SECURITIES AND EXCHANGE COMMISSION
In the Matter of the Application of
OUTSOURCE INTERNATIONAL, INC.
For Review of Action Taken by the
NATIONAL ASSOCIATION OF SECURITIES DEALERS, INC.
OPINION OF THE COMMISSION
REGISTERED SECURITIES ASSOCIATION -- REVIEW OF DELISTING FROM NASDAQ NATIONAL MARKET
Failure to Satisfy Requirements for Continued Inclusion
Registered securities association removed a security from its automated quotation system because the issuer of the security was not in compliance with the maintenance standards for net tangible assets and market value of publicly-held shares. Held, review proceeding dismissed.
Harold I. Freilich and Hever M. Bascon, Jr., of Verner, Liipfert, Bernhard, McPherson and Hand, Chtd., for Outsource International, Inc.
Edward S. Knight, Sara Nelson Bloom, and John D. Nachmann, for the Nasdaq Stock Market, Inc.
Appeal filed: January 5, 2001
Outsource International, Inc. ("Outsource" or the "Company") appeals the decision of the National Association of Securities Dealers, Inc. ("NASD") to remove the Company's securities from the Nasdaq National Market. The NASD found that Outsource failed to maintain both the required $4 million minimum net tangible asset value and the minimum $5 million market value of publicly-held shares. We base our findings on an independent review of the record.
Outsource, headquartered in Delray Beach, Florida, provides flexible industrial staffing services to businesses. As of May 2000, Outsource had 85 field offices throughout the United States. The Company's shares were included on the Nasdaq National Market in 1997.
On April 14, 2000, Outsource filed its 1999 Annual Report on Form 10-K. In the accompanying financial statements, Outsource's auditors raised the issue of the Company's ability to continue as a going concern, pointing to several factors. Outsource's net losses for the year ended December 31, 1999 totaled $30.9 million. As of that date, Outsource's current liabilities exceeded current assets by $42.0 million. The Company was in default on repayment of certain acquisition debt subordinated to its bank financing, and its long-term bank credit facilities had a maturity of December 31, 1999, which had been extended through April 30, 2000. The financial statements also reported that Outsource had deducted $14.1 million in deferred taxes from its assets "because it is not clear that utilization of the tax benefits resulting from operating losses and other temporary differences are 'more likely than not' to be realized as required by SFAS 109." 1
Nasdaq Stock Market Rule 4450(a)(3) requires an issuer to maintain net tangible assets of at least $4 million. 2 By letter dated April 19, 2000, the NASD staff had determined that Outsource had ($8,324,760) in net tangible assets as of December 31, 1999, and thus failed to meet the minimum net tangible asset value requirement. The staff asked Outsource to submit a plan to demonstrate how the Company would achieve and sustain compliance with that requirement.
On May 3, 2000, Outsource submitted its plan and requested that the NASD postpone any further action until after July 31, 2000. Outsource advised the NASD that the Company had retained an investment banking firm to assist it to obtain new long-term financing. Outsource anticipated completing its refinancing by the end of fiscal 2001, and "most likely" by July 31, 2000. The Company also reported that it was in "regular contact" with its subordinated lenders and believed that these lenders would negotiate new notes with Outsource at the same time as the refinancing. Outsource projected that its ongoing restructuringplan and cost-cutting efforts would return the Company to profitability in fiscal year 2001 and that its share price should recover once it had completed its refinancing. Outsource asserted that the Company would be able to reverse the $15.0 million tax valuation allowance, 3 with its new long-term financing, renegotiated subordinated debt, sustained profitable operations, and a plan demonstrating a high likelihood that Outsource could utilize its deferred tax benefit. On May 22, 2000, the NASD staff denied Outsource's request for continued listing on the National Market. The staff stated that Outsource had failed to provide "a definitive plan evidencing its ability to achieve near term compliance with the continued listing requirements or sustain such compliance over an extended period of time."
On May 17, 2000, Outsource filed its quarterly report on Form 10-Q. In the Form 10-Q, Outsource reported that three of its subordinated lenders had given notice of acceleration of their notes. The NASD staff determined that, based on its financial statements, Outsource had ($10,779,724) in net tangible assets.
During this period, Outsource also fell out of compliance with a second continued listing requirement. Nasdaq Stock Market Rule 4450(a)(2) requires an issuer to maintain a minimum market value of public float (i.e., publicly held shares) ("MVPF") of $5 million to continue to be listed on the National Market. 4 By letter dated May 24, 2000, the NASD staff informed Outsource of this failure. The staff stated that Outsource had failed to maintain the required MVPF over the previous 30 consecutive trading days. As required by Rule 4310(c)(8)(B), the staff gave Outsource until August 22, 2000 to demonstrate compliance. 5 The staff also advised Outsource that it could be delisted prior to August 22, 2000 if it failed to comply with any other listing requirement.
Outsource requested a review by the NASD Qualifications Hearing Panel (the "Panel") of the staff's May 20 decision delisting its securities for failure to maintain sufficient net tangible assets. The Panel granted the Company a stay from delisting and scheduled an oral hearing for July 6, 2000. The NASD also asked Outsource to address its MVPF, which the staff calculated to be $3.5 million as of May 31, 2000.
At the hearing, Outsource asserted that its restructuring would help restore its profitability by the third quarter of 2000, and projected net income of $1.4 million for fiscal year 2001. Outsource also anticipated that, by July 31, 2000, it would have refinanced its existing bank debt with new long-term financing. Outsource supplied the Panel with a proposed commitment letter from a lender. Outsource also stated that it was holding ongoing discussions with its subordinated note holders and expected to renegotiate its subordinated debt after it completed refinancing its long-term debt. The Company argued that its net loss in 1999 was compounded by non-recurring costs, including the deferred tax asset reserve and restructuring costs. The Company explained that its plan to "write back" its $15.0 million deferred tax allowance was under review by its auditors, although it acknowledged that the auditors "will not offer a definitive opinion until all facts are known." Outsource reiterated its belief that, once it completed the refinancing, the market would react positively and bring the Company into compliance with the MVPF requirement. 6 Outsource asked the Panel to delay its decision until August 24, 2000, to allow the Company to complete its refinancing and address its deficiencies. 7 On August 1, 2000, Outsource provided the NASD with a signed commitment letter regarding its refinancing, and indicated that it expected to close the transaction by August 15, 2000.
NASD staff advised the Panel that Outsource had not concluded negotiation of its refinancing plan and did not have a definitive plan for dealing with its subordinated lenders. The staff estimated that Outsource had a "burn rate" of between ($770,000) and ($880,000) per month, and projected that Outsource could incur additional restructuring charges. The staff also asserted that Outsource would require significant debt forgiveness before it was eligible to reinstate its deferred tax asset.
On August 9, 2000, the Panel denied Outsource's appeal to remain listed on the Nasdaq National Market. The Panel determined that it "lacked confidence in the Company's ability to sustain compliance with the $4,000,000 net tangible asset requirement over the long term in the event it is able to complete the restructuring plan, given the Company's history of significant losses." Because of a $2,663,000 loss in Outsource's most recent quarter, the Panel concluded that Outsource would not be able to record the deferred tax asset on its balance sheet in the near term. Given Outsource's history of losses, the Panel further concluded that Outsource would need a "significant 'cushion' ... beyond that created by the expected $16,000,000 increase" from the debt restructuring. The Panel ordered the Company's securities delisted from the National Market effective August 10, 2000. 8
On August 16, 2000, Outsource announced that it had completed its refinancing. In its Form 10-Q dated August 21, 2000, the Company reported that it would record an extraordinary gain of $8.5 million in the quarter ending October 1, 2000, as a result of the refinancing. Outsource also reported pro forma net tangible assets of $5.6 million as of July 2, 2000. NASD staff, however, calculated that Outsource had ($3.48 million) in net tangible assets for the period ending July 2, 2000.
On August 23, 2000, Outsource requested a review of the Panel's decision by the Nasdaq Listing and Hearing Review Council (the "Listing Council"). 9 On October 9, 2000, Outsource informed the Listing Council that it projected net tangible assets of $7,512,000 as of October 2, 2000, largely due to the"write back" of an additional $1.7 million of its deferred tax asset. Outsource admitted that its July 2000 Form 10-Q had reported a liability as a result of its expected distribution to shareholders of between $2 million and $5 million as a result of an IRS audit for the years 1994 through 1996. 10 The Company argued that, although the issue had not been finalized, it expected that the resulting liability would decrease net tangible assets by only $0.7 million, thereby allowing the Company to keep net tangible assets above the $4 million requirement. 11
Outsource also argued that it had regained compliance with the $5 million MVPF requirement. The Company claimed that the staff's calculation had understated its public float by 903,165 shares, for an asserted total of 4,584,247. 12 Outsource further claimed that its stock had maintained a market price in excess of $1.09 per share for each of the 30 trading days ending August 5, 2000.
On November 22, 2000, the Listing Council affirmed the Panel's delisting of Outsource's securities, finding that Outsource had failed to demonstrate that it had achieved and could sustain compliance with the net tangible asset and the MVPF requirements. While the Listing Council recognized that Outsource had reported pro forma net tangible assets of $5.6 million as of July 2, 2000, the Listing Council concluded that Outsource had not demonstrated its ability to achieve and maintain long-term compliance.
The Listing Council found that "at the time of the Panel's review of this matter, the Company had net tangible assets of ($10,779,724) and had been out of compliance with the net tangible assets requirement since December 31, 1999." Outsource continued to report pre-tax losses for fiscal year 2000. Moreover, contrary to Outsource's claim that it had a strong record of profitability, the Company recorded a net loss of $12,604,000 in 1997, in addition to its net loss of $6,135,000 in 1999. The Listing Council found that Outsource had provided noevidence that its auditors had reviewed its inclusion of the deferred tax asset or concurred in the Company's treatment of the asset. The Listing Council also stated that it could not conclusively accept the Company's argument that its unrecorded tax liability would not exceed $2.4 million because "there was not enough certainty to determine the amount of the liability."
The Listing Council rejected Outsource's claim that it had complied with the MVPF requirement because the Company had not calculated its market value based on the closing bid price of its shares, as required by the NASD Rules. 13 The Listing Council determined that, even if it accepted Outsource's calculation of 4,584,247 public shares, at its then-current closing bid price of $0.687, Outsource's MVPF was $3,149,378. Moreover, Outsource had failed to present a definitive plan to sustain compliance with that requirement. 14
Outsource seeks reversal of the NASD's action and an order directing the NASD again to include the Company's shares on the Nasdaq National Market. In general, on review of a delisting action, we determine whether the specific grounds on which the NASD's action is based exist in fact, whether such action is in accordance with applicable NASD rules, 15 and whether those rules are, and were applied in a manner, consistent with the purposes of the federal securities laws. 16 We believe that the NASD acted appropriately when it delisted Outsource.
The NASD has "broad discretionary authority" in evaluating a company's ability to meet continued listing criteria. 17 Outsource had net tangible assets of ($8,324,760), ($10,779,724), and ($3,484,000) on December 31, 1999, April 2, 2000, and July 2, 2000, respectively. Although Outsource's refinancing on August 15, 2000 raised its pro forma net tangible assets as of July 2, 2000 to $5,612,000, the NASD had well-founded concerns that the Company would be unlikely to sustain compliance with the net tangible asset requirement. Outsource had already been out of compliance for many months. It had a past history of losses, and pre-tax losses continued in 2000. The Company also could not quantify a pending tax-related liability of up to $5 million, or demonstrate that it would be able to "write back" its entire tax-deferred asset as planned.
Outsource also failed to meet the MVPF requirement. The Listing Council rejected Outsource's computation of its compliance with the MVPF requirement because the Company did not use the closing bid price, as required by NASD Rule 4200(20). While Outsource contends that the Panel's August 9, 2000 delisting decision severely impaired its share price, making it impossible for it to comply with the MVPF requirement, the Commission previously has sustained the NASD's rejection of similar claims that the NASD's regulatory action caused an issuer's failure to comply with listing requirements. 18 "The material issue is [the company's] inability, for whatever reason, to meet the standards required of Nasdaq-listed companies." 19
We also conclude that the NASD's actions were consistent with the purposes of the Exchange Act. Outsource contends that the NASD abused its discretion by mechanically applying filing deadlines and making its decision before Outsource could complete its refinancing. It asserts that the Panel compounded its mistake by refusing to reconsider its decision after the Company successfully completed its refinancing on August 15, 2000. However, given Outsource's financial history, the record supports that Panel's determination that the Company needed "a significant 'cushion'" beyond that created by the restructuring of its long-term debt, to "sustain compliance with the $4,000,000 net tangible asset requirement over the long term."
Outsource also contends that the Listing Council improperly failed to consider evidence that Outsource had accurately projected the successful completion of its refinancing. The NASD has discretion to determine that a company's compliance plan will not enable it to regain and sustain compliance with the NASD's continued listing requirements, even when the company's ability to comply is based on a "realistic hope." 20 The NASD examined Outsource's plan for continued compliance and reasonably concluded, based on all of the evidence before it, that the Company would not be able to sustain compliance with these requirements. 21
The NASD's action was consistent with its obligation under the Exchange Act to protect investors. Outsource contends that the Panel's decision to delist Outsource was a premature decision and harmed existing investors. However, in the context of listing decisions, we have consistently stated that we must emphasize the interests of future investors, who should be able to rely on the effective operation of listing standards, rather than the interests of existing investors. 22
Outsource argues that the NASD, in fact, did not need to act to protect prospective investors, "who would have purchased shares based on adequate information concerning the Company." We believe that this argument misses the point of the NASD listing criteria. Prospective investors' interests would not be protected if the NASD permitted continued listing of shares of companies that could not sustain compliance with its listing requirements. Rather, "the presence in NASDAQ of non-complying securities could have a serious deceptive effect." 23
We find that the stated factual basis for delisting Outsource securities in fact existed and that the NASD actedfairly and in accordance with its rules, which were applied in a manner consistent with the purposes of the federal securities laws. Accordingly, we have determined to dismiss this review proceeding.
An appropriate order will issue. 24
By the Commission (Chairman PITT and Commissioners HUNT and UNGER).
Jonathan G. Katz
Admin. Proc. File No. 3-10403
In the Matter of the Application of
OUTSOURCE INTERNATIONAL, INC.
For Review of Action Taken by the
NATIONAL ASSOCIATION OF SECURITIES DEALERS, INC.
ORDER DISMISSING REVIEW PROCEEDING
On the basis of the Commission's opinion issued this day, it is
ORDERED that the application for review filed by Outsource International, Inc. be, and it hereby is, dismissed.
By the Commission.
Jonathan G. Katz
|1||In the quarter ended April 2, 2000, Outsource recognized a $0.9 million addition to the allowance for deferred taxes, increasing the deferred tax asset to $15.0 million.|
|2||"Net tangible assets" are calculated as total assets (including the value of patents, copyrights and trade marks but excluding the value of goodwill) less total liabilities. Nasdaq Stock Market Rule 4200(a)(28).|
|3||See text accompanying n.1 supra.|
|4|| Under Nasdaq Stock Market Rule 4310(c)(8)(B), "a failure to meet the continued inclusion requirements for ... market value of public float shall be determined to exist only if the deficiency ... continues for a period of 30 consecutive business days."
Under Nasdaq Stock Market Rule 4200(20), "'Market Value' means the closing bid price multiplied by the measure to be valued (e.g., an issuer's market value of public float is equal to the closing bid price multiplied by an issuer's public float)."
|5||Rule 4310(c)(8)(B) provides that, in case of failure to meet continued inclusion requirements for minimum MVPF for 30 consecutive business days, the issuer "shall have a period of 90 calendar days" from notification to comply with thestandard. Compliance can be achieved by meeting the MVPF requirement for a minimum of 10 consecutive business days during the 90-day compliance period.|
|6||The Company also argued that it in fact complied with the MVPF requirement if the NASD recognized 410,000 options, held by a group comprised of directors and officers, that NASD staff had excluded from its MVPF calculation as inside shares.|
|7||In making this request, Outsource noted that the NASD had already granted the Company a 90-day grace period regarding the MVPF requirement until August 22, 2000.|
|8||Because the August 22 deadline for Outsource's compliance with the MVPF requirement had not yet been reached, the Panel did not consider this requirement as a basis for its decision. However, the Panel observed that, as of the date of its decision, Outsource continued to fail to comply with the MVPF requirement. The Panel denied the Company's request to extend the grace period for compliance beyond August 22, 2000.|
|9||Under Nasdaq Stock Market Rule 4480(c), Outsource's appeal to the Listing Council did not operate to stay the delisting.|
|10||The IRS had first notified Outsource in April 1999 of potential tax liability for the Company related to certain subsidiaries, acquired by the Company on February 21, 1997 in exchange for shares of Outsource's common stock and distribution to the subsidiaries' shareholders of the subsidiaries' previously-undistributed taxable earnings.|
|11||Outsource stated that it expected its liability to total $2.4 million, but that it would finance $1.7 million of this liability by selling equity and using the proceeds to pay the original shareholders.|
|12||Outsource asserted that the NASD staff improperly had excluded both shares of stock that underlay options held by directors and officers and stock owned by a former director.|
|13||Nasdaq Stock Market Rule 4200(20).|
|14||Outsource also had represented to the Listing Council that it was preparing a registration statement to issue additional shares, which it argued would further increase its MVPF. The Listing Council found that Outsource's plan to register additional shares was not definitive because the Company did not provide a clear timetable for completion of the registration statement and review by the Commission.|
|15||Outsource does not contend that the NASD did not act consistently with its rules. Our review of the record confirms that the NASD acted in accordance with its rules.|
|16||Section 19(f) of the Securities Exchange Act of 1934, 15 U.S.C. §78s(f).|
|17||Nasdaq Stock Market Rule 4300 ("Nasdaq ... in addition to applying the enumerated criteria set forth in the Rule 4300and 4400 Series, will exercise broad discretionary authority over the initial and continued inclusion of securities in Nasdaq in order to maintain the quality of and public confidence in the market."); see, e.g., Imaging Diagnostic Systems, Inc., Exchange Act Rel. No. 41633 (July 21, 1999), 70 SEC Docket 457, 463.|
|18||See Prairie Pacific Energy Corp., 52 S.E.C. 1091, 1096 (1996); Biorelease Corp., 52 S.E.C. 219, 224 (1995).|
|19||Prairie Pacific Energy Corp., 52 S.E.C. at 1096.|
|20||Tassaway, Inc., 45 S.E.C. 706, 710-11 (1975); see Gunther Int'l Ltd., 52 S.E.C. 751, 756 (1996).|
|21||We take official notice that, on a Form 8-K dated June 12, 2001, Outsource announced that it had filed for Chapter XI bankruptcy on behalf of itself and its operating subsidiaries. Case Nos. LA-01-28160-BB, LA-01-28173-BB, LA-01-28179-BB, LA-01-28185-BB, LA-01-28191-BB, LA-01-28197-BB and LA-01-28201-BB (C.D. Cal. June 11, 2001).|
|22||See Ryan-Murphy Inc., 53 S.E.C. 136, 144 (1997); Gunther Int'l Ltd., 52 S.E.C. at 755; DHB Capital Group, Inc., 52 S.E.C. 740, 745 (1996); KLH Eng'g Group, Inc., 52 S.E.C. 460, 465 (1995); Biorelease Corp., 52 S.E.C. at 224.|
|23||Tassaway, Inc., 45 S.E.C. at 709|
|24||We have considered all of the contentions advanced by the parties. We reject or sustain them to the extent that they are inconsistent or in accord with the views expressed in this opinion.|