Small business investment companies -- New audit and reporting problems;

              SMALL BUSINESS INVESTMENT
NEW AUDIT AND
SMALL BUSINESS INVESTMENT COMPANIES, a relatively new factor in
financing, present some very interesting auditing and reporting
problems. From an auditing standpoint, the major problem is the
evaluation of loans or investments in usually undercapitalized com­panies
with little or no earnings history, and possibly with untried
products in a relatively new market. Probably in no other case is the
understanding of small business operations, evaluation of their poten­tial,
and the appraisal of management as important as in the review of
these loans and investments, the principal asset of the SBIC.
The reporting requirements are complex and somewhat trouble­some
because of the variations in requirements as a company moves
from a privately held company subject only to the Small Business In­vestment
Company Act of 1958 to a publicly held company which is
also subject to the Securities Act of 1933 and the Investment Com­pany
Act of 1940. There are further requirements upon qualification
as a regulated investment company.
Purpose and importance of the SBIC's
The Small Business Investment Act of 1958 provided for the estab­lishment
of companies (SBIC's) to provide private long-term loan
funds and equity capital to small business concerns to finance their
operations and assist in their growth, expansion, and modernization.
In order to encourage these investments the SBIC's were given
certain tax advantages. The principal ones are: dividends received
from a small business concern are not taxable, ordinary loss deduction
is allowed to the SBIC for losses on loans and investments, and ordi­nary
loss deduction is allowed to the original stockholder on sale of an
SBIC's stock. An SBIC may also qualify for treatment as a regulated
investment company and thereby pass ordinary income and capital
gains to stockholders without paying corporate tax.
With this impetus, small business investment companies became
a new and important method of equity and debt financing. From
March 1959, when the first two licenses were issued, to June 1, 1962,
30 THE QUARTERLY