JOBS Act Could Provide Cover for Activist Investors

Small banks could discover that a new law that lets them slip into the dark on certain types of reporting could also blind them from looming dangers.

The Jumpstart Our Business Startups Act, which President Obama signed into law earlier this month, allows companies to deregister from the Securities and Exchange Commission if they have 1,200 or fewer shareholders, compared to the previous threshold of 300.

Industry observers say more than 500 banking companies could take advantage of the change. Many of those are banks that have been vigorously looking for ways to cut costs in a challenging revenue environment.

For all its advantages, an end to public reporting has at least one risk. It could stymie management teams' ability to track activist shareholders, especially those intent on amassing bigger stakes to promote rival agendas.

"Basically, when any shareholder hits that 5% ownership threshold, they have to file with SEC," says John Laide, a product manager of FactSet Research Systems, which provides information on takeover defense, activism and proxy-related issues.

Large investors "have to detail what their intentions are," Laide says. "A lot of the [filings] are routine, but they send a signal to the companies if they should be wary. If you're no longer registered, they can stop filing."

That protection is known as the Williams Act, which was a 1968 amendment to the Securities Exchange Act of 1934. Large shareholders who are seeking a hands-on role in a company are required to file documents with the SEC called 13-Ds. Large, but passive, shareholders file 13-Gs.

Not every bank considering deregistering should worry, says Kip Weissman, a partner at Luse, Gorman, Pomerenk & Schick. In assessing a decision to deregister, he says, directors must consider how much of the company is controlled by friendly investors. It is also important to assess the size of the shareholder base.

"If [directors] have 35% control, maybe they're not concerned with an outsider," Weissman says. "Or maybe they're so confident that they run the bank so well that they aren't afraid of an activist." The key is to assess the potential for outside challengers before making a decision. "My point is that they have to identify their vulnerabilities," Weissman says. "This could be very important for some banks and not a real consideration for others."

Deregistering could create an event that shakes up the shareholder base, lawyers warn. Some institutional investors might be barred from owning stock in companies that do not report, and other investors might prefer the transparency of a public company. As those investors look to exit, activists might show an interest in snagging those shares.

Douglas Schaller, the president of Schaller Equity Partners, says it is already difficult to accumulate a big stake in a small bank because the stock tends to be widely dispersed. Schaller, who is embroiled in a proxy fight with Cardinal Bankshares in Floyd, Va., says that the change has advantages and disadvantages.

"To some extent, you can do it more quietly, but they will know one way or the other," Schaller says. "I'm more concerned with the makeup of the shareholder base. Not filing certainly helps, but you have to run an ad in the newspaper or work with a broker if you are looking for sellers."

The ability to handle dissident shareholders in nonreporting companies is not just about awareness, Weissman says. It is also in the language of the proxy contests, which are activists' main tool for pushing for board representation or a bank's sale, among other things. Such documents are tempered to conform for the SEC if the bank is a registered company.

"The SEC is an active cop on the beat in regulating what is said in those statements," Weissman says. "When you deregister, it is the Wild West."

That is not exactly a bad thing, says Walter Moeling 4th, a partner at Bryan Cave. "I think it makes it easier for management to fight off dissidents," he says.

"I've always considered the proxy statements for reporting companies to be a major impediment to getting information to shareholders," Moeling adds. "It takes too long and is too artificial. You have to be so cautious about what you say."

Still, Moeling says the fighting might be juicer, but not necessarily nastier. "I don't think it will rise to the level of presidential campaigning," he says. "Even without the SEC review, it will still be fairly civilized." To be sure, industry observers support the notion of letting more companies deregister. Moeling, for instance, says he received a call from a banker, shortly after President Obama signed the JOBS Act into law, asking how soon he could stop his reporting.

Cecelia Calaby, a senior vice president of the American Bankers Association's Center for Securities, Trusts and Investments says that there are other items that merit more attention. "The activist issue is a consideration, but I would focus on the real factors" for deciding on deregistering, she says.

"If I was talking to the board, I would be more focused on …shareholder liquidity, shareholder communications, the cost savings and future capital raises," Calaby says.