Middle Market Deals and how to buy, sell and raise capital from $5 to $500 million

Brad Jacobsen, a lawyer from Holme Roberts and Owen, wrote this explanation about Going Dark: 

A client of ours recently learned first hand the significant costs that implementation of the Sarbanes-Oxley Act of 2002 (“SOX”) can have on a small, publicly-held company.  In connection with the review of the company’s Quarterly Report on Form 10-QSB, its chief financial officer unfortunately made an off-hand remark to the outside auditor regarding the company’s internal controls and procedures.  As a result of that comment, the auditors demanded that the audit committee hire independent counsel and conduct a full review of the company’s financial statements – with a materiality threshold (items requiring documented back-up to be provided to the auditors) of only $2,000.  Over the next six weeks the company incurred in excess of $300,000 in legal and auditing fees (not to mention lost opportunity costs and lost management time), filed its 10-QSB late and was threatened with potential delisting by NASDAQ.  The resulting review by the auditors and the audit committee’s independent counsel found no improper or illegal acts by the company and only required that the company make adjustments to its accruals of a net aggregate amount of less than $1,000.  The significant cost incurred by the company for this review nullified its entire third quarter 2006 profit.
 
Like other small business issuers, our client must now seriously consider whether being a public company is in the best interest of its shareholders.  As the deadline for compliance with the costly and time consuming internal controls and procedures requirements for small business issuers nears, many public companies (large and small) are also evaluating the merits of remaining public. 
 
The primary means for a public company to avoid its obligation to comply with the reporting requirements of the Securities Exchange Act of 1934, as amended (the “Exchange Act”), is to “go private.”  While going private can be costly and time consuming, many companies are actually eligible to go private by simply filing a one page form with the Securities and Exchange Commission (the “SEC”), a Form 15.  The filing of the Form 15 without a preceding going private transaction is often referred to as “going dark” and is available to any public company, with a few exceptions, that has fewer than 300 shareholders of record.  The cost to go dark can be as little as $5,000.  While most public companies have more than 300 individual, or “beneficial,” shareholders, eligibility is measured only on the number of shareholders “of record” (not the actual number of individual shareholders).  It is estimated that over 84% of the securities of most public companies are held in nominee or “street name” (not held of record by individual shareholders), thus making the option to go dark available to many public companies.  For example, Huntsman Corporation only has 198 record shareholders and Overstock.com only has 238 record shareholders as of the filings of their last 10-Ks.  It should be noted, however, that there have been recent discussions to amend the Exchange Act rules to require that beneficial (i.e., actual individual shareholders) and not simply record shareholders be included in the count.

An issuer’s decision to “go dark” or “go private” is complex and complicated.  Companies must weigh the costs and benefits of being public against the costs and benefits of being private.  Although there may be important benefits to going dark, a board should carefully and thoroughly consider the decision with the advice of competent and experienced legal, accounting and financial advisors.  To learn more, please see an article on this topic in the January/February 2007 Utah Bar Journal by Brad Jacobsen and Chris Scharman.

Brad Jacobsen is a partner with the firm Holme Roberts and Owen and works in their commercial law and securities practice in the Salt Lake City office.  Prior to joining HRO in 2002, he worked in the Business & Technology Group at Brobeck, Phleger & Harrison, LLP in Boulder, Colorado; Dow, Lohnes & Albertson PLLC in Washington, DC; and Cadwalader Wickersham & Taft in New York, New York. Brad earned a BS in Finance from Brigham Young University and a JD from New York University.  Click here to reach Brad by e-mail.