JOBS Act Falls Short on IPO Markets

The JOBS Act appears to be a long-overdue Sarbanes–Oxley reform aimed at middle-sized businesses. It needs to be much, much more.

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Joseph Mason is the Moyse/LBA Chair of Banking at the Ourso School of Business at Louisiana State University and a senior fellow at the Wharton School of the University of Pennsylvania.

The JOBS Act appears to be a long-overdue Sarbanes–Oxley reform aimed at middle-sized businesses. It needs to be much, much more.

Indeed, it was meant to be much more when the roots of this bill were recommended by the National Venture Capital Association's IPO Task Force:

In March 2011, the U.S. Treasury Department convened the Access to Capital Conference to gather insights from capital markets participants and solicit recommendations for how to restore access to capital for small companies, including public capital through the IPO market. Arising from of one of the conference's working group conversations, a small group of professionals representing the entire emerging growth company ecosystem—venture capitalists, experienced CEOs, public investors, securities lawyers, academicians and investment bankers—formed the IPO Task Force. Their report, Rebuilding the IPO On-Ramp: Putting Emerging Growth Companies and the Job Market Back on the Road to Growth, examines the challenges that emerging growth companies face in pursuing an IPO and provides recommendations for helping such companies access the capital they need to generate jobs and growth for the U.S. economy and to expand their businesses globally.

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Right now, IPO markets are shutdown anyway, so reducing slightly the costs of public incorporation can be expected to have little effect on business growth and economic recovery. The task force recognized that in its October 2011 report, suggesting that Congress [emphasis added]:

Provide an 'On-Ramp' for emerging growth companies using existing principles of scaled regulation. To reduce costs for companies trying to go public while still adhering to the first principle of investor protection, the task force recommends that companies with total annual gross revenue of less than $1 billion at IPO registration and not recognized by the SEC as 'well-known seasoned issuers' be given up to five years from the date of their IPOs to scale up to full compliance. The scaled regulations are limited to those areas of compliance that are high cost and which do not compromise investor protection or disclosure. This On-Ramp status is designed to be temporary for the company and transitional, impacting only an estimated 14 percent of companies and three percent total market capitalization today.

Congress knocked five years down to three, but otherwise this provision survives the legislation.

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Still, the task force recognized that increasing access to IPO finance was only part of the answer. Given recent market disruptions, reduced regulatory burdens would have to be offset by increased information about IPOs. Thus the second pillar of the task force's findings is to:

Improve the availability and flow of information for investors. To increase visibility for emerging growth companies while maintaining transparency and consistency for investors, the task force recommends improving the flow of information about emerging growth companies to investors before and after an IPO. These policies should account for modern-day communications channels and practices by recognizing a greater role for research during the capital formation process, enacting modifications to existing restrictions on banking research, and expanding permissible pre-filing communications.

This recommendation is key to offsetting the deregulatory effect and is key to increasing market efficiency. Only section 105 of the legislation, as it passed the House, addresses such information, but the provision is likely to be contentious as it lowers the bar for pre-IPO investment analysis and dissemination in ways that many may feel runs counter to investment research restrictions enacted in the 1990s.

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Moreover, incorporation double-taxes earnings at one of the highest corporate tax rates in the world, which the administration has threatened to increase further. The task force recognized that and suggested that Congress:

Lower the capital gains tax rate for investors who purchase shares in an IPO and hold these shares for a minimum of two years. Recent regulations and subsequent changes in related market practices have made it more difficult for long-term investors to gain access to emerging growth company stocks. From the issuer's perspective, it is especially critical for emerging growth IPOs to attract such long-term investors at the initial allocation because that determines how much capital the company raises through the IPO. The capital gains tax rate has served as an effective tool for encouraging and rewarding long-term investing for decades, so this action would be consistent with current practice.

Decreasing capital gains taxes, however, will most likely never see the light of day in Congress.

So, again, we have Congress taking one-third of a holistic proposal to increase capital market efficiency and expecting that mere fraction to generate positive results for economic growth and market efficiency. But by choosing what they like, politically, and leaving the rest on the table Congress again passes by the opportunity to make reforms can truly enhance market efficiency and create jobs, resulting in legislation that is likely to achieve neither.

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