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Investing 101 - Sep 14, 2004 - Printable Version
- A Twelve Step Program to Clean up the OTC Stock Market
by Mark Faulk
Let's face the facts: the OTC stock market is a shambles, and if someone doesn't do something about it soon, it will be lucky to survive. It's like a neighborhood that's been allowed to fall into disrepair for decades, if the neighborhood association (the SEC, NASD, and DTC, in this case) doesn't do anything to make the neighborhood safer and more desirable, then all the respectable homeowners will move out, and the only ones left will be drug dealers, gangbangers, and crack whores. And since the stock market's equivalent of a "neighborhood association" seems content to watch from the sidelines (or, as some critics contend, align themselves with the riffraff that is looting the neighborhood), it's up to the remaining "homeowners" and neighborhood activists to step in and take back their own neighborhood. We have to demand that the criminals are arrested, that the laws are enforced (and if the existing laws aren't adequate to address the problems, that new laws are introduced), and that the streets are cleaned up. In other words, it's time to make sweeping changes in OTCLand, and if those in charge aren't up to the task, then it's time for new leadership.
Does anyone here really believe that the SEC gives a damn about the small investor? The truth is, they (and the NASD, the DTC, the market makers, and the brokers themselves) all get a cut every time a neighborhood con artist rips off one of the locals. The only trouble is, once they've fleeced the remaining available victims, the neighborhood will be in such disrepair that no new money will ever get invested into it again. And once that happens, once the money stops flowing, then everyone loses.
So, on the outside chance that someone "up there" really wants to reform the OTC stock market for the betterment of the small investor and the legitimate companies who are struggling to survive in a rigged game, I've taken the liberty of making a few suggestions about how to clean up this neighborhood. You may or may not agree with all of them, but until we begin the process of reform in our markets, our "neighborhood" will continue to deteriorate until it becomes essentially worthless.
1. Stop naked short selling altogether. Demand that every broker cover every short sell, and I'm not talking about the electronic shell game that they are allowed to play now. One share, signed, sealed, and delivered, to cover every share that's shorted. That one's a given, if the SEC, the NASD, and the DTC are allowing stocks to be sold short without finding the shares to cover those positions, then they are complicit in the crime. Period. We've written a bunch of articles on this issue, so I won't belabor the point here. For those of you who have been hiding in a cave in Afghanistan for the past year, read "Financial Terrorism in America", for an indepth analysis of this issue, or, if you have an entire afternoon to kill, read all of the plethora of articles we've written on the subject.
2. Publicly report all legitimate short selling information. It should be as easy as a click of the mouse to find out the number of shares that are short in any given OTC stock at any time. The records are there, why doesn't the DTC release them in order to protect investors? If they can do this on listed stocks, then they can do it on OTC stocks. And while we're at it, why don't we require holders of substantial short positions to publicly disclose those positions? We require those who hold substantial long positions to disclose it, what's the difference? The more information we have, the better our investment decisions will be. Duh.
3. Eliminate all offshore and toxic financing, especially floorless convertible funding. I realize that this is the only type of loan that a lot of start-up companies can get, but it's the kiss of death in most cases, in my opinion. If a lending company truly has faith in a start-up company's products, ideas, or technologies, then they should be willing to lend them money at a set rate conversion. That might be at, say, a 25% discount to the current stock price, but at least then all parties involved (the company, investors, and the lender) know exactly what they're getting themselves into. Plus, it takes away the "incentive" for lenders to naked short a stock price into oblivion in order to get their shares for cheaper.
4. Ban all shorting by company insiders and financiers. No one should be able to bet against their own company, or the company that they've loaned money to. It's as simple as that, if the owners, insiders, and lenders are betting that the stock will go down, why should anyone else invest in that company?
5. Require approval from the true owner of shares before those shares can be "borrowed". This is one that will undoubtedly piss off everyone who makes their living betting that every stock in the world will eventually drop in price, and you will probably never see this rule happen, but it makes sense. It's your stock, shouldn't you have to give permission before someone "borrows" it? And shouldn't you be somehow compensated for "loaning" your stock to someone else? That simple rule is true in every other aspect of ownership, why not here? It's just one of the many things that doesn't make sense to the average person, and they're right, it doesn't make sense.
6. Publicly update outstanding shares and available trading shares on a daily basis. Why isn't this information readily available already? Why do investors have to venture into the jungle of online message boards (such as Raging Bull), just to ask what the float is? Why is the information listed in public filings usually months old? I have seen hundreds of cases where investors were led to believe that a company had, say, 50 million shares outstanding (based on the latest officially released information), only to find out that the actual count had ballooned to 500 million shares or more without any current updated information. This is misleading, and should be illegal, in my opinion. If you can call the transfer agent at any time and find out the current number of shares outstanding, why can't it be posted online?
7. Restrict reverse splits. This is extremely important. If an individual files for bankruptcy, he or she can't declare bankruptcy again for seven years. Why should a publically traded company be any different? One reverse split is one too many, in my opinion, but multiple reverse splits should be against the law. The most corrupt companies sell hundreds of millions (or even billions) of shares of stock on a regular basis, then declare a reverse split, in effect reducing the number back to near zero, and promptly sell another billion or more shares into the market. In the world of OTC stocks, reverse splits are almost always the kiss of death, especially when they are followed by another round of dilution. I could name a dozen companies off the top of my head that do this for a living (and there are dozens more), but I'm sure every investor has at least one that they've been burned on. Fill in your favorite ripoff company's name here.
8. When a company does declare a reverse split, reduce the number of authorized shares accordingly. In other words, if a company has 500 million authorized shares available, and they sell them all to keep the company afloat, they shouldn't be allowed to declare a reverse split and start all over again. If they are truly declaring a reverse split to reduce the float (say, by enacting a 10 to 1 reverse split to reduce the number of shares to 50 million), then the authorized shares should be reduced proportionately. If they only care about freeing up more shares to sell, let them go to the stockholders for approval.
9. Limit the total number of shares that can be authorized and issued. There's at least one company, CMKM Diamonds (CMKX: OTCBB), that has issued almost a trillion shares of stock, and there's no end in sight. That's just plain crazy, in my opinion. It reminds me of a passage in the "Hitchhiker's Guide To The Galaxy" trilogy (which, in OTC stock market-style, has four books), where all the dregs of society are launched in a spaceship to a far off planet that happens to look just like Earth. One of their first jobs is to come up with a type of monetary system, and the person in charge decides that tree leaves should be their currency. In his report to the committee, he says something to the effect that "the good news is, since we've made leaves our official currency, everyone is rich beyond their wildest dreams. The bad news is that there are so many leaves, it costs a million leaves just for a loaf of bread." Get it? Massive dilution is bad, and no company should be able to sell their shareholders a trillion leaves, I mean shares of stock. There's a reason so many OTC companies are incorporated in Nevada, and it's not the legalized prostitution.
10. Allow shareholders to vote on all important actions affecting their stock. If a CEO, or his cohorts or financiers, controls over 50% of the stock of a publicly run company, then it's not really publicly run, is it? It happens a lot more than one would like to think: a company declares a reverse split, and issues a press release to inform you, but tells you not to bother to vote because they control enough shares to pass it without any stockholder support whatsoever. Instead, limit the amount of voting power any company insiders or financiers have, regardless of how many shares they own. Let the shareholders have a say in how their companies are run (and yes, if they own stock, it is their company).
11. Require more full disclosure for all OTC and pink sheet stocks, and just as importantly, simplify that information. As usual, with any government laws or regulations, it takes 50 pages of legal crap to convey one page of information. This is something every faulking branch of the government should have to do, in my opinion (Can you say IRS?). To all lawmakers and attorneys: if you feel it is necessary to write every damn thing so that no normal human being can understand it, then write it twice: once in stupid lawyer/politicianspeak, and again in plain English, telling us what you really mean. If you're too freaking anal to translate your convoluted legal jargon into normal language, then hire a real person to do it for you. Investors shouldn't have to wade through twenty pages of bullshit just to find the information that is pertinent. What are you trying to hide in the fine print? Give investors a list, in bold print, of pertinent information: How many shares are there? How many shares have been shorted? Has the company ever declared a reverse split? Has the CEO or any of his cohorts been involved in any serious illegal activity, or run any other companies into the ground? Do they ever expect to actually generate any revenues, and if so, when and how much? Do they make a profit, and if not, when do they expect to? See, it's not that hard.
12. Clean up the message boards. Raging Bull, Lycos, and the various other message boards make big money off of the traffic that posters there generate, and they have a moral obligation to protect those posters, in my opinion. It's one thing to allow both negative and positive information to be shared, but message boards (Raging Bull in particular) have become the Wild West. The message boards used to be a great place to find information on OTC companies, now they're just a cesspool and a haven for pumpers and bashers. If the owners of those message boards can't control, at least to a large degree, the obscenities, the personal attacks, the lies, and on and on and on, then they should be shut down. There are several new message boards that have managed to do just that, and they don't have the resources that the big boys have, so there's no question that it can be done. Do it, and quit making excuses. This is not about free speech, it's about honesty and civility.
In the end, the net effect of these rules would be simple. The crooks would pack up and leave town, in search of greener pastures. I'm guessing they would end up as pimps and drug dealers, or possibly politicians or radio talk show hosts. Regardless, once the ability to fleece honest investors is eliminated, these lowlifes would be forced to return to the shadow world where they belong. The crooked CEOs would be forced out of business, the offshore financiers would have to find their suckers elsewhere, some companies would go under, and the legitimate ones (and their stockholders) would be allowed to flourish under a fair and equitable system. The newfound stability would allow small companies (at least the legitimate ones) to secure desirable financing and/or sell their equity for what it's truly worth, and potential investors would at least know the true risks before they invest their hard-earned money into a start-up company. And that, my fellow neighbors, is the Faulking Truth.
And they all lived happily ever after.
THE END
(Editor's note: I have received information that CMKX actually has 800 million shares authorized, and that because there have been no filings, the number of issued shares is unknown. They have also reportedly hired D. Roger Glenn, a well-known corporate attorney, to help the company get current on their filings, and to battle claims that they have been a victim of naked short selling. I regret any errors in our report, and will update you if in fact they issue any filings on the company's status.)
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