Rules and Regs

[TEX]

re 144: Blog expository, pretty interesting:

"Want to hear about something very exciting for microcap investors? No one else seems to recognize the significance of what's happening in the regulatory world. I haven't read anything about the new reg changes in the main stream media. New regs are here, and they should be very favorable for microcap investors.

Let's set the stage. Companies go pubic for two reasons- 1. Access to capital, and 2. an exit strategy for founders and a way to enhance employee compensation.

Small companies need capital to expand, and there are a dearth of hedge funds in the business of financing small companies. Thanks to 10 years of loopholes in the regulations, capital has been too easy to get, and free trading shares too easy to issue.

For many years there has been a big and pervasive problem in the microcap world: Excess supplies of stock from financiers who engage in "no risk" financings depressing stock prices. How can a financing be no risk? Glad you asked: Here's how- by creating securities- i.e. convertible debt and preferred issues, that convert at a discount to the market, no matter how low the market goes.

Until the Reg S loophole closed about five years ago, companies were able to issue unlimited quantities of free trading shares to "foreign entities" who were exempt from registration. This allowed small companies to engage in highly toxic financings and led to many abuses in illegal short selling.

In the last five years "death spiral" financings have become popular. Companies would engage in the issuance of convertible securities with floorless conversion features. The companies would then go ahead and register hundreds of millions of unissued shares on behalf of their financiers. Once registered, many financiers were very aggressive on the sell side with little regard for market value, because it simply didn't matter to them. In this high risk business, repatriating the capital is all that matters. Hedge fund managers live and die by their monthly returns.

One year ago the SEC finally did something about the problem. Rule 415- a loosely defined new regulation started being enforced by the SEC. Under this new rule microcap companies were only allowed to register 30% of the number of shares owned by non affiliates and the public. Another words, if a company had 50 million shares I&O, and 25 million were owned by founders and insiders, the company could only register up to 7.5 million shares (30% of the remaining 25 million).

Rule 415 solved the problem of massive excess supplies, but in doing so created another problem- access to capital. Financiers, formally willing to finance micros on a relatively risk free basis, were now forced to take on very substantial risk. Hence, the supply of capital to small companies became more scarce.

Here's where the SEC stepped up and implemented some new rules that are favorable to micros. They changed a number of the requirements under Rule 144 as a kind of "give back" for what they took away with Rule 415.

Previously, newly issued and unregistered shares were eligible to be resold into the public markets after 1 year under Rule 144 with one major restriction- the number of shares that could be sold every 90 days under Rule 144 was limited to 1% of the I&O every 90 days for any one shareholder.

Under the newly implemented Rule 144 requirements, shareholders are eligible to sell under Rule 144 after six months instead of one whole year, and the 1% collar has been lifted. These new Regs go into effect on February 15th.

Here's the net result of all these reg changes in my view as it relates to open market investors:

* Financiers will have to be willing to take more risk in micros under the current regs.
* Fewer companies will be able to obtain financings
* The ones that do get financed will have a higher probability of success
* There will be lower failure rates amongst the good micros that are able to obtain capital
* Net Result: Fewer stocks to choose from, more winners, less losers. Eventually, more investors chasing fewer ideas, and better ideas.

In the 20 years I have been involved in the microcap world, this is the first major regulatory change implemented by the SEC that I feel is great for microcap investors.

This is all really good stuff for microcap stocks, and bodes very well for the future of this end of the market. This is not to say there won't still be losers in the microcap world- there will be, and you need to accept the inevitable if you are going to invest in this end of the market.

Barring a rough road in the overall markets, new reg changes from the SEC, for the first time in my experience, should yield better profits for microcap investors.

Now, if we could just get rid of Sarbanes Oxley- I can't blame that one on the SEC- Congress, wanting to appear like it was doing something to protect investors in the post Enron Era, hung that regulatory mess on public companies. Repealing the SarBox mess would be heaven sent for bottom line profits and an oppressive regulatory system. All Sarbox has done is turn the auditing firms into legalized extortionists.

We can only hope. I'll take what we got this year, and be happy for it."

http://www.otcjournal.com/archive/listserv/20080106-1.html