Even if you follow business news closely in Los Angeles, you may not have noticed that Image Metrics Inc. in Santa Monica announced a couple of weeks ago that it was voluntarily deregistering its stock.
It’s understandable if you missed it. It wasn’t big news. In and of itself, it was not important. Image Metrics is an interesting company (it makes facial animation software) but it is a small company, its financials are not so great and its over-the-counter stock has swooned to penny-stock range.
But what is important is one of the reasons it gave for deregistering: “The substantial increase in accounting, audit, legal and other costs … particularly due to the Sarbanes-Oxley Act of 2002.”
We’ve passed the 10-year mark of the collapse of Enron and we’re approaching the 10-year anniversary of the Sarbanes-Oxley Act that resulted. Sadly, it’s not an anniversary to celebrate.
Sarbanes-Oxley imposed far more rigorous – and expensive – reporting requirements for public companies in an effort to prevent Enron-like mischief. Whether it’s achieved that goal could be argued either way, but its main accomplishment has been to decimate the roster of public companies.
The IPO Task Force (made up of venture capitalists, bankers, etc.) last October reported that from 2001 to 2010, less than 500 “venture-backed, emerging-growth companies” went public. That’s less than a quarter of the 2,000 that went public during the previous 10-year span.
You don’t have to look far to see the drop-off in public companies. In fact, just flip to page 23 of this issue and look at our LABJ Stock Index, which lists Los Angeles County-headquartered public companies. Ten years ago there were 200 companies on the index. Now, it’s closer to 170. But even that number is inflated because (and here’s a confession) we include some very small over-the-counter stocks – the kind we may have excluded in the past.
Various studies suggest each public company spends $1 million to $5 million extra each year to comply with Sarbanes-Oxley’s requirements. That kind of expense may be a rounding error for a big company. But it is brutal on a small one.
Let’s say you have an emerging company with $50 million in sales and a 2 percent profit margin. You’re itching to get to the next level – expand, hire the key people you need, buy that crucial equipment or technology – and you can do that if you could only get access to cheap money. In the past, you typically did that by selling stock on the public markets. But today you figure that just complying with Sarbanes-Oxley will cost you at least $1 million. That’s your profit. Never mind, you say. We’ll stay private. And not grow.
Think that’s fantasy? Consider that small companies of less than $50 million accounted for 80 percent of IPOs in the 1990s. But that swooned to 20 percent in the 2000s, according to a report released in October by the President’s Council on Jobs and Competitiveness. Small emerging companies just aren’t going public like they used to.
To be fair, other reasons contributed to this drop-off. Notably, some have argued that the 1998 change that eliminated stock trading in eighths of a dollar (and opened the door to stocks priced to the penny) only served to take away the profit for traders and stock brokers. As a result, they increasingly ignored small companies. Research departments followed, leaving small caps all but abandoned on Wall Street.
But, also to be fair, Sarbanes-Oxley is a real contributor to that drop-off. The off-putting cost of complying with it comes up again and again in various surveys, executives’ comments in the press and in SEC filings – such as Image Metrics’.
This is no small matter. If emerging companies can’t get the money they need, they are less likely to expand and compete globally. That means fewer jobs. And it means fewer opportunities for investors – including average employees with a 401(k) – to earn a nest egg. Year after year, America’s economic might is throttled back a little more.
In and of itself, Image Metrics’ announcement is not big news. Its stock won’t be missed, and the company likely will be better off.
But Image Metrics is one tiny piece of a much bigger picture – a disturbing scene in which thousands of companies have dropped off the stock markets or declined to go on them. And that is a big deal.
Charles Crumpley is editor of the Business Journal. He can be reached at email@example.com.
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