Money & Investing

SEC Considers Controversial Plan
To Combat Microcap Stock Fraud

By JUDITH BURNS
Dow Jones Newswires

WASHINGTON -- The U.S. Securities and Exchange Commission will
consider four proposals when it meets Friday, including a controversial plan to
crack down on "microcap" stock fraud by imposing tougher rules on
broker-dealers who sell such stocks to the public.

In the microcap area, the SEC will revisit a proposal it floated last year to
combat fraud.

At issue is Rule 15c2-11, adopted in 1971 to curb trading in bogus "penny"
stocks. Such stocks, too small to trade on most stock exchanges, usually are
listed in the National Quotation Bureau's so-called pink sheets, or the OTC
Bulletin Board run by the National Association of Securities Dealers.

Currently, a market maker can't begin quoting prices for an over-the-counter
stock before reviewing the company's financial statements and having a
reasonable basis to believe the information is accurate. Once trading begins,
however, other brokers may "piggyback" onto trading without looking into the
company's financial data.

"There will be fewer bogus microcap stock promotions" if the SEC proposal is
adopted, predicts Philip Feigin, executive director of the North American
Securities Administrators Association. NASAA, which represents state
securities regulators, favors the SEC's tougher approach.

But securities industry professionals expressed concerns about the plan.

"We're as concerned about microcap stock fraud as anyone," said George
Kramer, an associate general counsel with the Securities Industry Association.
But, he said the SEC's 1998 proposal would have an impact on markets other
than microcap stocks, where fraud isn't prevalent.

Last February, the SEC sought to toughen the rule by eliminating piggybacking
and requiring all brokers who make markets in OTC securities -- not just the
original market maker -- to review the information first hand, revisit it at least
once a year, and refrain from publishing quotes for "questionable" stocks.

"You have to make the firms put their money where their mouth is," Mr. Feigin
said. "I think (this) will go a long way toward making firms responsible for the
stocks they're promoting."

The Securities Industry Association, Mr. Kramer said, "can live with the notion
that broker-dealer monitoring plays a role here," but fears the 1998 proposal is
much too broadly written.

The Bond Market Association raised similar concerns, noting the changes
proposed in 1998 would affect debt markets and foreign equities as well as
microcap stocks. It joined others in urging the SEC to revise the plan by
defining "microcap" stocks, or excluding other markets from the tougher
broker-dealer rules.

"It remains to be seen if they're going to refine it to deal with those concerns,"
said Mr. Feigin. Mr. Kramer thinks the SEC will make some changes, but isn't
sure if it will add a definition, or exclude certain markets from changes it
approves.

In a similar vein, the SEC will consider Rule 504, which allows small companies
to issue limited amounts of stock, up to $1 million, without federal registration.

"There's a good side to 504" because it helps small companies tap capital
markets with relative ease, said Mr. Feigin. While that is a boon for legitimate
companies, it has led to fraudulent microcap offerings, thanks to what he calls
the "New York loophole."

That refers to the fact that all U.S. states, except New York, require state
registration for stock offerings below the $1 million threshold. When the SEC
loosened its small business rules in 1992, Mr. Feigin said it spurred scam artists
to use a New York base to sell microcap stock under Rule 504, with no
federal or state oversight.

The SEC's plan is to "close that loophole" by amending Rule 504 to require that
small stock offerings be registered in at least one state.

"It will be a major blow against microcap fraud" if that change is adopted, Mr.
Feigin said.