An equity market task force has made a series of recommendations to enhance market structure for small-cap companies as a means to increase the potential for job creation and growth.
The Equity Capital Formation (ECF) Task Force, a group comprised of individuals from across the country’s startup and small-capitalization company ecosystems, presented a comprehensive report to the U.S. Department of the Treasury advocating for changes designed to help promote small cap trading and capital formation.
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The group recommended measures designed to expanding access to capital for startup and small-caps companies through Implementation of Reg A+ rules written into the Jumpstart Our Business Act. Also, the report calls for a small-cap pilot trading program increasing the minimum tick quote size for small-cap companies starting at five cents at the bid, offer or mid-point.
In the report, titled “From the On-Ramp to the Freeway: Refueling Job Creation and Growth by Reconnecting Investors with Small-Cap Companies,” the ECF Task Force highlights that the significant decline in the number of small-cap IPOs has stifled both U.S. job growth and fundamental research and development in breakthrough technologies.
The task force is composed of executives representing mutual funds, venture capital firms, exchanges, broker-dealers, academics, financial advisors, and securities industry trade groups.
The task force highlights the economic and regulatory changes to the capital markets have made it difficult and cost-prohibitive for small-cap companies to go public and raise the growth capital they need to increase their employee base and continue to invest in research and development. The thinking goes that by increasing the minimum tick size for small caps, trading will increase in these less liquid stocks. This in turn would prompt more research into these names and promote more trading and increase the capital. available to these smaller stocks and firms.
Jeffrey Solomon, co-chair of the ECF Task Force and chief executive officer of Cowen & Company said, “We currently have a one-size fits all capital markets ecosystem that makes capital formation for small-cap companies very difficult. Today’s small-cap stocks have low trading liquidity, little institutional ownership and support and, as a result, it is difficult for these companies to raise the capital they need to hire employees, increase their product research and development, and ultimately grow their share prices. In addition, we are also calling for the implementation of the Reg A+ rules in Title IV of the JOBS Act.”
Scott Kupor, the other co-chair of the ECF Task Force and managing partner at Andreessen Horowitz added that the aforementioned recommendations have little impact on existing market structure and are a simple remedy to assit smaller companies.
“The ECF Task Force’s recommendation to increase tick sizes from 1 cent to 5 cents and limit the trading increments is a surgical fix to the small-cap market that will bring much needed liquidity back into these stocks,” Kupor said.
Currently small startup and micro-cap companies can only issue up to $5 million in securities in order to qualify as emerging growth companies under the JOBS Act. The ECF Task Force recommends new rules to implement the recent change enacted by the JOBS Act to allow companies to issue up to $50 million in securities, so that Regulation A+ becomes a viable option for small startup and micro-cap capital formation. In addition, the ECF Task Force also recommends making it clear that transactions under Reg A+ preempt state security law requirements.
ECF also wants to encourage increased liquidity in small-cap stocks by fostering a simpler, more orderly market structure for trading small-cap companies.
Lastly, ECF recommends conducting a pilot trading program, overseen by the Securities and Exchange Commission, where select small-cap companies trade under new Small-Cap Trading Rules (STaR), effective immediately. Under STaR, participating companies will have market capitalizations below $750 million, and should be quoted in minimum price increments of $0.05 and trade only at the bid, the offer or the mid-point between the two.
To determine the effectiveness of the trial program, the ECF Task Force recommends implementing a clear methodology for collecting and analyzing data to determine the effects of the program on small-cap trading. Metrics including relative level of trading liquidity, changes to institutional ownership and the rate of equity issuance should be considered for the pilot program. The pilot program should run long enough to provide a true empirical test of STaR’s effect on the small-cap market. The ECF Task Force also recommends that the SEC uses the empirical data generated by the pilot program to evaluate whether Small-Cap Trading Rules should apply to small-cap trading on a permanent basis.
