Initial public offerings used to be an important milestone that generations of entrepreneurs and business owners strived hard to achieve. Taking your company public was the ultimate reward for decades of hard work and an embodiment of the American dream. Unfortunately, times have changed and the IPO has lost its luster — as evidenced by the plummeting number of companies choosing to go public over the last 20 years.
According to the World Bank, the United States has about half as many public companies today as it did in 1996. Over the last two decades several new dynamics have convinced private CEOs to steer away from listing on the stock exchanges, ranging from easier access to private capital to the exponential growth in the number and ferocity of activist investors. Further, there has been an unusually high number of firms that have delisted as public companies as a result of the changing dynamics.
The shrinking pool of U.S. stocks is particularly harmful to retail investors, the tens of millions of Americans who invest and plan for their future through 401(k)s and other retirement accounts. Having a smaller, less diverse pool of public companies provides fewer opportunities for average investors (those without the financial resources of venture capitalists) to grow their nest eggs and plan for comfortable retirements.
Recognizing this trend, Securities and Exchange Commission Chairman Jay Clayton has promised to find ways to incentivize more companies to go public. As a start, the SEC is reportedly studying whether it should change its rules to allow companies of all sizes to talk privately with investors before announcing the sale of stocks. Enhancing the ability of private companies to “test the waters” of an IPO would be an important step in the right direction, modernizing an outdated and unnecessary regulatory roadblock.
But it is only a first step. It will take more meaningful change to tip the scales back in favor of a marginalized retail investor community. Specifically, the SEC chairman should consider three measures to address a growing trend in shareholder activism if he wants to convince a greater number of entrepreneurs and CEOs to again look seriously at exchange-listed status.
The first and most pressing order of business is serious reform to proxy voting regulations that impose significant regulatory burdens on companies, while delivering very little in the way of value maximization for shareholders. According to the Manhattan Institute’s annual Proxy Monitor season review, more than half of all shareholder proposals submitted to companies during the 2017 proxy season involved social issues with little or no connection to stock value or financial performance.
Second, the SEC could also introduce greater restrictions on initiatives which don’t directly influence core business objectives but are still resubmitted year after year. Indeed, only 5 percent of the measures introduced received majority support from shareholders in 2017, down from 11 percent two years prior.
It is important to acknowledge that these proposals are not without cost. Public companies devote significant resources to analyzing the merits and impact of each proposal; anecdotal evidence suggests that corporate managers spend upwards of $150,000 per measure. Given that the biggest companies typically face 15 or more proposals each year, that equates to more than $2 million worth of valuable time being diverted from management’s core fiduciary responsibility to maximize shareholder value.
Regulators could also consider introducing restrictions on how often failed proposals can be resubmitted. At present, the same nuisance initiatives are introduced year in, year out regardless of their chance of success. A cooling-off period for proposals that don’t meet basic thresholds of support after three years would be a good starting point.
Finally, third-party, “black box” proxy advisory firms that provide shareholders with advice on whether they should support each individual vote should be reined in. At present, these companies act with very little oversight, so regulations requiring them to be more transparent about potential conflicts of interest between the advice they give and how they make money are essential.
These three recommended measures represent a win-win proposition and would revitalize the pipeline of companies going public while simultaneously protecting the interests of everyday investors. The SEC should consider giving them priority if it wishes to genuinely turn around the fortunes of America’s retail investment community.
Mark J. Perry (@Mark_J_Perry) is a contributor to the Washington Examiner’s Beltway Confidential blog. He is a scholar at the American Enterprise Institute and a professor of economics and finance at the University of Michigan’s Flint campus.
