SEC’s Action Against Hastings a Step Backwards

12/7/12Follow @BradLoncar

Last night, Netflix disclosed that the Securities and Exchange Commission, @sec_news if you want to follow them on Twitter, intends to institute a cease and desist proceeding and/or bring a civil injunction against Netflix and its CEO Reed Hastings for a posting he made on the social media website Facebook this summer. As an individual investor who cares a lot about transparency and the fair distribution of information, I think this move is ironically a step backwards and will only hurt our public markets. We would all be much better off if the SEC focused on the many things that happen everyday in the shadows, rather than making an example of a CEO for reaching out on social media.

First, here are the facts: In July of this year, Mr. Hastings wrote a post to the nearly 250,000 people who follow his Facebook page (not to mention the estimated 1 billion overall Facebook users) talking about how proud he was of the progress his company had been making lately. One of the things he mentioned in the post is that “our members had enjoyed over 1 billion hours (of streaming media) in June.” The SEC apparently had a problem with that specific phrase because they allegedly believe (1) it was material information and (2) sharing it on a site like Facebook does not comply with Regulation Fair Disclosure, a law that says material information must be shared in a format where all investors can receive it at once. Therefore, they have given the Mr. Hastings and his company a public slap on the wrist for the post.

While I am big proponent of fair disclosure, I think this particular way of enforcing it sets a poor example that will likely backfire on the very people it was meant to protect. Here are just a handful of things I think the agency should consider:

1. Social media is the solution (not the problem) to the unfairness factor that has plagued our markets. There is no question that the individual investor is at a huge disadvantage to Wall Street when it comes to information. For example, one common practice that I have written about before is how company management teams often have private conference calls with the clients of investment banks. Compare that to Mr. Hastings’s Facebook post, which had a reach of at least 250,000 people. While the SEC will argue it is the content, and not the venue, that matters, they should consider the unintended consequences of tonight’s action. By labeling social media as a danger zone, they are likely to push public CEOs exclusively back to those venues that truly are inherently unfair. I think social media is the best hope the average investor has of closing that unfairness gap due to its speed and breadth. Let’s not stigmatize it over such a harmless comment.

2. Reining in social media will give another reason for companies not to go public, which I believe hurts our overall system. All Mr. Hastings was doing was sharing information that the general public might like to know about his company. It was not even directed towards investors. By scrutinizing something like that to such a meticulous degree, the SEC will be putting public companies at a huge competitive disadvantage, and more will choose not to play. We have already seen that trend of more and more companies staying private longer, and I don’t think it is a good one. We are much better off having a vibrant, and friendly public market.

3. This will cause companies that are public to become less transparent, which will hurt the average investor in an outsized way. I am a big believer that the more information that is out there, the better it is for everyone. A primary job of the SEC should be to encourage an environment where investors are armed with as much information as is possible. That is why social media is such an important actor, it is the perfect format for sharing information. If you make that too difficult on companies, they are likely to simply restrict the amount of information they release overall. This again will hurt the average investor because they otherwise don’t have the time and resources it takes to compete on a level playing field with Wall Street.

4. Encouraging companies to share less information will benefit short sellers and other people who spread misinformation in the markets. If you have been following the investment environment closely lately, one thing I’m sure you have noticed is the growing number of companies who have been stung by what in some cases are misleading blog posts about them. While there is a lot of good stuff out there, I also personally think some websites have such little editorial constraint that they will essentially allow writers to say almost anything about a company. If the SEC fosters an environment where companies will be less willing to share info to begin with, it will only give stories like that more legs when they are written because they will be competing against less balanced information. This is already a big problem, and will become an even bigger one in an environment of less transparency.

5. In this day and age, the SEC should recognize that many social media sites essentially are public venues when you consider their enormous reach. Of course that doesn’t mean companies should intentionally release important investment information on them all the time, but it also doesn’t mean that they should be considered minefields either for these businesses. Mr. Hasting’s Facebook post reached hundreds of thousands of readers. While it is true that you had to be a member of Facebook to see it, many of the most widely read media websites are currently transitioning to a subscription model as well. I don’t see how they are much different, and in many cases something like Facebook will have the larger reach. A site like that should be considered a public venue for info that falls into a grey area, which I personally believe happened in this case.

In summary, while social media isn’t perfect and much has to be worked out about what exactly are the rules as it pertains to public companies, I think the SEC has sent a particularly poor signal in this case. What Mr. Hastings did was not flagrant, and it was done on perhaps the most popular Internet site in the world. In my view, interactions like that between companies and the public shouldn’t be challenged, they should be encouraged. I hope the SEC will consider some of those points as they further define their overall social media policy.

I would love to hear your thoughts.

[Disclosure: I currently do not hold any position in Netflix nor have I in the past.]

Brad Loncar is an individual investor. Follow @BradLoncar

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  • goodbye_to_reed

    It was illegal and Hastings knew it. Throw the book at him.

    Remember this is the creep that calls Americans stupid. Right backatcha Reed.