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Harry Cassin
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What is driving compliance underground?

Start with this: There were 8,000 public companies listed on U.S. exchanges 25 years ago, and now there are fewer than 4,000. Then ask: Who or what is to blame?

Commentators usually blame private equity. They warn about vast pools of cash that “devour” public companies by taking them private and exploiting them behind a “veil of secrecy.”

I talked about the dark view of private equity in the prior post and asked if PE is bad for compliance.

Today I look in the opposite direction. What if private equity isn’t the culprit after all. What if delistings are an unintended consequence of market reforms by, gulp, our own federal government?


Congress enacted the Sarbanes-Oxley Act in 2002 in response to a string of corporate scandals — WorldCom, Tyco, Global Crossing, and most famously, Enron.

It imposes nearly a dozen governance and reporting requirements on public companies. The most notorious is SOX 404, which makes management responsible for adequate internal controls and mandates that external auditors be deeply involved.

Because of 404 and other sections, SOX compliance grows more expensive every year. The average cost is now around $1.8 million annually, with many companies reporting costs exceeding $2 million or much more.

The burden falls hardest on smaller companies. Many decide being listed is no longer worthwhile.

A detailed independent study about five years after enactment of Sarbanes-Oxley concluded:

When examining the effects of SOX on deregistrations, we find that the time pattern of going-dark decisions [delisting] is closely associated with the passage of SOX and the timing of policy changes regarding the implementation of the internal controls requirement in Section 404, which is perceived to be particularly costly.

By the way, SOX was only the start. Lawmakers and regulators in other countries followed the U.S. lead and enacted their own versions of Sarbanes-Oxley.

Canada called its new law the Keeping the Promise for a Strong Economy Act of 2002, or C-SOX. There’s the German Corporate Governance Code of 2002, the Financial Security Law of France (2003), the Netherlands Corporate Governance Code (2004), the Australia Corporate Law Economic Reform Program (2004), Italy’s Investor Protection Act of 2006, Japan’s Financial Instruments and Exchange Act of 2006 or J-SOX, and recently the UK’s Restoring Trust in Audit and Corporate Governance white paper (2022).

Many small and medium size public companies, wherever they are, can’t afford compliance any more. They’re unable to be compliant and profitable, so it’s logical for them to delist and take their chances as private companies.

But guess what happens? Along comes private equity. “Sell us your company, or at least a majority of it, and we’ll allocate capital for survival and growth. How does that sound?”

In other words, could it be that private equity isn’t a cause of delistings but an opportunistic response to them?

Let’s go further. Perhaps injecting PE money into marginal small and medium companies enhances those companies’ compliance. On their own after de-listing, would their compliance effort be robust? Unlikely. Would they even staff a compliance department? Doubtful.

But with PE money and PE-appointed directors and C-suite executives, compliance won’t disappear. It can’t.

As I said last time, private equity firms are filled with sophisticated business people. They should know the damage compliance problems can inflict on reputations and financial performance. Naturally, they’ll want to avoid lapses that might jeopardize their investments and underlying business model, not to mention exposing themselves to personal culpability.


PE firms acquire portfolio companies to make a profit, but that’s not easy. As Prof Steven Kaplan of the University of Chicago told ProPublica,  “Most deals are competitive these days. As a result, you cannot earn a good return without improving the business.”

In other words, private equity isn’t random. There’s always a plan: bring in talent, build on strengths, impose budget discipline and financial controls, create meaningful performance feedback loops, address technology issues, and so on.

Do you see any room in that business plan for a compliance disaster such as an FCPA anti-bribery violation or money laundering offense? I don’t.

Is it possible, then, that PE isn’t a problem when it comes to compliance? Perhaps PE doesn’t drive compliance underground but instead rescues marginal companies from the compliance desert.

We should at least consider the possibility.

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