For retail investors, buying stock has never been this easy. The changed SEC rules – offered as a quid pro quo to companies when T+3 settlement was introduced last year – set the stage for an explosion in direct stock-purchase plans. Today companies can offer investors the chance to buy their stock without a broker, and more and more are doing so. A year ago there were only 35 direct purchase plans. Now there are over 100, with some industry analysts predicting as many as 250 by the end of 1996.
Direct purchase itself is nothing new, but the process used to be arduous and expensive, with a two year time lag needed to put everything in place. The SEC issued new guidelines in December 1994, then in September of last year it granted transfer agents the right to develop their own plans for issuing companies. Now the process is quicker, and the transfer agents say that their new unregistered ‘cookie-cutter’ plans make it easy and inexpensive for companies to offer stock directly to investors.
Direct purchase plans are similar to Dividend Reinvestment Plans (Drips) that have long been an investor favourite. More than 950 US companies have Drips, which allow shareholders to purchase additional stock – often free of commission charges – through reinvestment of dividends or optional cash purchases.
But with Drips, investors have to have stock to begin with, and that means paying broker commissions at the start. The new plans, sometimes called super-drips, can be offered to non-shareholders; and they have features more akin to mutual funds, which makes the whole business of buying shares considerably more user-friendly.
These features include the absence of broker fees (since companies can choose to pick up those, or a portion of them, themselves); automatic debits; payroll deductions; and gift certificates. Moreover, plans are appearing at some non-dividend paying companies, such as US West Media Group and AirTouch Communications.
For companies, the main strategy behind direct purchase is to increase the number of registered shareholders, thereby creating a better balance between institutions and individuals. ‘Small investors tend to be loyal to management, and they are more inclined to hold stock long-term,’ says Charles Rossi, executive vice president of Boston EquiServe, the second largest US stock transfer agent, and president of the Stock Transfer Association (STA), a group composed of 450 transfer agents.
‘But shareholder diversification just doesn’t happen overnight,’ Rossi continues. ‘Direct purchase is a long-term strategy, but over time it provides stock with trading stability. For many companies, a poor quarter means the stock takes a pounding as large funds with strict investment criteria pull out of their positions. But with shares in the hands of loyal retail shareholders, quarter-to-quarter fluctuations will not have the same impact.’
Another reason for companies to use direct purchase plans is the ability to achieve a lower cost of capital, according to Peter Breen, vice president of New York-based Shareholder Communications. While most plans simply funnel shares from the open market to plan participants, many have been used to issue new equity. Utilities, in particular, and other companies with a tradition of individual ownership, have used direct purchase in this way.
The first major company to offer direct-purchase to investors, and one which provides a good example of the long-term strategy paying off, is Texaco. The Rye-based oil giant amended its Drip to include direct purchase in 1989 before the current movement became a trend. Before that there were just five small companies with specialised requirements for direct purchase. For instance, one recreation company required its investors to be league bowlers.
In the mid-1980s, recalls Paul Ramirez, shareholder services director at Texaco, the company went through a turbulent period culminating in a proxy fight with Carl Icahn over management control. Historically 60 per cent owned by individuals, Texaco found itself 70 per cent in the hands of institutions, including many arbitrageurs looking for a quick kill.
‘When the smoke cleared we decided to make it as easy as possible for individuals to invest in Texaco stock,’ Ramirez says. ‘We thought people wanted to invest but were intimidated by having to go through a broker rather than direct.’
As a measure of success, half of Texaco’s 200,000 registered shareholders participate in the super-drip, and individual ownership has risen to 40 per cent. Moreover, the initiative sparked a rash of copy-cat plans at other oil companies – Exxon in 1991, Mobil in 1993 and Amoco this year. ‘Competition between oil companies goes beyond the pumps,’ muses Ramirez.
In fact, oil companies are well-adapted to the challenge of promoting direct purchase. Certain groups, like employees, retailers and wholesalers, can be approached with information about plans. Even better, as in Texaco’s case, credit cardholders can be targeted with a focused mailing.
‘Consumers realize that if they consistently use a company’s product and have money to place, it’s a good idea to invest it in that company,’ Ramirez says. ‘Likewise, if they are shareholders, they should use the company’s product. For us, every stockholder is a potential customer,’ he adds, noting that a recent survey showed that 70 per cent of the company’s shareholders are inclined to use Texaco products because they are Texaco investors.
Texaco’s plan lives up to the hassle-free reputation of Drips, with a minimum investment of only $250, no set-up fee and built-in brokerage commission of 5 cents a share earmarked for Texaco’s broker. Other plans, such as McDonald’s McDirect Shares, are creating a stir owing to their comparatively high costs. McDonald’s has a minimum investment of $1,000, along with separate enrolment fees, annual account fees, investment fees and sales fees that all add up to around $28 for a first time trade.
Like a utility or oil concern, McDonald’s already has legions of loyal customers as potential shareholders. The latest item on its IR menu is McDirect Shares, a direct purchase plan introduced last November to promote long-term share ownership among individuals. This constituency currently holds 40 per cent of the total stock issued by the company.
‘As a well known global company, we have a broad shareholder base,’ notes Barbara Ven Horst, IR manager at McDonald’s. ‘Our basic strategy with direct purchase was to design a plan for investors to hold stock over a period of years and grow with us. Individual investors who own McDonald’ stock are loyal, thus reducing volatility and creating new customers as well.’ McDirect Shares could even raise capital, though the company has no plans to issue new equity.
While the ‘affinity’ groups which McDonald’s can notify about McDirect hares do not include its customers, informing shareholders about the opportunity is not out of bounds under SEC rules. The McDonald’s IR team has been in close communication with its existing retail investor base. In fact, its Drip has always been popular, with about 70 per cent of retail stockholders participating, and the proportion remains constant as the total number of individual investors continues to rise.
However, some companies find out the hard way that inciting interest in direct purchase plans is a tricky business. Exxon, for example, was hauled to the SEC woodshed after it announced its plan with a nationwide press release. Even affinity groups have to be carefully approached with nothing more than a tombstone or a prospectus. Other than these relatively low key measures, companies and transfer agents can give out direct purchase information if asked, and issuers also maintain toll-free phone numbers for individuals to call.
With these restrictions, communicating direct purchase plans is a challenge for investor relations officers. Even the bank transfer agents have to be prudent. One solution is the multi-million dollar education and communications campaign emanating from the Society of Transfer Agents, which predicts a rise in direct purchase popularity akin to the success of no-load mutual funds. While companies and transfer agents cannot advertise, the association is working on promoting the concept. One initiative is a phone number investors can call to get a list of companies with direct purchase plans sent to them for a small fee.
In a similar bid for direct purchase attention, New York-based Shareholder Commu-nications Corp teamed up with Charles Carlson’s Drip Investor newsletter to establish the No-Load Stock Clearinghouse in March. This includes a free hotline that investors can use to request direct purchase prospectuses and applications for upwards of 25 companies, which pay the Clearinghouse a finder’s fee. ‘The hotline is a way for issuers to get the message out,’ says Peter Breen. ‘Issuers cannot promote their own plans, so the Clearinghouse was formed to fill that need.’
As word about direct purchase plans snowballs through the media – one of the main promotional avenues used by the Clearing- house and STA – some investors may be wondering when they will be able to fill up on stock at the local gas station, others may be thinking more about ordering a Big Mac with shares to go at McDonald’s restaurants. That day is not yet here but companies wishing to diversify their shareholder base, or issuers with a high public profile and broad customer base, are poised to take advantage of direct purchase plans.
