCs, the JOBS Act requires companies to file two years of audited financial statements and summary financial data. Before the act took effect, they were required to file three years of audited financial statements and five years of summary financial data, a provision that still applies to larger companies.
The JOBS Act also tempers down Sarbanes-Oxley (SOX) compliance for EGCs by allowing for deferral of auditor attestation on internal controls for up to five years, or when a company loses its emerging growth company status — whichever comes first.
Still, regulations are one of the reasons investors prefer investing in the United States economy as opposed to other jurisdictions. In today’s volatile times, investors welcome the added assurance of knowing their investments are secure as a result of enhanced corporate governance.
The challenge? The relaxation in regulations as supported by the JOBS Act benefits the supply side for new deals but neglects to address the demand side. In other words, it is easier now for companies to access that capital market, but there’s less momentum around efforts to drum up and create interest in investing in new ideas.
One way to address the demand side for new deals is to incentivize potential investors through tax savings — more specifically, a two-year capital gains tax holiday for investing in IPOs.
With tax reform on top of the Trump Administration’s agenda, the timing could not be better. While a number of factors are up for debate with respect to reform, tax incentives can prove to be beneficial in boosting IPO activity in attracting and incentivizing investors.
Aamir Husain is national IPO readiness leader for KPMG.