Facebook troubles take the steam out of bid to loosen IPO rules
WASHINGTON — There was so much support in Washington two months ago for loosening rules on initial public offerings that Republicans and Democrats effortlessly passed a bill making it easier for smaller companies to raise money on Wall Street.
Now Facebook Inc.’s IPO debacle could erode that enthusiasm.
As regulators and congressional committees review whether a reduced revenue forecast was improperly released only to certain large Facebook investors, some lawmakers and consumer advocates also are pushing for a thorough review of IPO rules with an eye toward tightening them.
“We don’t need to make it easier for companies to go public,” said Barbara Roper, director of investor protection for the Consumer Federation of America. “We need to look at the IPO process to make sure it’s fair.”
Critics are particularly concerned about provisions in the Jumpstart Our Business Startups Act that would grease the IPO skids. Although President Obama signed the measure into law with fanfare, the Securities and Exchange Commission still must adopt detailed regulations implementing the law.
The Facebook IPO has “raised a whole set of questions, not just about the provisions of the JOBS Act, but about IPOs in general,” said Sen. Jack Reed (D-R.I.), chairman of the Senate Banking Committee’s subcommittee on securities, insurance and investment.
“Are the rules up-to-date and do they adequately protect retail investors, who might not have the same access to information?” he said.
The Senate Banking Committee’s initial look into the Facebook IPO, announced last week, will help determine whether changes need to be proposed, Reed said.
The JOBS Act applies only to companies with less than $1 billion in annual revenue, so it would not affect Facebook, which reported $3.7 billion in revenue last year.
But the problems with the social network’s offering, including questions about how important information was shared with the public, go to the heart of changes in the new law.
In the days before the offering, Morgan Stanley & Co. and the large Wall Street banks that underwrote the Facebook IPO issued warnings to top clients that their analysts had lowered their expectations for Facebook’s revenue growth this year. But the information was not shared with retail clients or the public.
In easing the process for smaller companies to go public, the JOBS Act removes a so-called quiet period that had prevented analysts at an investment bank underwriting an IPO from issuing research reports that could hype the stock.
Supporters of the law argued that the restrictions needed to be removed because outside analysts don’t cover many smaller companies and an underwriter’s analysis could be the only forward-looking information that potential investors could get.
But the changes to the quiet period and the loosening of other rules drew concerns from current and past regulators as Congress was considering the JOBS Act this year.
Former New York Atty. Gen. Eliot Spitzer, who gained fame by pursuing Wall Street wrongdoing, said the law should be called “The Return Fraud to Wall Street in One Easy Step Act.” And SEC Chairwoman Mary Schapiro warned key lawmakers that the definition of emerging-growth companies was “so broad that it would eliminate important protections for investors in even very large companies.”
Still, Congress approved the JOBS Act in late March.
Anthony Sabino, a law professor at St. John’s University in New York, said there were good reasons to loosen some IPO rules for small companies.
“One of the things that’s hindered capital formation and business development in this country is the threshold for going public,” he said.
The high costs of going public for smaller companies are compounded by the added costs of complying with federal regulations. Many must meet the same accounting and corporate governance standards as the largest companies do.
The problems of the Facebook IPO don’t mean that there should be new rules, just tougher enforcement of existing rules to prevent abuses, Sabino said.
But Rep. Maxine Waters (D-Los Angeles), a senior member of the House Financial Services Committee, said the Facebook IPO has raised concerns that Congress should examine.
Those issues, she said, include “the erosion of the firewall between analysts and underwriters at investment banks, which I think will undermine the basic integrity of IPO-related research.”
Firewall rules stemmed from a 2003 Spitzer-led settlement with 10 major investment banking firms. In the $1.4-billion agreement, the firms agreed to set up a wall between their analysis divisions and their investment banking units. The settlement was a response to allegations that analysts issued favorable reports on companies to lure investment banking business during the dot.com market boom.
The Consumer Federation’s Roper and a coalition of other consumer advocates are pushing the SEC to be tough when it drafts rules based on the JOBS Act.
For example, the law removes a prohibition on smaller companies advertising for investors in private stock offerings. The only limitation is that companies issuing stock must take “reasonable steps” to determine that buyers are “accredited investors.”
And companies should need only a “reasonable belief” that the investor is accredited, the trade group Securities Industry and Financial Markets Assn. has argued to the SEC.
The consumer coalition, however, wants the SEC to require companies to do more than just take a buyer’s word.
“Maybe the Facebook experience will cause the SEC to be more careful in their attention to investor protections than they might otherwise have been” in drafting new regulations, Roper said.
A spokesman for the SEC said the agency was still reviewing issues related to Facebook’s IPO and could not comment on how it might affect implementation of the JOBS Act.
But Sen. Reed said he hoped that Facebook’s IPO problems would weigh on the SEC as it drafts new rules.
“I’d hope they’d use their discretion to balance not only capital formation but also protecting investors,” he said. “That is their traditional responsibility.”
