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Emerging Trends In Securities Regulation Small-Cap Public Company Alert

March 23, 2012

Louis Taubman

The last year has seen important changes in securities regulation. The most notable of which was the implementation of the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 (“Dodd-Frank”), which expanded the powers and authority of the U.S. Securities and Exchange Commission’s (“SEC”) Enforcement Division. Such expanded authority includes whistleblower protection and incentives, increased powers with regard to aiding and abetting liability, expanded scope of penalties that can be sought through administrative proceedings and the ability to seek and impose collateral bars on individuals found to have violated the securities laws. Another noteworthy trend is the aggressive enforcement of FCPA violations, including more emphasis on claims against individual actors rather than, or along with, corporate defendants. Finally, U.S. District Court Judge Jed Rakoff’s refusal to approve the proposed settlement between the SEC and Citigroup Global Markets calls into question the ability of the SEC to settle enforcement proceedings by allowing defendants to “neither admit nor deny” the allegations contained in the SEC’s complaint.

As the officer or director of a small-cap public company it is tempting to assume that these trends are of greater concern to larger companies and will not have a noticeable impact on smaller issuers. However, management and directors of smaller issuers ignore these trends at their peril. Although there is legislation currently proposed in Congress to ease regulation of smaller companies, there is no guarantee that this legislation will even pass or, if passed, that it will significantly relieve the regulatory burdens imposed on smaller issuers. In fact, it is highly likely that the trend towards increased regulation and enforcement will continue for public companies at all levels for the foreseeable future. In order to insulate themselves and their companies from enforcement liability, smaller public companies should take steps similar to their larger brethren in terms of both analysis and implementation of internal controls and procedures designed to address the concerns of regulators.

At first blush, this may seem to be an overwhelming challenge for smaller issuers that lack the resources in terms of manpower, financing and expertise; however, it is important to remember that control systems should be reasonably tailored to the size and scope of the company’s business and operations. While certain policies and procedures (e.g. with regard to whistleblowers) will be similar across the board for small and large cap companies, other policies (e.g. those related to FCPA compliance) will vary greatly depending on the size and scope of a particular company’s business. For instance, an issuer whose only foreign contacts include one factory in China would not need to have policies in place for Latin America or the European Union. However, such a company must take into account its operations in China when drafting and implementing its anti-corruption policies.

The bottom line is that small cap companies can no longer take a passive role with regard to securities compliance. It is important for small cap public companies to have adequate policies and procedures in place and to consistently and effectively implement these policies during the normal course of business. This will put the company in a much better position to achieve a favorable resolution with regulators if an investigation ever arose. In today’s increasingly compliance and enforcement driven environment, public company management and directors, even those within smaller issuers, have to step up their game or be prepared to face the consequences.