SEC Voices Concern about "Eye-Popping" Startup Valuations
Shriram Bhashyam | April 04, 2016
I recently wrote an article for TechCrunch analyzing a speech given by SEC Chair Mary Jo White in Silicon Valley. This is a positive development towards the evolution of transparent, deep, and orderly private secondary markets. As always, we at EquityZen seek to keep our community informed of relevant updates.
Consider it an early warning, or maybe a gentle reminder from your friendly securities regulator. Securities and Exchange Commission (“SEC”) Chair Mary Jo White came to the heart of Silicon Valley to deliver a speech at Stanford University’s Rock Center for Corporate Governance on March 31, 2016, which touched on a variety of topics but was rather forthright in addressing startup valuations. Management and boards at late stage, or pre-IPO, companies are on notice that the SEC is paying attention to the late stage financing arena, and should look internally to ensure that corporate governance and financial controls are befitting their scale, and should also ensure the accuracy of the disclosures they make when raising funds.
Job number one of the SEC is investor protection. Viewed through this lens, it makes sense that the SEC would start paying attention to what’s going on in the world of Unicorns and their “eye-popping”, as Chair White put it, valuations. To be fair, late stage financing occurs in the private markets, where the players are sophisticated and typically understand the risks associated with growth stage investing. However, these financings are still subject to basic securities laws requirements, including the accuracy of information
provided to prospective investors in these companies, which Chair White openly questioned. She was concerned that the motivations to achieve a high valuation may lead to impropriety in disclosures. Chair White noted, “In the Unicorn context, there is a worry that the tail may wag the horn, so to speak, on valuation disclosures. The concern is whether the prestige associated with reaching a sky high valuation fast drives companies to try to appear more valuable than they actually are.” It’s well-known in Silicon Valley that valuation itself has become a KPI, whether for noble reasons (recruiting talent
) or not (valuation as vanity metric
). Chair White wondered aloud “… whether the publicity and pressure to achieve the Unicorn benchmark is analogous to that felt by public companies to meet projections they make to the market with the attendant risk of financial reporting problems.” The SEC has now reminded companies that these motivations and pressures do not excuse bending the rules by inaccurately reflecting company performance.
Further, the SEC is keenly aware that the risk of inaccuracy is increased at startups because they tend to have looser internal controls than their public counterparts (Zenefits is the glaring example
here). Accordingly, Chair White stressed the importance of financial controls and corporate governance at pre-IPO companies...
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