KUHN CAPITAL Wednesday, March 21, 2018
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IPO vs. M&A


Reuters forecasts that by 2008, investment banks will generate more revenue from M&A advisory services than from underwriting.

We believe this trend is driven by both a carrot and a stick. The stick is Sarbanes-Oxley and it is persuading many successful young companies to stay clear of the traditional route to liquidity, the IPO.

Not only is SOX a formidable tangle of mostly unproductive red tape, its high fixed costs disproportionately disadvantage the smaller company, it pins personal liability on key executives and board members and -- perhaps worst news of all -- it invites a new wave of class-action lawsuits by the likes of Lerach and Milberg Weiss. These firms specialize in attacking companies whose stock has fallen for whatever reason, and of course, the stock of small, young companies is more volatile than that of big caps, so they get sued more. Even obscure violations of SOX myriad regulations hand these plaintiff lawyers more ammunition.

Under the circumstances, it's not hard to understand why US IPO registrations both by domestic and foreign companies have declined materially. Dollar volumes are down 22% YTD versus 2005, and 2005 was down 21% versus 2004. Of course, SOX may not be the only reason for such declines (the choppy equity markets themselves hold some of the blame), but we believe it's the major one.

Meanwhile, the M&A market booms. It offers not only a faster, cheaper and less risky route to liquidity, but these days it's a sellers market. Private equity firms and increasingly hedge funds have been steadily beefing up their M&A warchests and the size and number of their acquisitions have grown apace. As a result, many investment bankers now advise their clients to pursue an M&A transaction rather than navigate the treacherous shoals of going public.

The net-net of all this is a situation that benefits the largest investors -- the limited partners of PE groups and hedge funds -- while depriving smaller investors of the opportunity to buy into the shares of tomorrow's leading companies. Is that what the architects of SOX and the class-action plaintiff's bar want?

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