May 26, 1999
Mr. Johanthan G. Katz, Secretary
U.S. Securities and Exchange Commission
450 5th Street, NW
Washington, D.C.
Re: File Number S7-5-99
Dear Mr. Katz,
On February 25, 1999, the Commission issued Release No. 34-41110
requesting public comment on whether Rule 15c2-11 needed to be amended
and strengthened to deter fraud in the micro cap securities markets.
While I am in complete agreement with the Commission's belief that
affirmative regulatory action should be taken in order to deter micro
cap fraud, I am equally convinced that the proposed changes to Rule
15c2-11 will fail to accomplish their stated goal while causing serious
unnecessary disruption in the OTC markets. In particular, I believe that
the proposed changes will:
I. force fundamental changes in the day-to-day operation of the OTC
markets;
II. impose unacceptable new legal burdens and litigation risks on
market makers;
III. have devastating impact on the capital formation efforts of small
businesses;
IV. have an insignificant impact on the incidence of micro cap fraud;
V. provide no significant incremental benefit to micro cap investors;
and
VI. constitute a fundamental departure from the legislative policies
underlying the Securities Act
and the Exchange Act.
The practical problems with the proposed amendments to Rule 15c2-11
arise from an amazing "disconnect" between the Rules and the market they
are intended to regulate. In today's OTC market, the vast majority of
"market makers" simply perform a wholesaling function. They provide
liquidity to the market by purchasing shares at $5 in the hope they will
be able to sell the same shares for $5.25 later that day. In most cases,
the market makers have no established relationship with the companies
whose securities they quote and their sole function is to buy, hold and
sell as market conditions dictate. As a practical matter, one can have
perfect information at the market maker level and it will not make a bit
of difference until a mechanism is developed to convey that information
to the street.
It is a fact of life that the securities of small companies are
"sold," not "bought." Unless some human being, usually a street broker,
is willing to (a) contact prospective investors for the purpose of
selling a particular security, (b) explain why the security is a
potentially good investment, (c) ask the prospective investor to write a
check, and (d) follow up on the agreed transaction, there will be no
transaction. Therefore, the fundamental problem of micro cap fraud
arises when a street broker gives incomplete, inaccurate or misleading
information to an investor who has no independent ability to verify that
information. And there is nothing in the proposed changes to Rule
15c2-11 that will improve this situation.
Just as it is difficult to make locks and alarm systems that will
stop a determined thief, it is difficult to craft securities laws and
regulations that will stop a determined con man. The fact of the matter
is that if someone is intent on perpetrating an investment fraud, he
will do so regardless of the legal framework. Since the fundamental
premise of the securities laws is that full and fair disclosure of all
material facts is the best protection against fraud, I believe that the
only reasonable course of action is to adopt reasonable disclosure
standards for publicly traded micro cap securities and create a
mechanism for distributing that information to the persons who need it:
the street brokers who are selling a security and the investors who are
purchasing the security.
Small does not necessarily equal badsespecially in the case of new
industries and emerging technologies. And the purpose of the securities
law is not to protect all investors from all risk. Rather, the principal
goal is to provide sufficient information to permit a reasonable man to
make an informed determination of whether the level of risk in a
particular enterprise is acceptable to him.
The recent changes to Rule 504 require State level registration and
delivery of a written disclosure document prior to sale if the issuer
intends to issue freely transferable securities. But at this point the
system breaks down entirely and there is no mechanism for providing
ongoing information to the market. As absurd as it may seem, the limited
information required by Rule 15c2-11 is generally not available to an
interested investor. The street broker selling a security rarely has a
complete package of information available for distribution to investors
and I have personally asked the NASD for copies of 15c2-11 filings only
to be told that the information in their files was confidential. So I
ask, what is an investor to do?
If the Commission really wants to clamp down on fraud in the OTC
micro cap securities market, I believe the following specific steps must
be taken:
I. Every issuer that intends to maintain a secondary trading market
for its securities should
be required to:
1. establish a Web site on the internet that includes a
disclosure document meeting
the requirements of Form U-7 or Schedule A;
2. post quarterly and annual updates to its Web site within a
reasonable period after
the end of each reporting period so that the available
information will continue to
satisfy the requirements of Form U-7 or Regulation A;
3. include a URL reference to its Web site in all public
relations communications and
press releases; and
4. make printed copies of its Web site material available upon
request by any current
or prospective investor.
II. Every brokerage firm that operates as a market maker for
securities of a non reporting issuer
should be obligated to verify the availability of such
information on a regular basis, but not
less often than quarterly:
III. Every registered representative that proposes to effect a sale of
the securities of a
non reporting issuer should be required to:
1. review the issuer's Web site before soliciting any transaction
in the Issuer's securities;
2. disclose the URL of the issuer's Web site (and/or the address
of the issuer's investor
relations officer) to his client before accepting an order
for securities:
These three simple requirements have the regulatory advantage of
establishing "bright line" performance standards for each level of
market participant without imposing an unreasonable burden at any
particular level. They will also make it relatively simple to identify
fraudulent conduct, determine who is responsible for the fraudulent
conduct and take appropriate remedial action against the guilty party.
Finally, they will make real information available to the class of
persons who needs it most: micro cap investors.
I am a firm believer in the propositions that (1) a reasonable man
given access to current and accurate information will usually make a
well informed decision and (2) wide-spread fraud can only exist in the
absence of current and accurate information. If the SEC truly wants to
reduce fraud in the micro cap markets, useable information effectively
communicated to the investor level is the only answer.
Sincerely
John L. Petersen
Attorney at Law
Houston, Texas
Barbereche Switzerland
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<div align=right>May 26, 1999</div>
<p><br>
<p>Mr. Johanthan G. Katz, Secretary
<br>U.S. Securities and Exchange Commission
<br>450 5th Street, NW
<br>Washington, D.C.
<p>Re: File Number S7-5-99
<p>Dear Mr. Katz,
<p> On February 25, 1999, the Commission issued Release
No. 34-41110 requesting public comment on whether Rule 15c2-11 needed to
be amended and strengthened to deter fraud in the micro cap securities
markets. While I am in complete agreement with the Commission's belief
that affirmative regulatory action should be taken in order to deter micro
cap fraud, I am equally convinced that the proposed changes to Rule 15c2-11
will fail to accomplish their stated goal while causing serious unnecessary
disruption in the OTC markets. In particular, I believe that the proposed
changes will:
<p>I. force fundamental changes in the day-to-day operation
of the OTC markets;
<br>II. impose unacceptable new legal burdens and litigation
risks on market makers;
<br>III. have devastating impact on the capital formation efforts of small
businesses;
<br>IV. have an insignificant impact on the incidence of micro cap fraud;
<br>V. provide no significant incremental benefit to micro cap investors;
and
<br>VI. constitute a fundamental departure from the legislative policies
underlying the Securities Act
<br> and the Exchange Act.
<p> The practical problems with the proposed amendments
to Rule 15c2-11 arise from an amazing "disconnect" between the Rules and
the market they are intended to regulate. In today's OTC market, the vast
majority of "market makers" simply perform a wholesaling function. They
provide liquidity to the market by purchasing shares at $5 in the hope
they will be able to sell the same shares for $5.25 later that day. In
most cases, the market makers have no established relationship with the
companies whose securities they quote and their sole function is to buy,
hold and sell as market conditions dictate. As a practical matter, one
can have perfect information at the market maker level and it will not
make a bit of difference until a mechanism is developed to convey that
information to the street.
<p> It is a fact of life that the securities of small
companies are "sold," not "bought." Unless some human being, usually a
street broker, is willing to (a) contact prospective investors for the
purpose of selling a particular security, (b) explain why the security
is a potentially good investment, (c) ask the prospective investor to write
a check, and (d) follow up on the agreed transaction, there will be no
transaction. Therefore, the fundamental problem of micro cap fraud arises
when a street broker gives incomplete, inaccurate or misleading information
to an investor who has no independent ability to verify that information.
And there is nothing in the proposed changes to Rule 15c2-11 that will
improve this situation.
<p> Just as it is difficult to make locks and alarm systems
that will stop a determined thief, it is difficult to craft securities
laws and regulations that will stop a determined con man. The fact of the
matter is that if someone is intent on perpetrating an investment fraud,
he will do so regardless of the legal framework. Since the fundamental
premise of the securities laws is that full and fair disclosure of all
material facts is the best protection against fraud, I believe that the
only reasonable course of action is to adopt reasonable disclosure standards
for publicly traded micro cap securities and create a mechanism for distributing
that information to the persons who need it: the street brokers who are
selling a security and the investors who are purchasing the security.
<p> Small does not necessarily equal bad_especially in
the case of new industries and emerging technologies. And the purpose of
the securities law is not to protect all investors from all risk. Rather,
the principal goal is to provide sufficient information to permit a reasonable
man to make an informed determination of whether the level of risk in a
particular enterprise is acceptable to him.
<p> The recent changes to Rule 504 require State level
registration and delivery of a written disclosure document prior to sale
if the issuer intends to issue freely transferable securities. But at this
point the system breaks down entirely and there is no mechanism for providing
ongoing information to the market. As absurd as it may seem, the limited
information required by Rule 15c2-11 is generally not available to an interested
investor. The street broker selling a security rarely has a complete package
of information available for distribution to investors and I have personally
asked the NASD for copies of 15c2-11 filings only to be told that the information
in their files was confidential. So I ask, what is an investor to
do?
<p> If the Commission really wants to clamp down on fraud
in the OTC micro cap securities market, I believe the following specific
steps must be taken:
<p>I. Every issuer that intends to maintain a secondary trading
market for its securities should
<br> be required to:
<p> 1. establish a Web site on the
internet that includes a disclosure document meeting
<br> the requirements
of Form U-7 or Schedule A;
<p> 2. post quarterly and annual updates
to its Web site within a reasonable period after
<br> the end
of each reporting period so that the available information will continue
to
<br> satisfy
the requirements of Form U-7 or Regulation A;
<p> 3. include a URL reference to its
Web site in all public relations communications and
<br> press
releases; and
<p> 4. make printed copies of its Web
site material available upon request by any current
<br>
or prospective investor.
<p>II. Every brokerage firm that operates as a market
maker for securities of a non reporting issuer
<br> should be obligated to verify
the availability of such information on a regular basis, but not
<br> less often than quarterly:
<p>III. Every registered representative that proposes to effect
a sale of the securities of a
<br> non reporting issuer
should be required to:
<p> 1. review the issuer's Web site
before soliciting any transaction in the Issuer's securities;
<p> 2. disclose the URL of the issuer's
Web site (and/or the address of the issuer's investor
<br>
relations officer) to his client before accepting an order for securities:
<p> These three simple requirements have the regulatory
advantage of establishing "bright line" performance standards for each
level of market participant without imposing an unreasonable burden at
any particular level. They will also make it relatively simple to identify
fraudulent conduct, determine who is responsible for the fraudulent conduct
and take appropriate remedial action against the guilty party. Finally,
they will make real information available to the class of persons who needs
it most: micro cap investors.
<p> I am a firm believer in the propositions that
(1) a reasonable man given access to current and accurate information will
usually make a well informed decision and (2) wide-spread fraud can only
exist in the absence of current and accurate information. If the SEC truly
wants to reduce fraud in the micro cap markets, useable information effectively
communicated to the investor level is the only answer.
<p>Sincerely
<p>John L. Petersen
<br>Attorney at Law
<br>Houston, Texas
<br>Barbereche Switzerland
<br> </html>