26 May 2016 – SMEs and mid-caps that have outgrown bankfinancing often face significant regulatory obstacles when making the transition to market financing, an issue the EU aims to tackle in the framework of the so-called Capital Markets Union-initiative. European Investors supports such efforts as it may foster a diversification of companies available to invest in for retail investors. However, investors should still be sufficiently protected and be given the information that is necessary to make an informed investment decision.
SMEs and mid-caps might be more risky to invest in than the infamous ‘blue chips’. Volatility of earnings is higher. Also, these companies have a smaller capital base, reducing their ability to deal with economic adversity. However, SMEs and mid-cap stocks (or funds investing in these stocks) are often a welcome addition to a well-spread investment portfolio. While many SMEs and mid-caps may in the end not ‘make it’, those that do often generate mouth-watering returns compensating for the losses incurred on other investments.
Looking at the performance of small-cap indices over the last decades, it is revealed that small companies collectively outperform the larger ones. To illustrate this, the annualized return on the MSCI Small Cap Index over the last ten years amounted to 5,25%, compared to 3,15% for the MSCI Large Cap Index. One can draw the same conclusions if one compares the S&P SmallCap 600 with the S&P 500, both focusing on the US equity market.
At the moment, many SMEs and mid-caps tend to shy away from a public listing due to the regulatory obligations that come with it, in particular the prospectus. The prospectus rules, as laid down in EU Directive 2003/71 (“the Prospectus Directive”), are currently under review. The European Commission published a legislative proposal end of last year. One of the measures proposed is a lighter regime for SMEs on MTFs and SME Growth Markets. This regime aims to make the required disclosure more proportionate to the size (and with that also the complexity) of the companies concerned.
European Investors supports the proposed alleviation of disclosure for SMEs and mid-caps. However, it is essential that investors are still able to make an informed assessment of the assets and liabilities, financial position, profit and losses, and prospects of the issuer and of any guarantor, and of the rights attaching to the securities. Such information is necessary for investors to make an informed investment decision no matter the size of the company.
Moreover, European Investors believes that the lighter prospectus should include a specific summary that contains a warning that investors are subject to a higher risk due to reduced information that is provided about the issuer and the offering. Such a warning is especially called for if the regime is extended to RMs, the so-called ‘golden standard’ among venues where retail investors supposedly enjoy the highest possible investor protection standards. Companies on an RM that have opted for the lighter regime should be clearly distinguishable for investors from companies that publish a fully-fledged prospectus.