In the wake of a sweeping financial crisis that crippled U.S. capital markets and left millions of Americans out of work, Congress passed the Jumpstart Our Business Startups Act in 2012 to revitalize the economy. Commonly known as the “JOBS Act,” the statute was intended to create jobs for Americans by improving access to public capital for private companies contemplating an initial public offering (“IPO”). Indeed, a task force convened by the U.S. Treasury Department determined that over the last two decades, firms less than five years old accounted for all net domestic job growth. However, the same task force also reported a precipitous drop in the number of IPOs beginning in 2001: between 1991 and 2001, 530 companies per year on average made IPOs, but between 2001 and 2008, that number fell to 157 companies per year on average. Consultants concluded that the deterioration of the IPO market had cost the American economy up to 22 million jobs through 2008. Recognizing the importance of understanding the reasons behind the IPO crisis, the task force studied the conditions leading to the collapse of the IPO market. It concluded that regulations had increased the cost of conducting an IPO, and that the rise of high frequency algorithmic trading after decimalization and the 2003 Global Analyst Settlement had shifted the economic incentives away from much needed analyst coverage of emerging companies.
Acclaimed as an “IPO On-Ramp,” Title I of the JOBS Act is championed by its supporters as a response to the problems identified by the task force by providing scaled regulations and exemptions from the securities laws. Central to Title I is the “emerging growth company” (“EGC”), a new class of issuer with total revenues of less than $1 billion, which benefits from the regulatory relief provided by Title I. However, in using $1 billion in annual gross revenues as a basis for qualifying as an EGC, Title I recklessly ensures that all but the very largest companies will be able to benefit from its provisions without making the usual kinds of important disclosures applicable to public reporting companies. Indeed, former SEC Chairman Mary Schapiro was critical of the $1 billion threshold, remarking that “[a]lower annual revenue threshold would pose less risk to investors and would more appropriately focus benefits provided by the new provisions on those smaller businesses that are the engine of growth for our economy….” Indeed, while companies involved in IPOs of over $50 million have continued to enter the public capital markets successfully, smaller companies’ IPOs have “effectively disappeared.” Thus, on a fundamental level, Title I is ill-conceived.
Unfortunately, the so-called “IPO On-Ramp” has done little to stimulate the U.S. IPO market. In the year since its passing, IPOs have fallen 21%, from 80 last year to 63 this year. Instead, Title I has been a haven for misuse as companies like Goldman Sachs are exploiting the JOBS Act by creating shell, or “blank check”, companies for the purposes of skirting important restrictions on proprietary trading by commercial banks. Other shell companies have embarked on more fraudulent schemes to deceive investors under Title I of the JOBS Act, drawing the ire of the SEC. Industry experts like Columbia Law School Professor John Coffee predicted that Title I would create new opportunities for fraud and other financial crimes in the market. Perhaps unsurprisingly, he has affectionately dubbed the JOBS Act, the “boiler room legalization act” as an ode to the fraudulent practices that marked the 1980s.
Critics of the “IPO On-Ramp” claim its fundamental premise – that the costs of making an IPO are dissuading companies from entering the public markets – is flawed and that more structural changes are needed. Coffee suggests reducing underwriting costs may incentivize issuers to conduct more public offerings. However, the JOBS Act is silent on these issues. Instead, Title I is largely oriented around disclosure and regulatory costs, including elimination of the auditor-attestation requirement under § 404(b) of the Sarbanes-Oxley Act, because it ostensibly raises the costs of registration and, in so doing, dissuades small companies from going public. However, as Barbara Roper, Director of Investor Protection at the Consumer Federation of America, has noted, “[i]t is particularly troubling that [the JOBS Act]continues to scapegoat SOX 404(b) for a drop-off in small company IPOs that cannot in good conscience be laid at its door.” Thus, blaming § 404(b) is misplaced and should not be a guiding star as Congress tries to conjure up new ways to stimulate IPOs and job growth.
Ultimately, Title I of the JOBS Act has been a nearly unmitigated failure. It eliminated important investor protections ostensibly to encourage more companies to engage in IPOs and thus generate jobs. A year later, however, the total number of IPOs has decreased 20% and unemployment is still over 7%. Thus, while other aspects of the JOBS Act have yet to be implemented by the SEC, it is clear at this early juncture that the Act’s “IPO On-Ramp” desperately needs an off-ramp.