A Financial Revolution 

December 18, 2005
Finding Opportunities in SOx
In 2002, following the Enron and WorldCom accounting scandals, Congress passed the Sarbanes-Oxley Act to renew investor confidence by improving corporate disclosure and financial reporting. One consequence of the Act was that some small companies found the added burden greater than the benefits of being a publicly-traded company. Thanks to the 1934 Securities Act, these companies can avoid the reporting requirements by "going private."

In order to go private, a company must reduce the number of shareholders to fewer than 300. This can be done through a tender offer to buy shares, a merger or a reverse stock split - creating 1 new share for every X old shares while paying off owners of fractional shares. These transactions offer small investors a good opportunity to boost returns.

I've done several of these transactions over the past year:
  • Brookstone - bought 200 shares at $19.15, received $20.00 (reduced from original offer of $20.50) in 11 weeks (4.4% return less commission)
  • Color Imaging - bought 1,200 shares at $0.90, received $1.10 in 4 weeks (22.2% return less commission)
  • Community Investor Bancorp - bought 250 shares at $14.00, received $15.00 and $0.095 dividend in 10 weeks (7.8% return less commission)
  • Home Loan Financial Corp - bought 599 shares at $19.00, received $20.75 in 11 weeks (9.2% return less commission)

My newest transaction is Collins Industries (COLL). I purchased 250 shares at $6.20. If the going private transaction goes through, I should receive $7.70 per share (24.2% return less commission.) [Update: The Collins transaction is now complete. See Update on Going Private Transaction.]

Each of these deals has provided attractive returns considering the short-term nature of the investment, but there aren't many that generate more than $350. Bill Mann from the Motley Fool had this to say about these transactions:

Now, $350 is not retirement money... Scoring $350 by simply reading The Wall Street Journal (where I find many of the "going private" announcements) and then taking a position in a company and filling out some paperwork doesn't seem too onerous to me.

There are a few reasons why this works. These are tiny companies, and they don't get much attention, even as they make their denouement from the ranks of public companies. Big funds are not going to bother, nor are institutions, for a few hundred bucks. And when the going private transaction is announced, it creates its own selling pressure. Imagine [a shareholder who owns 1,000 shares in a company doing a 1:600 reverse stock split.] She may not be that excited to own a non-public, non-reporting company, so what's she going to do? Sell at least 401 shares, that's what.

There are, of course, some caveats with these transactions:

  • Many of the stocks have low daily volumes and wide spreads - the ideal situation to set a limit price.
  • These transactions are best implemented in a tax-advantage account (IRAs, CESAs) that has low commissions.
  • On occassion these transactions will be cancelled (and the stock price generally falls following the announcement.)
  • Some transactions are based on stockholders of record (most shares in a brokerage account are in street name.) Therefore, it's important to read the fine print in the filings with the SEC.

Tracking down these deals is simple but time consuming. Every company that plans to conduct a going private transaction must first file a SC 13e3 from with the SEC. Recent filings can be found on the SEC site. Alternatively, George at Fat Pitch Financials has a list of current going private transactions ($5/month or $50/year for access).

Additional Resources

Blogger erich.l said...

hey jeremy -- great site. i also got in on COLL but with 75 shares and am starting to get a little anxious about this one. it looks like they have filed to deregister, but they still haven't filed a tender offer yet. are you starting to worry a little bit too?

1/31/2006 3:36 PM  

Anonymous Jeremy said...

Hi Erich,

I'm not worried about COLL yet. The company's press release (http://www.collinsind.com/pdf_files/011906.pdf) of 1/19 states:

"Approximately three weeks from now, the Company's exchange agent will send a letter of transmittal to the cashed out shareholders and continuing shareholders with instructions for exchanging their Common Stock certificates for cash or new stock certificates, as the case may be. Shareholders should not do anything with their stock certificates until they receive instruction."

I contacted COLL's investor relations and they said the materials would be sent out soon.

2/03/2006 3:48 PM  

Anonymous Jeremy said...

I've posted an update on the COLL transaction.

2/16/2006 9:18 PM  

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