IPOs & Forensic Accounting: An Unlikely Match

“Trust but verify.” – Ronald Reagan

Before launching an initial public offering ("IPO"), a company must submit extensive disclosures to the Securities & Exchange Commission (SEC) on Form S-1; however, the data listed therein does not include a complete history of financial results while the firm was private. In fact, as a result of the JOBS Act emerging growth companies may now elect to include fewer years of financial history than was previously required.

In an attempt to provide a more comprehensive view of recent IPOs, our analysts perform a deep-dive review of the firm’s prospectus and accounting practices, and compare the firm’s financial data to its close peers to gain a better grasp of the quality and sustainability of its reported earnings.

JOBS Act & The Emerging Growth Company:

On April 5, 2012, the Jumpstart Our Business Startups (JOBS) Act was signed into law. The act attempted to ease regulation around IPOs by creating a new classification of companies going public called “emerging growth companies” (EGCs). EGCs are defined as issuers with less than $1 billion in annual revenue. One criticism of the JOBS Act legislation is that the less stringent disclosure requirements could lead to diminished transparency, hurting investors in the long-run. 

Three Ways the JOBS Act Reduces Transparency:

Normally, when a registration statement is submitted to the SEC, it becomes available to the public. However, the JOBS Act allows ECGs to submit a registration statement for confidential, nonpublic SEC review. Snapchat (Snap Inc.) is an example of a private company that recently filed for IPO under the new confidentiality regulations.

To make matters cloudier, the JOBS Act requires EGCs to file only two years of audited financial statements instead of the three-to-five-year previous requirement. Releasing fewer years of financial results could make it easier for a firm to “time” its IPO to avoid disclosing negative information.

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Disclosure: The author has no positions in stocks or ETFs mentioned.

Disclaimer: This newsletter is published solely for informational purposes and is not to be construed as advice or a recommendation to specific individuals. Individuals should take into account their personal financial circumstances in acting on any rankings or stock selections provided by Sabrient. Sabrient makes no representations that the techniques used in its rankings or selections will result in or guarantee profits in trading. Trading involves risk, including possible loss of principal and other losses, and past performance is no indication of future results.

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