Magazine for Senior Financial Executives: Analyze this… please – Equity Research

Analyze this… please – Equity Research – small cap stocks lose research coverage from consolidating banking industry

Tabitha Neville

RECEIVED WISDOM TELLS us that the separation of investment banking and equity research will hit small-cap stocks the hardest. Wall Street banks will no longer bother to research these firms, now that the implicit link between positive research and valuable corporate-finance mandates has been broken. The reality is starker: companies with revenues of less than $100 million have little to lose because so few are researched even now.

“Consolidation in the [banking] industry meant that small companies like ours lost their coverage a long time ago,” says Barbara Remley, CFO of Nasdaq Small Cap-listed software provider MakeMusic Inc. Remley garners research from specialty investment adviser BlueFire Research Inc., but otherwise finds it difficult to get coverage. “You can’t get investors interested unless you are proven, so there is little or no trading activity. But you can’t get the activity without the coverage,” she says.

Richard Kelecy, CFO of waste-management company Perma-Fix Environmental Services Inc., agrees that attention from Wall Street analysts has been scarce for years: “It’s tough to get the big boys interested. They don’t cover anyone with stock trading at less that $5.” His company’s stock has traded at between $2.50 and $2.70 in recent months.

This latest cutback in coverage could end the use of public equity markets as businesses’ preferred funding source. “If I were planning an IPO,” says Kelecy, “I would seriously consider whether it was cost-effective to go public.” The more-detailed documentation that is required once a company is listed used to be worth the effort: the payoff was greater liquidity and access to funds. With the equity markets all but closed to new issues, that is no longer the case, he says.

Even for listed companies, the public equity markets may no longer be a viable financing source. “[The decline in small-cap research] will stifle small companies,” says Remley, who is planning a private placement to raise funds. “They’ll have to seek alternative methods of financing if they want to pursue growth.”

Tom Freeze, CFO of food producer Poore Brothers Inc., is more optimistic. “In the short term, there will be reduced coverage of small-cap stocks, but analysts will continue to look for good ideas among smaller companies.”

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A Treasury Strategies survey found that 73% of companies plan to consolidate the it banking relationships, and two-thirds plan to rebid cash-management systems.

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