Attitudes to company-sponsored research are softening, according to experts, as NIRI releases provisional guidance to its members about what they should consider when commissioning third-party research.
NIRI unveiled its proposed guidelines to members last week, and is accepting comments on the guidelines until mid-February. Speaking to IR Magazine, NIRI president and CEO Gary LaBranche explains that the institute’s leadership has considered offering guidance on company-sponsored research for more than a decade – long before he joined the organization.
LaBranche says NIRI’s ethics council developed the guidelines last year, after acknowledging that the landscape for equity research has shifted since the introduction of Mifid II in Europe.
‘In the last couple of years with Mifid II and the changes to commission structures, I started to receive more questions from members – particularly small and micro-cap companies – about company-sponsored research,’ LaBranche says. ‘We started hearing about the interest in guidance in different parts of the country over the course of several months.’
NIRI’s provisional guidance recommends that issuers only commission research firms that adhere to high ethical standards and only compensate the firm in cash, rather than in stock or stock warrants. The cover page of a commissioned report, according to the guidance, should:
- Clearly indicate the name of the company (issuer) that commissioned the report
- Confirm that all compensation received by the research firm from the company (issuer) for the research was in cash, not stock
- Prominently display the name and contact information of the research firm either at the beginning or at the end of the report
- Disclose any agreement, condition or limit on the ability of the research company to trade in the stock of the company covered by the report.
Company-sponsored research ‘increasingly appropriate’
At the IR Magazine Forum – Small Cap in New York last year, there was a notable change in how company-sponsored research was discussed, with a couple of micro-cap issuers explaining how they had benefitted from commissioning research.
Loren Mortman, president of IR consulting firm The Equity Group, says her firm’s approach when working with small and micro-cap companies is always to try to secure analyst coverage first. But for companies that are struggling, company-sponsored research ‘is becoming an increasingly appropriate solution for micro-cap companies as fewer and fewer traditional sell-side firms are available to cover them.’
She adds that the value proposition of company-sponsored research varies depending on the specific firm’s offering and its distribution model. ‘Issuers should take into account the research firm’s reputation within the investment community, the platforms on which the research is available and the ease of investor access and whether they can provide institutional sales and corporate access support,’ Mortman says. ‘These factors, in addition to cost – which can vary widely – are the most important differentiators of company-sponsored research.’
Jason Paltrowitz, executive vice president of corporate services at OTC Markets, welcomes NIRI’s guidance. He says that company-sponsored research can elevate the profile of a company and enhance its credibility, but agrees with Mortman that issuers can struggle to select the right provider to commission – adding that OTC Markets launched its own research marketplace in 2016 for issuers to identify high-quality providers of research.
Going beyond NIRI’s provisional guidelines, Paltrowitz suggests that issuers should pay research providers in cash upfront, should be given the right to review the research report for accuracy and should look for providers that publish a valuation, price targets and articulate a clear and comprehensive story. For this reason, issuers should be wary of providers that publish buy, sell and hold recommendations, Paltrowitz adds.
High ethical standards
When determining whether a research provider has high ethical standards, as NIRI’s provisional guidelines suggest, both the research providers and IR advisers quoted in this article suggest that firms that adhere to FINRA Rule 2241 should stand out.
Theodore O’Neill, CEO of Litchfield Hills Research, a provider of company-sponsored research, provided IR Magazine with a copy of the disclosures that he and several other high-quality research providers include in their reports.
These disclaimers – from Litchfield Hills Research, Edison Research and Zacks Sponsored Research – say that the firms were paid in cash, not equity and that the views expressed are the analyst’s own. These disclaimers also outline whether the research provider has provided investor targeting services and clarifies that there are no investment banking services tied to the research.
Peter Sidoti, chair and CEO of Sidoti & Co – a small-cap equity research specialist – says concerns about conflicts of interest in company-sponsored research have been overinflated. When firms offer company-sponsored research on top of traditional equity research, there’s too much at stake not to handle conflicts of interest appropriately, he says.
‘We give our analysts complete control about whether or not they do company research,’ he says. ‘For a small fee, relative to what we make elsewhere, we’re not going to sacrifice our firm’s reputation and we’re not going to ask an analyst to sacrifice their reputation. We’ve walked away from more companies than we’ve accepted.’
He adds that issuers should seek out assurances about the objectivity of the firm and analyst providing the research. At Sidoti & Co, there is a separate, largely independent, board that presides over the company-sponsored research business.
Sidoti says the change in perception of company-sponsored research has been ‘fairly dramatic’ and welcomes NIRI’s provisional guidance.
NIRI’s comment period is open until February 13.
