Fine Solution Seeks Material Problem

Every now and then, a policy idea comes along that is so bipartisan even presidents with otherwise opposing views say it would be a big win. One is in the headlines now, with President Donald Trump throwing his support behind an upstart stock exchange’s push to get the SEC to reduce earnings reporting requirements for US companies from quarterly to semiannual. Former President Barack Obama also raised this issue when he was in office, and people universally seem to agree it would reduce compliance costs and make it a little easier to be a publicly traded company—perhaps arresting the US’s long-running decline in listed firms. To us, it seems like an overall benign idea whose potential benefits are probably overstated.

The decline in the number of publicly traded companies is a conundrum politicians have been trying to solve for many years, and it is easy to understand why. In 1998, according to Finaeon, the Wilshire 5000—which aims to capture every publicly traded US company—had 7,562 companies.^[i] Now it holds only around 3,500, less than half the peak.^[ii] This gives the perception of investors having fewer opportunities to participate in American capitalism’s big rewards (we will get to this shortly). And most everyone agrees cumbersome compliance requirements are why. Not just earnings reporting requirements, but all the I-dotting and T-crossing that goes into them, as well as myriad disclosure requirements and the criminal penalties for inaccuracy that 2002’s Sarbanes-Oxley Act introduced.

Past administrations have tried to address this. Most notably, 2012’s Jumpstart Our Business Startups (JOBS) act relaxed disclosure requirements for certain fast-growing startups to make it easier for them to go public. That helped in theory, but it applied only to issuers with annual gross revenues below $1 billion, rendering it small in scope and leaving hurdles intact as companies grew. The boom in special purpose acquisition companies in 2021 was more of a grassroots workaround, as it enabled startups to go public by merging with a publicly traded shell company and taking over that listing, skirting initial public offering reporting requirements and limitations. That worked well enough in theory, and there was a listing flurry. But most of those companies flamed out pretty fast, and the trend cooled with them. It doesn’t appear to be a lasting solution.

Hence, attention is shifting toward quarterly reporting. An upstart stock exchange marketing itself as a destination for firms focused on long-term investment rather than maximizing the next quarter’s earnings is campaigning to reduce the SEC’s reporting requirements—not just for its constituents, but for all listed companies. The SEC is reportedly amenable, but it won’t be an instant change. Any proposal would go through the normal public comment period, with the agency soliciting opinions for and against, and any rules would be released in draft form for more comment before finalization. So this will all unfold and air out publicly, if the past is a guide.

We can see some potential benefits if this were to happen, but we wouldn’t overstate it. We can explore this through the lens of two articles, both of which support easing requirements to varying degrees of enthusiasm. The first, from economist Allison Schrager at Bloomberg, makes several salient points. For one, the market values disclosure, and companies tend to be pretty good at giving the market what it wants. While the UK changed earnings reporting requirements from quarterly to semiannual in 2014, “90% of UK companies continued to report quarterly.” Yet of the 10% that didn’t, most were smaller and probably reaped some benefits. “In 2016, audit costs alone (includes quarterly and annual reporting) accounted for 0.05% of revenue of large firms and 0.33% for small firms. Most of that cost is the annual report, which firms would still have to produce, but these are only audit costs. There is also the time senior staff must devote to the reports and earnings calls, which is a larger drain on firms with fewer employees.”^[iii]

Schrager goes on to note that “increased compliance costs with regulations that were added following the Enron bankruptcy and the financial crisis,” namely Sarbanes-Oxley, are also large deterrents to going public. Reducing earnings reporting requirements probably wouldn’t overcome this. We would add that the UK’s experience also shows this isn’t guaranteed to halt the decline in listed companies. The London Stock Exchange has endured a steady exodus for years, to great public and political angst, despite its easier earnings regime.

Yet we don’t think this is as big a problem as some imply. A representative piece here is a New York Times op-ed by University of Calgary legal professor Bryce C. Tingle, which explores some purported implications. It discusses more of the reporting requirements that likely contributed to companies’ hesitance to go public, including “one-size-fits-all” corporate governance standards imposed from on high. We also think it is right to note regulations make it more attractive for a growing startup to sell itself to a larger company than go public, which can reduce competition and consumer choice. But then it veers into an argument we have seen a lot: “Most everyday investors can no longer buy into some of the country’s fastest-growing businesses.”^[iv] In fleshing this out, it claims investors with access to private funds get all the best opportunities, while retail investors get the dregs in an increasingly concentrated and overregulated public market.

That greatly oversimplifies things, ignoring that publicly traded markets have performed well—in keeping with historical returns—despite the decline in constituent count. It also ignores the simple truth that most startups fail and most IPOs fizzle. University of Florida Professor Jay Ritter has compiled an absolute treasure trove of data showing that while a few highfliers get a lot of attention, returns for newly public companies are overall pretty humdrum. Perhaps private equity and corporate acquirers are actually absorbing losses for society, not siphoning profits. That is unprovable, but it is a hypothesis we don’t think gets enough attention.

Lastly, something most miss: Stock prices move on supply and demand. The decline in listed US companies is one sign of overall limited supply, which helps lift prices. It isn’t the sole determinant. Per-company share count matters a lot, and for that you must get into the nitty gritty of buybacks and secondary offerings. But the sheer drop in the number of listed stocks means investors are bidding for a smaller pool. All else equal, that supports prices and returns.