Month: January 2011

Facebook, Capital and Liquidity

There have been many stories written about the Goldman Sachs investment in Facebook. On one hand, there is the chatter about the investment placing the valuation at $50 billion. On the other, there hand there is the talk about how this affects a possible IPO by Facebook.

There are two main reasons for an public offering of stock: liquidity and capital.

If you need capital, a public offering of common stock is merely one of many ways to raise capital. The benefit of this option is that the capital does not need to be repaid. A bank loan, a bond offering, venture capital or private capital will generally need to be repaid at some point. Each source of capital has a price and repayment terms that you need to align with the company’s needs and business plan.

It sounds like Facebook has ready access to capital in many forms. So an initial public offering may not be the best or the cheapest source of capital.

The liquidity of public stock is useful for rewarding employees and cashing out earlier sources of capital. Employee stock is great, but in a private company is very illiquid. It does you very little good to be a millionaire on paper if you can’t access the wealth. Early round investors, like venture capital funds, want to be cashed out at some point. They need to return capital to their investors. It sounds like some of the private trading of Facebook stock is being done by employees and early investors.

The third reason for a public offering stock was the reason faced by Google. Once you have more than 499 investors, you need to start making reports public. So you may as well get the benefits of liquidity in the stock.

The cash from a public offering does not need to repaid, but there are costs to the capital. That means complying with Sarbanes-Oxley. The CEO and CFO has potential criminal liability for false reporting. The board of directors will now need to include independent directors. The company will be subject to shareholder lawsuits. There are lots of costs.

To me it sounds like Facebook and Goldman have come up with an ingenious solution to the address the capital needs for Facebook and to avoid a public offering of stock. I assume the Goldman investment and its new fund will be used to provide some capital for expansion and growth. I also suspect that some of it will be used to cash out early investors, purchase employee stock, and repurchase stock that has been privately traded. Gobbling up the stock would be an opportunity to keep the number of investors well below the 499 trigger point. Early investors may take their money and run.

Assuming Goldman can provide $2 billion and charge its investors a 4% fee for investing, they have already made $80 million on their $450 million investment.

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The SEC, Funding, and Rulemaking

There is turmoil in Congress as Republicans take control of the House of Representatives. One of their targets seems to be implementation of the Dodd-Frank Wall Street Reform and Consumer Protection Act.

It’s probably too late to repeal it and too early to start amending it. Too much corporate machinery has been put in place to start changing the statute at this point. It looks like Congress is going to use its control of spending to impede implementation and enforcement.

The SEC has asked for more funding and submitted a budget request of $1.258 billion for fiscal 2011. That was up from the previous year’s $1.118 billion budget. SEC Chairman Mary Schapiro said the agency would need to hire an additional 800 people to meet its expanded duties under Dodd-Frank.

Clearly, SEC will be stretched thin to deal with rule-making, enforcement, and examination if they are starved for budget dollars. More dollars means more staff and more technology to deal with the workload.

We have already seen that the SEC has missed its proposed deadlines in its rulemaking agenda and others have been explicitly delayed because of budget uncertainty.The most high-profile stalled effort is the proposed new Whistleblower office. Dodd-Frank imposed a heavy rule-making agenda on the SEC. They are likely to continue missing deadlines without the manpower and budget.

For corporate compliance, that means uncertainty about how Dodd-Frank will be implemented. If you are in a venture capital firm, you are wondering if you will have to register with the SEC as an investment adviser. There is proposed rule with the definition. There is a proposed rule with what reporting the venture capital firm will need to make. But you don’t know exactly where the definitions and rules will end up.

If you are a private fund adviser, you know you will need to file a Form ADV. The SEC has proposed a new form. It’s too early to start filling it out, because it may change. They will still need to change the online registration system to address whatever the final form will be.

We are now in 2011. That July 21, 2011 compliance deadline is getting closer and closer, but the SEC is falling further and further behind.

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Private Equity Portfolio Companies and Bribery Charges

The U.S. is investigating Allianz SE, for possible bribery by a German printing press company in which it holds a majority stake according to a story by Joe Palazzolo in WSJ.com’s Corruption Currents.

The Foreign Corrupt Practices Act bars US companies from paying bribes to foreign officials to keep or obtain business. The SEC claims jurisdiction over Allianz under the FCPA because it was listed on the New York Stock Exchange until October 2009.

FCPA investigations are a dime a dozen, so I didn’t pay much attention to this one a first. But then I noticed something different about this one. The company accused of bribery is Manroland AG a private equity portfolio company of Allianz.

This raises the specter that federal regulators are looking at the private equity industry as the next area for increased enforcement under the FCPA. At least, Tom Fox raises that possibility.

The additional FCPA challenge in the private equity industry is what level of control and ownership will be required to pass the liability up to the parent. Past actions have shown that when you purchase a company, you purchase the FCPA liabilities. Will other forms of acquisitions continue FCPA liability and pass it up the ownership chain? What if a transaction is structured as a purchase of a company’s assets instead of the ownership of the company? That traditionally severs most liabilities. What if ownership is just a minority interest? How much of a say over management will trigger FCPA liability being passed to a minority owner? One board seat? A majority of board seats?

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God Says No More Money Laundering

I expect that we will see a see standard in anti-money laundering programs.

Pope Benedict XVI committed the Vatican to the fight against money laundering, counterfeiting and the financing of terrorism. The headquarters of the Roman Catholic Church will now meet international standards of financial transparency. He has established a set of internal regulations which will ensure that the Vatican’s bank, the Institute for Religious Works, will adhere to regulations and cooperate with foreign authorities. The decree creates an independent Vatican watchdog – the Financial Information Authority – which will be tasked with ensuring that all financial transactions comply with internationally accepted norms of the Financial Action Task Force.

In September, Italy’s financial police seized 23 million euros from the Institute for Religious Works after the financial intelligence office at the Bank of Italy noticed two operations by the bank that it deemed suspicious. The move followed claims that it failed to disclose either the sender or recipient involved in a huge transfer of funds.

If a little bit of the papal infallibility rubs off on the Vatican’s anti-money laundering, you would expect it to work.

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