The JOBS Act, which became law on April 5, 2012, is designed to lessen the burden for small companies to gain access to investor capital in hopes that these firms will drive American job creation. The law is really more of a series of distinct initiatives rather than a cohesive piece of legislation that points in the same direction. This reality is nowhere more apparent than in the contradiction at the heart of the JOBS Act. That is, while Title I of the JOBS Act makes it less burdensome for “emerging growth companies” to conduct an initial public offering, many of those same firms will now, thanks to the JOBS Act, be able to remain private longer. This post will discuss the JOBS Act mechanisms that create this contradiction and offers a possible explanation for why it exists.
In October 2011, the IPO Task Force, a group of industry professionals and academics, released its report on how to get small and emerging growth companies back on the IPO track. The problem, they noted, was that since about 2000, emerging growth company IPOs have declined steadily. They cite data showing that between 1991 and 2000, approximately 2,000 emerging growth companies went public compared with just 477 between 2001 and 2010. The problem, according to the report, is that emerging growth company IPOs are a significant job creation mechanism within the US economy. The report states that 92 percent of job growth occurs after a firm’s IPO, the thinking being that when firms access the deep public markets, they have significant capital to build infrastructure and hire new employees. What’s more, the report notes that M&A events (which have become more common for small private firms) are not the significant job creator that IPOs are.
In light of these findings, the IPO task force suggested various reforms aimed at reinvigorating emerging growth company IPOs. Two of the recommendations were implemented in Title I of the JOBS Act: the IPO “on ramp” (which allows firms defined as emerging growth companies to scale up to full SEC compliance) and the liberalization of pre- and post-IPO analyst and research coverage about emerging growth companies available to investors. Title I, therefore, is designed to incentivize small private firms down the path of a public offering by offering them flexibility in compliance requirements as well as early analyst coverage that could enhance the price and liquidity of small firm securities.
Why then, would the JOBS Act simultaneously make it easier for small private firms to stay private longer? I discuss here two primary ways that the JOBS Act accomplishes this seeming contradiction.
Title IV of the JOBS Act, titled “Small Company Capital Formation” is significant in that it makes some relatively big changes to SEC Regulation A. Regulation A, known as a “mini registration” currently permits issuers to sell up to $5 million of their securities within a 12 month period without having to comply with the full registration requirements of the Securities Act of 1933. Title IV raises the ceiling for Regulation A offerings to $50 million as opposed to $5 million, meaning that small firms can ostensibly raise more capital without being a fully “public” company. Title IV will also allow issuers to bypass state securities registration requirements for Regulation A offerings if the securities are either sold on a national securities exchange or are offered or sold to a “qualified purchaser” by a registered broker-dealer (a definition that is yet to be promulgated).
Title V of the JOBS Act, titled “Private Company Flexibility and Growth” allows private firms to refrain from producing yearly, quarterly, and other reports that are mandated by Section 12(g) of the Securities Exchange Act of 1934. It is currently the case that if a firm has a class of securities that is held of record by 500 or more shareholders and has assets of more than $10 million, it must produce various SEC reports as well as other compliance requirements regarding beneficial ownership and short swing trading profits. The JOBS Act will now raise the shareholder threshold to 2,000 (of which no more than 499 can not be accredited investors).
One possible explanation of this internal contradiction is that the JOBS Act was not designed as a cohesive regulatory reform and that it takes a mosaic approach to a variety of problems facing the American economy. Another explanation, however, is that the JOBS Act essentially hedges its bets against the IPO process. If Congress lacks confidence in the viability of the small firm IPO market, they can ensure that private firms will be able to more efficiently access investor capital more. Time will tell whether small firms take advantage of the IPO on ramp or whether they opt to stay private until they can find a strategic buyer. The JOBS Act may succeed in simply making these options available for the choosing.