Transparency. Visibility. Accessibility. These words have become part of the mainstream business vocabulary. While they are generally associated with the quality and frequency of financial information provided by public companies, they are taking on a greater importance with respect to information provided about public company ownership in light of the SEC’s July proposal to increase the filing disclosure threshold for investment managers from $100 million in assets under management to $3.5 billion.
This change, if realized, would reduce the number of filers by nearly 90% and in our view disproportionately affect small-to mid-sized issuers, most of which are typically owned by smaller institutions.
The Financial Times reported that the initial feedback to this proposal was overwhelmingly negative (99% of the letters submitted to the SEC during its consultation period opposed the new rule); however, the SEC has yet to announce a final determination to either approve the rule as proposed, lower the $3.5 billion threshold, or abandon the proposal and possibly revisit the matter at a later time.
The SEC’s response to Bloomberg’s request for comments in October, read as follows: “It remains clear that the current threshold is outdated. The comments received illustrate that the form is being used in ways that were not originally anticipated when the form was adopted. We are focused on examining these important issues before we move forward with determining the appropriate threshold.”
Furthermore, following the November 16, 2020 announcement that SEC Chairman, Jay Clayton will leave the commission at the end of the year, the final decision could be pushed to next year once a new Chairman is in place.
A Look at Advantages & Disadvantages of a Higher Filing Threshold
The advantage lies strictly on the buy-side, as administrative and compliance costs – which range from $15,000 - $30,000 annually per manager – would be mitigated for smaller institutions.
While a change in filing threshold will affect all companies regardless of size and sector, small to mid-sized companies would be particularly impacted. It would diminish their ability to gain insight into their shareholder base, how these positions have evolved over time, and whether their investment stories are resonating with relevant audiences, and hamper regular investment engagement as well as targeting of appropriate capital resources to fund their growth. Furthermore, a higher filing threshold could enable activist funds to quickly and quietly accumulate substantial ownership stakes in smaller companies, thus leaving issuers vulnerable to such attacks.
Nasdaq estimates that managers with $100 million to $3.5 billion of reported assets under management currently allocate 10% of their capital to small- and micro-cap companies, translating to 30% of all assets invested in those companies. The rest of the shares are mainly in the hands of insiders or retail investors, and in some cases, larger institutions. The majority of institutional holders that fall into the category would essentially “go dark” as they will not be required to report their holdings.
Although 13F filings do not provide a full picture of companies’ shareholder bases, in the absence of such data, the main source of information would be DTC reports of NOBO and OBO holders, which are fee-based and are also incomplete because 70-80% of publicly-traded shares are held in general brokerage or investment firm accounts.
Also worth noting, the COVID-19 pandemic has disproportionately affected small- to mid-sized companies, many of which are struggling to survive the associated economic slowdown and do not have the necessary resources (financial and talent) to navigate a continuously changing regulatory landscape, including SEC 13F filing regulations.
What Can Companies Do?
Even if the SEC does not enact the recent proposal, it is vital for companies to maintain or increase their engagement with existing institutional holders, and potential investors, and have the right team in place to pivot to a world with the potential for reduced transparency surrounding 13F filings.
Investor outreach should not be a one-time event or sporadic effort. Rather, it is an ongoing, thoughtful, continuous process of monitoring and engaging with existing shareholders, and simultaneously researching and targeting new, potential shareholders. An open, constructive dialogue between companies and the investment community allows investors and analysts to develop a more complete picture of companies and their strategies, and in many cases generates valuable feedback for companies.
This requires an IR team with extensive experience in designing and executing comprehensive and effective outreach and engagement programs that build recognition and credibility within the investment community. A strong IR team should also serve as a first line of communication with existing and potential shareholders (both institutional and retail) and should be able to identify, evaluate and continuously reach out to these audiences and help them make informed investment decisions.
Playing Detective: Not Just Who but Why
Finding a company’s investors through 13F filings or by digging into NOBO and OBO names from the DDT reports are only the first steps. Understanding the shareholder base, their objectives and investment strategies (passive vs. active, value vs. growth, industry breakdown of their holdings, etc.) is essential.
This can only be done through proactive outreach to shareholders through different engagement mechanisms including one-on-one discussions, roadshows and conference presentations (virtual or in person), and having other internal resources at-hand beyond 13F filings.
This most certainly is not an easy task. It requires knowledge, experience, vast resources and most of all, dedication.
Knowledge: a deep understanding of the operations and financial position of the company, and the ability to have thorough discussions, properly communicate the investment thesis and address concerns or misinformation, are fundamental to this work. An open and transparent dialogue becomes even more important amidst uncertainties related to the COVID-19 pandemic, which are unique to each company.
Experience: the ability to analyze a shareholder base, track historic ownership, look for patterns (for example compared to the peer group or sector in general) and even predict investor behavior, is highly useful for companies.
Vast resources: this work cannot be done without direct access to information on investment firms from a range of internal and external resources, and the ability to systematically aggregate and analyze this data.
Dedication: a high level of focus, dedication, and the willingness to go the extra mile certainly goes a long way! Being able to apply best-in-class IR practices anytime and under any circumstances to ensure compliance with regulations, respond to difficult questions from investors, and best serve the interests of the company, as well as shareholders, are essential qualities that make an IR team successful in this endeavor.
In sum, executing an effective shareholder engagement strategy that is flexible and easily adaptable to general market, economic, regulatory and macro-economic developments, provides value not just to the company, but to its shareholders and employees.
If you have any questions or want to learn more about The Equity Group’s approach to investor outreach and engagement, reach out to me anytime.