Meritage Goes Private

February 2, 2007
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GRAND RAPIDS — Over the past two months, Meritage Hospitality has been in the process of delisting from the American Stock Exchange, and it intends to recommence trading on a new premium listing service for over-the-counter securities called OTC QX when the listing debuts March 5. In the interim, the company has a basic Pink Sheets listing under the ticker MHGP.

Meritage took steps toward going private because it believed small publicly traded companies were disproportionately burdened by increasing regulatory costs, including the high cost of Sarbanes-Oxley compliance, said James Saalfeld, Meritage's vice president and general counsel.

The creation of Sarbanes-Oxley was not the only factor in the company's decision to go private. Saalfeld said small public companies like Meritage have come to believe the cost and expense of being a Securities and Exchange Commission-listed company just isn't worth it anymore, yet they still have shareholders and still want to have a liquid shareholder base.

"The SEC costs have always been high and have been a real burden. Then Sarbanes-Oxley came about and those compliance costs just really made it unbearable," Saalfeld explained. "When they started talking about the Section 404 audit-within-an-audit costs, that was kind of the straw that broke the camel's back. It was at that point in time we realized we were drowning here in fees and expenses to be public, and it wasn't fair to our shareholders and it wasn't fair to the company."

Meritage shareholders approved the going private transaction recently by means of a 1-for-300 reverse stock split of issued and outstanding common shares, directly followed by a 300-for-1 forward stock split of the common shares. Their approval gave the company the go ahead to withdraw its listing of common shares on AMEX and terminate registration of its common shares with the U.S. Securities and Exchange Commission. Had the majority of shareholders disapproved of the move, then Meritage would have continued to be subject to the SEC regulatory process, Saalfeld noted.

Under the 1-for-300 reverse split, each 300 shares of stock that a shareholder owns will be converted into 1 share of the new stock. The shares will then be converted back into the same form as their original shares through a 300-for-1 forward split. In effect, shareholders with fewer with 300 shares won't be able to participate in the reverse stock split, so Meritage will pay them cash in exchange for their stock, and they will no longer be shareholders, Saalfeld said.

The company estimates it has in the neighborhood of 1,200 to 1,300 shareholder accounts. The reverse/forward stock split will reduce the number of accounts to between 500 and 600, he noted.

"The record shareholders will be under 300 shareholders, which is the measure point by which you analyze whether or not you can delist from the SEC," Saalfeld explained.

With the OTC QX listing, Meritage will avoid the high costs of being a publicly traded company because it will be freed from the task of having to file current and periodic reports with the SEC. Yet, the company will still be able to provide shareholders with a premier trading, quotation and disclosure venue for its securities, Saalfeld said.

Under the OTC QX platform, Meritage will continue to communicate with its investors as a private company. It will provide quarterly and annual financial statements, disclose all material events, conduct annual audits, provide management certifications and conduct annual shareholder meetings.

Meritage will be among the first companies to launch on OTC QX. Pink Sheets LLC specifically designed the new listing to meet the needs of smaller companies "in a post-Sarbanes-Oxley environment," said Cromwell Coulson, chairman and CEO of Pink Sheets. Its purpose is to highlight the "strong" companies from the nearly tens of thousands traded on the over-the-counter market.

"The OTC QX premium listing service will be a gateway to U.S. investor liquidity by showing the best over-the-counter companies," Coulson said during a recent webcast announcing the service. "It's going to promote the companies with strong operating models that provide ongoing disclosure to the marketplace. It is also carefully crafted to reduce compliance costs and management burdens."

OTC QX rules are patterned after the London Stock Exchange's AIM listing service, an international market for smaller growing companies. More that 2,500 companies have chosen to join AIM since its introduction in 1995. AIM-quoted companies range from venture capital-backed start-ups to established, mature companies looking to expand.

Saalfeld said the new premium OTC QX platform comes at "a perfect time" for Meritage, which had considered going private once before. The company's board of directors appointed a special committee of independent directors in July 2005 to look at the plausibility of delisting. In April 2006, Meritage began re-exploring the going-private option. Meritage filed notice with the American Stock Exchange on Dec. 20, 2006, and began voluntarily withdrawing its common shares at that time.

Perhaps the biggest mistake the government made when passing Sarbanes-Oxley was that it forgot to consider the effect on small companies versus the big companies; it forgot to take into account proportionality, Saalfeld said. Now, three years later, the government is beginning to see that maybe it made a mistake, he said.

"We applaud what the OTC QX is doing. We think it's great. We don't object to producing our quarterly and annual reports or having shareholder meetings or having whatever. What we object to is the nonsensical nature that is evolving out of Sarbanes-Oxley where you're doing reports just for the sake of doing reports. I think the OTC QX is ultimately going to be a very attractive alternative to many more companies. I think you'll see a lot of companies switch over to it."    

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