The IPO Week in Review - 7/9

7/16/12 – The Senate Subcommittee on Securities held a hearing to examine the initial public offering process and whether it is working for ordinary investors. Subcommittee Chair Jack Reed (D-RI) expressed misgivings about the JOBS Act’s weakening of key investor protections and its allowance for more shell companies and reverse merger companies to go public. During the expedited process that attended the adoption of the JOBS Act, Reed said its implications for IPOs were not fully considered.

The subcommittee heard from a panel of witnesses including Dr. Ann Sherman, associate professor of finance at DePaul University; Lise Buyer, founder and principal of Class V Group, LLC; Joel Trotter, a partner at Latham & Watkins LLP, and Ilan Moscovitz, a senior analyst at the Motley Fool.

Sherman said she has concerns about the role of the individual under the JOBS Act crowdfunding provision and asked who will conduct the due diligence. Fraud is a huge issue, she said, and the provision could prove to be a disaster for ordinary investors.

Buyer said that with IPOs there are always winners and losers. Initial investors in IPOs are speculators, in her view. She said that every IPO investor should be required to acknowledge that the shares may trade up or down from the initial offering price.

IPO Vital Signs statistics indicate that in the first half of 2012, 17 of the 79 IPOs closed their first trading day below the offer price. Two remained even and 57 gained in value on their first day of public trading. Pricing information was not available for the three deals that issued units.

Year	# of IPOs	# of IPOs with First-Day Gain	% of IPOs with First-Day Gain	# of IPOs with First-Day Loss	% of IPOs with First-Day Loss
2012*	79	57	72.2%	17	21.5%
*2011*	145	75	51.7%	39	26.9%
*2010*	168	89	53.0%	47	27.9%
*2009*	63	38	60.3%	16	25.4%
*2008*	51	10	19.6%	13	27.4%
*2007*	282	131	46.5%	43	15.2%
*2006*	246	127	51.6%	40	16.3%
*2005*	234	104	44.4%	37	15.8%

Buyer suggested that one way to level the playing field between ordinary investors and sophisticated investors would be to offer an online question and answer session following a company’s electronic roadshow. Buyer has significant concerns with the JOBS Act which, in her view, reduces transparency and rolls back important investor protections. She recommended that Congress revisit certain of the Act’s provisions.

Trotter said the JOBS Act on-ramp provision is an important aid to going public. In his view, the best way to help the initial offering process is to focus on the disclosure of material information. IPOs can run over 200 pages, he said, and can be filled with an avalanche of trivial information. Risk is a simple fact of economic life. Not all IPOs succeed, but Trotter said investors must have the opportunity to take risks.

Moscovitz said the main problem with IPOs is the uneven balance between information and access. Insiders, underwriters and their favored clients have access to better information. There is also an uneven access to the shares. By the time an individual investor can buy IPO shares, the price often has increased significantly. He believes the JOBS Act will make matters worse by lowering the bar to going public. There will be less information available to ordinary investors and lower quality IPOs, in his view.

Moscovitz recommended the extension of Regulation FD to the IPO process to improve the flow of information. He also said that a more inclusive allocation of shares should be required. Moscovitz called on Congress to fix the most troubling parts of the JOBS Act, such as decreasing the threshold for the definition of an emerging growth company, which needlessly encompasses nearly all IPOs.

Sherman agreed about the importance of leveling the playing field with information. She agreed with Buyer’s suggestion about offering a Q&A to investors after a roadshow.

Buyer noted that investors now participate in IPOs through their mutual funds and other institutional investors which provide expert services. She said the equal distribution of information is difficult, but also noted that everyone had access to the news that General Motors was pulling its ads from Facebook prior to its IPO and the news did not affect investor interest. She added that price estimates are given by underwriters to clients who pay for that information.

Reed pointed out that there is nothing in the JOBS Act that requires the creation of jobs. In his view, a company with $1 billion in market capitalization should be able to afford to have its internal controls audited. Trotter responded that an IPO task force recommended a permanent exclusion from Sarbanes-Oxley Act Section 404(b) for companies with up to $1 billion in market capitalization, rather than the temporary exemption offered under the JOBS Act (IPO Vital Signs Subscribers see #434. Market Capitalization). Reed said the provision may have been more generous than necessary.

Moscovitz addressed Reed’s concerns about the creation of job-free companies such as blank check companies. He said that regulators should carefully monitor the purpose for which emerging growth companies are being used. Moscovitz pointed to recent problems with Chinese companies and the dramatic drop in their share prices once the issues came to light. Now the first thing one considers is whether a Chinese company is engaged in fraud, he said.

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