Author: Brenden Glapion | UC Berkeley School of Law | J.D. Candidate 2020 | Posted: January 22nd, 2019 | Download PDF
In March of 2017, the number of publicly traded domestic companies listed on U.S. stock exchanges had hit its twenty year low of approximately three thousand, six hundred companies. Twenty years earlier the number was almost double in June of 1997 with seven thousand, six hundred publicly traded U.S. companies. Naturally, the decline in public companies and initial public offerings over this twenty year period was accompanied by a large growth in privately held companies. This decline not only resulted in an increase in private companies, but also an increase in “bigger” publicly held companies as a result of mergers and acquisitions and technological innovation. For example, at its peak, Alphabet, Google’s parent company, engaged in nearly one acquisition a week.
This shift within the market to more private companies and larger public companies has the potential to have a profound effect on corporate social responsibility and “ESG”. By examining this phenomena through the lens of investors and corporate governance we can witness this effect. In terms of investors and investments, the increase in private companies inevitably leads to a decrease in the number of investment opportunities for individuals; instead of seven thousand potential investment opportunities in 1997 there was only three thousand in 2017. Continually, the increase in bigger public companies with higher stock prices constrains the opportunity to invest in small stocks that are typically more risky, but also have the potential for higher gains. For example, instead of having a diversified portfolio of Glad, Bounty, or Gillette, one must buy into a single stock of Proctor and Gamble. The ability to invest in a private company often is not open to the average investor, but usually only venture capital or private equity funds and angel investors. In effect, average investors can be crowded out of the market or have their investment opportunities constrained as a result of this shift.
Sustainable corporate governance issues are also implicated in this shift toward private companies. The most immediate difference in governance between public and private companies is that control in private companies is in hands of fewer individuals. In contrast, ownership is public companies can be purchased by essentially anyone through public exchanges. For example, Clif Bar, a privately held company, has its ownership split with 80% to its founders and 20% in its employee stock ownership plan. Its board of directors is also only comprised of three individuals; the general counsel and two co-founders. Similarly, Patagonia, a billion dollar company, is entirely owned by Yvon Chouinard, the founder, and his family.. Corporate structures like these allow for greater efficiency and fewer cooks in the kitchen, but in return there is a great concentration of power with the ability for a few individuals to control billion dollar companies. In the case of Clif Bar and Patagonia this allows for flexibility in engaging on social issues, for example Patagonia’s current lawsuit against the Trump Administration. However, there is also the risk that private companies will wield their economic power in pursuit of private gain or to advance their own social causes.. Koch Industries, net worth $110 billion, is one of the largest private companies in the U.S., have been very engaged in politics dedicating a significant amount of money to Republican candidates in the 2018 election cycle. Private corporations also lack the requisite check on their accountability that shareholder voting and activism provides in public companies. In corporate democracy, as in the governments, the lack of a check mechanism can lead to abuses in power and lack of accountability.
Company reporting and SEC regulation is another potential sustainability issue that may be exposed in the movement toward private companies. Public companies are required to disclose quarterly and annual reports which include financial statements, business results, and potential risk factors to the business. All of which is open to the public and creates more transparency for investors. Private companies however are not subject to as intense scrutiny and regulation by the SEC. As a result there is a lot less information on private companies and their internal dealings. For example, Alphabet, which owns Youtube, has never given sales figures or revenue for its subsidiary, but regularly boasts to investors abouts its financial health and potential for growth. Disclosure rules help prevent systemic risk and widespread fraud and accordingly improve corporate governance. The recent Theranos fraud scandal highlights the potential risks that can result from a lack of transparency or government oversight in a private company.
The recent movement toward greater private ownership of corporations has had a great effect on public markets and finance throughout the country. Additionally, this movement also implicates sustainability issues in creating less transparency and variety for investors and concentrating capital in the hands of a powerful few.