Investment bankers and venture capitalists who bankroll fintech companies say they’re keeping an open mind about the possibility of new financial reporting requirements for large privately held companies. But they warn such mandates could discourage entrepreneurship and innovation.
The Securities and Exchange Commission has not issued a proposal, but it’s said to be considering transparency rules for private companies to protect unsophisticated investors who can buy shares in the companies through broker-dealers or investment entities even though the companies are not publicly traded, according to
Fintech executives contacted for this story declined to comment because of the sensitive nature of the topic. Venture capitalists and analysts who specialize in fintech startups generally agreed that more disclosures from such companies could help smaller investors. Yet if not done in a nuanced and limited way, they said, extra reporting requirements for fintechs could be at best a time- and energy-consuming burden and at worst an innovation killer.
The SEC did not respond to a request for an interview, but Commissioner Allison Lee made the case for requiring more disclosures of so-called unicorns — companies valued at more than $1 billion — in an
“Despite their outsize impact, there is little public information available about their activities,” she said. “They are not required to file periodic reports or make the disclosures required in proxy statements. They are not even required to obtain, much less distribute, audited financial statements.”
The absence of such requirements means the public may lack adequate information about the business and operations of these companies, she said. People trying to decide where to invest for retirement or whether to work at or leave a private company could be poorly equipped to make such choices.
“The concern that they're expressing is of whether disclosures ought to happen so investors don't get burned,” said Vikas Shah, who runs investment banking at Rosenblatt Securities in New York. “On the surface, what is there to argue with that? Nothing.”
Young companies probably won’t be required to file reports as complex as those public companies have to submit, Shah said. But they may have to provide the kinds of basic financial performance data found in income statements and balance sheets.
Venture capital leaders said they’re also in favor of the spirit of this call for disclosure.
“I’m generally supportive of this type of regulation, if thoughtfully applied,” said Matt Harris, managing director at Bain Capital Ventures, a New York venture capital firm that invests in fintechs. “Our current system is too binary, where private companies have few reporting obligations, no matter how large, and public companies have massive burdens of this type.”
Requiring startups to disclose information they formerly held close to the vest would not benefit venture capital firms but would instead be aimed at smaller investors, he said.
“As an investor, I’m not in general a fan of burdensome regulation,” Harris said. “But as a citizen, if more information requirements come with looser restrictions on who can invest in private companies, I think that’s a good result.”
Hans Morris, managing partner of NYCA Partners, a New York venture capital firm that invests in fintechs, also sees investor disclosure guidelines for late-stage private companies the size of Stripe as a valid idea. The payments tech company is valued at $95 billion.
“Right now that's totally up to the company and what they choose to disclose,” said Morris, who is also chairman of LendingClub. “Maybe it would be beneficial for all investors to have access to the same data.”
But the impact of the SEC’s transparency requirements would depend on the specifics, Morris said.
“Is it truly public disclosure, or do you disclose only to your private investors subject to [a nondisclosure agreement], and therefore it's not public?” he said. Even if startups have to file reports only to private investors, there’s still a chance the information could be distributed too broadly and leak out.
Public disclosure seems unwarranted because the public can't buy the securities, Morris said.
And requiring quarterly disclosure on the scale that public companies have to “would be a huge undertaking,” Morris said. “It really takes over your life, just doing the quarterly earnings calls and all the associated preparation.”
Another possibility is that the SEC could impose the corporate governance requirements of the Sarbanes-Oxley Act on large private companies, Morris said.
“That requires a lot of work to go through all of the certifications, and it typically takes at least a year and a half to fully implement and prepare for public disclosure,” Morris said.
If large private companies have to comply with Regulation Fair Disclosure’s rules for public companies, that could also prove challenging, Morris said.
Institutional investors do a lot of diligence when they invest in late-stage startups, according to Morris.
“There's detailed information they get access to,” he said. “And because it's not public, they get to see customer lists and can talk to customers, stuff that a public company investor doesn’t have access to.”
If fintech companies had to suddenly do a lot of public disclosure, “that would be a huge burden” on the industry, Morris said, though he notes that may not be what regulators have in mind.
“On balance, I would say fintech startups should be worried because it's very possible [the regulators will] come out with something where the benefits are not worth the cost at all,” Morris said.
Shah also highlighted the burden quarterly or even less frequent reporting would put on startups.
“The bottom line is, every action that you take has consequences, and the consequences here can be a significant additional reporting burden for young companies,” he said. And requiring these young companies to prepare lots of disclosures while they are still finding their bearings could overwhelm their operational resources.
Fear of such headaches could stifle fintech innovation, Shah said.
“The real engine of innovation in this country is all the small businesses, the young startups that need nurturing,” he said. Shah does not put Stripe in this category because of its high valuation and sophisticated investors.
“When regulation comes in, and you paint everybody with the same brush, then you end up hurting the market,” Shah said.
And disclosure could affect fintechs’ ability to compete, he said.
“The more you disclose, the more risk you have that others are going to come after you,” Shah said.
