Reforming the prospectus regime

In Europe, 60 million individuals are direct shareholders in listed companies. Yet issuers do not have easy access to these investors when raising funds, as market infrastructure has not adapted to the operational and regulatory constraints related to retail participation. This is set to change, however, with an industry-wide push for retail inclusion currently under way.

Public companies frequently raise new, dilutive capital from their existing institutional investors, at a discount of several percent, without including their retail investors in the deal. The reasons for this are not simply due to a company’s philosophical unwillingness to embrace retail.

On the contrary, many companies would like to include retail investors in their capital raises. The problem, until recently, was that the technology to make this a seamless process was not available. What’s more, historical regulatory requirements have unintentionally impeded retail investors’ access to these valuable investment opportunities.

These constraints create inequality between shareholders. Simply put, capital markets are either public and open to all investors, or they are not. This means that retail investors should be treated equally and given the same access as larger institutional investors. This would not only benefit individuals, however, as retail participation can yield a number of benefits for issuers, and the financial ecosystem as a whole.

Including retail investors in capital increases is good governance, demonstrating that companies understand the different shareholder segments and are actively treating them equally. Retail investors, in turn, tend to be long-term shareholders and a valuable source of capital in a market that today can be dominated by algorithmic trading and passive strategies. They are also especially important for small and mid-cap companies – acting as loyal, long term providers of capital and a vital source of support and liquidity.

Promoting reform

As part of the government’s plan to strengthen the UK’s position as a leading global financial centre, the UK Listings Review was launched in November 2020. Chaired by Lord Hill, the objective of the review was to propose reforms to the UK listings regime to attract the most innovative and successful firms to list in the UK and help companies access the finance they need to grow.

Key recommendations from the review included “a fundamental review of the prospectus regime” and “consider[ing] how technology can increase the involvement of retail investors and the efficiency of capital raising.” In April 2021, the Chancellor announced the government’s commitments in relation to all of the recommendations in Lord Hill’s reports, including to report annually to parliament on the state of the City and to undertake a fundamental review of the UK’s prospectus regime.

In light of the Listings Review and Kalifa UK review of fintech, the FCA and HM Treasury launched respective consultations on the effectiveness of UK primary markets and the prospectus regime. As part of this reform exercise, there is a potentially significant benefit for the government to act with regards to the prospectus rules by reforming or even eliminating the arbitrary €8m limit on raising follow-on capital from retail investors.

This €8m limit was inherited from EU legislation – as a piece of EU regulation, it was transposed directly into UK national law – and allows companies to exempt offers to the public when the amount does not exceed this figure. Therefore, this can constrain the level of retail participation in companies' fundraisings.

In turn, HM Treasury’s consultation marks “the beginning of a process of reform”, whereby it aims to:

• facilitate wider participation in the ownership of public companies and remove the disincentives that currently exist for those companies to issue securities to wider groups of investors.
• improve the efficiency of public capital raising by simplifying regulation and removing the duplications that currently exist in the UK prospectus regime.
• improve the quality of information investors receive under the prospectus regime.
• make the regulation in this area more agile and dynamic, capable of being quickly adapted and updated as times change

The whole ecosystem

Regulation implements the necessary safeguards to market activity. Yet reform is necessary to keep it aligned with an evolving ecosystem. An incredible opportunity to reassess and reinvigorate the capital raising process has presented itself. The industry should come together to work towards fairer, more inclusive and transparent capital markets. For the long-term and sustainable development of the primary markets, it cannot afford to miss out.