Why public companies are vanishing, according to SEC official

Key Concepts

• Initial Public Offerings (IPOs)
• Securities and Exchange Commission (SEC)
• Disclosure Framework
• Litigation
• Corporate Governance
• Shareholder Meetings
• Executive Compensation
• Proxy Advisory Firms
• Mandatory Arbitration
• Fee Shifting

SEC's Mission to Revitalize IPOs and Company Growth

The Securities and Exchange Commission (SEC) is undertaking a mission to simplify the process for companies to go public in America and to foster their growth. SEC Chairman Paul Atkins discussed the current status of these efforts, aiming to "make IPOs great again" and encourage more companies to pursue public offerings.

Decline in Public Companies and Rise of Private Markets

Chairman Atkins highlighted a significant trend: the number of public companies has halved over the past 30 years. This decline is attributed to factors like bankruptcies, mergers, and acquisitions. Concurrently, a robust private market for private credit and private equity has emerged, offering companies a comfortable alternative for raising capital to develop products. This private market attracts eager institutional and individual investors, allowing companies to remain private for longer. Consequently, going public often becomes a mechanism for initial investors, such as Venture Capitalists (VCs) and private equity firms, to cash out.

Three Inhibiting Factors for Public Offerings

The SEC has identified three primary factors that discourage companies from going public:

1. Cost and Weight of Disclosure Framework: The current disclosure framework and compliance with SEC rules are perceived as overly burdensome and costly. Chairman Atkins believes the SEC's rulebook has expanded excessively, straying from the core principle of providing a reasonable investor with the essential information needed to make investment decisions (buy, settle, or hold). He advocates for "right-sizing" the rulebook, acknowledging that a one-size-fits-all approach is inappropriate for companies of vastly different sizes.
2. Litigation: The prevalence of litigation is another significant deterrent.
3. Weaponization of Corporate Governance: The use of corporate governance mechanisms, particularly around annual shareholder meetings, has become a point of contention, with concerns about what is appropriate to present to shareholders.

Addressing Overly Burdensome Disclosures

Regarding disclosures, Chairman Atkins acknowledged that the volume of information required has become overwhelming for both CEOs and institutional professional investors. He stated that for at least the past 20 years, there have been consistent pleas from the private sector to address the sheer amount of disclosure. The SEC is initiating a process to identify and potentially eliminate unnecessary disclosures. This project, however, has been impacted by the federal government shutdown and the holiday season. The SEC plans to utilize special government employees for short-term tasks to expedite this review. The goal is to have a list of necessary changes in the new year, recognizing this as a significant project management undertaking.

Focus on Executive Compensation Disclosure

A specific area of focus for the SEC is executive compensation disclosure. A roundtable discussion was held a few months prior to the interview to address complaints surrounding this issue. Executive compensation disclosure has evolved into a complex and technical area, involving options pricing and various other components. This complexity has been partly driven by SEC rules that encouraged companies to favor stock options over other forms of compensation. The SEC aims to simplify and make these disclosures more comprehensible to investors.

Corporate Governance and Shareholder Meetings

The SEC is also examining issues surrounding corporate governance and annual shareholder meetings, particularly concerning conflicts of interest and the "weaponization" of shareholder proposals. Chairman Atkins referred to these as "politically motivated shareholder activists" who may have their own agendas. He specifically mentioned the role of shareholder proxy advisory firms, noting that some SEC rules have contributed to this dynamic.

Predatory Proposals and Their Impact

The SEC is looking at specific changes related to shareholder proposals, particularly "predatory proposals" that are not part of any rule but are subject to abuse and are extremely costly. These proposals place a significant burden on SEC staff. The backlog of registration statements, exacerbated by the shutdown, is a priority, making it challenging to dedicate resources to advising on the staff's view of these predatory proposals, which ultimately have no binding effect.

Addressing Litigation in Public Companies

To combat the litigious nature of society concerning public companies, suggestions include mandatory arbitration for certain types of lawsuits and fee-shifting mechanisms where the user pays. While some countries outside the U.S. have tried these approaches, and some U.S. states allow them, others have recently forbidden them. Chairman Atkins noted that the SEC has limited influence over how states handle frivolous litigation, as the federal system allows states to make their own decisions. However, he emphasized the SEC's commitment to protecting meritorious shareholder claims.

Conclusion

The SEC, under Chairman Paul Atkins, is actively working to make the IPO process more attractive and accessible for companies. This involves streamlining disclosure requirements, addressing the complexities of executive compensation, and re-evaluating corporate governance practices to mitigate the "weaponization" of shareholder proposals. The aim is to create a more efficient and less burdensome environment for companies to go public, thereby fostering growth and providing better opportunities for investors.