The SEC Advisory Committee on Small and Emerging Companies will hold its next meeting on Wednesday, September 13, 2017 at 9:30 a.m. ET. The meeting will be open to the public and available via webcast on the SEC’s website.
The SEC’s Division of Economic and Risk Analysis (DERA) recently produced a Report to Congress regarding the impacts of the Dodd-Frank Act on access to capital for consumers, investors, and businesses, and market liquidity. Although the Report is principally focused on liquidity, it does provide some interesting statistics regarding the primary issuance of equity securities.
The Report notes that total capital formation from 2010 when the Dodd-Frank Act was enacted through year-end 2016 was approximately $20.2 trillion, of which $8.8 trillion was raised through registered offerings, and $11.38 trillion was raised in exempt offerings. The report notes the substantial increase in reliance on exempt offerings. Regulation D offerings have more than doubled since 2009. However, the report notes that the amount sold in reliance on Rule 506(c) represented only 3% of the amount sold in reliance on Rule 506. The average amounts raised in initial Rule 506(c) offerings is much smaller than the average amount reported sold in Rule 506(b) offerings. Rule 144A issuances remain stable.
The Report also provides data regarding Regulation A and crowdfunded offerings, and may be accessed here: https://www.sec.gov/files/access-to-capital-and-market-liquidity-study-dera-2017.pdf.
Even amidst all the other news crowding the headlines these days, it would be hard to miss the many stories discussing the U.S. initial public offering (“IPO”) market. By now, the trends are well-reported. Many promising U.S. companies are choosing to remain privately held longer and defer their IPOs. The once well-defined stages in a company’s funding life, from friends and family rounds to angel investor rounds to venture capital rounds to IPO have been disrupted. It is not uncommon for a company to remain private for ten to twelve years prior to pursuing an IPO or an M&A exit. As a result, generally, the companies that undertake IPOs are more mature and have a higher median market capitalization at the time of their IPOs than their predecessors in prior periods. There are fewer smaller IPOs. There now are many investors that are willing to invest in privately held companies, including family offices, sovereign wealth funds, venture and private equity funds, and cross-over funds. The valuations available to promising companies in private financing rounds often may be more attractive than the valuations that may result from an IPO. Some of these developments may account for the “unicorn” phenomenon. There are nearly 200 private companies valued by venture capital firms at $1 billion or more and few of these of these companies have taken the plunge and pursued IPOs. Studies indicate that the number of individual investors that own stocks directly has declined and institutional investors are disinclined to invest in small-cap and even smaller mid-cap stocks. Companies are experiencing much of their most significant growth while they are privately held, rather than in the years immediately following their IPOs, and institutional investors that participate in private funding rounds may stand to benefit most from this growth. In light of all of these changes, it is understandable that policymakers are focused on the ways to revive the U.S. IPO market and make regulatory changes that may remove some of the perceived impediments to pursuing public offerings.
To view our Bloomberg BNA article, click here.
On July 31, 2017, the NYSE amended its proposal, originally issued on March 13, 2017 and then withdrawn on July 19, 2017, to modify its listing qualifications to facilitate direct offerings. Section 102.01B of the NYSE Listed Company Manual currently recognizes that some companies that have not previously registered their common equity securities under the Exchange Act, but which have sold common equity securities in a private placement, may wish to list those common equity securities on the NYSE at the time of effectiveness of a resale registration statement filed solely for the resale of the securities held by selling stockholders. Footnote (E) of Section 102.01B currently provides that the NYSE will exercise its discretion to list these companies by determining that a company has met the $100 million aggregate market value of publicly-held shares requirement based on a combination of both (1) an independent third-party valuation of the company (the “Valuation”) and (ii) the most recent trading price for the company’s common stock in a trading system for unregistered securities operated by a national securities exchange or a registered broker-dealer (a “Private Placement Market”).
The amended proposal retains the changes to Footnote (E) included in the original proposal, including, among others, changes to (1) explicitly provide that these provisions apply to companies listing upon effectiveness of a Form 10 or 20-F without a concurrent Securities Act registration and (b) upon effectiveness of a resale registration statement, and (2) provide an exception to the Private Placement Market trading requirement for companies with a recent Valuation available indicating at least $250 million in market value of publicly-held shares.
The amended proposal also includes the following new changes:
- Amending Footnote (E) to establish criteria for assessing the independence of a valuation agent;
- Amending NYSE Rule 104(a)(2) to specify the role of a financial adviser to an issuer that is listing under Footnote (E) and that has not had any recent trading in a Private Placement Market;
- Amending NYSE Rule 123D to provide that the NYSE may declare a regulatory halt in a security that is the subject of: (1) an IPO on the NYSE; or (2) an initial pricing on the NYSE of a security that has not been listed on a national securities exchange or traded in the over-the-counter market pursuant to FINRA Form 211 immediately prior to the initial pricing.
The SEC has until September 18, 2017 to approve, disapprove or institute proceedings for the amended proposal.
The independence criteria and the provisions addressing the role of a financial advisor added to this amended NYSE proposal would seem to provide a roadmap for any issuer seeking to undertake a direct listing, perhaps as an alternative to a traditional IPO, and that might have engaged or is considering engaging advisers to assist the issuer with the direct listing process.
On Tuesday, July 25, 2017, SEC Chairman Jay Clayton spoke at the U.S. Chamber of Commerce Center for Capital Markets Competitiveness (CCMC). During the panel, Chairman Clayton discussed the Commission’s priorities on a variety of issues.
Bad Actors/Retail Fraud. Chair Clayton noted the substantial costs of the effects of a bad actor and the costs of restoring faith in our capital markets. He also made it clear that there would be no tolerance for retail fraud under his tenure.
Enforcement. Chair Clayton noted that the Commission has increased the use of data to determine more effective ways to target exams, taking into consideration to whom to issue an exam, how to conduct the exam and whether the Commission is being effective in these examinations.
Proxy Reports/Disclosure Effectiveness. Chairman Clayton noted that adding disclosure does not signal better disclosure. The Chairman stressed that disclosure should be written to protect the investor rather than be written in case of a court appearance.
Reduction in Number of Public Companies. The Chairman stressed that the Commission would not do anything to inhibit private capital formation. He cited a recent meeting with a number of small- and mid-cap companies where they discussed the timing of their respective IPOs. Chairman Clayton noted that having both a healthy public capital market and a private equity market provides companies with financing options, facilitates capital formation and provides healthy and necessary market competition.
Lifecycle of a Company. Chairman Clayton referenced that, in the past, the general public used to be able to participate in the growth of a company, but in our current environment, Main Street has a limited ability to participate. He noted that it is difficult to offer private investment opportunities to individual investors in a cost effective way.
Effectiveness of the U.S. Capital Markets. The Chairman noted that the U.S. capital markets are efficient for large-cap companies, but Chairman Clayton noted that there is room for improvement for mid- and small-cap companies. The Chairman outlined a number of factors affecting the effectiveness of the U.S. capital markets for smaller companies, including liquidity in the secondary trading markets and the costs of being a public company.
Costs of Compliance. Chairman Clayton acknowledged the Commission’s need to keep in mind the costs of compliance when writing rules, given that compliance can be very costly depending on how the rule is written.
Pay Ratio Rule. The Chairman noted that the Commission will be reviewing the rule but recognizes that the compliance date is coming.
Best Interest Standard. The Chairman directly stated that he would be disappointed if there were any reductions in choices for the individual investor relating to the best interest standard. The Chairman noted that, with the DOL’s Fiduciary Rule on the books, having differing standards for individual investors would not make sense. He then noted that the market would benefit from greater clarity on this issue. Chairman Clayton stressed that the Commission wants the best for the main street investor and is hopeful that common ground exists between the DOL and the Commission’s mandates.
Coordination Among Domestic Regulators. Chairman Clayton acknowledged the cooperative nature between the Commission and other domestic regulators such as FSOC and the CFTC. The Chairman stressed, however, that there should be no gaps between the various regulatory rules, no duplication and that regulators should not be asking for the same information in different ways. He noted that his colleagues at the other regulators share this view. Specifically, the Chairman confirmed that the Commission is engaged with the CFTC on this issue, given that these two entities oversight sometimes overlaps.
Cyber Security. The Chairman stressed that coordination among regulators is very important when it comes to cyber security and that regulators should be developing standards in order to effectively respond to these incidents. He acknowledged that fellow regulators are very open to cooperation and indeed see the need for this cooperation. The Chairman also addressed the issue of punishing victims of a cyber attack. He noted that if a company was acting responsibly in terms of protections and disclosures, regulators should not be punishing them for being victims.
International Harmonization. Chairman Clayton noted that it is part of the Commission’s mission to handle international coordination of regulation as more U.S.-based companies become global companies and participants. The Chairman specifically acknowledged the Commission’s preparation for the implementation of MiFIID II and for any issues that might arise from the rule.
Materiality. Chairman Clayton also touched on the issue of materiality during the Q&A portion. The Chairman noted that having a flexible materiality standard is useful given that, when a court is determining materiality, the determination is reflective of the substantial difference between certain projects. In this instance, the Chairman was referencing the municipal bond space when discussing materiality.
In closing, the Chairman thanked former Chairman of the Commission Mary Joe White and Commissioner Michael Piwowar for their service.
On July 18, 2017, President Donald Trump announced his intent to nominate Ms. Hester Maria Peirce as a Commissioner of the Securities and Exchange Commission for the remainder of a five-year term expiring June 5, 2020. This would be President Trump’s second nomination to the SEC, the first being the nomination of Mr. Jay Clayton as Chair of the SEC in January 2017. If confirmed, Ms. Peirce would occupy one of the remaining two vacant Commissioner seats at the SEC.
See the White House press release on the nomination here.
Securities and Exchange Commissioner Stein, speaking on the same day as Chair Clayton, in a speech that addressed principally market structure issues also made a number of observations on the current state of the markets. Commissioner Stein framed the market changes, such as the decline in the number of IPOs, somewhat differently than the Chair. She points out that framing matters as a “tug-of-war” between investors (demanding information) and issuers (seeking access to capital) may lead to viewing regulatory choices as a tradeoff between disclosure and capital formation. Such a view might not fully take into consideration the degree to which the market as a whole rely on access to information about private and public companies for price discovery and other purposes. Commissioner Stein observed that from “2009 through 2014, investors supplied nearly $17 trillion in primary capital – providing capital directly to companies in exchange for debt or equity securities.” During the same period, the amount of capital raised in the private markets outpaced the amount raised in the public market. Commissioner Stein noted that “during 2014, for every investor dollar raised in the public market, nearly $1.50 was raised in the private markets.” In her remarks, the Commissioner noted that there is an abundance of private capital that companies are able to access and, in addition, many companies are choosing to be acquired instead of going public. She observed that “One impact is a reduction in the aggregate amount of information available to the entire capital marketplace. On the whole, our markets are less transparent.” The complete remarks may be accessed here: https://www.sec.gov/news/speech/stein-lighting-our-capital-markets-071117.
In a speech earlier today, Securities and Exchange Commission Chair Clayton discussed the Commission’s guiding principles. In his comments relating to disclosure requirements, Chair Clayton noted that “the roughly 50% decline in the total number of U.S.-listed public companies over the last two decades forces us to question whether our analysis should be cumulative as well as incremental.” I believe it should be. As a data point, over this period, studies show the median word-count for SEC filings has more than doubled, yet readability of those documents is at an all-time low.” Clayton notes that the Commission needs to do more to make the public markets more attractive, without affecting adversely the private markets. Consistent with the Commission’s statements a few days ago regarding the Commission’s willingness to consider requests from issuers regarding omitting certain information, Clayton noted that, “Under Rule 3-13 of Regulation S-X, issuers can request modifications to their financial reporting requirements in these situations. I want to encourage companies to consider whether such modifications may be helpful in connection with their capital raising activities and assure you that SEC staff is placing a high priority on responding with timely guidance.”
Clayton also noted that the Staff of the Commission continues to work on recommendations following the report on modernizing and simplifying Regulation S-K requirements. The full speech, which also addressed enforcement, the regulation of derivatives, and investment management, is available here: https://www.sec.gov/news/speech/remarks-economic-club-new-york.
Recently, the SEC’s Office of Investor Advocate released the report it is required to file with the Committee on Banking, Housing and Urban Affairs of the U.S. Senate and the Committee on Financial Services of the House of Representatives. In the report, the Office outlines its objectives for the 2018 fiscal year.
The report notes that the Office anticipates that the SEC will continue to advance the Disclosure Effectiveness initiative and intends to contribute to the SEC’s work in this area in order to update disclosure rules.
The report also discusses what it refers to as “the phenomenon of fewer initial public offerings,” and notes that that evidences suggests that disclosure and other related burdens do not account for the downturn in IPOs. The report notes various studies that attribute the downturn to other causes. For example, the report discusses the lack of institutional demand for smaller companies and the increased dominance of institutional investor participation (over retail participation) in the markets. The report cites another study that attributes the decline to evidence that the benefits of being public have declined as significant capital has become available through private markets. The report notes that the Office intends to focus on understanding better the dynamics of the public and private markets, including the demand of institutional investors for smaller company shares.
The full report is accessible here.
The Staff of the Division of Corporation Finance has published these Frequently Asked Questions to assist issuers that are not emerging growth companies that would like to avail themselves of the confidential submission process. The FAQs also clarify that the ability to “test the waters” is limited to EGCs.