No Entreprenur wants to be a public company CEO

Like Sony and the music industry, the Public Market is dying. No Entrepreneur aspires to be a public company CEO anymore.
When I wrote that back in 2007, my publishers at Wiley asked me to remove it from my book, Money Magnet: Attract Investors to Your Business. They said it was absurd and just not true.
I was allowed to keep a few pages on the slow demise of public markets due to Sarbanes-Oxley and then Elliott Spitzer's rule that banks could not allow investment banking to fund research. This was to stop the banks doing what they have done for decades, help fund managers decide where to invest and to use the bank for their trading.
Pretty soon, over the past decade, the graveyard of small cap companies were left "orphaned" - my publisher would not let me use that word either as it was "cruel". I tried to explain that is the official jargon used for companies ignored by the public market investors, but I am in Canada, and political correctness here is something to behold. These companies that no longer could get banks to do research on them, discovered that the investors shunned them too. There was no longer the time to investigate little companies and the cash flowed to the big, sure-bet stocks or out of the country to China, Brazil, India and Russia.
The more entrepreneurial investors with millions of dollars of their own, or pooled millions with ten of their buddies, were in the market for these smaller companies though. We have seen the rise in families investing in private companies directly and have built our business on this new, concentrated wealth. Ironically, the Teachers' pension and Hospital pension found out about the 25% return rates and have now channeled cash to these private equity companies too.
My company, Loewen & Partners, benefits from that red tape imposed by the US government, as it is impacting Bay Street too. One growing segment of our client base, are the companies leaving the stock exchange to go private, as the entire Real Estate industry did and the manufacturing base too. The companies that now go to the Stock Exchange tend not to make revenues and doing an IPO is a last ditch attempt. These are the medical and drug companies, along with the high tech businesses. They have a very short life and time to survive. Small cap mining is also going that way which is why the mining stock go to Europe instead. I am seeing more and more "refugees" from the public markets in my boardroom asking if we can help.

"Corporate responsibility" makes great TV sound bite

Government parties like the NDP want to make their ideologies law. Most voters are not aware of the destructive nature of legislating the "ethics" of business.
I was reading T. Rogers, CEO of Cypress, and his comments written fifteen years ago and we do not seem to have made any progress in understanding why government regulation does more harm. The NDP are particularly dangerous and keep their policies in mind while reading Rogers:

May 13, 1996 issue of Fortune magazine analyzed the "ethical mutual funds" which invest with a social-issues agenda, and currently control $639 billion in investments. Those funds produced an 18.2% return in the last 12 months, while the S&P 500 returned 27.2%. The investors in those funds thus lost 9% of $639 billion, or $57.5 billion in one year, because they invested on a social-issues basis. Furthermore, their loss was not simply someone else's gain; the money literally vanished from our economy, making every American poorer. That's a lot of houses, food, and college educations that were lost to the "higher good" of various causes. What absurd logic would contend that Americans should be harmed by "good ethics?"

The ethical funds, and their investors are merely making free choices on how to invest. What really worries me is the current election-year frenzy in Washington to institutionalize "good ethics" by making them law -- a move that would mandate widespread corporate mismanagement. The "corporate responsibility" concepts promoted by Labor Secretary Reich and Senator Kennedy make great TV sound bites, but if they were put into practice, it would be a disaster for American business that would dwarf the $57 billion lost by the inept investment strategy of the "ethical funds." And that disaster would translate into lost jobs and lost wages for all Americans, a fundamental wrong.

The rise of the private equity finance partner

The creative destruction of the public markets is underway. Private equity is rising up and becoming more mainstream. I did read in the |New York Times the broad brush condemnation of Mitt Romney because he was in private equity which just destroys businesses and breaks them apart and sells them off. 
The ignorance of such lazy journalism is incredible but good for my business, which works to help owners find capital and journey with partners for five years. Our clients end up with a far stronger business and many more options to go forward. One client is a fourth generation family business owner who was in poor financial health 6 years ago. He took on private equity partners and grew the size of the business threefold. Once private equity exited, this owner who was only 50 had so many more choices because his company was now a decent size. Public markets would not have been able to cope with their revenues stream which was chunky rather than smooth flowing. The large, lucrative projects suited the risk profile of the private equity guys. 
Mitt Romney would really get the issues of private, small companies as that is where the bulk of his business would be, not the glamourous big business stories that the newspapers can afford to follow.
Loewen & Partners just helped an amazing family business in the third phase of its long, slow exit but there has not been one newspaper article about the remarkable journey. It will probably stay that way too.
The WSJ at least is clued in to the future of finance and how technology can disintermediate the public market. This worth the read:

'No entrepreneurs I know aspire to be a public-company CEO anymore."

If that seems like a startling claim, it's all the more so coming from a bright-faced 35-year-old sitting a stone's throw from Merrill Lynch's famous charging bull. But Barry Silbert can back up his words because he's making money on them. He's the founder and CEO of SecondMarket, an online trading platform that pairs buyers and sellers of such financial assets as mortgage-backed securities and especially the stock of companies that haven't gone public.

Depending on your point of view, he is either saving capitalism from financial regulators or trying to evade them. Either way, he's an example of an entrepreneur finding a way to help America's other beleaguered capitalists find capital.

On a recent day in his Wall Street office, he starts by recounting the challenges faced by America's capital markets. Settling into an armchair, he starts with the advent of online brokers in the 1990s, which eliminated the "hundreds of thousands" of human brokers who were "focusing on not just the GEs of the world, but helping their customers identify small-cap stocks."

Then stocks went from trading in fractions to decimals, which shaved returns for firms dramatically and reduced their ability to research and market small-cap stocks. Add high-frequency trading, which led to unwanted stock volatility.

Then there are the regulatory burdens. The 2002 Sarbanes-Oxley law "made it more expensive to be a public company," mainly by imposing millions of dollars of compliance costs. And Eliot Spitzer's settlement with investment banks more or less ended research on small-cap stocks by forbidding banks to use investment-banking revenues to fund research.

Now the IPO market is limping, especially for small companies. According to a report this month from the IPO Task Force (a group of venture capitalists, bankers, lawyers and other interested parties), nearly 2,000 "venture-backed, emerging-growth companies" went public from 1991 to 2000. From 2001 to 2010, only 477 did.

Such problems have created Mr. Silbert's opportunity. He didn't grow up working in the hurly-burly of financial markets but was raised in a middle-class home in Gaithersburg, Md., mostly by his mother. His father died when he was 10. Mr. Silbert worked odd jobs from the time he was a teenager but was always drawn to trading, registering as a broker at 17.

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Terry Shoffner

Working for a restructuring firm, he recalls, he encountered "situations as a banker where there were illiquid assets, whether it was private-company stock or otherwise. I was always shocked there was no centralized place to go to, an eBay-type platform." So he quit the firm and put together a business plan.

"It was like a Wall Street version of a Silicon Valley garage start-up," says Mr. Silbert. "Our technology was a telephone and an Excel spreadsheet. But over time, we were able to develop such a deep pool of buyers and such a large amount of assets for sale that we had to really start investing in technology to make the process more scalable, more efficient."

In 2007, a former Facebook employee approached SecondMarket looking to sell stock options, so the company surveyed its clients. "It was interesting to us to see these institutions were willing to buy the stock without having access to management, without having information," Mr. Silbert recalls. "Microsoft had done their deal, which valued [Facebook] at $15 billion. It was pretty widely well-known where the company was issuing options, where the strike price was, which was one way to estimate value. So we did a few of these transactions."

Other companies and investors soon wanted to do similar trades. "So we said 'Okay, what's happening?'" Mr. Silbert says. "We went out to the venture-capital community, particularly up and down Sand Hill Road, saying 'Hey guys, what do you think? Is there a need for a private-company marketplace?' And the reaction was, it was funny, it was almost universally: 'There's no need for it, you'll never be successful, the market is cyclical, the IPO markets will come roaring back.'" Mr. Silbert pressed ahead.

His business boomed as public markets faltered. He took risks, making markets in unusual securities—like the state of California's individual registered warrants, issued during a 2009 budget crisis—and he received venture capital from FirstMark Capital, Hong Kong tycoon Li Ka-shing, and one of Singapore's state-owned investment funds. In 2010, SecondMarket traded $10 billion in assets, up from $2.5 billion in 2009 and $1 billion in 2008. (The company won't forecast this year's results.) Last month, it listed its own shares on its platform and they sold out quickly. "We have 140 employees, 20 open spots right now, hiring as fast as we can."

Mr. Silbert says he's not building a business by evading regulators, although there's always a risk that they will still come after him. SecondMarket is registered with the Securities and Exchange Commission as an "alternative trading system," its compliance staff communicates regularly with its Washington minders, and Mr. Silbert hired a former SEC lawyer to be his general counsel. "I spend a lot of time with the SEC, helping them kind of think through . . . how do we create the next new growth market for our country?"

SecondMarket requires companies to provide "audited financials and risk factors" to potential investors. "That's not required under the SEC rules," he says. "We don't want to see fraudulent companies on SecondMarket. We don't want to see people, you know, making investment decisions without being well-informed. That's bad for us as a marketplace."

So what is his comparative advantage over Wall Street? Well, he says, investment banks "keep the buyer and the seller separate and they control that information." SecondMarket is a platform that aims to "connect all the world's buyers and sellers—to essentially disintermediate anyone on Wall Street that does not add value." It allows companies far more flexibility to choose when their shares trade and among which investors, and its website helps companies build networks of "trusted" counterparties. SecondMarket doesn't disclose the identity of its clients to outside parties, however.

Which raises a broader question: Is Mr. Silbert creating a market open only to the sophisticated, a club that shuts out ordinary Americans? "I'm happy you asked that," Mr. Silbert says, adding that mutual funds like T. Rowe Price invest in SecondMarket's offerings and are "open to retail investors." And Mr. Silbert has an even bigger idea: to lobby the SEC to change its definition of "sophisticated investor."

"The SEC rules right now use income or net worth as the way to measure sophistication," he says. There are several tests. One defines "sophisticated" as having a net worth of more than $1 million, excluding the investor's home. But Mr. Silbert says "there are plenty of wealthy individuals who are not sophisticated in financial investing who maybe should not be investing." So he proposes an SEC-administered "financial literacy test" that would allow those who pass it to participate in SecondMarket and "any type of investment that is not an SEC-registered investment product."

Does Mr. Silbert really support fixes to the public markets, given SecondMarket's private-market business niche? "We too want to see a robust public market," he replies, because "for larger companies in particular, you'll never be able to find a deeper pool of liquidity." I press him on the point. "Let's make sure we at least have a private market that's robust and functioning and safe and trusted, so that either it's going to be supportive of a public market, or, worst-case scenario, if the public market is forever broken for smaller-cap companies, we have an alternative," he argues.

To that end, Mr. Silbert is lobbying Congress to change what he calls "outdated" rules that "have had a negative effect on private companies' ability to raise capital and compensate their employees." Among them: a 1960s-era rule that limits private companies to 500 shareholders and a prohibition on those companies soliciting broadly for investors. "Car companies can advertise on TV to 15-year-olds, and drug companies can advertise drugs to people who don't have a prescription," but start-ups can't advertise to potential investors, Mr. Silbert says.

His efforts may be paying off. On Wednesday, the House Financial Services Committee passed bills that would eliminate the advertising ban, raise the investor threshold to 1,000 from 500, and remove restrictions on so-called crowd-funding (when entrepreneurs raise money from relatives or others who aren't SEC-accredited, within certain limits).

So what will America's capital markets look like a decade from now? "There's not going to be a concept of public versus private," Mr. Silbert says. "What there's going to be is companies trading on different markets, and those markets have different rules." That vision assumes politicians will keep punishing America's public markets, and on present course it's hard to bet against him.

Do Car-pool lanes waste time?

We have decades of "burning issues" which are taught with religious fervour and then fade away as the science changes.
I recently watched a video of Bobby Kennedy telling a classroom of fresh faced children that pollution was so bad that within 10 years they would be wearing masks and having to live underground - really!
Corporations and their Boards are facing these burning issues of the year and having to decide how to work with them. It costs money to support decisions about the environment - some are good but some are less effective for the cost of implementation.
Again, good old Ted Rogers talks gruffly about dealing with putting social issues and environment issues above business priorities:


investors have their pet issues; for example, whether or not a company:

• is "green," or environmentally conscious.
• does or does not do business with certain countries or groups of people.
• supplies the U.S. Armed Forces.
• is "involved in the community" in appropriate ways.
• pays its CEO too much compared with its lowest-paid employee.
• pays its CEO too much as declared by self-appointed "industry watchdogs."
• gives to certain charities.
• is willing to consider layoffs when the company is losing money.
• is willing to consider layoffs to streamline its organization (so-called downsizing).
• has a retirement plan.
• pays for all or part of a health-care plan.
• budgets a certain minimum percentage of payroll costs for employee training.
• places employees on its Board of Directors (you forgot this one).
• shares its profits with employees.

We believe Cypress has an excellent record on these issues. But that's because it's the way we choose to run the business for ourselves and our shareholders -- not because we run the business according to the mandates of special-interest groups. Other companies, perhaps those in older industries just trying to hold on to jobs, might find the choices our company makes devastating to their businesses and, consequently, their employees.
No one set of choices could be correct for all companies.
Indeed, it would be impossible for any company to accede to all of the special interests, because they are often in conflict with one another.
For example, Cypress won a San Jose Mayor's Environmental Award for water conservation. Our waste water from the Minnesota plant is so clean we are permitted to put it directly into a lake teeming with wildlife. (A game warden station is the next door neighbor to that plant.)
Those facts might qualify us as a "green" company, but some investors would claim the opposite because we adamantly oppose wasteful, government-mandated, ride-sharing programs and believe that car-pool lanes waste the time of the finest minds in Silicon Valley by creating government-inflicted traffic jams -- while increasing pollution, not decreasing it, as claimed by some self-declared "environmentalists."

Can a CEO run a company morally?

"You do not allow for the possibility that a CEO could run a company morally and disagree with your position."

Ted Rodgers wrote those words fifteen years ago. It is tiresome that we just have the same conversations and protests, just different people. Do our schools not teach history?

The Wall Street protesters or "We are the 99%" do display a lack of understanding about basic business and economics. They paint all corporations with a very broad and tainted brush. Their own insecurities and difficulties in life make them frustrated and lash out at the very institutions that give them a decent standard of living. Even the poorest American has more than 38% of the world. (The way Greece is going, that 38% could be rising). 

History does repeat itself and the same political conversations keep raising their ugly heads - communism, Marxism, socialism, equal outcomes put above equal opportunities. It is 2011, and in Canada, we have the NDP saying they do not want profits, business is for the people. 

When I read the response by Ted Rogers, while head of Cypress, to a group of investors upset that he was not supporting the ideology and political correctness of equal outcomes, I thought this letter should be redistributed to the protesters of businesses.

Finally, you ought to get down from your moral high horse. Your form letter signed with a stamped signature does not allow for the possibility that a CEO could run a company morally and disagree with your position. You have voted against me and the other directors of the company, which is your right as a shareholder. But here is a synopsis of what you voted against:

• Employee ownership. Every employee of Cypress is a shareholder and every employee of Cypress -- including the lowest-paid -- receives new Cypress stock options every year, a policy that sets us apart even from other Silicon Valley companies.
• Excellent pay. Our employees in San Jose averaged $78,741 in salary and benefits in 1995. (That figure excludes my salary and that of Cypress's vice presidents; it's what "the workers" really get.)
• A significant boost to our economy. In 1995, our company paid out $150 million to its employees. That money did a lot of good: it bought a lot of houses, cars, movie tickets, eyeglasses, and college educations.
• A flexible health-care program. A Cypress-paid health-care budget is granted to all employees to secure the health-care options they want, including medical, dental, and eye care, as well as different life insurance policies.
• Personal computers. Cypress pays for half of home computers (up to $1,200) for all employees.
• Employee education. We pay for our employees to go back to school, and we offer dozens of internal courses.
• Paid time off. In addition to vacation and holidays, each Cypress employee can schedule paid time off for personal reasons.
• Profit sharing. Cypress shares its profits with its employees. In 1995, profit sharing added up to $5,000 per employee, given in equal shares, regardless of rank or salary. That was a 22% bonus for an employee earning $22,932 per year, the taxable salary of our lowest-paid San Jose employee.
• Charitable Work. Cypress supports Silicon Valley. We support the Second Harvest Food Bank (food for the poor), the largest food bank in the United States. I was chairman of the 1993 food drive, and Cypress has won the food-giving title three years running. (Last year, we were credited with 354,131 pounds of food, or 454 pounds per employee, a record.) We also give to the Valley Medical Center, our Santa Clara-based public hospital, which accepts all patients without a "VISA check."

Those are some of the policies of the Board of Directors you voted against. I believe you should support management teams that hold our values and have the courage to put them into practice.