Chairman Garrett, Ranking Member Maloney and members of the Capital Markets and Government Sponsored Enterprises subcommittee, my name is R. Cromwell Coulson, president, CEO and director of OTC Markets Group Inc., operator of the OTCQX®, OTCQB® and OTC Pink® marketplaces where 10,000 U.S. and global securities trade.1 I appreciate the opportunity to testify before the subcommittee today on the topic of “reducing barriers to capital formation.” As an operator of public marketplaces for small companies and a publicly traded small company in our own right, I hope I can provide the committee with greater insight into barriers to capital formation that should be removed.

Our self-interest in changes to regulation is very clear. We want more openness so our public markets are more inclusive, we want better transparency so our public markets are better informed, and we want more connectivity so our public markets are more efficient. Finally, we want to remove unneeded regulatory burdens in order to reduce the cost and complexity imposed on smaller public companies.

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Cost Basis: Why the Big Deal About It Now?

For years cost basis has been used, mostly by mutual funds and brokerages, to voluntarily report cost basis to their shareholders. In the past they were required only to report the gross proceeds in the event of a sale. But the cost basis? That was voluntary. So, what’s the big deal?

During the course of the financial meltdown in 2008, the Internal Revenue Service let its realization be known that investors in securities markets have, for many years, “mis-reported” their cost basis to effect the amount of profit or loss they were willing to report to the IRS. This meltdown timeframe was an appropriate time in which to fix the problem. Therefore, The Emergency Economic Stabilization Act of 2008, also called the Bail-out Bill or the Financial Rescue Law, was signed into law by President George W. Bush. The Cost Basis Reporting provision within the bill is estimated to increase tax revenue from capital gains taxes by approximately $7 billion through 2018.

This law requires all “applicable persons” to report the cost basis to the IRS when securities are sold for all securities acquired after January 1, 2011. That is now only six months away.

Proxy Access for Shareholder Proposals and Director Nominations

SEC Adopts New Measures to Facilitate Director Nominations by Shareholders

SEC Open Meeting
August 25, 2010

The Proxy Voting Process
Public companies across the country hold elections to select members of their boards of directors, which oversee the management of the company. In most cases, the existing directors nominate the slate of candidates and the company sends information to the shareholders through so-called proxy materials, so those shareholders have information to vote their shares.

But, because the shareholders rarely have any input into the slate of candidates, they are not always able to vote for the person they believe may be best suited to fill the post.

In many situations, companies permit shareholders to show up to the annual shareholder meeting where the election occurs and nominate different candidates than the ones on the ballot. But, by then it is too late to be meaningful because the proxy votes will have already been cast.

As a result, shareholders who wish to nominate their own candidates today must launch a proxy fight in which they mail out their own ballots.

Recent Developments Regarding Proxy Access
Last year, the Commission proposed amendments to its rules that would provide shareholders with a meaningful ability to exercise their state law rights to nominate and elect directors.

Since then, the SEC has received and reviewed more than 600 public comments about its proposal.

And, more recently, Congress passed a new financial reform law that specifically states the SEC has authority to adopt rules that require companies to include shareholder board nominees in company proxy materials.

The Rules
The rules approved today are the result of careful consideration of the comments received during the public comment process. Under the final rules, shareholders who otherwise are provided the opportunity to nominate directors at a shareholder meeting under applicable state or foreign law will be able to have their nominees included in the company proxy materials sent to all shareholders.

Shareholders also have the ability to use the shareholder proposal process to establish procedures for the inclusion of shareholder director nominations in company proxy materials.

New Exchange Act Rule 14a-11 — companies are required, under certain circumstances, to include a shareholder nominee or nominees for director in company proxy materials.

Under the rule, companies will be required to include shareholder nominees for director in the company’s proxy materials, if the shareholder meets certain conditions, and if the shareholders are not otherwise prohibited — either by applicable state or foreign law or a company’s governing documents — from nominating a candidate for election as a director.

Which companies are subject to the rule?
The rule applies to all Exchange Act reporting companies, including investment companies, other than companies whose only public securities are debt securities.

“Smaller reporting companies” are subject to the rule, but it does not apply to them until after a three-year phase-in period.

Foreign companies that come within the definition of “foreign private issuer” are not currently subject to the SEC’s proxy rules and would not be subject to these new rules. Foreign companies that do not qualify as foreign private issuers would be subject to the rules.

Which shareholders will be able to have their nominees included in the proxy materials?
Shareholders will be eligible to have their nominee included in the proxy materials if:

  • They own at least 3 percent of the total voting power of the company’s securities that are entitled to be voted on the election of directors at the annual meeting. Shareholders will be able to aggregate holdings to meet this threshold.
  • Shareholders will be required to have held their shares for at least three years and will be required to continue to own at least the required amount of securities through the date of the meeting at which directors are elected.
  • Shareholders will not be eligible to use the rule if they are holding the securities for the purpose of changing control of the company, or to gain a number of seats on the board of directors that exceeds the number of nominees a company is required to include under new Rule 14a-11.

What requirements will a shareholder’s nominee be required to meet to be nominated?
The nominee’s candidacy or, if elected, board membership must not violate applicable laws and regulations.
The nominee must satisfy objective independence standards of the applicable national securities exchange or national securities association.

Neither the nominating shareholder nor the nominee may have a direct or indirect agreement with the company regarding the nomination of the nominee.

There will be no restrictions on the relationship between the nominating shareholder and the nominee.

How many nominees for director will a shareholder be able to include in company proxy materials?
A shareholder will be able to include no more than one nominee, or a number of nominees that represents up to 25 percent of the company’s board of directors, whichever is greater.

For example, if the board is comprised of three members, one shareholder nominee could be included in the proxy materials. If the board is comprised of eight members, up to two shareholder nominees could be included in the proxy materials.

What has to be disclosed about nominating shareholders and their nominees?
The nominating shareholder will be required to file with the Commission and submit to the company a new Schedule 14N, which would be publicly available on EDGAR, the SEC’s electronic filing system. The Schedule 14N will require, among other things, disclosure of the amount and percentage of the voting power of the securities owned by the nominating shareholder, the length of ownership, and a statement that the nominating shareholder intends to continue to hold the securities through the date of the meeting.

The disclosure provided in the Schedule 14N will identify the nominee or nominees, include biographical information about the nominee(s), and include a description of the nature and extent of the relationships between the nominating shareholder and nominee(s) and the company. In addition, the Schedule 14N will require several certifications relating to eligibility and the accuracy of the information provided. A nominating shareholder can also include a statement of support for its nominee in the Schedule 14N.

The company will include in its proxy materials disclosure concerning the nominating shareholder, as well as the shareholder nominee or nominees, that is similar to the disclosure currently required in a contested election.

Will the nominating shareholder be liable for information provided to the company?
As is the case when directors nominate candidates, the nominating shareholder or group will be liable for any false or misleading statements it makes about the nomination, regardless of whether the statements are included in the company’s proxy materials.

A company will not be responsible for information provided by the shareholder and then reproduced in the company’s proxy materials.

Amended Exchange Act Rule 14a-8(i)(8) — companies must include in their proxy materials, under certain circumstances, proposals that seek to establish a procedure in the company’s governing documents for the inclusion of shareholder director nominees in company proxy materials.

Currently, Exchange Act Rule 14a-8(i)(8) permits companies to exclude shareholder proposals that relate to elections. Under the amendment, if adopted, this so-called “election exclusion” would be narrowed, thereby allowing in the proxy materials more shareholder proposals regarding elections.

Specifically, shareholder proposals by qualifying shareholders that seek to establish a procedure in the company’s governing documents for the inclusion of shareholder director nominees in company proxy materials would not be excludable under amended Rule 14a-8(i)(8). A company would not be required to include in its proxy materials a shareholder proposal that seeks to limit the availability of Rule 14a-11.

Which shareholders will be able to submit a shareholder proposal?
The current eligibility provisions of Rule 14a-8 would continue to apply. Those provisions require that a shareholder proponent have continuously held at least $2,000 in market value (or 1 percent, whichever is less) of the company’s securities entitled to be voted on the proposal at the meeting, for a period of one year prior to submitting the proposal.
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When will the new rules and amendments start to apply?
There are several variables that will impact this question in the first year. Generally, the new rules will be effective 60 days after publication in the Federal Register.

Proxy Access: For Rule 14a-11, shareholders must submit nominees no later than 120 days before the anniversary date of the mailing of the company’s proxy statement in the prior year. Shareholders will be able to submit nominees for inclusion in the next year’s proxy statement if the 120 day deadline falls on or after the effective date of the rules. For example, if the rules become effective on Nov. 1, 2010, Rule 14a-11 generally would be available at companies that mailed their proxy statement for their last annual meeting no earlier than March 1, 2010.

Shareholder Proposals: For Rule 14a-8, to have a proposal included in a company’s proxy materials, a shareholder must submit the proposal no later than 120 days before the anniversary date of the mailing of the company’s proxy statement in the prior year. Shareholders will be able to submit proposals for inclusion in the next year’s proxy statement if the 120 day deadline falls on or after the effective date of the rules.