Regulation of Private Company Share Structure

Private companies are restrained by share limitations that can stifle the flow of investment capital, and the U.S. Securities and Exchange Commission is taking notice. Recent developments at the SEC have led to the disclosure of early stage talks on the easing of shareholder rules for private companies according to Reuters.

There are advantages and disadvantages associated with changing how private companies raise capital. Of the advantages are potential increased competitiveness and workforce development via investment capital per the Wall Street Journal. However, news reports also cite a slowing or reduction of initial public offerings (IPOs) and lack of transparency if current securities regulations are altered.

The uniqueness of individual companies’ business models, capital asset management, and capitalization among other things determine if revenue can be grown without altering business structure. By allowing smaller businesses to increase access to investment capital, the capacity to market and retain increased talent improves according to the SEC. However, this is under the assumption of public capitalization which is subject to heavier regulatory and reporting requirements.

A part of this issue derives from the introduction of Sarbanes-Oxley Act. in 2002. The Sarbanes-Oxley Act made it more difficult for companies to engage in aggressive and potentially underhanded accounting and management practices. The affect of this law acts as an entry barrier to companies seeking to go public. The reasons why companies would have an issue auditing themselves and making that information public is somewhat circumspect, but also a little revealing in the sense that doing so would pose a problem to investors seeking more financial disclosure.

Increasing share ownership of private companies solves the problem for private companies, even at the loss of increased share liquidity made possible by public listing on a secondary stock exchange. Moreover, if changing the rules on share ownership limitations affects startups more than established companies seeking more capital, the intent of the regulation change is more clear and perhaps less dubious. This is because a motive of avoiding stricter auditing and reporting is not so much a masking of business practices for startups as it may be impractical for businesses to become public in the startup stage of development.

If private companies are allowed to issue more shares the affect on public capitalization may not outweigh the benefits of a broader economic base comprised of small private businesses. To illustrate, privatization of corporate ownership may reflect a conservative growth strategy that keeps businesses small rather than requiring them to grow bigger by becoming public in order to qualify for more equity capital. In other words, the net result could be wealthier or better capitalized small businesses rather than larger, more globally competitive public firms.