PIPE deals as regulatory arbitrage

Sjostrom has an excellent paper on SSRN about how PIPE (Private Investment in Public Equity) deals can be regarded as a form of regulatory arbitrage. Sjostrom’s argument is that the hedge fund that invests in a PIPE deal is performing the same economic function as an underwriter without being subject to either the NASD’s cap on maximum underwriting fees or the due diligence liability that the SEC imposes on underwriters. The paper also argues against the harsh posture that the SEC has adopted against PIPE deals.

I agree with much of this analysis but this line of thinking raises a few other broader issues that Sjostrom does not touch upon:

• Why should the regulation of primary market offerings be so dramatically different from that of secondary market trades? In the US, people often joke that this is largely because the Securities Act was enacted in 1933 while the Exchange Act was enacted only in 1934. This is a silly reason in the US and even sillier in the rest of the world.
• Is the regulatory regime for underwriters anti competitive and has it contributed to the emergence of a cosy oligopoly?
• Is it sensible to bundle due diligence liability and underwriting market risk as inseparably as the current regulatory regime seeks to do in the US?
• Why should regulators not embrace simple auctions as the best way to conduct follow on public offerings?

In an earlier blog entry, I argued that “Regulators however continue to act as if anything unfamiliar is worse than the status quo even when it is potentially better.” The SEC’s response to PIPE deals seems to fit this description. PIPE deals which are not of the death spiral variety appear to me to be a very legitimate financing vehicle

Posted at 2:57 pm IST on Wed, 13 Jun 2007         permanent link

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