The 2,000 Investor Limit is a stipulation required by the Securities & Exchange Commission (SEC) that mandates a company that exceeds 2,000 individual investors, and with more than $10 million in combined assets, must file its financials with the commission. According to SEC rules, a company that meets these criteria has 120 days to file following its fiscal year’s end.
Key Takeaways
The 2,000 investor limit or rule is a key threshold for private businesses that do not wish to disclose financial information for public consumption.
A business with more than 2,000 distinct shareholders, totaling $10 million or more in capital, must file with the SEC even if it is a privately-held company.
Congress raised the limit from 500 individual investors to 2,000 investors in 2016 as part of the JOBS and FAST Acts.
The increased investor limit has opened greater possibility for equity crowdfunding.
Understanding the 2000 Investor Limit
The 2,000 investor limit or rule is a key threshold for private businesses that do not wish to disclose financial information for public consumption. Congress raised the limit from 500 individual investors in 2016 as part of the Jumpstart Our Business Startups (JOBS) Act and Title LXXXV of the Fixing America’s Surface Transportation (FAST) Act. The revised rules also specify a limit of 500 persons who are not accredited investors before public filing is required.
The prior threshold had been 500 holders of record without regard to accredited investor status. Congress began debating an increase in the limit in the wake of the 2008 recession and an explosion in online businesses (some of which complained that they were growing so fast that the disclosure rules had become a burden at too early a stage of their lifecycle).
The JOBS Act also set up a separate registration threshold for banks and bank holding companies, allowing them to terminate the registration of securities or suspend reporting if that class of shares is held by less than 1,200 people.
Investor Thresholds and Equity Crowdfunding
The JOBS Act revisions to SEC rules helped facilitate the growth of crowdfunding platforms. These platforms are able to raise money from individual investors online without providing detailed financial data. The rules established limits on how much individuals can invest in SEC-approved crowdfunding platforms as a percent of the lesser of their annual income or net worth.
The individual limits for crowdfunding, through an investment portal approved by the SEC, as of May 2017:
If eitheryour annual income or your net worth is under $107,000, during any 12-month period, you can invest up to the greater of either $2,200 or 5 percent of the lesser of your annual income or net worth.
If both your annual income and net worth are $107,000 or more during any 12-month period, you can invest up to 10 percent of your annual income or net worth, whichever is less, not to exceed $107,000.
These calculations don’t include the value of your home.
Example
For example, suppose that your annual income is $150,000 and your net worth is $80,000. JOBS Act crowdfunding rules allow you to invest the greater of $2,200—or 5% of $80,000 ($4,000)—during a 12-month period. So in this case, you can invest $4,000 over a 12-month period.
The 500 shareholder threshold for investors is an outdated rule required by the Securities and Exchange Commission (SEC) that triggered public reporting requirements of a company when it reached that many or more distinct shareholders. Section 12(g) of the Securities Exchange Act of 1934 calls for issuers of securities to register with the SEC and begin public dissemination of financial information within 120 days of the end of a fiscal year.
New regulations now require a 2,000 shareholder threshold.
Key Takeaways
The 500 shareholder threshold was a rule mandated by the SEC that required companies to publicly disclose financial statements and other information if they achieved 500 or more distinct shareholders.
The rule, in place from 1964-2012, was meant to discourage fraud, opacity, and misinformation alleged in the over-the-counter market.
Today, the shareholder threshold is now 2,000, largely in response to the rapid growth of investment in tech start-ups that caused the 500 limit to be reached too quickly.
Understanding the 500 Shareholder Threshold
The 500 shareholder threshold was originally introduced in 1964 to address complaints of fraudulent activity appearing in the over-the-counter (OTC) market. Since firms with fewer than the threshold number of investors were not required to disclose their financial information, outside buyers were not able to make fully informed decisions regarding their investments due to a lack of transparency and allegations of stock fraud.
The 500 shareholder threshold forced companies that had more than 499 investors to provide adequate disclosure for the protection of investors and for oversight by regulators. Although the company could remain privately-held, it would have to file public documents in similar fashion to those of publicly traded companies. If the number of investors fell back below 500, then the disclosures would no longer be required.
Private companies generally avoid public reporting as long as possible by keeping the number of individual shareholders low, which is helpful because mandatory reporting can consume a great deal time and money and also places confidential financial data in the hands of competitors.
The 2,000 Shareholder Threshold
With the ascendancy of startup firms in the technology sector in the 1990s and 2000s, the 500 shareholder threshold rule became an issue for swiftly growing companies like Google and Amazon that desired to remain private even as it attracted more private investors. While other factors were supposedly in play in the decision of these well-known giants to go public, the 500 rule was a key consideration, according to market observers.
The threshold was thus increased to 2,000 shareholders in 2012 with the passage of the Jumpstart Our Business Startups (JOBS) Act. Now, a private company is allowed to have up to 1,999 holders of record without the registration requirement of the Exchange Act. The current 2,000-shareholder threshold gives the new generation of super-growth companies a bit more privacy and breathing room before they decide to file for an initial public offering (IPO).
An activist investor, typically a specialized hedge fund, buys a significant minority stake in a publicly traded company in order to change how it is run.
The activist investor’s goals may be as modest as advising company management or as ambitious as forcing the sale of the company, divestitures or restructuring, or replacing the board of directors.
Unlike private equity firms that buy and restructure companies in order to profit when they are resold, activist investors seldom acquire full or majority stakes. Instead, they use public communications and private discussions to win over other shareholders and company insiders. When such efforts fail, an activist investor may pursue a proxy contest to elect new directors in order to force the company to meet their demands.
Key Takeaways
Activist investors buy minority stakes in public companies to change how they are run.
If they fail to persuade company managers, they may wage a proxy fight for board seats.
Some hedge funds specialize in activist investing while institutional investors may engage in it from time to time.
Investor activism may focus on maximizing shareholder value or on the company’s social responsibilities.
The SEC has proposed tougher disclosure rules for activist investors that critics contend may make activism unprofitable.
Understanding Activist Investors
Activist investors are sometimes called shareholder activists, a term also used to describe those lobbying companies to improve working conditions for the overseas employees of their contractors, or backers of a dissident board slate elected to fight climate change.
However, many activist investor campaigns seek only to maximize shareholder value, and most of those are the work of hedge funds specializing in the unique mix of public pressure, behind-the-scenes lobbying, and business expertise required.
Unlike the public pension funds and mutual funds that also engage in activism at times, activist hedge funds may hold highly concentrated stakes and supplement them with additional leverage from derivatives like stock options to offset the considerable cost of such campaigns. In contrast with institutional investors that sometimes turn to activism after owning a disappointing investment for years, activist hedge funds typically buy a stake in an underperforming company shortly before calling for change, and hope to profit from the resulting turnaround and price appreciation.
In contrast to institutional investors, activist hedge funds are also more willing to use confrontational tactics, from poison-pen letters to management and unflattering public reports to proxy fights seeking to oust incumbent directors.
The rise of activist investors has been described as an effective market response to the agency problem, which arises when agents (in this case company managements) have the opportunity and the means to enrich themselves at the expense of clients (in this case shareholders—a diffuse group with limited powers to safeguard its ownership interests.)
How Activist Investors Make Their Case
Investor activists often announce their campaigns by filing a Schedule 13D form with the U.S. Securities and Exchange Commission (SEC), which must be filed within 10 calendar days of acquiring 5% or more of a company’s voting class shares.
Qualified institutional investors and passive investors, meaning those not trying to acquire or influence control of the company, may instead file a simplified Schedule 13G with less stringent disclosure requirements and thresholds. Schedule 13D filers must disclose, among other facts, their reasons for acquiring the stake and any plans they may have for the company in terms of mergers and acquisitions, asset disposals, capitalization or dividends, or other policies.
The initial 13D filing gives the activist investor a golden opportunity to publicize their case for change at the targeted company. At the same time, the filing curtails the activist’s ability to alter their stake in, and plans for, the company out of the public eye. Any changes to the facts disclosed on a Schedule 13D must be reported in an amended filing “promptly,” under current SEC rules.
Activist investors may use amended Schedule 13D filings to comment on a company’s response to their proposals. For example, when Netflix, Inc. (NFLX) adopted a poison pill after funds affiliated with Carl Icahn reported a stake of nearly 10% in the video streaming company, the funds filed an amended disclosure calling the poison pill “an example of poor corporate governance.” Activist investors may also write sharply worded letters to incumbent managers, issue press releases arguing their case to other shareholders, or privately lobby institutional investors to side with them.
Whichever tactics activist investors use must be persuasive, since the only way to overcome opposition from entrenched company management short of a hostile takeover is to persuade a sufficient number of other shareholders to replace the board in a proxy fight, or at least to be able to credibly threaten to do so.
The Future of Shareholder Activism
There has been a claim that “activism is dying,” lamented Carl Icahn in May 2022, contrasting the legendary investor’s few-holds-barred approach seen in the past. Some have feared the changes proposed to the Schedule 13D disclosure requirements in 2022 constitute a pressing threat, with Elliott Investment Management stating publicly that the proposed rules “will virtually shut down activism.”
In February 2022 the SEC had proposed shortening the initial Schedule 13 filing deadline from 10 calendar days to 5, with amendments due within a day of a material change rather than “promptly” as currently. The proposal, if passed, would effectively force 13D filers to specify holdings of derivatives (such as options) that confer an economic interest in the company without the shareholder rights associated with an outright stock position. Perhaps more controversially, the proposed rules would no longer require investors to agree to act in concert and be designated a single group by the SEC for Schedule 13D reporting purposes. Rules have also been proposed to make it harder for activist shareholders to squash a company’s environmental or other pro-ESG initiatives.
SEC Chair Gary Gensler argued the stepped up requirements proposed would address “an information asymmetry” between activist investors and other shareholders. Critics countered the proposed rules would make activism unprofitable by making it more difficult and costly for activist investors to accumulate significant stakes, while inhibiting communication among shareholders.
Despite these proposed rule changes, shareholder activism does not seem to be slowing down (at least, not yet). For example, activist investor Nelson Peltz reportedly made a profit of more than $150 million by acquiring shares of Disney (DIS) in November 2022, in a move that prompted a proxy fight against the returning CEO, Bob Iger; however, this brief fight was called off after Iger announced a restructuring plan that is expected to save the media giant $5.5 billion in costs and cut 7,000 employees. Peltz has expressed satisfaction with the company’s direction and decision to make changes, praising Iger and his management team. In early 2023, ValueAct Capital Management, a San Francisco-based activist hedge fund, took a stake in streaming media company Spotify Technology SA (SPOT), with the goal of cutting costs and streamlining management. ValueAct has also disclosed a major position and board seat in SalesForce (CRM), which now has no less than five large activist investor shareholders on board with long positions, resulting in early 2023 cost cutting measures that include layoffs of 10% of the company’s employees. In all three of the these examples, markets have reacted positively to the inclusion of activist shareholders, seeing their share prices afterwards outperform.
Do Activist Investors Ever Settle With Companies?
Yes, because activist investing is not a zero-sum game. Since activist investors and incumbent managers share an interest in the company’s success, they may sometimes agree to a mutually acceptable compromise. Such agreements typically grant the activist investor representation on the company board in exchange for a pledge to support management and the company’s director nominees for a specified time. The agreements may also specify steps management will take at activist investors’ behest, while including standstill provisions preventing the activist from increasing their stake in the company or requiring them to maintain a specified minimum stake.
Is Shareholder Activism Dying?
While some fear recently proposed SEC rule changes may put a damper on activist investing, it has not yet seemed to slow down. After taking a dip in 2020 and 2021 due to COVID19 restrictions, activist investors were seen back above 2019 levels. In fact, shareholder activism activity hit a record high in 2022. Some predict this upward trend will continue through 2023 and beyond despite regulatory roadblocks that may be put in the way, although only time will tell.
Do Activist Investors Create Value?
Activist investors have been effective at times in addressing the agency problem faced by shareholders whose interests don’t always coincide with those of entrenched management teams. They’ve certainly created value for themselves and other shareholders. Activist investing can’t easily be pigeonholed as good or bad, however. Activist investors look out for themselves and realize the lion’s share of the value they unlock. Their relatively short-term focus on strategies likely to lift the share price, such as return of capital to shareholders in the form of dividends or share buybacks, can prevent companies from making needed long-term investments.
Which Activist Investor Generates the Largest Share-Price Gains at the Outset?
It is difficult to know for sure which activist investors have been the more successful dollar-for-dollar and what other factors may cause particular stocks to rise in addition to an activist taking on a stake, but we can look to SEC disclosures and public statements made by these investors. Elliott Investment Management, for one, claims that its investments receive an average rise of 8% in the shares of the target company on the day the firm made its stake public. According to Elliot, its activist engagements have increased the market values of the targeted companies by an aggregate of more $30 billion.
Who Are the Biggest Activist Investors?
The largest activist shareholders by assets under management (AUM) as of Q1 2023 are listed in the table below, led by New York City-based Third Point Partners:
Largest Activist Investment Firms by AUM (Q1 2023)
Rank
Profile
Managed AUM
Region
1.
Third Point Partners
$18,1 billion
North America
2.
Pershing Square Capital Management
$16,8 billion
North America
3.
ValueAct Capital
$13,2 billion
North America
4.
Eminence Capital
$10,5 billion
North America
5.
Pentwater Capital Management
$9,9 billion
North America
6.
Starboard Value LP
$9,2 billion
North America
7.
Trian Fund Management
$7.6 billion
North America
8.
Effissimo Capital Management
$6,8 billion
Asia
9.
Sachem Head Capital Management
$6,2 billion
North America
10.
Scopia Capital Management
$2,7 billion
North America
Source: Sovereign Wealth Fund Institute (SWFI)
The Bottom Line
When activist investors use their significant but still relatively small minority stakes to push for change at publicly listed companies, they must often exercise their rights as shareholders to the fullest to get the attention of incumbent management and persuade other shareholders. Activists often call for extreme cost cutting measures, including layoffs, more streamlined management, and disposing of unprofitable units. The discipline they impose promotes shareholder-friendly policies at other companies as well. But they are not always right, and any public benefit they provide may be incidental to their pursuit of profits for themselves and their clients.
A 12b-1 fund is a mutual fund that charges its holders a 12b-1 fee. A 12b-1 fee pays for a mutual fund’s distribution and marketing costs. It is often used as a commission to brokers for selling the fund.
12b-1 funds take a portion of investment assets held and use them to pay expensive fees and distribution costs. These costs are included in the fund’s expense ratio and are described in the prospectus. 12b-1 fees are sometimes called a “level load.”
Key Takeaways
A 12b-1 fund carries a 12b-1 fee, which covers a fund’s sales and distribution costs.
This fee is a percentage of the fund’s market value, as opposed to funds that charge a load or sales fee.
12b-1 fees include the cost of marketing and selling fund shares, paying brokers and other sellers of the funds, as well as advertising costs, such as printing and mailing fund prospectuses to investors.
Once popular, 12b-1 funds have lost investor interest in recent years, particularly amid the rise of exchange-traded funds (ETFs) and low-cost mutual funds.
Understanding 12b-1 Funds
The name 12b-1 comes from the Investment Company Act of 1940’s Rule 12b-1, which allows fund companies to act as distributors of their own shares. Rule 12b-1 further states that a mutual fund’s own assets can be used to pay distribution charges.
Distribution fees include fees paid for marketing and selling fund shares, such as compensating brokers and others who sell fund shares and paying for advertising, the printing and mailing of prospectuses to new investors, and the printing and mailing of sales literature. The SEC does not limit the size of 12b-1 fees that funds may pay, but under FINRA rules, 12b-1 fees that are used to pay marketing and distribution expenses (as opposed to shareholder service expenses) cannot exceed 0.75% of a fund’s average net assets per year.
12b-1 Fees
Some 12b-1 plans also authorize and include “shareholder service fees,” which are fees paid to persons to respond to investor inquiries and provide investors with information about their investments. A fund may pay shareholder service fees without adopting a 12b-1 plan. If shareholder service fees are part of a fund’s 12b-1 plan, these fees will be included in this category of the fee table.
If shareholder service fees are paid outside a 12b-1 plan, then they will be included in the “Other expenses” category, discussed below. FINRA imposes an annual 0.25% cap on shareholder service fees (regardless of whether these fees are authorized as part of a 12b-1 plan).
Originally, the rule was intended to pay advertising and marketing expenses; today, however, a very small percentage of the fee tends to go toward these costs.
0.75%
0.75% is the current maximum amount of a fund’s net assets that an investor can be charged as a 12b-1 fee.
Special Considerations
12b-1 funds have fallen out of favor in recent years. The growth in exchange-traded fund (ETF) options and the subsequent growth of low-fee mutual fund options has given consumers a wide range of option. Notably, 12b-1 fees are considered a dead weight, and experts believe consumers who shop around can find comparable funds to ones charging 12b-1 fees.
