A frequent lament these days is the decline in the number of IPOs and public companies generally, with much of the discussion—particularly at the agency and Congressional levels—focused on the adverse impact of increased regulatory burden. (See this PubCo post.) In December 2015, Congress directed the SEC’s Division of Economic and Risk Analysis to assess the impact of Dodd-Frank and other financial regulations on access to capital for consumers, investors and businesses and market liquidity, including U.S. Treasury and corporate debt markets. The staff of DERA has now issued its report to Congress on Access to Capital and Market Liquidity. The report begins with a gigantic caveat: it’s really challenging to determine the effects of changes in regulations. At the end of the day, DERA did not pinpoint any “causal relationship” between Dodd-Frank and developments in the capital markets, emphasizing instead that the volume of IPOs has historically ebbed and flowed, with many contributing factors influencing IPO dynamics.
Why such a challenge? According to DERA, establishing causality with respect to Dodd-Frank or the JOBS Act was difficult “because so many other factors could affect the primary capital markets—factors for which we cannot control.” For example, post-reform macroeconomic conditions, such as the economic recovery and low interest rates, were different from those leading up to and right after the financial crisis. The report also recognized the possibility that “many of the observed changes in market participant behaviors would have occurred absent the reforms.” Utimately, with regard to Dodd-Frank and the JOBS Act, DERA found it
“difficult to pinpoint any causal relationship between the passage of either regulation as a whole or the implementation of different provisions, and developments in the capital markets. More generally, it is important to note that issuers will choose the type of offering that is optimal from their point of view in terms of costs and benefits. Those costs and benefits may depend on the current regulatory environment but will also depend on various other factors such as the general state of the economy, interest rate cycles, etc. For example, prior economic studies document the presence of hot and cold markets for registered equity offerings. These hot and cold markets are driven by macroeconomic factors, changes in the level of information asymmetry between investors and issuers, and changes in investor sentiment. It is also possible that registered and exempt capital markets will respond differently to these factors, and may function as either substitutes or complements. For example, it is possible that when registered markets are cold companies switch to exempt capital markets, and vice versa. Alternatively, a hot registered market could prompt companies to seek additional financing from exempt markets in preparation of future public offerings.”
With regard to the impact of Dodd-Frank, DERA could not determine whether Dodd-Frank “notably affected” IPO activity. DERA observed that several of the executive compensation disclosure provisions of Dodd-Frank were not even implemented in the sample period, and several of its other provisions did not apply to EGCs following the enactment of the JOBS Act. And, while the JOBS Act “may have had a positive effect on IPO activity,… the observed effects are also generally consistent with higher issuance in strong macroeconomic conditions.” Similarly, the decline in IPOs during 2015 and 2016 was “consistent with changes in investor demand, market saturation and the increased availability of private funding and other alternatives for exit.” Ultimately, with regard to IPOs, DERA recognized that capital raised through IPOs “ebbs and flows over time, reaching highs in 1999, 2007 and 2014, and lows in 2003, 2008, and 2016. It is difficult to disentangle the many contributing factors that influence IPO dynamics.”
DERA also reported that “[r]ecent years have seen an increase in the number of small company IPOs. IPOs with proceeds up to $30 million accounted for approximately 17% of the total number of IPOs in the period 2007-2011 and 22% in the period 2012-2016, following the passage of the JOBS Act in 2012.”
Curiously, others have reported a recent deep decline in the number of smaller IPOs. In remarks delivered in May, SEC Commissioner Michael Piwowar observed that the “substantial drop in the number of IPOs in the United States is primarily driven by the disappearance of small IPOs. In the 1980s and 1990s, IPOs with proceeds of less than $30 million constituted approximately 60 percent and 30 percent, respectively, of all IPOs. In fact, some of the most iconic and innovative U.S. companies… entered the public market as small IPOs. This trend reversed in the 2000s. IPOs with proceeds less than $30 million accounted for only 10 percent of all IPOs in the period 2000-2015. By comparison, large IPOs have increased from 13 percent in the 1990s to approximately 45 percent of all IPOs since then.”
Some of DERA’s other findings are set forth below:
- The report did “not find that total primary market security issuance is lower after the enactment of the Dodd-Frank Act.” Total capital formation (primary issuances of debt, equity and asset-backed securities) from the signing into law of Dodd-Frank in 2010 through the end of 2016 was approximately $20.20 trillion, of which $8.8 trillion was raised through registered offerings, and $11.38 trillion was raised through unregistered offerings.
- In 2016, more than 75% of IPO issuers were classified as EGCs.
- Total registered issuances in the U.S. increased steadily from 2011 through 2016, from $1.42 trillion in 2015 to $1.49 trillion in 2016. In addition, the period 2013 to 2016 “witnessed the largest registered issuance in the U.S. for the last 11 years.
- Unregistered issuances of debt and equity increased from $1.16 trillion in 2009 to $1.87 trillion in 2015, falling to $1.68 trillion in 2016.
- Amounts raised through exempt securities offerings of debt and equity for 2012 through 2016 combined exceeded amounts raised through registered offerings of debt and equity over the same time period by approximately 26%. In comparison, the same figure for 2009 through 2011 was 21.6%.
- Amounts raised in reliance on the new general solicitation provisions (under Title II of the JOBS Act, implemented in September 2013) represented only 3% of total amounts raised pursuant to Rule 506.
- There was a large increase in Reg A offering activity over the first 18 months after the JOBS Act amendments to Reg A became effective, “with 97 qualified offerings seeking to raise $1.8 billion (compared with about 14 qualified offerings seeking to raise approximately $163.3 million in a typical year during 2005-2016). Issuer reports of amounts raised during 2005 to 2016 indicated that 56 issuers reported raising proceeds in Reg A offerings aggregating $314.6 million.
- Initial evidence on JOBS Act crowdfunding activity suggests that some very early-stage companies are beginning to use crowdfunding to conduct offerings. Between May 16, 2016, and December 31, 2016, there were 163 unique offerings by 156 issuers, 28 of which reported meeting their targets. The median offering during that period targeted approximately $53,000, with an average of $110,000. Of the offerings that reported having raised at least the target amount, the median amount reported raised was notably larger, at approximately $171,000, with an average of $290,000.
- In U.S. Treasury markets, DERA saw “no empirical evidence consistent with the hypothesis that liquidity has deteriorated after regulatory reforms.”
- In corporate bond markets, DERA found that “trading activity and average transaction costs have generally improved or remained flat. More corporate bond issues traded after regulatory changes than in any prior sample period.”