Monday, March 9, 2020
Friend of the BLPB and fellow crowdfunding researcher Andrew Schwartz recently posted this article on SSRN: Mandatory Disclosure in Primary Markets, 2019 Utah L. Rev. 1069. I was provoked by the abstract, which reads as follows:
Mandatory disclosure—the idea that companies must be legally required to disclose certain, specified information to public investors—is the first principle of modern securities law. Despite the high costs it imposes, mandatory disclosure has been well defended by legal scholars on two theoretical grounds: ‘Agency costs’ and ‘information underproduction.’ While these two concepts are a good fit for secondary markets (where investors trade securities with one another), this Article shows that they are largely irrelevant in the context of primary markets (where companies offer securities directly to investors). The surprising result is that primary offerings—such as an IPO—may not require mandatory disclosure at all. This profound insight calls into question the fundamental premises of the Securities Act of 1933 and similar laws governing primary offerings around the world. Reform of these rules could lead to a new age of simplified, low-cost primary offerings to the public, something that is already happening in New Zealand through its equity crowdfunding market.
As someone who believes that federal law should provide an exemption for small crowdfunded offerings (although current rule-making proposals instead look to ratchet up the aggregate offering prices for the federal crowdfunding exemption) with lighter mandatory disclosure obligations than those provided for under Title III of the Jumpstart Our Business Startups Act and Regulation Crowdfunding, I found myself very curious about Andrew's paper. So, I skimmed it (since I do not have time to read it in full at the moment). I am glad to see that the article raises a distinction worth more exploration in the mandatory disclosure space--that between primary and secondary offerings. But I admit to some skepticism about the overall thesis as to the lack of value of mandatory disclosure in primary offerings. I hope a thorough review of the paper will provide important information and analyses.
As the abstract and a recent post on the article on The CLS Blue Sky Blog indicate, the paper highlights for attention two of the theoretical values of mandatory disclosure for examination: its positive effects on agency costs and on information underproduction. Given those ostensible focuses, here are a few things I will be looking for as I read:
- An articulation of the different types of agency costs associated with initial public offerings (IPOs) and other primary offerings (as evidenced in the literature) and their relationship to mandatory disclosure obligations, as well as observations on the effects of mandatory and voluntary disclosure on those agency costs;
- A rationale for why other theories supporting mandatory disclosure regulation are seemingly marginalized or omitted in the paper, including (1) standardization to facilitate investor comparisons and contrasts (which it seems is mentioned in a few footnotes) and (2) efficient capital market theory applications in the IPO disclosure context (including, perhaps, those impacting observed underpricing/overpricing market effects); and
- An explanation of the role, if any, of investor sophistication and information access (which, together with mandatory disclosure, have framed analyses of the value of mandatory disclosure since the Court's Ralston Purina decision more than 65 years ago) in the article's analyses and overall thesis.
By quick inspection, it appears that the agency costs addressed are restricted to those borne of a manager-shareholder relationship that relies on a somewhat legalistic, rather than economic, concept of agency that would arise only after investors in the market purchase shares of corporate stock in an offering and become shareholders. I wonder about the role of managers and others as promoters of the offering . . . . Standardization is at least mentioned in a few places. And as to the third bullet point, it looks like the answer the paper proffers is that institutional investors will drive significant voluntary disclosure to be made to all in a manner that gets information to the market efficiently. If that is the argument, I look forward to seeing the evidence.
So, I am curious, but I remain skeptical. I am reserving judgment until I read the article in its entirety! Regardless, this work has my attention, for sure. Let me know if you have read it and, if so, what your reactions are. Andrew also may want to comment.
Independent of the mandatory disclosure arguments, I know that I will enjoy reading about New Zealand's crowdfunding experience. I do find comparative regulatory work like this very enlightening. I appreciate Andrew adding that to the mix, too.