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SECURITIES AND EXCHANGE COMMISSION s WASHINGTON OFF.CE OF THE CHAIRMAN J u l y J^^ Honorable 1I» S. Eccles, Chairman Board of Governors of the Federal reserve System Washington, D. C. Dear i.Ir. Eccles: I beg to acknowledge receipt of your letter of July 7, replying to mine of June 23 in which I inquired concerning the basis of your reported view that certain provisions of the Securities Act of 1933 operate to discourage or prevent new capital financing. I am sure you are correct In your belief that you and 1 will find ourselves in agreement on all essential matters relating to control of the public distribution of securities. Likewise, I share the concern which you express for the capital requirements of business, particularly small or intermediate companies,Cand for that reason I should like very much to know what facts lead you to consider the Securities Act among the factors which in your opinion have materially impeded the flow of investment funds into the capital market, ) May I also take this opportunity to thank you, on behalf of my associates and myself, for your kind offer of the assistance of members of your Board and its staff in connection with the Commission's continuing consideration of this problem. Yours faithfully, o William 0. Douglas, Chairman, il Form F. R. 131 BOARD DF GDVERNgRS DF THE FEDERAL RESERVE SYSTEM "Office Correspondence Tn Mr. Clayton _ _ Date- July 23, 1938 Subject: Proposed letter to Mr. Douglas For your consideration, I wish to suggest the following rewording of the third paragraph: "As to the Securities Act of 1933 I do not hold any such definite conclusions, but on the basis of such information as we have on the subject it appears that the Securities Act or the regulations issued thereunder are one of the factors which has made it expensive for small business units to obtain capital funds through the issue of securities and compliance with the Act and regulations is regarded as a complicated and technical procedure•" I also suggest that the words "is almost prohibitive" in the first sentence of the fourth paragraph be changed to read: "is substantial and in some instances may be almost prohibitive". As you know, the figures set forth in the table quoted in your letter represent, as I understand it, the total oost of issues and not merely the cost attributable to registration requirements. In this connection also, you may wish to reread the memorandum which Mr. Solomon prepared on this subject under date of April 13, 1938, before the amendments to the regulations of the Securities and Exchange Commission were adopted. Honorable 7/illiam 0. Douglas, Chairman Securities and Exchange Commission Washington, D. C. Dear Mr. Douglas: ' This will acknowledge your letter of July 15 in reply to mine of July 7# .in whiehfl endeavored to set forth in a general vqy some of the factors which in my opinion have in recent years,impeded the ready flow of ^ tihn nnpitnl mnrirrt • J As to the factors in the field of banking, I have heretofore arrived at some gftnoral conclusions and have done what 1 could to bring about changes in banking regulations so as to improve the functioning of the banking system as a supplier of capital and credit for business. As to what factors there may be in the field covered by the Securities Act of 1933, stated in my.letteikl would hesit&.te to come to any definite conclusions,vfeeling that you and your associates are best qualified to appraise the effect of legislation and regulations in that.- field. However, I cannot escape an opinion v-ith reference to one aspect of the Securities Act of 1933 and the regulations of the Commission issued thereunder, namely the difficulty and expense encountered by smaller business units in issuing securities for public distribution. P -2Drnwing upon my experience both as a business man and as a banker, I recall that during the '20's it was a common thing for a local business needing from, say, $100,000 up to $500,000 to approach a local underwriter or banker and with delay or expense jpf arrange for an issue ana difliriinution of bonds, debentures or notes, most of which would be placed with local banks and a few individual investors. It is my recollection that such issues were generally sound and resulted in good investments for the banks and a reasonable and prompt means of securing capital for the local businesst$,I am not unmindful of the fact that there were also small issues of local securities that were s~^ peddled by unscrupulous underwriters, ana dealers to the public generally, and I therefore 4to uol .luii e the opinion «t£rcgpod' "by pnrno ^ i t i n p nT tinn jp-nri • mnV i n p + r>-i ? + i r>np fhn+ -Urn-Tin ninnnlH V,o a complete exemption of all issues up to a certain size, it does seem, however, that a legitimate local business enterprise should be able to find an outlet for its obligations without too much disadvantage as compared with a large nationally-known enterprise. This would call for a separation of the sheep from the goats and I must frankly admit th&t I have no formula to suggest insofar as public distributions are concerned^ W>ut I am wondering whether it would not be possible to permit local - 5 - businesses to sell their securities to a group of institutional investors, particularly banks, without the need of registration. At present, as I understand it, a local underwriter could not handle such an issue unless it was first registered, and, until the recent revision of the Comptroller's Regulation on Investment Securities, the local banks could not purchase all or part of such an issue unless it was not only registered but also widely distributed and highly rated. This latter change will, I hope, facilitate the issue of local securities, but I am not sure that the results nvill be satisfactory so long as the local enterprise is prevented from using an underwriter for the distribution of its obligations. After all, the average manager of a local business enterprise is not so familiar with the legal and financial technique of issuing and marketing securities that he could successfully place an issue with a group of local banks. The foregoing will suggest some of the problems that cone to my mind in connection with the capital financing of small business and as I understand it at present there is not only a serious problem in conection with the time element, but the cost of capital obtained through the issue of registered securities in small amounts is prohibitive. From a statistical survey by the Securities and Exchange Commission of the estimated costs involved in the issuance of new securities (bonds, notes and debentures) from January 1, 1956, to June 30, 1937, the following •' — 4 — percentages of cost as against gross cash realisation from the securities illustrate the heavier burden on the smaller issues, particularly those under one million dollars: (In thousands( Numter of issues... Commission and discount (per cent).. Other expenses (per cent) Total (per cent).. Under $250 11 $250499 $500749 $750999 $1,0004.999 $5,0009.999 50 11 $10,000- $25,000 £4.999 or more 8 6 6 37 35 6.4 6.2 5.2 4.2 3.4 2.3 2.2 2.1 2.2 8.6 2.0 8.2 2.5 7.7 2.0 6.2 1.4 4.8 1.1 3.4 0.9 3.1 0.6 2.7 I would not have you infer from the foregoing discussion that I am of the opinion that the indicated problems are not already known to you and your associates. That they are so known is evident from ar statement issued by the Commission under date of April 22, 1938, and it is my hope that the experience of the Commission under the liberalized rules respecting some classes of exempted issues indicate some r;ore pe)rjianent relaxations, may be safely made 7/V so as to improve the lot of £k& small £usines"i!fin'*^ capital A problems. Yours sincerely, [. S. Eccles Chairman A July 28, 1938 Honorable William 0. Douglas, Chairmen Securities and Exchange Coa&isgion Washington, D. C. • Dear mr. Douglas: This vill acknowledge your letter of July 15 la reply to nine of July 7* In your letter you ask what facts lead se to conclude that the Securities Act of 1932 is aaong the factors which in ay opinion have impeded the flow of investment funds into the capital market. In my letter of July 7 I endeavored to set forth la a general way some of the barriers which have been get up la recent years against the flov of capital funds to business enterprise. Very important barriers were erected im the banking system and since that is the field of my present activity, I have heretofore arrived at some definite conclusions and have succeeded in bringing about changes in banHag regulations which I believe will improve the functioning of the banking system as a supplier of capital and credit for business* As to the Securities Act of 1953, X do not hold any such definite conclusions, but X cannot escape the impression that that Aet and the regulations issued thereunder have mad* it both involved and expensive for smaller business units to obtain capital funds through the issue of securities. Without discussing the various technical requirements of registration which aay not be onerous for a large business but which X am told are formidable for a small business, it is my understanding that the cost of obtaining capital through small Issues of registered securities is relatively high and is considered by many to be almost prohibitive* from a statistical survey' by the Securities and Exchange Commission of the estimated costs involved in the Issuance of new securities (bonds, notes and debentures) from January 1, 1956, to June 20, 1957, the following percentages of cost as against gross cash realisation from the securities illustrate the heavier burden on the smaller issues, particularly those under on* million dollars* Honorable William 0. Douglas - 2 • *_ A \ thousands; Number of issues... Commission and discount (per cent).. Other expenses (per cent) Total (per cent).. 0Bder ^ ^ 11 * 25O ~ * 500 ~ *^7 6 ° - UtOOO499 749 4 ^ 999 50 $5,000- £4.999 110,000-< |25,000 9>999 8 6 6 11 3? 6. ,4 6.2 5.2 4 .2 S.4 2.5 2. 2 2.1 2, .2 8, 2.0 8.2 2.5 T.7 2.0 6.2 1.4 4.8 1.1 5.4 0 .9 5•1 0*6 ks to what portion of these costs night be avoided by amendments to the Act and the regulations of the Cozaaifieion, X as not advised but would welcome information thereon. I Blight add that there is no such disparity in interest rates on loans to prime commercial borrowers as between small and large amounts. It may be that cost figures for the period subsequent to June 30, 1957, would show some variation from the above, but X should suspect that there would not be a great difference. X recognize also that it Is entirely possible that under the liberalised rules announced by the Canals5ion under date of April 22, 1958, smaller business units sight obtain capital through issues of securities at a relatively less cost than heretofore. If you have data on this phase of the problem, I would be glad to have it. I hope that the results of the trial period under the liberalised rules of the Commission referred to above will indicate some permanent relaxations that may be safely mads so ms to improve the lot ot small and medium sized business units in their capital problems. I am confident that the recent changes in bank examination policy and the revision of the Comptroller's Regulation on Investment Securities will be of material assistance in the same direction. Yours sincerely, (S Ml. S. Kccles Chairman LC/fgr 55
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