I would like to talk about capital formation and the critical role that accountants play in that process. I want to particularly focus on capital formation from the investor’s perspective. Too often, the investor perspective is lost in the discussion over capital formation. The companies, lawyers, and investment bankers that often dominate this discussion often see regulation only as an obstacle to be overcome. They focus the discussion on how to raise money quicker and more cheaply — but seem to forget that the money raised comes from the pockets of hard-working Americans. The capital raising process should not make investors more vulnerable, and attempts to raise money quicker and more cheaply should not come at the investor’s expense. I want to put the focus on investors and examine how protecting investors facilitates capital formation by enhancing confidence, promoting integrity, and fostering transparency.
Posts Tagged ‘Capital formation’
Small business is a powerful engine for economic growth. Independent businesses with fewer than 500 employees account for half of all private sector jobs and more than half of nonfarm private GDP.  Growth in small business helps fuel the U.S. economy, generating opportunity, competition, and demand. Small businesses are essential to sustaining a strong economy, strong communities, and a strong middle class.
Today’s Forum reflects the Commission’s continuing interest in capital formation issues for small businesses. Indeed, the Commission has had a long-term focus on small business, and has utilized multiple avenues to regularly and consistently seek input from small business stakeholders. For example:
In my paper, Revisiting “Truth in Securities Revisited”: Abolishing IPOs and Harnessing Private Markets in the Public Good, I explore the possibility of doing away with initial public offerings. In their place, I propose an expanded system of company registration under which companies would have to trade in private markets for a seasoning period, with mandatory disclosure, before they would be allowed to sell their shares to the public at large. I argue that such system would promote not only efficient capital formation, but also investor protection.
Under the current regime, companies can stay private until one of three triggering events occurs: 1) the company lists its shares for trading on a securities exchange; 2) the company makes a registered public offering; or 3) the company exceeds 2,000 shareholders. Typically, companies trigger public company status through an initial offering of shares, with simultaneous listing of those shares on an exchange. The decision to make an initial public offering, however, is frequently made because the company is pushing the limit on the number of shareholders as a result of prior private issues to employees and early-round investors.
Recent regulatory and legislative initiatives relating to capital formation and public reporting requirements, if implemented, would have a significant effect on privately held companies and publicly traded small and emerging businesses. Although the ultimate outcomes and timing of these initiatives are unknown, we expect at least some of them to be adopted in 2012. Because the proposals could materially impact the timing of when a company decides to go public, how it attracts, retains and pays employees, and the manner in which issuers and investment banks conduct offerings, issuers and their advisors should closely monitor developments related to these initiatives.
Prompted by a series of letters in the spring of 2011 between Rep Darrell E. lssa (R-CA), Chairman of the House Committee on Oversight and Government Reform, and Mary L. Schapiro, Chairman of the Securities and Exchange Commission (SEC), in which Chairman lssa criticized perceived regulatory impediments to capital formation, the staff of the Division of Corporation Finance of the SEC (the Division) has committed to undertake a review of certain regulatory provisions, including:
Today, I want to talk about capital formation. For over 30 years, I advised many clients as to their capital raising efforts in order to grow their businesses, and I worked with institutions that held significant stakes in companies who grew their operations by making better products, and selling more of them.
I have been growing increasingly concerned about the discussion that is taking place in our country regarding capital formation. This discussion seems to confuse the singular act of capital raising with the much broader concept of capital formation. Moreover, this discussion fails to take into account the importance of disclosure in helping investors assess risks and make informed investment decisions. Disclosure leads to an informed investor – and informed investors are ones who will make investment decisions that collectively, in the aggregate, will yield productive benefits and growth to the real economy.
I know you understand exactly what I mean. The Council is an association of members who have a long-term stake in the U.S economy. You are self-described as the “patient capital” of the markets because, in general, you have “30-year investment horizons and heavy use of indexing strategies.” You understand that for most investments to make money, the company generally requires organic or strategic growth over a period of time.
I share this long-term view.
A forthcoming issue of the Virginia Law & Business Review entitled “US Securities Regulation and Global Competition” will feature articles by Eric Pan and myself, Stavros Gadinis, and Andreas M. Fleckner on international aspects of United States securities regulation. The articles in this symposium issue have important implications for the ongoing debate over competition among markets internationally for issuers of securities as well as for the role played by US securities regulations in the apparently declining competitiveness of US capital markets. In an introduction to the issue, Donald Langevoort characterizes all three articles as exploring different aspects of the bind that U.S. securities regulation now faces in balancing demands for more intense supervisory oversight with pressures to improve U.S. capital market competitiveness in the face of mounting international competition.
In “Regulatory Competition in International Securities Markets: Evidence from Europe – Part II ,” Eric Pan and I return to the study of capital raising practices of foreign firms. We began this project nearly a decade ago at a time when U.S. corporate law scholars were debating the theoretical merits of a regime of “issuer choice” in which firms would be permitted to choose the legal regime governing the sale of and trading in issuer securities. Our goal was to move beyond theoretical debates by interviewing market professionals to ascertain exactly how firms were deciding in which markets to raise capital and to probe the extent to which mandatory legal regimes were constraining.
Our new article is the second half of this research project and draws on evidence gained from some four dozen in-depth interviews conducted in 1999 with lawyers and market professionals in London and other major European markets. The first article in the project, which is available here, presented evidence concerning capital raising practices within the European Union. The second article, which is now forthcoming in the Virginia Law & Business Review, focuses on practices of European issuers seeking to raise capital in the US. Our results are of particular relevance to recent debates over the effect of the Sarbanes-Oxley Act on foreign issuers as our survey took place shortly before that Act was passed. Significantly, our article provides evidence that during this earlier period US investors were tending to prefer to execute transactions on European trading markets as opposed to parallel markets established in the US, such as ADR listings. In other words, many aspects of the decline in U.S. capital markets competitiveness that some have associated with the enactment of the Sarbanes-Oxley Act were in evidence well before the passage of that Act.
In the article, Eric and I present a range of evidence on the capital raising choices available to European issuers seeking to raise capital in the US and how they weighed the pros and cons of these choices. We test our findings against statistical evidence and other academic writings on the subject and discuss the implications of this aspect of our analysis on the debate over regulatory competition. The article also presents survey data about the efficacy of SEC supervision of foreign issuers seeking access to public markets as well as information pertaining to legal fees and other direct expenses that European issuers incurred when they raised capital in the US in the late 1990s. While the additional costs and regulatory impediments of the public U.S. offering process imposed a burden on foreign issuers seeking access to U.S. public markets at the time, market developments, including the rise of European capital markets and the availability of alternative mechanisms to reach most U.S. investors, seem to have played a more important role in the declining relative attractiveness of U.S. public listings.
The paper by Stavros Gadinis, “Market Structure for Institutional Investors: Comparing the US and the EU Regimes,” considers the rules governing stock exchange market structure: Regulation NMS (“National Market System”) in the United States and the EU Directive on Markets in Financial Instruments (“MiFID”) in the EU. Focusing on issues of regulatory design, the article compares the US and EU regimes to explore which policy can better achieve its stated goals. In particular, the paper examines the impact of these policies on the major contributors to equity trading volume in the last decade: institutional investors. It argues that US rules result in higher liquidity costs for institutional investors and may harm the informational efficiency of US markets. The paper is available here.
In “FASB and IASB: Dependence Despite Independence,” Andreas M. Fleckner focuses on the organizational structure of the Financial Accounting Standards Board and the International Accounting Standards Board and their susceptibility to outside influence. The paper considers the integration of each Board into its respective parliamentary system as well as the exposure of each Board to financial, political and national influences. The paper shows that, in principle, both Boards are organized independently from private and governmental influence, but that neither Board is immune to outside influence. It refers to recent examples of both Boards being subjected to outside influence and, when put under pressure, making concessions that jeopardized their independence. The paper is available here.