Silicon Valley is coming: LTSE's bold plan to recreate a whole new type of stock exchange

Rage Review : Many years ago, Eric Ries's book boldly proposed to establish a new type of exchange and change the existing investor relationship. In order to eliminate the doubts of opponents, he formed a team, initiated the first round of financing, and prepared for the establishment of the LTSE exchange. However, it will take a long time to obtain the license of the US Stock Exchange. After all, this will have a great impact on the existing exchanges, which is too subversive and has a wide range of influence. LTSE has selected three aspects of reform, namely the way of paying executive salaries, the way of sharing information between companies and investors, and the voting method of investors. He also said that without the pioneers of reform, nothing new can appear.

Translation: Annie_Xu

The author of “The Lean Startup” and his team are in early talks with the Securities and Exchange Commission.

Five years ago, Eric Ries was writing The Lean Startup, his bestselling book on entrepreneurship, when he offered a provocative idea at the end: Someone had to create a new, long-term stock exchange. Such an innovation, he argued, would change the maddening quarterly cycle and encourage investors and companies to make better long-term decisions. When he published his first draft, many readers gave him the advice to cut out the exchange reform part. “This idea destroyed all my credibility,” Ries said. Now Ries is laying the groundwork to prove his skepticism wrong. To make the Long-Term Stock Exchange a reality, he has assembled a team of about 20 engineers, finance executives, and lawyers and launched a seed round of funding from more than 30 investors, including venture capitalist Marc Andreessen, technology evangelist Tim O'Reilly, and former U.S. CTO Aneesh Chopra. Ries has entered early talks with the Securities and Exchange Commission, but the actual launch of the LTSE may be years away.

Generally, before achieving initial application, exchanges that want to establish exchanges have to have informal talks with the China Securities Regulatory Commission for several months, and the LTSE plans to complete it this year. The regulatory authorities will then take several months to decide whether to approve or delay its application.

Eric Ries

If all goes as planned, the LTSE could solve a long-standing problem with public markets: short-term thinking can get in the way of sound economic decisions. This is a problem for Silicon Valley’s billionaire unicorn startups that haven’t even thought about going public yet. Ries told us:

"Everyone has been told, 'Don't go public,'"

"The most common traditional thinking now is that going public means the cessation of innovation."

To Ries, public markets encourage a kind of self-destructive behavior, which he believes is one reason the number of public companies in the U.S. has halved since its peak in 1996. Once a company goes public, employees are “on Yahoo Finance every day, and that obviously interferes with the decision-making of a normal manager,” he says. The problem starts with stock market investors, who back companies that grow sales, earnings, and customers every quarter. Once a company starts to fall behind, investors flee, and the stock falls. Managers want to avoid this problem, so they spend too much time on short-term performance. Ries says he’s heard several similar stories: halfway through a quarter, executives realize that the company is not on track, and then rush to catch up and start creating new products to get there.

Ries’ seminal book inculcates a fail-fast approach to company building, in which teams build a “at least viable product” for consumers to choose in the shortest possible time, without wasting time or energy. Ries, who previously worked as a software engineer at There, a virtual world maker that failed, and later became the co-founder of IMVU, a moderately successful social network, became a respected name among Silicon Valley entrepreneurs. Although readers flocked to his entrepreneurship classes, no one dared to participate in his proposal for the stock market because it was too extreme. When he decided to do it himself, he began contacting bankers, venture capitalists, and regulators, who told him his idea was ridiculous. “They treated me like a barbarian,” he said. But he didn’t care, and spent three years building a team to weigh various ideas, such as charging higher fees for short-term trading. Ultimately, the LTSE settled on three reforms: how executives are paid, how companies and investors share information, and how investors vote.

Companies that want to list their shares on Ries' exchange must choose from compensation plans approved by the LTSE, which is designed to protect executive pay from short-term stock price fluctuations. Ries complains that CEOs or executives who receive quarterly or annual pensions are often tied to certain metrics, such as earnings per share, which incentivizes them to increase membership. Ries wants to encourage companies to adopt stock packages that will not affect growth even if executives leave the company, so they will choose long-term reasonable moves.

The LTSE also wants to encourage companies and investors to share more information, such as details on research and development expenses. To incentivize investor participation, exchanges entice them with rewards, so the LTSE plans to use voting rights as an incentive. If investors reveal the real names of beneficiaries to management (versus hidden industry codes), they will get more voting rights the longer they hold shares. The LTSE hopes to make money mainly by selling software tools and charging listing fees, but this is an extremely difficult business because more companies choose to list on the New York Stock Exchange (NYSE) or Nasdaq, and they are often selected based on reputation. As Ries sees it, companies listed on the LTSE have additional permissions. Ries said:

"You're advertising to a higher standard market, which is the gold standard, the longest-standing, most core version that's available to the public."

Larry Harris

Larry Harris, professor of finance and business economics at the University of Southern California’s business school, said:

Ries' reforms may not have the desired effect, such as granting long-term shareholders higher voting rights, which will make takeovers more difficult and ultimately benefit arrogant managers. "The threat of a takeover is the most effective way to regulate corporate behavior. I suspect that savvy investors may avoid exchanges that create obstacles for bad actors."

Licenses from the Securities and Exchange Commission (SEC) can be another arduous process, especially when trying to change the status quo. As Ries, Brad Katsuyama, and Michael Lewis wrote in their 2014 book, the "Flash Boys" are trying to change the flaws of the existing market. Katsuyama spent the better part of a year trying to get the SEC to license Investors Exchange, which he says neutralizes the unfair advantages of high-frequency traders. Existing market participants are unhappy. In a letter to regulators in November, the New York Stock Exchange criticized the initiative as unfair and cryptic. Last month, Nasdaq warned the SEC that it would legally destroy its decision if it approved IEX's application.

Tyler Gellasch

Tyler Gellasch, executive director of investor trading group Healthy Markets, said:

"Any time an exchange tries to do something different, it's going to be subject to long-term and rigorous scrutiny."

Although Silicon Valley has successfully disrupted major industries, it has not been able to disrupt the deeply rooted traditions of Wall Street. In 2014, Google's initial public offering (IPO) attempted to fairly distribute shares through a Dutch auction, but it led to poor trading on the first day and later failed to achieve its goal. Marc Andreessen believes that Google's unorthodox IPO is a "great case study and cautionary tale. Eric's main goal is to prevent its success."

If Ries gets the SEC's blessing, he'll face his biggest potential challenge yet - convincing his company to be the first to list on the LTSE. Because it will take years for the LTSE to get the SEC's blessing, Ries doesn't plan to rely on Uber, Airbnb or other peers; instead, he's actively reaching out to founders of mid-sized startups, some of whom have invested in the LTSE. In the next few years, Ries hopes these companies will become strong candidates for IPOs. If he's lucky, someone with enough confidence will be willing to be a pioneer. "The collective action problem is real. As an industry, we want to see these changes, but there are always incentives for individual players to sit on the sidelines. They might say, I'll wait until someone else does it first. I'm not going to begrudge these people. But if everyone does that, nothing will change."