The effect of the JOBS act on analyst coverage of emerging growth companies

Author:Elena Precourt
Position:Bryant University, Smithfield, Rhode Island, USA
Pages:86-109
SUMMARY

Purpose The purpose of this paper is to examine the section of the Jumpstart Our Business Startups (JOBS) Act related to information dissemination by sell-side security analysts. The paper analyzes how the abolishment of the quiet period requirements for emerging growth companies (EGCs) changes the analyst initiation timing and market expectation of and reaction to the issuance of the... (see full summary)

 
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The eect of the JOBS Act on
analyst coverage of emerging
growth companies
Elena Precourt
Bryant University, Smitheld, Rhode Island, USA
Abstract
Purpose The purpose of this paper is to examine the section of the Jumpstart Our Business Startups
(JOBS) Act related to information dissemination by sell-side security analysts. The paper analyzeshow the
abolishment of the quiet period requirements for emerging growth companies (EGCs) changes the analyst
initiationtiming and market expectation of and reaction to the issuance of the analyst recommendations.
Design/methodology/approach This paper considersthe effect of the abolishment of the quiet period
requirements on analyst coverageinitiations for EGCs with IPOs between January 2006 and December 2015
using regressionanalyses and probability models.
Findings The results conrm the current anecdotaland empirical evidence that a shorter, de facto, quiet
period exists. Analyst issue stronger average ratings for EGCs thanfor similar rms with IPOs before the
JOBS Act. EGCs with initiations from multiple analysts also experience stronger positive market reaction
than the rms with initial offerings before the JOBS Act. The market seems to anticipatewhich EGCs will
have initiations and particularly which EGCs will have initiations from multiple analysts. The investors,
however,do not fully anticipate the strength of actual recommendations.
Practical implications This paper is important for researchers, practitioners and policy-makers to
understand how analysts impact the nancialmarkets, how timing of analyst initiations affects stock prices
of EGCs and what rm characteristicsplay a role in securing analyst coverageshortly after initial offerings.
Originality/value This paper adds to the emerging literatureon consequences of and changes brought
by the JOBS Act. Specically, this paperextends the limited literature on analyst initiationsissued for rms
with IPOs following the JOBS Act, timing of those initiationsand magnitude of the markets response to the
initiations.
Keywords JOBS Act, Analyst ratings, Investor trading behavior, IPO market, Quiet period
Paper type Research paper
1. Introduction
The Jumpstart Our Business Startups (JOBS) Act is a legislative package designed to
encourage funding of small businesses, startups and entrepreneurs. The JOBS Act was
signed into law on April 5, 2012 with an effective date of December 8, 2011[1]. The Act
loosened the Securities and Exchange Commission (SEC) rules for emerging growth
companies (EGCs) with less thana billion dollars in gross revenue considering initial public
offering. In this paper, I analyze the section of the bill essentialto information dissemination
requirements before,during and after an IPO[2].
There are varying opinions on whether loosening information dissemination and
reporting requirements for EGCs is warranted and whether the JOBS Act changes
undermine investor protections by compromising the quality and quantity of information
shared with potential investors and other market participants. Some believe that
deregulation offers an easier path for small companies to raise capital for growth and
development. This bill makesit easier for start-up businesses to happen again in America,
JFRC
27,1
86
Journalof Financial Regulation
andCompliance
Vol.27 No. 1, 2019
pp. 86-109
© Emerald Publishing Limited
1358-1988
DOI 10.1108/JFRC-10-2017-0082
The current issue and full text archive of this journal is available on Emerald Insight at:
www.emeraldinsight.com/1358-1988.htm
said then House Majority Leader Eric Cantor after the billpassed. Others are of the opinion
that the bill does not lead to positive changes in the security markets, but instead opens
oodgates of fraudulent activities and leads to creation of highly speculative ventures. On
March 8th, after the House passedthe bill, CNNMoney quoted opinion of Lynn E. Turner, a
former Securities and Exchange Commission (SEC) chief accountant, who said The
package would fundamentallychange the kind of information companies provide the public
in an IPO. He added, Youre creating a much easier situationfor fraudsters to step in and
take advantage of people. Joyce A. Rogers, senior vice president for government affairs at
AARP voiced her opinion about the bill:
Money that could have been invested in small companies with real potential for growth would be
siphoned ointo these nancially shakier, more speculative ventures. The net eect would likely
be to undermine rather than support sustainable job growth.
The JOBS Act attempts to reverse a decades long decline in the number of IPOs in the USA
caused by, among other things, reducedinvestment research coverage (The IPO Task Force,
2011 Report; Gao et al., 2013). The IPO Task Force Report, which served as a blueprint for
the law, recommendsadopting policies that would promote researchand improve the ow of
information availableto investors. Following this recommendation, abolishmentof the quiet
period requirements for EGCs became part of the Act. Under the Act EGCs can also choose
to le condentially, to scale back their required disclosures in the IPO registration
statements and to forgo compliance with SOX 404(b) and DoddFrank executive
compensation provisions for as long as they remain EGCs. Based on the ndings by
Chaplinsky et al. (2017), virtually all EGCs elect to take advantage of these provisions. The
abolishment of the quiet period improves information ow from the rm managers to the
investors. The reduced disclosure and information sharing requirements may have
made analyst research reports issued for EGCs more valuable to the investors thereby
increasing anticipation of the analystinitiation releases. Prior literature also shows that the
level of analyst coverage increases with the level of information uncertainty (Barth et al.,
2001;Cliff and Denis, 2004).
The consequences of terminating the quiet period requirements as a result of the JOBS
Act have not been widelyanalyzed (Dambra et al.,2018). A majority of the existing literature
focuses on sections of the JOBS Act pertaining to crowd-fundingand changes in accounting
disclosure requirements (Langevoort and Thompson, 2013;Stemler, 2013;Dambra et al.,
2015;Barth et al., 2017;Chaplinsky et al., 2017). I, on the other hand, evaluate the effects of
the Acts section related to information dissemination by sell-side security analysts. I
analyze how the abolishment of the quiet period changed analyst initiation timing and
market expectationof and reaction to the issuance of the analyst recommendations.
My sample includes issuersof publicly tradedcommon shares in the USA over the period
of 2006 to 2015. After the enactment of the JOBS Act in 2012, most analysts wait until after
25th calendar day following IPOs to initiate coverage for EGCs. Hence, I chose this time-
point for my analysis of market adjusted returns for EGCs that went public after the JOBS
Act and use 41st post-IPO calendar day for would-be-EGCs that had their IPOs before the
JOBS Act[3]. I do not observe signicant abnormalmarket returns around the 41st calendar
day following IPOs for would-be-EGCs. I do, however, observe strong positive market
reaction around26th calendar day subsequent to IPOs for EGCs.
Most rms in the sample (68 per cent) have at least one analyst initiating coverage with
an average rating of slightly betterthan Buy. The vast majority of the rms with initiations
(90 per cent) have two or more analysts recommending the rmsshares. When comparing
analyst coverage for EGCswith analyst coverage for would-be-EGCs, I nd that more EGCs
Eect of the
JOBS Act
87

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