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Jan 08, 2018

Top tips to reduce the micro-cap performance gap

Micro-cap valuations often lag the broader markets but there are steps you can take to improve performance

Farewell 2017. It was a good – no, a great – year for the markets. With the Dow Jones up 24.33 percent, Nasdaq up 29.06 percent and the S&P 500 up 19.4 percent, it would be easy to assume the wealth was spread evenly across the markets. But when I compare these indexes to my world – the small and micro-cap universe – where the iShares S&P Small-Cap 600 Growth Index returned 13.5 percent in 2017, it’s clear we live in a world of the haves and have-nots. And even though a just under 14 percent return is nothing to snicker at, the simple truth is that it’s tough to be a small-cap company – and even more difficult to operate as a micro-cap company.

I’m not here to debate why small and micro-cap companies lagged behind mid and large-cap companies, but I believe that over the long term small-cap stocks will more than hold their own. I wish I had the same level of confidence in micro-cap stocks.

Don’t get me wrong: I live, breathe and love the micro-cap space. For more than 25 years, I’ve made a living working hand-in-glove with hundreds of micro-cap entrepreneurs across a multitude of industries. I value these relationships, many of which have resulted in lifelong friendships. But while some companies flourish – with some even graduating to small or mid-cap status – more micro-cap companies and their management teams than I care to admit fail themselves and their shareholders. And it’s only getting more difficult to:

  • Raise capital
  • Maintain reasonable trading volume
  • Secure sell-side coverage.

So as we enter 2018, I am less concerned about what can’t be controlled – namely, the whims of the market. Rather, I am more interested in what micro-cap companies and the people who run them can control. As my contribution to the men and women tasked with guiding micro-cap companies along the often-treacherous course of public ownership, I offer the following advice to advance their cause.

Embrace who you are
You’re not IBM or Apple (at least not yet), and there’s nothing wrong with that. Be proud to be a member of the micro-cap community. Unlike mature, often staid companies, micro-cap companies represent current change and future promise. Whether advancing cancer research or introducing a new technology for consumers, many of today’s big brands were yesterday’s micro-cap darlings. 

When Starbucks went public in 1992, it had a market capitalization of $250 mn; today, it’s valued at almost $85 bn. No one wants to hear you whine about the inequities of the capital markets or about how difficult it is to operate as a public company. You and your team chose this path and have been entrusted by your investors with making your company a success. Roll up your sleeves, put a smile on your face and make it happen. 

Don’t swim with the sharks
I cannot stress this enough: you are only as good as the company you keep. There are a lot of false players (sharks) swimming in the micro-cap waters – stock promoters, boiler-room brokers, predatory investment bankers and unscrupulous attorneys – so make sure to associate yourself only with people who have a strong moral compass. Ask around, do reference checks and, by all means, invest in completing background checks. Finally, don’t enter professional relationships until you are sure the counterparty is prepared to act in the best interest of your company.

Manage your business, not your stock
Avoid the temptation of jumping on Yahoo Finance every 15 minutes – and don’t yield to the investor that calls every time the stock goes down five cents! I’m not suggesting you ignore the stock; just make sure the movement of your company’s stock doesn’t dictate how you operate the business. I know many shareholders believe they have a right to tell you how to run your business and have no problem making their feelings known. Ultimately, however, management has been entrusted to run the business, not manage the stock.

Raise capital before you become hat-in-hand
As the saying goes, proper planning prevents poor performance. One of the biggest mistakes micro-cap companies make is their lack of financial planning. Similar to the guy who waits until the gas gauge turns crimson red, many micro-cap management teams wait until the coffers have almost run dry before looking to raise capital. 

Not only is this approach fiscally irresponsible, but it also leaves the company with little room to negotiate with the investment banks, which, in turn, smell blood in the water and now have the upper hand to back you into raising capital at disadvantaged terms. The better approach is to think of raising capital as a 12-months-a-year job: maintain consistent contact with potential funding sources throughout the year and raise capital when you can, at the best possible terms.

If I’ve learned anything over the years, it’s that life as a micro-cap management team is not for the faint of heart. But with hard work and a little luck, you have an opportunity to attain success beyond your wildest dreams – and that’s pretty exciting.

Jeffrey Goldberger is managing partner at consultancy KCSA Strategic Communications

Jeffrey Goldberger

Jeffrey Goldberger

Managing partner at KCSA Strategic Communications