Capital Markets Union and revision to the Prospectus Directive
In his Political Guidelines for the Next Commission, Commission President Jean-Claude Juncker stated that “to improve the financing of our economy, we should further develop and integrate capital markets. This would cut the cost of raising capital, notably for SMEs, and help reduce our very high dependence on bank funding.”
Commissioner Jonathan Hill’s office for Financial Stability, Financial Services and Capital Markets Union has been working hard in recent months to deliver firm policy proposals to create deeper and more integrated capital markets. The Commission is now in the middle of a number of major linked consultations under the banner of the Capital Markets Union: seeking to deliver a single market for capital across Europe. The most pertinent area of this initiative for growth companies is the examination of the Prospectus Directive (Directive 2003/71/EC).
The current prospectus regime
The European Prospectus Directive has been in force for ten years, having undergone some revision in 2010. In summary, a company is required to produce a compliant prospectus for debt and equity securities where it is either:
making an offer of securities to the public; or
seeking admission of its securities to a regulated market.
The prospectus regime is intended to maintain the reputation of capital markets and protect the interests of investors through the preparation of detailed documents by the issuer which are then reviewed and, ultimately, approved by national competent authorities (in the UK this is the Financial Conduct Authority in its capacity as the UK Listing Authority).
The SME community is keen to see changes to the Prospectus Directive regime to encourage SMEs to raise money from the public through a reformed prospectus regime which is cost effective for growing companies.
Making the prospectus regime work for SMEs
A major problem for SMEs is that the process to produce a prospectus requires a very significant investment of time and money, rendering it either impractical or uneconomic for many growth companies. Growing companies have limited resources and therefore many find the cost to produce a prospectus uneconomic for the funds to be raised.
The result of this is that such companies raise funds through exempt routes. In the UK, it is not uncommon for companies to raise funds from categories of persons who are exempt from the financial promotion restriction contained in Financial Services and Markets Act 2000 and, if they do wish to access a public market, seek admission to a market such as AIM or ISDX Growth Market (which are not regulated markets).
A financial promotion to exempt persons almost always necessitates significant intermediation of the investment with private client brokers to promote the stock, extending the supply and communication chain between the company and its source of capital. Recent years have also seen the development of the crowdfunding phenomenon, which directs a financial promotion to exempt categories of persons without the liquidity opportunity which comes from admission to trading on a public market.
Growing companies should be encouraged to make their securities available to the public: this is good both for the companies (as it increases the investor pool) and, if properly regulated, is good for linvestors (as it allows investment opportunities and greater direct contact between companies and investors). Better communication between companies and their investors is a major theme of the UK Corporate Governance Code and was an area of significant focus in Professor Kay’s major 2012 report which has had significant impact on the thinking of the European Commission.
An opportunity to deliver a solution to drive the engines of growth?
The European Commission is being lobbied by many interested in the creation of new business growth across Europe to use this re-evaluation of the Prospectus Directive to create a simplified regime for SMEs. A “prospectus-light” regime for SMEs would operate in parallel with the categorisation of SME growth markets under MiFID II, which defines the manner in which securities in such companies may be offered for sale.
The result of a multi-layered approach, with different types of prospectus or similar documents (fully approved, slimmed down and approved and non-approved), would be that more documents would be classified as prospectuses and more investment opportunities would be made available to retail investors, rather than fundraisings being carried out to attract either institutional money or funds from exempt persons (such as those of high net worth). The process of approval by a national competent authority does represent a badge of quality. If properly structured, this will support growth in two ways, by providing companies with more direct access to deeper pools of capital and at a lower cost and also expanding the media message of many companies, using their securities as an advertisement for their business.