The past few years have seen the passage of a plethora of laws and reforms designed to impact the behavior of Wall Street firms and the companies they nurture throughout their public (and sometimes private) lifecycles. The combination of more robust accounting laws like Sarbanes-Oxley that force additional disclosure and regulation of organizations, and sell-side reforms designed to make the research activities of Wall Street analysts more objective, have helped restore investor’s confidence in the capital markets.
But government-based regulations and laws are only part of the solution to true capital markets reform. Further change will have to come from organizations themselves, by allowing shareholders to vote their approval or disapproval with their wallets. That’s why Google’s S1 filing in late April is so significant. For virtually all companies going through the IPO process filing an S1, an exhaustive document disclosing detailed financial and business information, is a necessary chore. But Google decided to file its S1 with a twist, including an upfront “letter from the founders” to potential shareholders with the rest of the 150+ page document.
This “owner’s manual” raised a number of flags that signaled Google would not run itself like most public companies. Perhaps most significant of all, Google announced its intentions to float its stock using an auction-based process designed to price the offering at fair market value—based on inputs and bids before the actual pricing of the stock. This type of offering levels the playing field for all potential stockholders, maximizing value for the company, shareholders and regular investors—not just Wall Street firms and large institutional clients who traditionally benefit most from the differential in offering prices to actual trading prices.
Granted, Google is only able to get away with this type of offering because of the unprecedented interest levels in its IPO. But Google’s success is far from assured. Just last week, The Economist noted that “Not only is Google less strong than it looks … [it] is about to face simultaneous onslaughts from two fearsome rivals―Yahoo!, an Internet portal, and Microsoft, computing’s software superpower, which runs an Internet portal of its own.” Clearly, despite the hype surrounding its IPO, Google is no sure bet.
Even if we won’t be shareholders based on The Economist’s warnings, we applaud Google’s efforts at changing a system that traditionally benefited only a select few. Ultimately, this will allow Google to increase shareholder value through investing the cash they would otherwise be leaving on the table in R&D and other activities. If Google’s IPO succeeds, look for other companies to slowly begin to embrace this type of offering in the coming decade.
We believe Google’s spirit of plain talk and open disclosure bodes well for reform in general. In Google’s own words: “As a private company, we have concentrated on the long term, and this has served us well. As a public company, we will do the same. In our opinion, outside pressures too often tempt companies to sacrifice long-term opportunities to meet quarterly market expectations … In Warren Buffett’s words, ‘We won’t ‘smooth’ quarterly or annual results: If earnings figures are lumpy when they reach headquarters, they will be lumpy when they reach you.’” Amen, Google.
We believe a true free market approach to the equity markets, one that puts power in the hands of the market to determine fair value based on open and full disclosure — rather than in the hands of investment bankers with ulterior motives to fatten the pockets of their best clients―is a critical first step in restoring investors’ confidence in the capital markets. It’s time to let the invisible hand do its work.