Thursday, March 2, 2017

The Decline in US Public Companies

"For the past 20 years, public corporations in the United States have been disappearing. The number of U.S.-based companies listed on Nasdaq and the New York Stock Exchange has dropped by over half since 1996. The dot-com bust of 2000 and the financial crisis of 2008 account for some of this decline, yet the downward trend has continued with little let-up, even as the markets have reached record highs. The number of IPOs in the past five years is less than the number in 1996 alone. Something has gone wrong with the public corporation in the United States."

So writes Gerald F. Davis at the start of "Post-corporate: The Disappearing Corporation in the New Economy,"  written for the Third Way think tank (February 1, 2017). He continues:
"What industries have accounted for most of the decline? In the aftermath of the dot-com boom, there was an exit of many software and online service providers. A wave of exits and mergers in telecom industries soon followed. Since 2008, there has been a large reduction in the number of commercial and investment banks. The offshoring of electronics manufacturing and assembly led to closures and mergers of many US firms in these industries. The pharmaceutical industry has seen many closures and consolidations, too."
Davis also points out that in the modern globalized economy, there is often less of a need to raise capital by selling stock for a large production facility. If a firm is largely based on information technology capital, it's possible to lease or rent a lot of what is needed. If a firm is based on producing goods, it's often possible to outsource production to facilities in other countries. And if you do need to raise capital for a US production facility, you can often turn to private equity firms, which now manages more than $4 trillion in assets, rather than needing to sell stock. Davis writes:
"Thus, Flip was the best-selling portable video camera in 2009, with 100 employees in San Francisco. Vizio was the best-selling television brand in the U.S. in 2010, with a staff of 200 in Irvine. If you can send your specifications to Alibaba, you can become a major electronics firm too, without having to leave your apartment. It’s not just in technology: if you want to launch a new beer, or pet food, or tomato sauce brand, there are generic vendors happy to produce your recipe and get it to store shelves. If you want to start an airline, there are used jets in the Arizona desert waiting to be leased and consultants eager to help you complete the government paperwork. If you want to start a bank, Infosys has a `bank in a box' suite of software called Finacle, providing all the functionality people need through an online service.
Craig Doidge. G. Andrew Karolyi, and RenĂ© M. Stulz have an article forthcoming in the Journal of Financial Economics on "The U.S. Listing Gap." (An earlier version is available as National Bureau of Economic Research Working Paper #21181, published May 2015).  They look at data from a number of different countries, and examine how the number of listed companies is typically correlated with various economic and institutional factors. They find that back in 1999, the number of listed firms in the US was roughly what one would expect, using international comparisons based on these factors, but since then the number of US publicly listed firms has fallen, so that now the number is less than half what one would predict based on international comparisons. They write in the abstract:
This “U.S. listing gap” is consistent with a decrease in the net benefit of a listing for U.S. firms. Since the listing peak in 1996, the propensity to be listed is lower for all firm size categories and industries, the new list rate is low, and the delist rate is high. The high delist rate accounts for 46% of the listing gap and the low new list rate for 54%. The high delist rate is explained by an unusually high rate of acquisitions of publicly listed firms.
Davis makes a similar argument, pointing out that the rate initial public offerings leading to new publicly listed companies has been low, while the number of delistings--often due to mergers between public companies--has been high.

But ultimately, why does it matter if the number of US publicly listed firms is dropping? Davis offers two main reasons for concern:
"First, the changing shape of the corporation is connected to the changing shape of the employment relation and the fraying social safety net. At its peak, AT&T employed nearly a million people; GM had 800,000 employees; GE had 400,000. These firms provided solid, long-term, well-remunerated employment. The firms that have gone public since 2000 rarely create employment at large scale; the median firm to IPO after 2000 created just 51 jobs globally, and with rare exceptions (e.g., Alphabet/Google, with 62,000 employees), the jobs are in low-wage, low-opportunity sectors like retail and food service. ...
"Employment stability, income mobility, and inequality are tough problems, and it is unlikely that economics will allow us to return to an anomalous golden age of the corporation. But the U.S. is also uniquely reliant on corporations for providing a social safety net for their employees and their dependents. Unlike most of the rich world, the U.S. expects employers to provide health insurance and retirement security. The problems with America’s health care sector are well-documented. Somewhat less known is how the transition from traditional corporate pensions to 401(k) plans has left a generation of Baby Boomers severely under-prepared for retirement. Clearly, the disappearance of corporations is leaving major holes in the social safety net.
"Second, the loss of public corporations leaves fewer policy levers at the Federal level. Big and concentrated firms are easier targets for regulation. During the Nixon Administration, the 25 biggest U.S. corporations employed nearly 10% of the civilian workforce. When OSHA wanted to improve workplace safety, or the Consumer Product Safety Commission wanted to ensure safer products, or the EPA wanted to curb big polluters, or the EEOC sought to reduce workplace discrimination, they could target a few of the biggest firms and have a large and immediate impact, particularly when these big firms encouraged their major suppliers to follow their lead. Moreover, because corporate law is made at the state level rather than the federal level, Congress has less leverage over businesses that are not publicly traded. Many Congressional efforts to rein in business happen through securities law and regulation. The long title of the Foreign Corrupt Practices Act of 1977, aimed at curbing bribery of foreign officials, is “An Act to amend the Securities Exchange Act of 1934 to make it unlawful for an issuer of securities registered pursuant to section 12 of such Act or an issuer required to file reports pursuant to section 15(d) of such Act to make certain payments to foreign officials and other foreign persons, to require such issuers to maintain accurate records, and for other purposes.” Thus, it primarily applied to firms listed on U.S. markets (although its reach has been extended). Similarly, the “conflict minerals” provision of the Dodd-Frank Act of 2010, which requires firms to disclose whether their products contain minerals mined in the Democratic Republic of Congo that might fund warlords, applies to Hewlett Packard (which is listed on the stock market) but not Dell (which is private)."

I would add a few thoughts. First, the drop in public companies tells us something about the costs and benefits of becoming a public company: specifically, it suggests that the costs are higher and the benefits are lower. Those who wish to impose greater costs on public companies should consider the tradeoff that is taking place.

Second, in a practical sense, small-scale investors can buy stock in public companies--whether directly or through index and pension funds--and see some benefit as those companies do well. With private companies, the usual small-scale investor doesn't have an easy time finding ways to participate in those gains.

Finally, fewer public companies means less public insight into the decision-making of companies. My guess is that over time, this will tend to create some additional hostility (and there's already plenty of it out there) for the corporate form in general.