The Senate will soon ask Jay Clayton, President Donald Trump’s choice to head the Securities and Exchange Commission, why companies are staying private longer or avoiding the public markets entirely. It’s a good question. But the Senate should also ask why practically all public companies that make annual, quarterly, and periodic disclosures to the SEC still raise capital privately.
If we want growing companies to go public, we need our public markets to be a competitive source of growth capital. One easy solution is to let public companies sell their shares in the same way they can now buy them back: through brokers directly into their established public markets. Removing the outdated restrictions on selling shares publicly will lower the cost of capital and attract more growth companies to our markets.
Yes, as president of a company that operates public markets for thousands of securities, I clearly have something to gain from this proposal. But I’d make the case regardless. The effect of these reforms would reach far beyond any individual: All public companies would benefit from more efficient access to capital, no matter where they trade.
Our 80-year-old securities regulations, wrapped in an ever-increasing web of red tape, have pushed public offerings beyond the resources of most companies. To sell shares to the average investor, a public company must spend time and money producing a prospectus and hiring underwriters. The prospectus duplicates information already provided in the company’s SEC disclosures. In addition, brokers are understandably reluctant to take on the risks of underwriting public offerings: The big investment banks only handle the largest companies, once-thriving regional brokerages are squeezed by regulatory costs, and firms that once served emerging growth companies have been driven out of business.
Public companies now turn to private offerings, where they can sell shares without delay to sophisticated investors — so long as they accept discounts from market prices. The fastest money comes from opportunistic hedge funds arbitraging shares into the public markets. For the smallest public companies, private financing is an opaque and dangerous world where their shares often sell at huge markdowns. It is filled with traps for the unwary entrepreneur and littered with toxic “death spiral” financings that destroy shareholder value.
Offering and underwriting rules date from a time when information was disseminated through the mail and Wall Street received financial data well before it reached the investing public. All that has changed, of course. Instantaneous communication has removed the information advantage once enjoyed by Wall Street. Public companies provide comprehensive disclosure when they register a class of securities with the SEC. They employ armies of auditors and lawyers to make annual, quarterly and periodic reports easily available online for all investors. Market prices instantly reflect this continuous information stream.
It is easy for a company to buy its own stock directly in the market. It can place an order with a broker and pay an ordinary commission. Big blocks are purchased through the broker-dealer community in negotiated transactions. Sensible rules help prevent market manipulation, including volume restrictions on the number of shares a company can purchase, and limiting companies to one broker at a time. The public must be notified of potential buyback activity. The company’s disclosure must be complete, accurate and current.
A few simple rule changes would make it possible for companies to sell shares directly into the public markets. First, existing shelf registration rules, which are intended to allow companies to issue securities rapidly to take advantage of market conditions, are only available to larger issuers. These rules need to be streamlined and broadened to cover all SEC-reporting companies traded on an established public market.
Second, public companies should not be required to file a “supplemental registration statement” to cover issuances of already authorized shares. The safe harbor rule that allows a company to purchase shares in the public markets should be expanded to include sales of legally authorized shares.
Finally, the broker executing the order must be able to sell shares without being subjected to underwriter obligations. Higher-quality public company reporting has eliminated the need for extensive underwriter liability. The broker, as with any retailer or distributor, should play the role of intermediary and sales agent. The public company, as issuer of the shares, should be responsible for appropriate disclosure, and be solely liable for any false statements.
Common stock is a public company’s currency. It places an immediate value on the prospects of the enterprise. When the investing public is enthusiastic, a company should be able to sell shares into the market as easily as it can buy them. Market prices will then truly reflect all interested buyers and sellers. With modest rule changes, public markets can once again provide the best source of growth capital for companies seeking to expand their capacity to produce goods and services.