As Information Flows,
S.E.C. Faces Difficulty Bottling It Up
STEVEN M. DAVIDOFF
May 27, 2014 6:06 pm
Street, information is “the most valuable commodity,” to quote a line from
the 1987 movie “Wall Street.”
Securities and Exchange Commission has
sought to ensure equal access to that commodity through a rule known as
Regulation FD. The rule generally requires that if a company disclosed
material information to one person, it must do so to all.
with that requirement and with the flood of information that is out there,
some investors still appear to be
getting premier access. Indeed,
Regulation FD may now be doing more harm than good.
You see it
when the latest activist hedge fund takes a large position in a public
company and calls for “dialogue.” Such an exchange of views, if it occurs,
is supposed to cover only public information.
Carl C. Icahn has
a three-and-a-half hour dinner with
Apple’s chief executive,
Timothy D. Cook, to persuade the
company to engage in a $150 billion share buyback and then tweets that it
was “cordial” and that “we decided to continue dialogue,” what do you think
they were talking about?
In short, it
is hard to police information, and with the rise of the activist hedge
funds, Regulation FD is again in question.
regulation was pushed by and adopted under the S.E.C. chairman Arthur Levitt.
The proposed rule generated 6,000 comment letters. To some, the idea that
all shareholders should have equal access to information was as natural as
that Whitney Houston lyric that “children are our future.” These advocates
argued that everyone should have all information released by the company,
leading to better investing outcomes for all. It would also end the sense of
unfairness that Mr. Levitt described in 1998 when he stated that “auditors
and analysts are participants in a game of nods and winks.” Mr. Levitt
argued that material information was being disclosed to these Wall Street
analysts to guide stocks and manage earnings predictions.
didn’t agree. The ability of analysts to get better information, or more
“color,” from the companies they covered was what made the analysts worth
employing. Investors would then want to do business with the brokers with
the best analysts to get the best information. The business provided by
these investors would also mean that the firms had an incentive to pay the
analysts money and therefore provide both analyst coverage and services. The
consequence would be reduced volatility in stock prices and companies
getting more access to the capital markets. Regular investors who are in the
market less and less these days anyway would gain because of this and the
greater information provided to the market by these analysts.
feared that Regulation FD would decimate research. The rule would cause Wall
Street to lose incentives to provide analyst coverage, thus hurting
investors. Companies, meanwhile, might simply stop disclosing information to
the outside world instead of selectively disclosing it. The result would be
that pricing in stocks could actually become worse.
But Mr. Pitt
remained steadfast, asserting that the equal information goal was
“unassailable.” Wall Street didn’t help its case as some analysts were
clearly not only getting preferential, but absurdly preferential treatment.
During this time, for example, Jack Grubman, the
attended the board meetings of
FD has not been the disaster that Wall Street predicted, but it had number
of negative effects. Smaller companies experienced a higher cost of capital,
some lost analyst coverage. Surveys by
Thomson Financial among others found that many companies
simply chose to disclose less information.
Still, some studies disagreed with these findings, instead asserting that
Regulation FD had
a positive effect on the market.
In any case,
with the boom in use of social media and the rise of activist investors,
Regulation FD has increasing problems.
The first is
that trying to regulate information release in the media age is often a
investigated Reed Hastings, the chief
Netflix, after he disclosed on his
Facebook page that Netflix had streamed
one billion hours of content in a single month. The problem was that he
personally disclosed it and the company released the information only a few
hours later. The regulator used the investigation as a teachable moment on
Regulation FD, saying that the rule applied to social media. But the S.E.C.
also said that social media was appropriate provided that possible
disclosure through this route was made by the company.
the agency is trying to tame the fire hose of the Internet with Regulation
FD. But the truth is that information is getting even harder to control.
With social media, there is simply too much out there to know what is being
released as material or not without simply caging up all the top executives
of every publicly traded company.
and other investors, meanwhile, are continuing their dialogue with companies
— and this conversation is impossible for regulators to monitor.
is thus caught trying to control too much information and monitoring
information it can’t even see or hear.
This is a
difficult balance and is highlighted by the lack of enforcement cases. To
date, the S.E.C. has brought less than a dozen enforcement actions over
Regulation FD in the rule’s nearly 15-year history.
is time to reconsider what the agency is trying to do with information.
Professor Joseph A. Grundfest of Stanford Law School has argued that
Regulation FD may be unconstitutional because it unnecessarily restrains a
company’s free speech. He contends that equal access to investors may be
compelling, but it is
not an interest of the securities laws.
Grundfest’s argument may or may not prove to be correct, but he has a point
that the rule seems to be there just for the sake of being there.
should take a hard look at the rule and how it enforces Regulation FD. Is
Regulation FD now honored more in the breach? Alternatively, do we even need
such a broad rule anymore in today’s information age? If the rule was done
away with, might not companies be much more willing to release information,
information that would improve how markets trade. Given what is going on
right now, it doesn’t seem like small investors are benefiting at all from
this “equal access” to information, instead losing out because of small
issuers being denied capital and analyst coverage.
markets and information flows of 14 years ago when this rule was adopted are
long gone. Perhaps it is time for the S.E.C. to recognize this fully and
revisit Regulation FD.
Davidoff, a professor at the Michael E. Moritz College of Law at Ohio State
University, is the author of “Gods
at War: Shotgun Takeovers, Government by Deal and the Private Equity
firstname.lastname@example.org | Twitter:
has been revised to reflect the following correction:
May 31, 2014
Professor column on Wednesday, about a securities rule on corporate
disclosure known as Regulation FD, referred incorrectly to the history of
the rule. It was pushed by and adopted in 2000 under Arthur Levitt, then
chairman of the Securities and Exchange Commission. It was not pushed by his
successor, Harvey Pitt.
A version of this article appears in print on
05/28/2014, on page B5 of the NewYork edition with the headline: As
Information Flows, S.E.C. Faces Difficulty Bottling It Up.
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