CBBS News (sort of)
Frank Speight, CBBS' CEO, was quoted in the following Dow Jones news story this morning:
=DJ Small Firms Shy Away From IPOs As Compliance Costs Rise
06/23/2004
Dow Jones News Services
(Copyright © 2004 Dow Jones & Company, Inc.)
By Tiffany Kary
Of DOW JONES NEWSLETTERS
NEW YORK (Dow Jones)--Joe Fiore didn't mince words when Knock-Out Technologies Ltd., a maker of food technology, approached him about going public.
Fiore, chairman of Scarsdale, N.Y.-based Berkshire Capital Management Co., quickly ascertained that the company had about only half the $125,000 to $150,000 in free cash flow he reckons is necessary to meet the costs of complying with the Sarbanes-Oxley Act of 2002, which seeks to increase transparency in corporate governance.
"If they don't have it, I tell them up front; these costs are not optional," said Fiore, who said he meets with seven to eight companies seeking to go public a month.
Dover Plains, N.Y.-based Knock-Out Technologies thus bowed out in an early round of its bid to become a publicly traded company, despite what Fiore described as promising technology: a germicidal spray that can eliminate six major types of bacteria.
The story doesn't end badly. Fiore set Knock-Out up with e-FoodSafety.com, an over-the-counter Bulletin Board-listed grocery tracker that acquired Knock-Out in May, giving it enough capital to pay for the costs associated with Environmental Protection Agency-mandated testing.
Much has been written about the potential long-range effects of Sarbanes-Oxley. The effects range from public firms that opt to go private to avoid the high cost of compliance - such as prepaid phone-card firm 9278 Communications - to foreign firms that shy away from listing on more stringent U.S. exchanges - German car maker Porsche AG and Japanese brokerage Daiwa Securities Group (6601.TO), for example. But it is the small all-American start-up that may be most affected by the high cost of compliance.
The average cost of being public for a company with annual revenue under $1 billion has increased 130% over two years, to $2.1 million in fiscal 2003, according to a study from law firm Foley & Lardner. The study, which surveyed 115 companies, said the biggest cost increases came from lost productivity, board compensation, and director and officer (D&O) insurance.
From fiscal 2002 to fiscal 2003, D&O insurance rose 33%, board compensation rose 48%, and fees from lost productivity, as staff and costs were channeled into compliance work, rose 72%. A rise in audit fees also hit companies hard, up 23%, according to the survey.
"The government shouldn't expect that these companies have the same kind of resources Microsoft Corp. (MSFT) does," said Frank Speight, chairman of the Small Public Company Capital Formation Club, a new lobby group being created by The Club For Growth, an antitax group that supports conservative candidates. In addition to lobbying for a reduction in the regulatory burden on small companies, the group, which will officially launch in September, also plans to champion easier access to capital.
Speight, also CEO of West Palm Beach, Fla.-based American Capital Partners Ltd., estimates that of the 100 or more companies he meets with each year, only five to 10 will decide to try for an initial public offering. Speight, who has been in business since 1991, said the current rate is a considerable drop from past years.
High costs scare most companies off. Like Fiore, Speight said companies need around $150,000 in free cash flow to be able to meet Sarbanes-Oxley costs. That doesn't include the rising costs associated with the need to attract independent directors, he added, noting that D&O insurance policies can set a company back as much as $100,000 per director.
Speight, who meets with about 10 companies a month, said he now has 20 clients that are deciding whether to scrounge together the fees or just stay private.
"In a lot of cases these companies end up going to their friends, families, neighbors and loved ones to borrow the money. But that just puts them further behind the ball," he said.
In Fiore's experience at Berkshire Capital over the past year, 80% of private companies are not able to go public because of the high costs of Sarbanes-Oxley, which requires hours of high-priced legal counsel and auditor consulting.
The costs of Sarbanes-Oxley aren't decreasing as companies become more familiar with it, either. According to AMR Research, a market research firm, Sarbanes-Oxley compliance costs are expected to rise in 2005, up from an estimated $5.5 billion aggregate for U.S. companies in 2004. And 35% of companies in a recent AMR survey said costs are running above plan for 2004 already. AMR doesn't study the particular impact on small businesses, but John Hagerty, a researcher with the firm, notes that it's simply a matter of scale.
"It's like regressive taxing, small companies end up paying more," Hagerty said, adding that companies with decentralized operations also suffer more from high compliance costs.
Even for companies that decide to stay private, the presence of Sarbanes-Oxley is still felt.
"Venture-capital firms (and) auditors are telling private firms: 'If you want access to capital, you need to prove some compliance as well'," Haggerty said.
-By Tiffany Kary, Dow Jones Newsletters; 201-938-4292
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