August 2, 2005--With confirmation hearings underway for SEC chairman nominee, Christopher Cox, two advocacy groups for small public companies are pushing for freer access to capital through reform of Rule 504.
Rule 504 currently allows only non-reporting companies to sell "restricted" securities worth up to $1 million, which means the assets can be sold only if the company registers under a state law to provide public disclosure to investors before a sale; otherwise, such freely tradable stock may only be sold to accredited investors.
Advocates claim the original Rule 504 provided a far more flexible and low-cost means to raise capital for small firms, private and public alike.
Created by the Reagan Small Public Company Reforms of 1982, the 504 originally allowed reporting and non-reporting firms alike to offer freely tradable securities worth up to $500,000, later raised to $1 million. However, complaints of fraud led to regulation in 1999 that tightened the rule to its current form.
The business advocacy groups want to reinstate Rule 504 -- to allow all companies to sell freely tradable securities to an unlimited number of both accredited and non-accredited investors -- as well as increase the $1 million cap to $5 million.
As "the cost of compliance is not matching up to their expectations of raising capital," many firms with less than $50 million market capitalization decide to "go dark," or not be public, said Frank Speight, chairman of both groups, the Microcap Company Political Action Committee (MCPAC) and the National Small Public Company Leadership Council.
According to Speight, such small public companies are "beyond the venture capital stage" and need millions to fund their business plans, amounts easy to raise only in the public capital markets. He said the groups chose the $5 million cap because a $1 million offering would raise $850,000, a large amount in 1982 but not much now, while the groups estimate the average microcap needs about $4.2 million.
Not everyone supports the lobbyists' proposed changes. George Victor, director of quality control at Holtz Rubenstein Reminick LLP, a New York-based accounting firm, suggests that the small companies facing difficulty in raising capital may have problems more fundamental than regulatory structure -- "if a company has difficulty in attracting capital, the changes are not going to help them," he said.
Speight believes that his groups' proposed changes would benefit the larger economy by easing capital flow. With tradable securities, an investor can liquidate his assets and use the return to reinvest in another company, he argues; by way of example, he said his business development firm, American Capital Partners, funded 17 different microcaps with just $2 million in 1986, something the current restrictions would never allow.
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