Securities Regulation Daily Chairman Clayton queries panelists on impact of short-termism
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Thursday, July 18, 2019

Chairman Clayton queries panelists on impact of short-termism

By Mark S. Nelson, J.D.

SEC Chairman Jay Clayton asked panelists at a round table on SEC quarterly reporting requirements and earnings guidance whether long-term thinking was shifting to private markets with consequences for Main Street investors.

The SEC’s Division of Corporation Finance hosted an event titled "Roundtable on Short-Term/Long-Term Management of Public Companies, Our Periodic Reporting System and Regulatory Requirements" at which two groups of panelists discussed the broader issues of whether short-term thinking by companies, often exemplified by quarterly earnings guidance, was having a significant impact on capital markets in the context of the SEC’s reporting system. Chairman Jay Clayton, who participated in the first panel on short-termism, voiced concerns about the impact that an abundance of private capital may have on public markets. A second panel looked more closely at the SEC’s periodic reporting system.

Public vs. private markets. Clayton had begun his opening remarks at the round table by reminding listeners to remember Main Street investors, a familiar theme of his since becoming chairman, because the debate over long-term versus short-term thinking is ultimately about them. (See, e.g., Chairman Clayton’s eight principles of regulation speechin which he stated: "Principle #2: Our analysis starts and ends with the long-term interests of the Main Street investor"). He also noted that the debate is not focused on an exclusive long-term approach because some short-term thinking is needed to foster market liquidity. Still, Clayton said that short-term thinking should not be considered as trade-off for liquidity; rather, SEC rules should promote both liquidity and a long-term view.

Clayton then deviated from his prepared remarks and noted a conversation he had had recently with one of the panelists (Mark Roe, the David Berg Professor of Law at Harvard) in which they had discussed the role of public and private capital. For Clayton, the ongoing shift to private capital (e.g., companies stay private longer) is a key factor potentially affecting Main Street investors. Clayton asked if this trend is acute to public markets regarding capital allocation.

When his time to present arrived, Roe said the question is whether there is an economy-wide impact from short-termism. Roe has published several articles asking the question of whether short-termism has negative impacts (See, e.g., Stock Market Short-Termism’s Impact, an article that appeared in a 2018 edition of the University of Pennsylvania Law Review). Roe said he doubts short-termism is a problem and that few studies have been done on the topic. For example, he suggested that if some companies focus on the short-term, others will pick up the slack. He also said that too much focus on short-term issues could mask other issues.

Moreover, Roe suggested a reply to three factors he said are commonly cited to show the negative impacts of short-termism. According to Roe, one factor is the perception that capital spending is down. He noted that lower capital spending can be seen across the developed world, but less so in the U.S. than in other OECD countries. Second, he said that stock buybacks are related to a massive recapitalization of public companies because of the low interest-rate environment prevalent after the Great Recession. (None of the panelists on the first panel spoke about the possible influence of provisions for stock buybacks contained in the Tax Cuts and Jobs Act enacted in 2017 or the impact of the SEC’s Exchange Act Rule 10b-18, which provides a safe harbor for buybacks; See also, proposed legislation that would curb buybacks).

With respect to a third factor, research and development (R&D), Roe said R&D spending had been rising for 40 years (faster than GDP), and more could be done to spur R&D spending, but that such spending was not down because of short-termism. In reply to a later question from William Hinman, Director of the SEC’s Division of Corporation Finance, Roe suggested that the decline in U.S. R&D spending could be attributed to the decline in government spending on basic research, which he said had filled the void when the private sector would not take on certain research projects.

The lure of private capital. Soon after Roe had explained about the drop in government R&D spending, Clayton interjected that he had just had an aside with Commissioner Elad Roisman, in which Clayton had remarked to Roisman: "Does this sound familiar?" Clayton said he agreed with Roe that overall economic performance was good and that performance could be attributed to robust labor markets, capital markets, and to U.S. managers being better than other managers. Clayton, however, also said he worries the U.S. could be at a point where performance is drifting to private markets with consequences for Main Street investors. Put another way, Clayton suggested that long-term thinking is moving from public markets to private markets.

Clayton further explained that in his experience, being a public company generally was perceived as a step that could make a company a better company because of the rigor investors would apply to the company’s business model. The argument against being public, he said, was that governance was costly and that a public company has less control over its fate. Moreover, Clayton said that disclosure for public companies is not just about providing information to investors but also may say something about how a company manages the timing and substance of its business.

Still, Clayton observed that the benefits of being a public company may be fading for some companies because it is possible for companies to find private capital. According to Clayton, the questions are whether there are forces driving investment and growth to private markets and whether something should be done about that.

Before Clayton and Roisman had to leave the meeting to attend to other business, Clayton reiterated that the debate over short-term and long-term thinking is worthwhile. He also took the opportunity to clarify that by asking hard questions about short-termism, he did not want to stifle innovation for the purpose of levelling public and private markets. But Clayton also said that he does not want for Main Street investors to one day be faced with a market in which they can invest in only 30 percent of all companies and where participants in private markets can invest in 70 percent of all companies.

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