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June 18, 2008

Proposal Threatens Canadian Stocks

By Peter Chapman

The Securities and Exchange Commission, in an attempt to lighten the burden on foreign issuers of unregistered securities, may in fact be driving foreign companies away from U.S. securities markets. Dually listed Canadian companies are most at risk.

That's the complaint from traders of over-the-counter securities, as well as the operator of the primary marketplace for unregistered foreign stocks, Pink OTC Markets. They applaud the SEC's efforts to relax certain requirements of Exchange Act Rule 12g3-2. But they oppose the regulator's proposal to add a new requirement to the rule that could force foreign companies to register with the SEC.

Under the proposal, if the percentage of a non-registered foreign corporation's shares traded in the U.S. exceeds 20 percent of the firm's worldwide trading, the company must register its securities under Section 12(g) of the Exchange Act.

"We strongly oppose that part of the proposal," the Security Traders Association of New York told the SEC in a letter. "Issuers that wish to avoid registration will cancel U.S. ADR programs and otherwise discourage trading activity in the United States. We are also concerned that the 20 percent trading volume proposal will mean a loss of business for our members."

Pink OTC Markets called the 20 percent proposal "ill-conceived" and also predicted that foreign issuers would "take actions intended to reduce trading volumes in the United States."

Rule 12g3-2 contains two exemptions to Section 12(g) of the act that covers registration of foreign securities. Part "a" lets companies avoid registration if they have fewer than 300 American shareholders. Part "b" lets companies avoid registration if they furnish the SEC with certain documents. Firms can choose either option to avoid registration

Under the current proposal, the SEC would replace Part "b" with a requirement that firms simply make their documentation available over the Internet. This idea has industry support.

But the proposal would also limit the exemption to those firms whose securities don't trade much in the U.S. Average daily volume traded in the U.S. cannot exceed 20 percent of total worldwide volume. This idea has drawn heavy criticism from the industry.

The changes to 12g3-2(b), the SEC maintains, would align the treatment of foreign companies that have chosen not to register with that of those foreign companies that have recently deregistered. Last year, the SEC made it easier for companies to deregister, partly by proving their U.S. share volume was less than 5 percent of their worldwide volume. Since then at least 70 companies, typically listed on the New York Stock Exchange or Nasdaq, have deregistered and delisted.

The brunt of the SEC's latest proposal will be felt in the Pink Sheets. Nearly 900 ADRs, or two-thirds of the total, trade in the Pinks. Plus, at least 1,200 foreign ordinaries-more than two-thirds are Canadian-trade there. Most are unregistered.

A study by the SEC's Office of Economic Analysis found the vast majority of Pink Sheets ADRs would qualify for the 12g3-2(b) exemption. That means, for most ADR issuers, U.S. share volume does not exceed 20 percent of the total worldwide.

Despite the large number of ADRs trading in the Pinks, the volume is small. Pink Sheets estimates its ADRs trade no more than 12 million shares per day on average. That compares with total ADR share volume of about 200 million shares per day. Most trading of ADRs occurs in the registered securities listed on the exchanges.

For the foreign ordinaries, however, it is a different story. Only half would qualify for the exemption under the proposed new rules, the SEC found. In the Pinks, of the approximately 1,300 ordinaries traded, about 900 are Canadian.

Pink OTC Markets, in response to the SEC study, acknowledges the risk of registration is slight for the ADR issuers. But, in a statement, Pink OTC Markets still maintains the 20 percent threshold rule would "create an unnecessary and negative image of our regulatory system with foreign issuers that may cause issuers to avoid U.S. investors and broker-dealers."

Pink OTC Markets also proposes exempting issuers listed on Canadian exchanges from the volume test altogether.

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