Reverse takeover
Encyclopedia
A reverse takeover or reverse merger (reverse IPO
) is the acquisition of a public company
by a private company so that the private company can bypass the lengthy and complex process of going public. The transaction typically requires reorganization of capitalization of the acquiring company.
and then merge it with the private company. The publicly traded corporation is called a "shell" since all that exists of the original company is its organizational structure. The private company shareholders receive a substantial majority of the shares of the public company and control of its board of directors. The transaction can be accomplished within weeks. If the shell is an SEC-registered company, the private company does not go through an expensive and time-consuming review with state and federal regulators because this process was completed beforehand with the public company. However, a comprehensive disclosure document containing audited financial statements and significant legal disclosures is required by the Securities Exchange Commission for reporting issuers. The disclosure is filed on Form 8-K and is filed immediately upon completion of the reverse merger transaction.
The transaction involves the private and shell company exchanging information on each other, negotiating the merger terms, and signing a share exchange agreement. At the closing, the shell company issues a substantial majority of its shares and board control to the shareholders of the private company. The private company's shareholders pay for the shell company by contributing their shares in the private company to the shell company that they now control. This share exchange and change of control completes the reverse takeover, transforming the formerly privately held company into a publicly held company.
than through an initial public offering
(IPO). While the process of going public and raising capital is combined in an IPO, in a reverse takeover, these two functions are separate. A company can go public without raising additional capital. Separating these two functions greatly simplifies the process.
In addition, a reverse takeover is less susceptible to market conditions. Conventional IPOs are risky for companies to undertake because the deal relies on market conditions, over which senior management has little control. If the market is off, the underwriter may pull the offering. The market also does not need to plunge wholesale. If a company in registration participates in an industry that's making unfavorable headlines, investors may shy away from the deal. In a reverse takeover, since the deal rests solely between those controlling the public and private companies, market conditions have little bearing on the situation.
The process for a conventional IPO can last for a year or more. When a company transitions from an entrepreneurial venture to a public company fit for outside ownership, how time is spent by strategic managers can be beneficial or detrimental. Time spent in meetings and drafting sessions related to an IPO can have a disastrous effect on the growth upon which the offering is predicated, and may even nullify it. In addition, during the many months it takes to put an IPO together, market conditions can deteriorate, making the completion of an IPO unfavorable. By contrast, a reverse takeover can be completed in as little as thirty days.
One way the acquiring or surviving company can safeguard against the "dump" after the takeover is consummated is by requiring a lockup on the shares owned by the group from which they are purchasing the public shell. Other shareholders that have held stock as investors in the company being acquired pose no threat in a dump scenario because the number of shares they hold is not significant and, unfortunately for them, they are likely to have the number of shares they own reduced by a reverse stock split
that is not an uncommon part of a reverse takeover.
On June 9, 2011, the United States Securities and Exchange Commission issued an investor bulletin cautioning investors about investing in reverse mergers, stating that they may be prone to fraud and other abuses.
Reverse mergers may have other drawbacks. Private-company CEOs may be naive and inexperienced in the world of publicly traded companies unless they have past experience as an officer or director of a public company. In addition, reverse merger transactions only introduce liquidity to a previously private stock if there is bona fide public interest in the company. A comprehensive investor relations and investor marketing program may be an indirect cost of a reverse merger.
In addition, the now-publicly held company obtains the benefits of public trading of its securities:
Initial public offering
An initial public offering or stock market launch, is the first sale of stock by a private company to the public. It can be used by either small or large companies to raise expansion capital and become publicly traded enterprises...
) is the acquisition of a public company
Public company
This is not the same as a Government-owned corporation.A public company or publicly traded company is a limited liability company that offers its securities for sale to the general public, typically through a stock exchange, or through market makers operating in over the counter markets...
by a private company so that the private company can bypass the lengthy and complex process of going public. The transaction typically requires reorganization of capitalization of the acquiring company.
Process
In a reverse takeover, shareholders of the private company purchase control of the public shell companyShell (corporation)
A shell corporation is a company which serves as a vehicle for business transactions without itself having any significant assets or operations. Shell corporations are not in themselves illegal and have legitimate business purposes. However, they are a main component of the underground economy,...
and then merge it with the private company. The publicly traded corporation is called a "shell" since all that exists of the original company is its organizational structure. The private company shareholders receive a substantial majority of the shares of the public company and control of its board of directors. The transaction can be accomplished within weeks. If the shell is an SEC-registered company, the private company does not go through an expensive and time-consuming review with state and federal regulators because this process was completed beforehand with the public company. However, a comprehensive disclosure document containing audited financial statements and significant legal disclosures is required by the Securities Exchange Commission for reporting issuers. The disclosure is filed on Form 8-K and is filed immediately upon completion of the reverse merger transaction.
The transaction involves the private and shell company exchanging information on each other, negotiating the merger terms, and signing a share exchange agreement. At the closing, the shell company issues a substantial majority of its shares and board control to the shareholders of the private company. The private company's shareholders pay for the shell company by contributing their shares in the private company to the shell company that they now control. This share exchange and change of control completes the reverse takeover, transforming the formerly privately held company into a publicly held company.
Benefits
The advantages of public trading status include the possibility of commanding a higher price for a later offering of the company's securities. Going public through a reverse takeover allows a privately held company to become publicly held at a lesser cost, and with less stock dilutionStock dilution
Stock dilution is a general term that results from the issue of additional common shares by a company. This increase in common shares of a stock can result from a secondary market offering, employees exercising stock options, or by conversion of convertible bonds, preferred shares or warrants into...
than through an initial public offering
Initial public offering
An initial public offering or stock market launch, is the first sale of stock by a private company to the public. It can be used by either small or large companies to raise expansion capital and become publicly traded enterprises...
(IPO). While the process of going public and raising capital is combined in an IPO, in a reverse takeover, these two functions are separate. A company can go public without raising additional capital. Separating these two functions greatly simplifies the process.
In addition, a reverse takeover is less susceptible to market conditions. Conventional IPOs are risky for companies to undertake because the deal relies on market conditions, over which senior management has little control. If the market is off, the underwriter may pull the offering. The market also does not need to plunge wholesale. If a company in registration participates in an industry that's making unfavorable headlines, investors may shy away from the deal. In a reverse takeover, since the deal rests solely between those controlling the public and private companies, market conditions have little bearing on the situation.
The process for a conventional IPO can last for a year or more. When a company transitions from an entrepreneurial venture to a public company fit for outside ownership, how time is spent by strategic managers can be beneficial or detrimental. Time spent in meetings and drafting sessions related to an IPO can have a disastrous effect on the growth upon which the offering is predicated, and may even nullify it. In addition, during the many months it takes to put an IPO together, market conditions can deteriorate, making the completion of an IPO unfavorable. By contrast, a reverse takeover can be completed in as little as thirty days.
Drawbacks
Reverse takeovers always come with some history and some shareholders. Sometimes this history can be bad and manifest itself in the form of currently sloppy records, pending lawsuits and other unforeseen liabilities. Additionally, these shells may sometimes come with angry or deceitful shareholders who are anxious to "dump" their stock at the first chance they get.One way the acquiring or surviving company can safeguard against the "dump" after the takeover is consummated is by requiring a lockup on the shares owned by the group from which they are purchasing the public shell. Other shareholders that have held stock as investors in the company being acquired pose no threat in a dump scenario because the number of shares they hold is not significant and, unfortunately for them, they are likely to have the number of shares they own reduced by a reverse stock split
Reverse stock split
On a stock exchange, a reverse stock split or reverse split is a process by a company of issuing to each shareholder in that company a smaller number of new shares in proportion to that shareholder's original shares that are subsequently canceled. A reverse stock split is also called a stock merge...
that is not an uncommon part of a reverse takeover.
On June 9, 2011, the United States Securities and Exchange Commission issued an investor bulletin cautioning investors about investing in reverse mergers, stating that they may be prone to fraud and other abuses.
Reverse mergers may have other drawbacks. Private-company CEOs may be naive and inexperienced in the world of publicly traded companies unless they have past experience as an officer or director of a public company. In addition, reverse merger transactions only introduce liquidity to a previously private stock if there is bona fide public interest in the company. A comprehensive investor relations and investor marketing program may be an indirect cost of a reverse merger.
Future financing
The greater number of financing options available to publicly held companies is a primary reason to undergo a reverse takeover. These financing options include:- The issuance of additional stock in a secondary offering
- An exercise of warrants, where stockholders have the right to purchase additional shares in a company at predetermined prices. When many shareholders with warrants exercise their option to purchase additional shares, the company receives an infusion of capital.
- Other investors are more likely to invest in a company via a private offering of stock when a mechanism to sell their stock is in place should the company be successful.
In addition, the now-publicly held company obtains the benefits of public trading of its securities:
- Increased liquidity of company stock
- Higher company valuationValuation (finance)In finance, valuation is the process of estimating what something is worth. Items that are usually valued are a financial asset or liability. Valuations can be done on assets or on liabilities...
due to a higher share price - Greater access to capital markets
- Ability to acquire other companies through stock transactions
- Ability to use stock incentive plans to attract and retain employees
Examples
In all of these cases - except for US Airways and America West Airlines - shareholders of the acquiree controlled the resulting entity. With US Airways and America West Airlines, US Airways creditors (not shareholders) were left with control.- The corporate shell of REO Motor Car company, in what amounted to a reverse "hostile" takeover, was forced by dissident shareholders to acquire a small publicly traded company, Nuclear Consultants. Eventually this company became the modern-day NucorNucorNucor Corporation , a Fortune 300 company headquartered in Charlotte, North Carolina, is one of the largest steel producers in the United States, and the largest of the "mini-mill" operators...
. - ValuJet AirlinesValuJet AirlinesValuJet Airlines was an American low-cost carrier, headquartered in unincorporated Clayton County, Georgia, that operated regularly scheduled domestic and international flights in the Eastern United States and Canada during the 1990s...
was acquired by AirWays Corp. to form AirTran HoldingsAirTran HoldingsAirTran Holdings was a Nevada corporation, based in Orlando, Florida, United States, that operated as an airline holding company. Its primary asset was AirTran Airways until Southwest Airlines acquired AirTran on May 2, 2011.- History :...
, with the goal of shedding the tarnished reputation of the former. - AérospatialeAérospatialeAérospatiale was a French aerospace manufacturer that built both civilian and military aircraft, rockets and satellites. It was originally known as Société Nationale Industrielle Aérospatiale...
was acquired by MatraMatraMécanique Aviation Traction or Matra was a French company covering a wide range of activities mainly related to automobile, bicycles, aeronautics and weaponry. In 1994, it became a subsidiary of the Lagardère Group and now operates under that name.Matra was owned by the Floirat family...
to form Aérospatiale-MatraAérospatiale-MatraAérospatiale-Matra was a French missile and aircraft manufacturer. It was formed in 1999 by the merger of French companies Aérospatiale and Matra Haute Technologie....
, with the goal of taking the former, a state-owned company, public. - The game company AtariAtariAtari is a corporate and brand name owned by several entities since its inception in 1972. It is currently owned by Atari Interactive, a wholly owned subsidiary of the French publisher Atari, SA . The original Atari, Inc. was founded in 1972 by Nolan Bushnell and Ted Dabney. It was a pioneer in...
was acquired by JT StorageJT StorageJT Storage was a maker of inexpensive IDE hard drives for personal computers based in San Jose, California...
, as marriage of convenience. - US AirwaysUS AirwaysUS Airways, Inc. is a major airline based in the U.S. city of Tempe, Arizona. The airline is an operating unit of US Airways Group and is the sixth largest airline by traffic and eighth largest by market value in the country....
was acquired by America West AirlinesAmerica West AirlinesAmerica West Airlines corporate offices were in Tempe, Arizona and the main hub was at Phoenix Sky Harbor International Airport. The airline became part of the US Airways Group after a merger in 2005....
, with the goal of removing the former from Chapter 11 bankruptcy. - The New York Stock ExchangeNew York Stock ExchangeThe New York Stock Exchange is a stock exchange located at 11 Wall Street in Lower Manhattan, New York City, USA. It is by far the world's largest stock exchange by market capitalization of its listed companies at 13.39 trillion as of Dec 2010...
was acquired by Archipelago Holdings to form NYSE GroupNYSE GroupNYSE Euronext, Inc. is a Euro-American for-profit corporation that operates multiple securities exchanges, most notably New York Stock Exchange , Euronext and NYSE Arca ....
, with the goal of taking the former, a mutual company, public. - ABC Radio was acquired by Citadel Broadcasting Corporation, with the goal of spinning the former off from its parent, Disney.
- Frederick's of HollywoodFrederick's of HollywoodFrederick's of Hollywood is a well-known retailer of women's lingerie in the United States, with stores in many modern shopping malls across the USA....
parent FOH Holdings was acquired by apparel maker Movie StarMovie StarMovie Star, Inc. is a New York City-based manufacturer, marketer and seller of lingerie, sleepwear and other types of clothing. Organized in 1935 and formerly known as Sanmark Stardust, Inc., the company became Movie Star, Inc. in 1992. It was acquired by Frederick's of Hollywood in 2006, who sold...
in order to take the larger lingerie maker public. - Eddie Stobart in a reverse takeover with Westbury Property Fund allowing transport by ship, road, rail or boat to and within the UK, using only one company.
- ClearwireClearwireClearwire Corporation is a wireless internet service provider serving markets in the United States, Belgium, and Spain...
acquired Sprint's XohmXohmXOHM was the brand name Sprint Nextel Corporation was using to promote its WiMAX services, currently labelled by Sprint Nextel simply as 4G. Sprint was the first service provider in the United States, with its partner Clearwire, to announce the building of a mobile WiMAX network...
division, taking the former company's name and with Sprint holding a controlling stake, leaving the resulting company publicly traded.
See also
- Capital formationCapital formationCapital formation is a concept used in macroeconomics, national accounts and financial economics. Occasionally it is also used in corporate accounts. It can be defined in three ways:...
- Initial public offeringInitial public offeringAn initial public offering or stock market launch, is the first sale of stock by a private company to the public. It can be used by either small or large companies to raise expansion capital and become publicly traded enterprises...
- Private company
- Public companyPublic companyThis is not the same as a Government-owned corporation.A public company or publicly traded company is a limited liability company that offers its securities for sale to the general public, typically through a stock exchange, or through market makers operating in over the counter markets...
- Private Investment in Public EquityPrivate investment in public equityA private investment in public equity, often called a PIPE deal, involves the selling of publicly traded common shares or some form of preferred stock or convertible security to private investors. In the U.S...
- Limited companyLimited companyA limited company is a company in which the liability of the members or subscribers of the company is limited to what they have invested or guaranteed to the company. Limited companies may be limited by shares or by guarantee. And the former of these, a limited company limited by shares, may be...
External links
- William K. Sjostrom, Jr., The Truth About Reverse Mergers, Entrepreneurial Business Law Journal