Below, a continuation of our bibliography of thought-provoking articles on issues related to right-sizing regulation, staying private versus going public, and related topics:

JOBS Act and Information Uncertainty

A recent paper titled “The JOBS Act and Information Uncertainty in IPO Firms,” published by Mary E. Barth, Wayne R. Landsman, and Daniel J. Taylor, has garnered quite a bit of attention.  The paper examines the extent to which omission of certain information by emerging growth companies (EGCs) can be tied to IPO underpricing.  According to the paper, EGCs that present compensation information for fewer than five top executives and present fewer than three years of audited financial statements are associated with higher levels of underpricing.  It is difficult to conclude whether there really is a correlation since, in our experience, many of the EGCs that choose to rely on the accommodations and omit this information are concentrated in particular sectors and those are usually associated with underpricing.  Similarly, in our experience, many companies in those sectors have concentrated ownership and existing investors participating in the IPOs.  The paper also concludes that EGCs have higher levels of institutional ownership than non-EGCs. This may not be all that surprising given trends in private capital raising over the last eight to ten years.  The authors suggest that this information should be considered in connection with additional regulatory reforms that might reduce disclosure burdens.  Without more detail comparing the sectors of the companies that are or are not EGCs, and of the EGCs that choose to omit disclosures, and the pricing issues specific to IPOs of companies in such sectors, as well as of companies by age or maturity, it would seem difficult to draw any conclusions.

Below, a continuation of our bibliography of thought-provoking articles on issues related to right-sizing regulation, staying private versus going public, and related topics:

The Decline in IPOs and the Private Equity Market

In their piece, “The Evolution of the Private Equity Market and the Decline in IPOs,” Michael Ewens and Joan Farre-Mensa discuss the decline in the number of initial public offerings in the United States in recent years and how it has impacted the ability of startups to finance.  The authors focus on venture-backed startups.  Interestingly, the paper notes that the percentage of M&A exits has remained fairly constant since the early 1990s.  Many commentators in the popular press have suggested that the number of M&A exits had increased, therefore negatively affecting the number of U.S. IPOs.  Prior to 1997, approximately 87% of startups with over 200 employees went public and of those with over $40 million in sales 67% undertook IPOs.  Since 2000, the fractions have declined to 29% and 30% respectively.  Private capital has filled the breach and as a result the decline in the number of IPOs has not negatively affected the ability of companies to raise capital.  In part, the authors attribute the change to a reduction in the costs associated with remaining a private company.  The authors also discuss changes in the private markets.  For example, the paper shows that VCs have changed how they deploy their capital, with a greater percentage of their investments being devoted to late-stage investments (as opposed to earlier stage companies).  Non-VC investors have provided a very significant percentage of financing in late-stage rounds.  These investors include private equity funds, corporations making minority investments, mutual funds and hedge funds and investment banks.

Up-C IPOs

A blog reader recently shared with us a paper titled “Private Benefits in Public Offerings:  Tax Receivable Agreements in IPOs,” written by Gladriel Shobe.  The paper considers some of the criticisms of up-C IPOs as a result of the tax receivable agreements put in place in these transactions.  For background on up-C IPOs, see our Practice Pointers.  The paper notes that in recent years, 5% of IPOs included use of tax receivable agreements (“TRAs”).  The author identifies three “generations” of TRAs.  The first generation from the early to mid-1990s involved companies that were taking additional steps in connection with their IPOs to create additional tax assets, or new basis.  The second generation TRAs appeared in 2007 with a Duff & Phelps IPO.  The paper identifies a third generation TRA that came about in 2010.  Finally, the paper notes some recent up-C IPOs that have not used TRAs.  After analyzing the various types of TRAs and the rationales for their use, the paper considers whether in the case of TRAs in up-C IPOs pre-IPO owners receive benefits that may not be properly valued or understood by IPO participants.

Dual-Class Structures

In his paper, “Sunrise, Sunset:  An Empirical and Theoretical Assessment of Dual-Class Stock Structures,” author Andrew Winden presents an analysis of initial and sunset dual-stock provisions based on over 100 companies, including pre-2000 and post-2000 structures excluding up-C IPOs.  The paper notes that among the sample set there are many different sunset provisions and provides very useful analysis of these.  The types of sunset provisions include passage of a specified period of time, dilution of high vote shares or controller ownership of such shares down to a low percentage of the aggregate number of outstanding shares, a reduction in the number of high vote shares or the number of high vote shares held by the controller as a percentage of the controller’s original ownership, death or incapacity of certain control persons or the departure of the founder, or conversion upon transfers of the high vote shares to persons that are not permitted holders.  Of course, a significant percentage of companies with dual-class structures, approximately 39% of those that went public after 2000, did not have sunset provisions.  The paper then offers an assessment of the utility of each of the particular approaches to implementing a sunset provision.

Below, a continuation of our bibliography of thought-provoking articles on issues related to right-sizing regulation, staying private versus going public, and related topics:

The effects of removing barriers to equity issuance, Journal of Financial Economics, July 14, 2016.  This article examines whether the relaxation of the eligibility requirements for use of a shelf registration statement, permitting smaller issuers to use a shelf registration statement, contributed to a decline in reliance by such companies on PIPE transactions for their follow-on capital-raising efforts.

Principles for Publicness, Florida Law Review, Omnig H. Dombalagian.  This article considers the duties that “public” companies owe investors and considers a tiered regulatory framework for companies as companies mature.

The Law and Economics of Scaled Equity Market Regulation, The Journal of Corporation Law, Jeff Schwartz.  This article reviews the concept of tiered regulation based on the size and age of companies using a marginal analysis model and concludes that size-based regulatory scaling is beneficial.

The Monitoring Role of the Media: Evidence from Earnings Management, Yangyang Chen, C.S. Agnes Cheng, Shuo Li, and Jingran Zhao, May 2017.  This article looks at the effect of media coverage on earnings management.  Media scrutiny serves to limit management of earnings in ways that favor insiders.

Below, a continuation of our bibliography of thought-provoking articles on issues related to right-sizing regulation, staying private versus going public, and related topics:

The Economics of Primary Markets, Kathleen Weiss Hanley, March 15, 2017.  The paper discusses the public offering process, including the economics of IPOs, such as whether there is underpricing in IPOs, and considers, in this regard, the costs and benefits associated with the IPO bookbuilding process.  In assessing the factors associated with the decline in the number of IPOs, the paper discusses some trade-offs associated with going public versus relying on private offerings, which is very timely given the ongoing dialogue on this topic.

The JOBS Act and the Costs of Going Public, Susan Chaplinsky, Kathleen Weiss Hanley, and S. Katie Moon, January 2017.  The article concludes that there is little evidence that the JOBS Act has reduced the direct costs of going public.  However, there may be accommodations resulting from the JOBS Act, such as those related to reduced disclosure, deferral of certain corporate governance related requirements, the ability to make confidential submissions, and the ability to test the waters, which result in savings that are difficult to .

Patching a Hole in the JOBS Act:  How and Why to Rewrite the Rules that Require Firms to Make Periodic Disclosures, Michael D. Guttentag, 88 Ind. L. J. 151, 2013.  This article examines the circumstances under which, or the conditions that should trigger when, companies should be required to comply with periodic disclosure requirements.

Information Issues on Wall Street 2.0, Elizabeth Pollman, 161 U. Pa. Rev. 179 2012-2013.  The article examines concerns arising from secondary private transactions as a result of lack of information, asymmetric information, and conflicts of interest, as well as concerns regarding insider trading.

“Publicness” in Contemporary Securities Regulation After the JOBS Act, Donald C. Langevoort and Robert B. Thompson, 101 Geo. L.J. 337, 2012-2013.  This paper considers whether the number of record holders is the right measure to use in determining “publicness,” or whether a different measure ought to be used, and how we should think about distinguishing between private and public companies.

Mutual Fund Investments in Private Firms, Sungjoung Kwon, Michelle Lowry, and Yiming Qian, April 2017.  Institutional investors hold a significant percentage of public equity.  The underlying premise of the paper is that mutual funds tend to invest in private companies backed by high quality venture capitalists.

Below, a continuation of our bibliography of thought-provoking articles on issues related to right-sizing regulation, staying private versus going public, and related topics:

The JOBS Act:  Unintended Consequences of the “Facebook Bill,” Tyler Adam, 9 Hastings Bus L.J. 99.  This article discusses the effects of the changes to the Exchange Act Section 12(g) threshold, essentially making it easier for companies to remain private, defer IPOs, and limit their disclosure requirements.

The Law and Economics of Scaled Equity Market Regulation, Jeff Schwartz, 39 J. Corp. L. 347.  This article questions the case for reduced disclosure requirements for smaller or entrepreneurial companies and suggests a framework for evaluating regulatory relief and the costs of securities regulation.

Fool’s Gold, Abraham J.B. Cable.  This article considers whether employees in startup or entrepreneurial companies, for whom stock-based compensation may constitute a significant percentage of overall compensation, are well-equipped to evaluate the risks and rewards of their investment in such companies and the related regulatory implications.

In researching and updating our treatise, Exempt and Hybrid Securities Laws, we regularly review recent literature regarding capital markets developments.  The principal underlying thesis of the treatise has been that exempt and hybrid offerings were becoming significantly more important as capital-raising tools.  While that was true although not necessarily obvious when we first published the treatise, it seems to be a trend that has become even more pronounced in recent years, even affecting the number of IPOs.  Each week, we’ll be posting our “favorite” articles on these topics.  Herewith, the first installment:

Unicorns, Guardians, and the Concentration of the U.S. Equity Markets, Amy Deen Westbrook and David A. Westbrook.  This article discusses the more concentrated ownership of both private and public companies in recent years, including the closely held nature of most unicorns.  Given the concentration of ownership in successful privately held companies and in most public companies today, the article addresses the governance and stewardship issues that this ownership concentration poses.

The Twilight of Equity Liquidity, Jeff Schwartz, 34 Cardozo L. Rev. 531.  This article discusses a new approach to regulating companies, with the cornerstone being a new market for newly public companies (a “venture exchange”), which should be designed to encourage companies to pursue IPOs and revive the IPO market, as well as a more extensive “on-ramp” or phasing in of regulatory requirements as companies mature.

Regulating Unicorns:  Disclosure and the New Private Economy, Jennifer Fan, 57 B.C. L. Rev. 583.  This article discusses the unicorn phenomenon and the need to re-think regulation to address the growth of privately held companies with robust valuations and dispersed ownership.