London Is Losing the SPAC Fight With New York

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The arguments in favor of relaxing the U.K. rules for initial public offerings — even watering down the cherished principle of one-share, one-vote — stack up. If anything, the ideas Boris Johnson’s government put out for consultation may not be radical enough.

The U.K. wants to attract more IPOs to the London stock market, in particular high-growth companies from the technology sector. It sees Brexit, and its newfound freedom to deviate from European Union financial regulation, as an opportunity to create a regime that does just that.

There are good reasons to attempt such reform. A large and diverse equity market does more than just match providers and users of capital. It spawns high-quality jobs and creates a community of talent and expertise. In a less tangible way, it functions as a kind of a beacon of prosperity that fosters confidence in the broader economy.

Britain boasts that its capital markets are “deep” — basically there’s lots of money sloshing around — and its standards are world-beating. To what end? Tech firms rarely choose to list in the U.K. The FTSE-100 index is dominated by mature, low-growth companies. Contrast that with New York, where IPO rules were already more flexible than the U.K.’s even before the recent boom in special-purpose acquisition companies (SPACs, the cash shells which buy private companies giving them a listing without the IPO rigmarole).

London is left in a Catch-22. A limited number of listed tech firms means fewer analysts, investors and advisers in this area, which in turn makes the market less appealing to the next hot tech IPO candidates.

Against that backdrop, fears that the reforms under consideration are too risky to contemplate look overdone. The main proposal is allowing dual-class share structures even for premium listings, the U.K.’s top category. These allow founders to retain control through stock that carries more than one vote. Permitting this with conditions makes sense. The constraints could entail scrapping them after, say, five years, capping the votes of the super-voting shares and restricting their application to some resolutions, like a hostile takeover, but not others, like delisting.

The other big idea is to cut the requirement that a listed company has a free float of at least 25% of its shares. Some say the rule helps defend minority shareholders. In reality, they are in a weak position even at the current threshold. Minorities would be better protected if companies with small free floats were subject to stricter governance, say with tougher requirements around independent directors in the boardroom and chairman role.

An alternative defense of large free floats is that they help facilitate trading in the stock. But the percentage is somewhat arbitrary in isolation. Liquidity is going to be a function of the absolute size of the float and whether the shares are split between many or few funds. Again, a nuanced approach to relaxing free floats seems sensible.

The hope is doubtless that tweaking the rule book will be enough to see London attract a handful of technology IPOs, in turn pulling in another and another. Still, it will take more than changing the rules to snatch a fair share of European IPO candidates. The U.S. SPAC market already has them in its sights — look at the vehicle listed in December by former Barclays Plc banker Makram Azar.

An illuminating paper by the University of Edinburgh Business School examined in detail some of the reasons for the U.K. stock market’s shrinkage. One big problem is that the technology investor and analyst universe is not so well developed as elsewhere. A high-tech company may therefore feel it’s going to be better understood in, say, the U.S., leading to a higher valuation. It may also reckon that investors there will be more constructively engaged.

Another challenge is the imbalance in the tax and regulatory treatment of private capital markets.

The academics propose some possible remedies. The U.K. regulator could modify its so-called training and competence regime to strengthen regulated investors’ skills in valuing innovative companies, and launch a review into how to rekindle the provision of research on smaller companies that’s withered in recent years. More radically, the U.K. could consider tax breaks to attract investment to smaller growth companies or IPOs. After all, there’s benign tax treatment on the cost of servicing the greater amount of debt typically held by private companies.

Then there’s the SPAC market itself. The U.K.’s blank-check regime contains some friction — notably the de facto need to suspend the shares when the acquisition vehicle lands on its target. The U.K. could choose adopt the U.S. model warts and all, including the controversial incentive structures. As with tiered voting rights, the sensible course may lie somewhere in between.

It may not want to, but the U.K. probably has to dangle some real carrots to attract the companies it’s courting. Brexit may well be the moment to rewrite the rule book. But European regulation isn’t really the problem here. After all, Dutch companies can have dual-class stock. Britain has rightly sought to have the highest financial standards in the world. What that means in practice is open to debate. In capital markets, the goal should surely be to support entrepreneurialism and then apply the checks and balances.

This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.

Chris Hughes is a Bloomberg Opinion columnist covering deals. He previously worked for Reuters Breakingviews, as well as the Financial Times and the Independent newspaper.

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