Abnormal Returns points today to Daniel Gross' Slate.com article that insists the real reason behind the flight of IPOs from Capital Markets in the United States is not what should be the obvious answer, "Sarbanes Oxley." Instead, Gross insists it is that the United States isn't any good at IPOs anymore, citing, among other reasons, the investment banking expense. Quoth Gross referring to an Oxera Consulting report:
Raise $100 million in the United States, and you pay the New York-based bankers at Merrill Lynch or Goldman Sachs somewhere between $6.5 million and $7 million. Raise the same amount in London, and you pay the London-based bankers at Merrill Lynch or Goldman Sachs about half as much.
Setting aside for a moment my constant amusement with financial reporters who believe that $3.5 million is a lot of money; and with reading an article that asserts that the costs of SarOx are insignificant without outlining the costs of SarOx, this, of course, is silly analysis. In my view anyone who dismisses the impact of SarOx on U.S. Capital Market competitiveness just isn't paying attention.
An absurdly conservative estimate I made some time ago based on numbers from the Corporate Roundtable showed non-adjusted expenses for SarOx for a $250 million firm at around $12 million over six years. This is around 400% of the disparity in investment banking fees Gross cites Oxera as citing and it's only over six years. This basic analysis also ignores the fact that a $100 million IPO is likely of a much larger firm and therefore a firm that would endure much more substantial SarOx costs than my $250 million example firm. Assuming that 20% is floated in the IPO, a $100 million IPO might be a $500 million firm. SarOx costs for such a firm over six years might approach more like $3-5 million per year. It doesn't take many years to make the investment bankers look cheap compared to the raping the firm will be subjected to by the auditors.
Gross also doesn't bother to explore the connection of high underwriting fees in the United States to increased liability and compliance costs investment banks have been saddled with post-SarOx. I've yet to see the argument made that London underwriting isn't cheaper because of looser regulatory environments and limited litigation risk.
Also bear in mind that for the ever more popular LIPO, every dollar spent yearly on SarOx is a dollar that can't be spent on debt service. That could prove far more expensive than the naked dollar cost of SarOx.
More concerning is the first day run-up figure in offerings disparity shown by the consulting firm Gross cites, suggesting that IPO pricing is a lost art among American investment banks and that money is being left on the table as a result. Ignoring for a moment that Gross cites the high expense of using Morgan Stanley and Goldman Sachs for underwriting (probably because they are the two most expensive), but that the report uses an average of all offerings by all investment banks in the United States to argue for the poor pricing skills of American investment bankers (a clever trick), I worry here about the statistical validity of comparing the IPO market in the United States with that in, e.g., London. Could the same company have raised as much in London as in the United States? How do we know? How exactly were the many variables (taxation, regulatory costs, litigation risk) normalized in Oxera's study? Was firm size adjusted for? Industry? We are not told.
Just as an aside, it would be interesting to know how Goldman compares to the rest of the U.S. when it comes to IPO pricing accuracy as measured by first day (week?) run up.