NVCA Urges Adoption Of Plan To Revive IPO Market

by Mike Godfrey, Tax-News.com, Washington

05 May 2009

The National Venture Capital Association (NVCA) has unveiled recommendations addressing the capital markets crisis for venture-backed companies in the US. Since the Internet bubble burst in 2000, the number of initial public offerings (IPOs) by venture-backed companies has declined alarmingly, culminating in the 2008 drought when only six companies entered the public markets. A healthy number of IPOs would be at least 150 a year, similar to the number of offerings in the 1990s. The NVCA Four Pillar plan to restore the venture-backed IPO market focuses on 'ecosystem partners', enhancing liquidity, tax incentives and regulation:

Pillar I: Ecosystem Partners

Against a backdrop of a much reduced number of service providers in the venture capital market, more must be done to promote alternative ecosystem partners while engaging with existing members to improve service of emerging growth companies' needs. The NVCA has entered into talks with boutique and major investment banks as well as the Big Four and other public accounting firms on this subject and is also promoting a broader array of service providers such as the "Global Six" including Deloitte LLP, Ernst & Young LLP, Grant Thornton LLP, KPMG LLP, PricewaterhouseCoopers LLP and BDO Seidman LLP. It must be possible to promote IPOs of USD50m or less, which is what most venture-backed companies need to fuel their growth. This means rebuilding a network of boutique investment banks interested in taking small companies public and connecting with investors willing to hold stock for years, not after a quick profit. Portfolio companies should be persuaded that they may not need big name investment banks to have a successful IPO.

Pillar II: Enhancing Liquidity

The distribution system that connects sellers and buyers of venture-backed company new issues is broken. Mismatched expectations in terms of issue size, the lack of sell side analysts, and the propensity of hedge funds to buy and sell stock quickly - all contribute to this dysfunction and considerable post-IPO market volatility. The NVCA endorses the likes of 'Inside Venture', a private market platform connecting companies intending to IPO within 18 months with pre-screened long term cross-over investors. Other providers with similar models include Portal Alliance (NASDAQ), SecondMarket and Xchange. Additionally, the NVCA will promote pro-active packaging of smaller portfolio companies together to achieve IPO critical mass and global alternatives to the US public markets.

Pillar III: Tax Incentives

To support a more vibrant IPO market, the US must maintain tax policies that have been proven to encourage venture capital investment so that the pipeline of promising IPOs is as robust as possible. Congress should consider adopting new tax incentives which would stimulate IPOs, at least in the short term. The NVCA advocates strongly for a capital gains tax rate that is globally competitive and preserves a meaningful differential from the ordinary income rate. Venture capitalists (VCs), who are successful in building new companies, should continue to be taxed at a capital gains rate for any carried interest that is earned over the long term. The private equity industry resent the proposals to tax carried interest – essentially the VCs’ profits – as ordinary income instead of capital gains. A one time tax incentive providing 10% capital gains tax for buyers and holders of IPOs is recommended as well as increasing the holding rate for capital gains status to two or more years. NVCA President, Mark Heesen, said he doesn’t expect any major tax legislation until next year.

Pillar IV: Regulation

The last decade has brought a series of broad sweeping regulations aimed at curbing serious abuses within the financial system but fraught with unintended consequences for small pre-public and public companies. Small venture-backed companies have been faced with costly compliance and increasing barriers to enter the public markets as a result of regulations intended for larger multi-national corporations. The NVCA strongly supports investor protection but does not want a "one size fits all" approach to regulation. Therefore the SEC should initiate a full systematic review of recent regulations which impact small cap companies. This review would include interpretations of SOX, pre-IPO financial reporting requirements, the separation of analyst and investment banking functions, and private placement requirements.

The initiative was spearheaded by NVCA chairman and co-founder and general partner at DCM, Dixon Doll. "We are optimistic that the recommendations included in the Four Pillar Plan will contribute to a more vibrant IPO market for venture-backed companies over the long term," concluded Doll. "The NVCA remains committed to fostering an environment that fuels significant economic growth and job creation. The adoption of our recommendations is a critical element of our country's continued global leadership and ability to bring high growth, innovative public companies to market."

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