The future of the public company

Facebook has listed on the stockmarket. Meanwhile, Plus, the market for small-cap shares, has closed. What does the future hold for publicly traded firms? Matthew Partridge reports.

What’s the issue?

The launch of Facebook on Nasdaq last week made headlines around the world. At the same time, to much less of a fanfare, the Plus Markets Group, a British-based exchange for 156 listed firms, said it would wind down its operations. It blamed increased regulation and a lack of firms wanting to float on the stockmarket.

The closure of a relatively small market like this matters because it hints at a wider issue: that public markets are increasingly unattractive to firms and investors. According to MarketWatch, a recent study found “the volume of initial public offerings in the US fell nearly 70% in the past decade from the average volume in the prior two decades”.

Meanwhile, The Economist thinks that “public companies are in danger of becoming like a fading London club. Their membership is falling. They spend their time fussing over club rules. And, as they peer out of the window, they see the bright young things heading elsewhere.”

Why are fewer companies going public?

A cocktail of factors is to blame. The Economist cites the increase in regulation – following the corporate scandals of the late 1990s – for pushing up costs. “Lawyers and accountants are increasingly specialised and expensive; bankers are less willing to take them public; qualified directors are harder to find, since even “non-execs” can go to prison if they sign false accounts.”

It also blames insiders for making firms unattractive to investors by rigging share voting structures to ensure they retain control, even after flotation. Another issue is the increasingly hostile public scrutiny of directors’ performance, pay and perks that comes with being a public firm. Meanwhile, Mercurynews.com says that investment banks must take their share of the flack for the diminishing number of initial public share offerings (IPOs).

Are the banks to blame?

The so-called “bulge bracket” banks are accused of only being interested in taking big companies public. “The shift from boutique banks to larger financial institutions has contributed to the average number of annual American stock offerings dropping from more than 300 in the 1980s and 1990s to fewer than 100 since 2000. Banks increasingly only find it worth their while underwriting share issues by big firms. These can be marketed to their key clients (many fund managers are obliged to hold certain stocks within their portfolios) relatively easily and thus carry less risk of failure.

So how else do firms raise cash? As Brian Hamilton says in The Washington Post, most firms are not quoted. “Out of the 27 million businesses in America, most are already privately held, and they drive the lion’s share of economic growth and jobs.” Recent US legislation, the JOBS Act, will make it even easier for them to raise money, without going public.

Indeed, “the law paves the way for small and medium-size companies to gain access to new sources of capital (up to $1m in a 12-month period) without going to the public markets. They can use a ‘funding portal’ – a specialist broker who offloads shares to private investors, including venture capitalists. New forms of organisation developed in Western markets, notes The Economist, give partnerships and sole traders the legal protection, such as limited liability, enjoyed by corporations.

 

Is this good for the wider economy?

Hamilton is unconcerned about the fall in the number of public firms. “Companies will always need capital, and investors will always want investments, so as long as there are available avenues for both, the decline in the number of public companies shouldn’t be a big issue.”

The Guardian argues that the demands of shareholders can make firms too focused on the short term. “Public companies have to be accountable, and that accountability often means lopping off freewheeling, creative endeavours that you hope will make money and concentrating on making cash with what you have.”

So the decline of the public company doesn’t matter? Felix Salmon at Reuters disagrees. Even if private firms are more efficient, “it’s a good idea for stock ownership to be as broad as possible”. It’s important that as many of us as possible “share in the prosperity of the country as a whole by being able to invest in the stockmarket”.

The Economist agrees – share ownership is a bedrock of “popular capitalism”. A dearth of IPOs “is making it harder for ordinary people to put money into a future Google”. If public markets continue to shrink, long-term savers face an even bigger battle to earn decent returns.

Will the flotation change Facebook?

Facebook’s IPO has enabled many employees and investors to cash in, with the Daily Mail estimating that it has created up to 1,000 millionaires. However, website Mashable emphasises that Facebook’s decision to float will mean that, “almost all its privacy settings are being switched to ‘public’”. “As a private company, Facebook was free to keep plenty of secrets from the general public. Now that Facebook’s selling stock to the wider public, it’s going to have to report to the federal government’s agency for regulating public companies.”

Indeed, Professor James Cox of Duke University thinks that the firm could be forced to “reveal some important proprietary information”. By listing on the stock exchange, “Facebook is really stepping into a regulatory ball of wax”. The Guardian also warns that “from now on Facebook will have to do its innovating in public, and will be answerable to shareholders as well as its users”.