By Sue Kern-Fleischer
While many investors are reaping the benefits of a bull market, some financial analysts are bracing for what could be the demise of the public corporation here in the United States.
Eller Professor of Finance Kathleen Kahle is among those who have been watching the stock market landscape change over the past several decades. In 2009, she and her former Eller colleague, Tom Bates, partnered with René Stulz of the Ohio State University to publish a paper in the Journal of Finance that looked at reasons for the drastic increase in cash in U.S. corporations over the past three decades.
“That paper started off this line of research for me,” Kahle said.
In 2013, Kahle and Stulz published a paper in the Journal of Financial Economics that examined changes in corporate policies during the Great Recession. That prompted the Journal of Economic Perspectives to solicit a paper from them to lead off a symposium on “the modern corporation.”
Since publishing their findings, they have received widespread media coverage in national outlets, including The Wall Street Journal, MarketWatch and Fortune.
The researchers examined the current state of the U.S. public corporation and how it has evolved over the last 40 years.
“The stock market is shrinking,” Kahle said. “After falling by 50 percent since its peak in 1997, the number of public corporations is now smaller than four decades ago. This phenomenon is limited to the United States – other developed countries are not experiencing this decline.”
Their research revealed that U.S. corporations are much larger now, and over the last 20 years, they have become much older, with the average age rising from 12.2 years in 1995 to 18.5 years today.
“Investors question the innovation of older firms,” Kahle said. “What’s troubling is that several young, thriving companies are reluctant to go public. They find it easier to get private funding and they don’t want the public scrutiny and costs that go along with being listed. Pinterest, for example, just raised $150 million from venture capital firms.”
The social pinning site raised the venture capital funding at the same price per share as its previous funding round in 2015, according to a Bloomberg report.
The report states that Pinterest is choosing to delay a potential initial public offering as its business model matures. The company generates revenue by selling ads that look like posts on its site. While the San Francisco-based company is targeting ad revenue of more than $500 million this year, it is being overshadowed by faster-growing companies like Snap, Facebook-owned Instagram and Google.
Also of concern is that many public companies delist or exit public markets after mergers and acquisitions. Another notable finding: public corporations invest differently now as the average firm invests more in research and development than it spends on capital expenditures.
“Compared to the 1990s, the ratio of investment to assets is lower, especially for large firms. Public firms have record-high cash holdings and, in most recent years, the average firm has more cash than long-term debt,” Kahle said.
Measuring profitability by the ratio of earnings to assets, the average firm is less profitable, but that is driven by smaller firms. “Earnings of public firms have become more concentrated – the top 200 firms in profits earn as much as all public firms combined,” she said, adding that in 2015 just 30 firms out of 3,766 public companies generated half of the earnings in the U.S. By comparison, 89 companies in 1995 and 109 companies in 1975 accounted for half of the net income.
Ownership of public firms has also changed. In 1980, institutional ownership averaged 17.7 percent, while today it’s more than 50 percent.
“As a whole, public firms appear to lack ambition, proper incentives or opportunities. They are returning capital to investors and hoarding cash rather than raising funds to invest more,” Kahle said.
The slim pickings for investors present a problem since few employees have access to investments in private firms through their 401(k). “Transparency is a big concern, especially if we’re moving from a public to a private economy,” Kahle said. “The ability of small investors to fully participate and invest in capital markets is lost.”
Top image of Eller Professor of Finance Kathleen Kahle by Eller College.