Archive for category: Financial Services

In his latest Forbes column, Delve CEO Jeff Berkowitz how increased political and reputational scrutiny can have a significant impact on your investments. To learn how to discover and assess risk to keep you ahead, read the excerpt below, then head to Forbes.com to read the full article.

From the collapse of FTX to Theranos founder Elizabeth Holmes’ prison sentencing, 2022 gave us plenty of reminders of how important investment due diligence is. Now, if the U.S. Securities and Exchange Commission (SEC) has its way, a failure to conduct that due diligence properly could have even greater financial and legal consequences for investment firms. While ensuring the financials add up and the business case is realistic are obvious components of due diligence, that’s no longer sufficient. As more industries face more public scrutiny and increased regulatory and policy pressures amid fraught domestic politics and more complex geopolitics, investors need to give greater consideration to potential political and reputational risks.

Last year saw numerous examples in which failures to appreciate the impact of political and reputational issues cost investors. Beyond the well-publicized fall of Sam Bankman-Fried and court sentencings of Theranos founder Holmes and her partner in crime Sunny Balwani, there was venture capital firm Andreessen Horowitz’s announcement that their largest investment yet would fund the resurrection of problematic WeWork founder Adam Neumann. Further adding to the reputational scrutiny, Neumann’s new enterprise focused on affordable housing just as named partner Marc Andreessen was opposing low income housing in his own wealthy community, despite publicly championing the construction of such housing elsewhere. The incident showed exactly how incorporating thorough political and reputational vetting can protect investors not just from possible embarrassment, but from avoidable financial losses.

The SEC is taking note of such issues and is beginning to ask investment firms tough questions about their due diligence practices. The financial markets regulator is also considering a proposal that would make it easier for limited partners to file suit when they believe due diligence was not diligent enough. Regardless of whether the proposal goes into force, smart investors are already stepping up their efforts to anticipate and mitigate potential political and reputational issues that could impact deals.

To ensure you can do the same, there are three key areas of risk to assess: the company you are investing in or acquiring and its management and operations; external factors such as the company’s operating landscape and range of policymakers and stakeholders that can impact it; and your own business practices and public statements that can raise red flags in a deal. While your deal may not be as high profile as some of the above examples, in this day and age of heightened scrutiny amid growing expectations for socially responsible investing, heeding such cautionary tales will pay great dividends. Here is what to look for in each of those areas of risk:

Continue reading at Forbes.com and find out how to assess and avoid political and reputational risk.

Here’s What You Need To Know

Four out of five U.S. consumers have used “Buy Now, Pay Later,” or BNPL, which lets consumers split online purchases into installment plans or loans. It is not surprising then that Apple yesterday announced it will be the latest entrant into the sector. Yet the tech giant may come to regret the decision. Amidst the pandemic and now with inflation at record highs, consumers are increasingly turning to this new fintech vertical as an alternative to credit cards for purchases they otherwise wouldn’t be able to afford, and the shift has been rapid.

As its adoption has grown however, so have concerns from regulators, consumer advocates, and political activists skeptical of financial services companies. How this regulatory debate unfolds could have a significant impact on the larger push for innovation in financial services and retail sectors. To ensure the regulatory environment is shaped responsibly, here is what fintech public affairs professionals need to know.

As “Buy Now, Pay Later” Booms, Policymakers Worry About a Bust

BNPL Usage Has Grown Exponentially. Last year alone, shoppers made nearly $100 billion in BNPL purchases, up from just $24 billion in 2020—an astronomical 316% increase. BNPL is especially popular with younger consumers—a coveted demographic reticent to use credit cards after being buffeted by crises and saddled with more student loans than prior generations. BNPL appears poised to grow even more, with retailers and payment firms viewing it as a key component to surviving and thriving in a post-pandemic, inflationary, and possibly recessionary environment.

From U.S. To Europe, Regulators Crack Down: Newly invigorated under the Biden Administration, the Consumer Financial Protection Bureau (CFPB) is taking aim at fintech companies offering these new forms of credit to consumers. In December 2021, the CFPB opened an inquiry, issuing a request to five companies – Affirm, Afterpay, Klarna, PayPal, and Zip – for information on the risks and benefits of BNPL loans. CFPB expressed concerns regarding the ease of consumer accumulation of debt, regulatory arbitrage, and data harvesting in a consumer credit market that is quickly changing as technology advances. It is not just CFPB putting the industry under a microscope either. As noted in its inquiry, the Bureau is working with regulators in Australia, Germany, Sweden, and the United Kingdom, who have all launched their own investigations.

What Is Driving the Biden Administration’s Interest In BNPL? Many of President Biden’s financial regulatory appointments have advanced the interests of ascendant progressives in his party, including CFPB Director Rohit Chopra, a protégé of Senator Elizabeth Warren (D-MA). Even before Biden took office, Warren and other progressives were preparing to take on fintechs and traditional lenders, seeking to constrain how they provide access to financing even if it undermines investment and innovation in the sector and restricts opportunities for consumers. Apple’s entrance may bring scrutiny from a different Warren acolyte, Federal Trade Commission Chair Lina Khan, who The Information notes “wrote a 2019 paper arguing for the separation of platforms and commerce.”

Consumer Advocates and Industry Analysts Sharpen Their Knives

Progressive Groups Crank Up Pressure On CFPB: In March, more than 75 consumer advocacy groups and their progressive allies submitted a joint letter to Chopra, urging him to take a more aggressive approach in regulating BNPL products to, in their view, safeguard consumers. The letter leveled allegations notably similar to those in the CFPB’s inquiry: the potential for unmanageable consumer debt, deceptive hidden fees, and an absence of transparent disclosures.

Industry Analysts Worry About the Bubble: The spike in BNPL usage has some industry analysts worrying the new trend is a bubble that will soon burst. Marshall Lux, who was Chief Risk Officer for Chase during the 2008 financial crisis, told CNBC, “When people start buying household goods on credit, that signals a problem.” NYU Stern School of Business professor Scott Galloway argues that because BNPL’s rapid growth is primarily fueled by younger consumers, a looming recession could spell disaster for the sector’s subprime-heavy target demographic. While retailers may view as their next best hope at keeping consumers spending amidst inflation, some worry whether BNPL can survive a possible recession.

To Protect Their Growth, BNPL Firms Must Anticipate More Scrutiny

As BNPL continues its rapid rise in popularity and usage, fintech public affairs professionals will need to address this growing scrutiny with careful consideration. Even though there their firms are already subject to various laws and regulations, there is a growing push for greater regulation. Nor will the sector’s potential reputational challenges just impact the fintech firms themselves. Retailers capitalizing on their payment services to win over inflation-laden consumers must also pay heed. To navigate their firms through these complex political and reputational risks, public affairs professionals will need to understand which policymakers and stakeholders are driving concerns and shaping new regulations so they can anticipate what comes next.

Here’s What You Need To Know

The announcement of a new industry group is a frequent occurrence in Washington, particularly as emerging sectors or practices gain attention –fairly or not – inside the Beltway. With such scrutiny, growing industries beef up their presence in Washington because in the world of Washington physics, political and reputational risks expand alongside newfound prominence and the disruption of the existing order. That’s why it was no surprise to see reports last month of a new group forming to represent the interests of special purpose acquisition companies, also known as SPACs.

Often, such coalitions arrive too late, after lawmakers, regulators, the press, and the public have formed views and demanded action. Smart public affairs professionals, however, get industry interests aligned before the onslaught, rallying the right mix of strategies to advance their business and policy objectives and avoid political and reputational pitfalls. For SPACs, there is no better time than now to get organized. Here’s what you need to know to understand why.

SPAC’s Lower Regulatory Burden Has Helped Spur Increased Popularity

As IPOs Have Waned, SPACs Have Gained: A special purpose acquisition company (SPAC), according to CNBC, is “set up by investors with the sole purpose of raising money through an IPO to eventually acquire another company.” As we noted last year, such ‘blank check companies’ have become an attractive funding source for businesses due “in large part to the imposition of more stringent regulatory frameworks” that made traditional IPOs “increasingly unattractive to entrepreneurs and investors alike.” To avoid the regulatory complexity and intense public scrutiny of IPOs, greater numbers of startups have turned to SPACs as accessible financing tools to grow their organizations. In fact, 2020 saw an unprecedented number of SPAC IPO transactions, with last year’s offerings accounting for one-third of SPACs established over the past decade, and 2021 is already ahead of 2020.

But Fewer Rules and Increased Popularity Come With More Risk

More Money, More Pressures: While such entities been around for some time, they have rapidly ascended in popularity over the past two years – vaulting from just 20 issuances in 2015 to nearly 400 already this year, with 50% more capital raised in the average deal. Such growth means more SPACs wooing the same investors to chase the same deals – and because of the former, doing so faster. This pace of activity means increased scrutiny and even pushback from investors and lawmakers alike, leaving SPACs with as many public affairs challenges as opportunities.

A Blank Check That Could Bounce: While SPACs have many attributes that make them attractive offerings for prospective investors, some government officials and financial experts warn of risks associated with investing in them. Chief among them is SPACs’ past performance. A Goldman Sachs index of 200 SPACs saw an average loss of 17 percent in 2021, compared to a 10 percent return in the S&P 500.  Stephen Deane of the CFA Institute told Congress that each year since 2010, SPACs performed worse than the Russell 2000 by 10 percent or more. These results mean a SPAC investor must be exceptionally savvy and able to sustain significant losses, but Bank of America reports retail investors still account for 40 percent of SPAC trading on its platform, and some SPAC transactions are increasingly reliant on their appeal to such investors. Moreover, because a SPAC does not disclose outright what company it intends to acquire, investors have no idea in which business they are ultimately investing. With limited options in “hot” sectors like electric vehicles and fintech, investors are potentially financing SPACs that acquire less than desirable organizations with real problems or little market appeal.

Time Crunch Mean Less Due Diligence: According to Bloomberg News, “half the blank-check companies that filed for U.S. listings since the start of June are giving themselves an initial period of 18 months of less to find an acquisition target,” and many recently formed SPACs are pledging to merge within 12 months. Previously, more than 80 percent had set their duration at a standard 24 months, but with an explosion of SPACs chasing the same pool of investors, some are promising to move quicker to attract capital. To move with such speed, due diligence is necessarily performed at a narrower scope and faster pace than during an IPO, leaving SPACs vulnerable to potential restatements, incorrectly valued businesses, or even lawsuits and fraud. In addition, since a SPAC is already public, the target company won’t have an underwriter, which in a traditional IPO would ensure all regulatory requirements are met.

That Means SPAC’s Influence-building Must Speed Ahead of Their Challenges

Wild West No More: SPACs’ growing popularity means more scrutiny – and enforcement – from regulators. In mid-July, the Securities Exchange Commission (SEC) charged a company and the SPAC that took it public with defrauding investors, explaining its case illustrated “risks inherent to SPAC transactions, as those who stand to earn significant profits from a SPAC merger may conduct inadequate due diligence and mislead investors.” The SEC is also investigating complaints against a variety of other SPAC-backed companies, including Lordstown Motors, Nikola Corp., Clover Health Investments, Akazoo SA, and Ability Inc. Since their ability to avoid costly and time-consuming red tape is one of SPACs’ most appealing qualities, SPAC managers who attract increased regulatory interest could lose investors or cause headaches for others in the industry. It also means businesses seeking to be acquired will still need to understand how well they can withstand the scrutiny that comes with being a publicly-traded corporation.

“Worth Of Our Attention” On Capitol Hill: Federal lawmakers across the political spectrum are taking notice of the SPAC boom as well. In April 2021, Sen. John Kennedy (R-La.) introduced legislation to “increase transparency surrounding blank-check companies,” averring in a statement that “[celebrities] are often the public face of companies selling shares to hardworking Americans” who do not understand the investments they’re making. His fellow Senator Tom Tillis (R-NC) noted, “These are just new creations that we don’t fully understand … We should probably look at whether or not Congress should play a role in regulation.” In May, the House Financial Services Committee, chaired by Rep. Maxine Waters (D-Calif.), held a hearing on that very question, with witnesses “broadly agreed on the need for reforms to liability protections for forward-looking statements by special purpose acquisition companies, a key regulatory disparity highlighted by the recent SPAC surge.” In advance of the hearing, Rep. Brad Sherman (D-Calif.) proposed legislation that would do just that, arguing, “I would be flabbergasted if we looked at this area and saw that there were no problems at all worthy of our attention.”

It’s Not Just The Government Taking Notice: For the moment, SPACs might be enjoying relatively free movement and robust growth, but as every sector can surely attest, government rarely passes up an opportunity to regulate or otherwise involve itself in commercial activity that captures headlines. And like every opportunity for government to step in, there will be advocates pressing for action and shaping the form that action takes. As Healthy Markets’ Tyler Gellasch warned, “When SPACs … had valuations all heading to the moon, there wasn’t a lot of tire-kicking on the real risks to investors, but now that some of the risks are turning into losses, we expect a lot more congressional and regulatory focus.” That means SPAC supporters must step smartly and carefully through the Washington landscape that in the past decade has grown ever more skeptical of financial markets’ ability and willingness to self-regulate. That means understanding their vulnerabilities, identifying allies and detractors, and ensuring that as political pressures mount, so, too, do their efforts to educate policymakers before it is too late.

Here’s What You Need To Know

In a late April letter, Citigroup’s global head of credit strategy marveled that “the gap between markets and economic data has never been larger.” Even as stocks are on-pace to exceed previous peaks, 7.5 million small businesses face the prospect of permanent closure and 41 million Americans are out of work. Indeed, the true picture of job losses may be far worse than the unemployment number indicates. Yet major stock market indices are well on their way to regaining pre-pandemic and historic highs. As The Washington Post noted this week, “[M]any market players … remain stumped by the speed of the rebound in stocks amid the wider economic wreckage wrought by the pandemic shutdowns.”

This disconnect illuminates the reality that the stock market no longer serves as a reliable indicator of the strength of the American economy. In recent years, radical transformations in how investments are made have increased the unpredictability of the market, while long-term investors – who often hold funds tied to market indexes or targeting retirement dates – are less reactive to the highs and lows of such volatility. Meanwhile, the introduction of greater regulatory burdens has discouraged companies from going public, with many instead relying upon cash injections from private equity and venture capital to meet their funding needs until well after their companies mature.

This new reality now pervades the investment industry, and it puts private equity and venture capital firms in an important position for the economic recovery. While they long have been the subject of animus and scrutiny, particularly from their unfailing detractors in politics and the media, they now hold a far different place in the economic landscape than many policymakers or the market participants themselves realize. Although these firms might operate in private markets, they now serve a vital public purpose, which means policymakers must see them as the vital economic actors they have become, while the firms must ensure they act as good corporate citizens who can withstand this heightened public scrutiny.

To adapt this new reality and what it means for your interests, here’s what you need to know:

The Stock Market Used To Tell Us How the Economy Is Doing. Not Anymore.

There’s No Business Like Big Tech Business: On March 20, 2020, the U.S. stock market made its deepest dive since the Great Depression, erasing years’ worth of gains and plummeting to fewer than 19,200 points. Today, the Dow Jones Industrial Average (DJIA) is already nearly 6,000 points above its position when President Trump took office on January 20, 2017 and has recovered a great deal of its coronavirus losses. This gain is due in large part to tech giants like Facebook, Amazon, Apple, Netflix, and Google – known colloquially as the FAANG stocks – soaring. Since the March 20^th valley, Facebook has grown 57 percent, Amazon is up 31 percent, Apple has risen by 39 percent, Netflix is up 24 percent, and Google has grown 28 percent. Even in the midst of a global pandemic, the stock value of all FAANG companies remains at their highest-ever. The Economist chalks it up to investors “despairing[ly] reaching for the handful of businesses judged to be all-weather survivors.” In this case, those all-weather survivors make up one-fifth of the value of the entire S&P 500 Index – and they have given the rest of the stock market reason to breathe a sigh of relief and start investing again.

Balance of Trade: Over the past several years, significant changes in how and when Americans invest have transformed the economy. Thanks to the creation of 401(k) plans in 1978, average Americans now ride the stock market long-term, directing much or all of their retirement savings to the stock market. In 1990, 401(k)s controlled $384 billion in assets. In just thirty years, that amount has risen to $4.8 trillion, a more than 1200 percent increase in value. Much of these investments are dedicated to index funds or target date funds rather than individual stocks, leaving these funds with a large supply of incoming dollars that must find an investment home, regardless of then-current market conditions. Meanwhile, experts say that high-frequency trading has changed the algorithm of investing, making the markets more volatile and creating exceptionally high peaks– and in the case of coronavirus, exceptionally low valleys – in the stock market. This shift is due to expanded access to technology that has replaced expert traders with computerized models, which some analysts argue can ignore legitimate analysis and common sense.

The American Economy Is Now Built in Private Markets

The “Listing Gap”: In recent years, the American marketplace has seen fewer Initial Public Offerings (IPOs). In fact, only 3 percent of venture-backed companies went public in the last decade. As Business Insider’s Bob Bryan noted, a 2015 study “found that the US had developed a ‘listing gap’ between the number of firms that should be listed based on the country’s economic development and the shrinking number that are. … At the peak in 1996, there were 8,025 publicly listed US companies; as of 2012 that number was down to 4,102.” This drop came even though historic U.S. economic data suggested “9,538 should have been listed,” leaving “a ‘gap’ of 5,436 listings.” This massive split is due in large part to the imposition of more stringent regulatory frameworks like Sarbanes-Oxley Act in 2002 and Dodd-Frank in 2010, both of which made going public increasingly unattractive to entrepreneurs and investors alike.

The New Business of Big Business: This listing gap has shifted the balance of financial power toward venture capital and private equity, which has allowed start-ups to maintain more autonomy, and investors to avoid added disclosures, all while creating wealth and growing companies without tapping public markets. Indeed, as entrepreneurial financial expert Greg Crabtree explained in a Growth Institute blog post: “Entrepreneurs used to need the public markets for liquidity. That is not the case anymore. There is so much money in the market looking for a place to go that liquidity is easily solved. In every deal we have seen in the last couple of years, the private equity firms have been offering as good of a deal as any public company has in a purchase or investment scenario.”

Private Equity’s Role: These days, companies are often delaying going public as long as they can, thanks to greater funding availability made possible by private equity. There is perhaps no greater example of the powerful role of private equity in transforming this dynamic than with Uber. Bain & Company calls the rideshare company the “poster child” for private equity, as it rode $21 billion in venture capital to a private valuation of approximately $72 billion. Although it had been in business since 2009, Uber Technologies, Inc. took a decade to go public and only did so to access enough capital to pay out investors and shareholders. Bain & Company argues Uber’s examples shows “the advantages of going public no longer outweigh the considerable disadvantages,” as private equity frees up companies to borrow at historically low rates while avoiding the “myriad costs and hassles of going public.” 

Even Public Markets Are Focused on Private Enterprise: Further demonstrating this shifting dynamic is the keen interest in Special Purpose Acquisition Companies (SPACs), which are often and sometimes derisively called “blank-check” companies, which can raise money through an IPO for the sole purpose of buying other companies. According to Pitchbook, SPACs have “accounted for 38 percent of U.S. IPO filing and raised $6.5 billion as of May 20 – more than the total capital raised by institutionally-based IPOs during the period.” Experts attribute some of this interest to the coronavirus pandemic, because “as private companies’ valuations fall and they look for liquidity, SPACs could fill a void left by traditional IPOs,” but like many pandemic-connected observations, the trend began beforehand and has been accelerated by the virus.

As Private Equity’s Role Grows, so Will Public Scrutiny

Leading the Way:  As millions of American businesses face coronavirus lockdown-induced closures, private equity will take center stage to reinvigorate the country’s emblematic entrepreneurship. Private equity will continue to give entrepreneurs the unique space to be creative and to take risks in ways that more traditional investing models do not. As Bloomberg News quipped late last year, “everything is private equity now.” With growing numbers of American businesses from pet shops to real estate agencies already relying upon private equity firms to fund their growth, PE will help reshape the new American economy.

Changing the Narrative: With a crucial role to play in the recovery, private equity must face its reputational challenges head-on. For decades, leftwing policymakers have vilified the private equity industry as reckless gamblers, relying upon the investments of ordinary people to place risky bets and saddle enterprises with unsustainable debt. The media have echoed these claims, with some insisting private equity should be pushed out in the recovery. As private equity’s role in the economy continues to take center stage, that scrutiny will grow with it – but it also means policymakers will need to reach an uneasy peace with private equity. Whether policymakers like it or not, cutting PE-backed firms out of pandemic relief programs and other such measures will not be tenable if the country is to regain its economic momentum.

Still, private equity firms will also need to appreciate their new public purpose. That must begin with refuting its persistent negative image. As The Economist explained in a recent analysis, the PE industry is vital not only for its investors but also for the overall recovery of the global economy. This requires them to engage in efforts long understood by publicly traded companies to bolster public trust. Doing so will require understanding and anticipating the accompanying political and reputational risks and getting ahead of them. That’s where Delve offers them – and anyone looking for competitive intelligence support – a real advantage.