One of the key tenets of the Securities and Exchange Commission’s (SEC) mission is to facilitate capital formation, yet it’s new proposed climate disclosure rule will have the opposite effect. It will add layers of red tape to our public markets, limit opportunity for investors to own shares in small to mid-sized public companies and, as a result, create red tape that raises the cost of capital and disincentivizes these businesses from going public. As the SEC considers the impacts of this proposed rule, the agency should remember that regulatory costs act as a fee taken out of investor capital and returns. The cost to comply with the SEC’s proposed requirements will have a detrimental effect on smaller to mid-sized companies, investors and the public markets as a whole.
Since 1997, I’ve served as the CEO of OTC Markets Group, which operates the primary over-the-counter (OTC) electronic trading market in the United States—where regulated broker-dealers trade over 12,000 securities. Having seen our own markets transform over the past several decades from a paper-based system to a vibrant, data-driven electronic trading market, I understand the power of public company disclosure. I also understand the importance of thoughtful climate-related disclosure. A framework for climate disclosure should be designed to inform not just investors but also consumers, customers, and communities. SEC-mandated corporate disclosure targeted only towards investors will not provide the greatest benefit to all.
Requiring registrants to provide certain climate-related information in their registration statements and annual reports fails to address the outsized impact of these enhanced obligations on smaller businesses, which will further discourage companies from going public. The SEC’s proposal risks further solidifying a two-tier system, where publicly held companies are saddled with additional obligations while large, private companies can continue to operate in the shadows with minimal transparency and a competitive advantage.
The total number of active SEC registrants has declined significantly over the past 15 years—from a 20-year high of 10,185 in 2007 to a low of 6,534 in 2019. The number of large companies (with over $1 billion in revenue) has remained fairly stable during this time. The main driver of the overall decrease has been small companies (those with less than $100 million in revenue), which declined nearly 50% during this period. The data is clear, for companies with under a billion dollars in revenue, new enterprises are not going public at a fast enough rate to replace these losses.
The decline in the number of public companies over the past two decades is due in part to enhanced regulatory obligations, such as Sarbanes Oxley controls and XBRL mandates, imposed on SEC registrants. Similarly, as the SEC notes, the proposal’s Scope 3 emissions requirements are “a relatively new type of metric, based largely on third-party data, that [the SEC has] not previously required.”
The SEC’s proposal estimates that the costs of compliance for smaller companies would be $490,000 in the first year and $420,000 in subsequent years. The estimated costs would be prohibitive for a meaningful number of SEC registrants (both national exchange-listed and OTC-traded), and it is unclear what the actual costs will be given the history of regulators vastly underestimating the costs and impact on small to mid-sized public companies for both Sarbanes Oxley and XBRL.
If the SEC chooses to move forward, they must revise the climate-related disclosure agenda to ensure it does not harm capital formation for small and mid-sized public companies. The SEC could exempt all registrants with under $1 billion in annual revenues, and instead focus on the largest 1,000 public companies, creating a pilot program to first study and assess the utility and effectiveness of climate disclosures. Let the biggest companies, which represent the majority of economic activity and environmental impact, struggle through the SEC’s complex experiment. Alternatively, the SEC could exempt all OTC-traded registrants, recognizing the markets’ important function as an onramp, public venture market and gateway to a full exchange listing. Adopting a voluntary disclosure regime would also help negate the decline in the number of small- and medium-sized companies trading on the public markets.
In its current form, the SEC’s proposed rule will impact over 1,200 companies that trade on our markets, and thousands more that are listed on exchanges. The rule would make it harder for American small businesses to access capital, hindering growth and job creation. We urge the SEC to adopt a final rule that balances support for both public disclosure and public markets, without stifling opportunity for small businesses and investors. We cannot let small public companies go extinct.
