Big ideas, by their very nature, have to overcome big obstacles — from practical economic objections to tradition and entrenched interests. They all conspire to prevent a fresh approach from succeeding.

Markets are said to hate uncertainty and big ideas invite uncertainty. There’s little incentive for industry players to go through wholesale upheaval if the system is already serving them rather well. In the long run, they may benefit from massive change, but the results are too hard to predict at the outset, so why take the chance?

One bright idea that, so far, hasn’t managed to get very far off the ground is direct public offerings. In the late 1990s, amid the gale of disintermediation that ruffled many industries, it was assumed that middlemen would be cut out of transactions by the Internet.

Advocates of online direct public offerings argued persuasively that corporate offerings could be streamlined and democratized.
The traditional functions of the underwriter — the marketing, distribution and pricing of deals — could be carried out online. Firms looking to raise capital could market themselves to a broad array of investors through online road shows and disseminate prospectuses at a fraction of the cost of traditional paper deals. The popularity of online auction sites raised hopes that pricing would be more efficient and that share allocations could be made fairer to investors by using Dutch auctions for new issues.

(In theory, Dutch auctions price deals precisely where supply meets demand, meaning that issuers raise the maximum amount of capital that the market deems the firm deserves. The shares go to long-term investors who have put the highest valuation on them, rather than speculators looking for quick profits.)

While it all sounded good, and a few halting stabs at direct IPOs were made, the idea never really took off. A new paper by Queen’s University professors Anita Anand and Lewis Johnson explores why. They find a variety of reasons for the failure — chiefly, that traditional underwriters perform indispensable marketing and distribution functions. Underwriters also serve as a sort of quality control for new issues. If a big-name investment bank is willing to sell a deal, then it signals some assurance of quality to investors.

They also find issuers unwilling to risk online direct offerings because of the sheer novelty of the process. “Lack of familiarity with [the process] is a barrier to undertaking and participating in these transactions for both issuers and investors,” they note. “This situation will not change until more, and more well-known, firms begin to conduct [direct offerings]. Thus, despite the cost savings of raising capital over the Internet, few firms are likely to undertake this means of capital finance in the near future.”

Business innovations are tricky enough, but regulatory innovations have also proven
hard to get off the ground. In 2002, the B.C. Securities Commission first broached the
idea of a whole new way of looking at securities regulation — by requiring market players to follow a series of general principles rather than sharply defined rules.

The theory underpinning the approach is that rules are both too restrictive and too easily circumvented. Rules demand costly paperwork and, at the same time, fail to anticipate the schemes market players can dream up to take advantage of gaps or deficiencies. By setting out principles of conduct, the BCSC argued, securities regulation could be more flexible, more comprehensive and cost-effective.

The idea was initially met with approval from many market players. However, other regulators in Canada gave the notion little respect. Firms then began to worry that the other provinces’ lack of acceptance would add to their compliance burden. While they’d have to follow the old rules in other provinces, they’d now be figuring out how to comply with codes of conduct in B.C., or following two different regulatory regimes.
Issuers also began lobbying against provisions that would have increased investors’ ability to seek private enforcement in the courts.

B.C.’s new legislation was to have taken effect this past November, but implementation was first delayed, then suspended. BCSC chairman Doug Hyndman is saying it will take effect this fall, and hopes to announce the precise date in June or July. It remains to be seen whether the B.C. model will see the light of day.