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What is a Reverse Merger with a Public Shell?
A Reverse Merger is a transaction where by the private
company shareholders may gain control of a public company by merging it in
with
their private company. The
private company shareholders receive a substantial majority of the shares
of the public company (normally 85% to 90% or more) and the control of the
board of directors. The transaction can be accomplished in as little as two weeks, resulting in
the private company becoming a public company. The transaction does not go
through a review process with state and federal regulators because the
public company has already completed the process. 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 public shell company issues a substantial
majority of its shares and the board control to the shareholders of the
private company.
The private company shareholders pay for the shell and
contribute their private company shares to the shell company and the private company is now public.
Upon completion of the reverse merger, the name of
the shell company is usually changed to the name of the private company.
If the shell company has a trading symbol it is changed to reflect
the name change. An
information statement, called an 8-K, must be filed within 4 days of the
closing. The 8-K describes
the newly combined company, stock issued, information of new officers and
directors, a full description of the business, and financial statements audited to US GAAP standards. The 8-K must disclose the same type of
information that it would be required to provide in registering a class of
securities under the Securities Exchange Act of 1934.
(See Sec
Final Rule 33-8587, pdf file)
If the shell company is listed on the Bulletin board,
the registered or “free trade” shares can continue to trade.
The company can do a private placement immediately.
To trade new shares offered by the public the newly combined public
company must first register the shares with the SEC.
This process takes three to four months and normally requires
filing a Registration statement with the SEC under Reg. SB-2 or SB-1.
If the shell company does not have a symbol, an
application for a symbol is usually made to the NASDAQ Bulletin Board. The
application for a symbol requires filing a Form 211 by a market maker
that is a member of the NASD. The Bulletin Board has no financial
requirements. A listing will
be granted if the affairs of the company are in order and the company
answers the questions posed by NASDAQ.
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Advantages of Going Public Through a
Reverse
Merger or a Public Shell Purchase
- Increased Valuation: Typically publicly traded companies enjoy substantially higher
valuations than private companies.
- Capital Formation: Raising
capital is usually easier because of the added liquidity for the
investors, and it often takes less time and expense to complete an
offering.
- Acquisitions: Making acquisitions
with public stock is often easier and less expensive.
- Incentives: Stock options or
stock incentives can be useful in attracting management and retaining
valuable employees.
- Financial Planning: Public
company stock is often easier to use in estate planning for the
principals. Public stock can provide a long term exit strategy for
the founders.
- Reduced Costs: The costs are significantly less than the costs required for an initial
public offering.
- Reduced Time: The time frame requisite to securing public listing is considerably less
than that for an IPO.
- Reduced Risk: Additional risk is involved in an IPO in that the IPO may be withdrawn due to an
unstable market condition even after most of the up front costs have
been expended.
- Reduced Management Time: Traditional IPOs generally require greater attention from senior management.
- Reduced Business Requirements: While an IPO requires a relatively long and stable earnings history, the
lack of an earnings history does not normally keep a privately held
company from completing a reverse merger.
- Reduced Dilution: There is less dilution of ownership
control, compared to a traditional IPO.
- Reduced Underwriter Requirements: No underwriter is needed: (a significant factor to consider given the
difficulty companies face in attracting an investment banking firm to
commit to an offering.)
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Disadvantages of
being Public
either via a Reverse Merger or an IPO
- Less Confidentiality – complete financial disclosure is
required to become publicly held.
- More Public Reporting – Reporting expense is greater
because of the need for full disclosure.
- Ownership Dilution – Owners give up some equity percent.
- Greater Time Involvement – Management must devote
additional time to public company operations.
- Greater Liability – More company visibility brings a higher
level of liability exposure.
- Increased Expense – Higher costs of regulatory compliance for
audit, legal and investor relations.
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Preparation for a
Reverse Merger or
Public Shell Merger
- Locate a Suitable Public Shell - Public shells
can often be found by consulting with securities law firms or CPA -
Audit firms that deal with public companies. Go Public Institute owns a
number of public companies available for merger. Please contact
us for more information.
- It is important to start with a
clean shell: Due
diligence on the public shell cannot be over emphasized, advice from your
securities counsel, auditors, and a financial consultant should be
utilized. As was mentioned, many shells are created for the express
purpose of merging with a private company. These shells have no
predecessor entities, and, as a result, little baggage in the way of a
business failure or other skeletons in the closets.
- Comprehensive Business Plan – Potential
investors, public shareholders, auditors, securities counsel, brokers
and market makers will want to see a well documented business plan.
- Strong Management Team – Public investors demand
strong management teams.
- Convincing Marketing Plan – Public companies
need the ability to show good sales and earning growth.
- Product or Service – Public companies should
be able to develop strong or dominant position in their business
segment.
- Financial Audits –
SEC qualified audited financial
statements for your last two fiscal years.
- Experienced Securities Counsel –
Your attorney must be qualified to deal with regulatory
compliance, and the ongoing reporting requirements of all public
companies.
- Have Public Company Experience: Your company should
have at least one person in senior management that has significant
public company experience. Financing consultants, such as Go
Public Institute, can often assist management in the complex issues
of being a public company and maintaining a good relationship with the financial
community. In fact, many actually have a couple of shell
corporations and, upon request, can manufacture a clean public
shell. A made-to-order shell without the baggage of a business
failure in its background can sometimes be the way to go, but
there's often a cost involved. You will most likely end
up with the financing consultants as minority shareholders in the new
company, holding between 2 percent and 5 percent. However, in almost
any reverse merger transaction, the principals of the shell company keep
a small equity position in the company going forward. Therefore,
this surrender of equity is simply a cost of doing business.
- Devise
your financing strategy: A
reverse merger is an indirect route to raising capital.
Entrepreneurs must first consider how additional capital will
be raised after the deal is done. An experienced financial
consultant, like Go Public Institute, can be very beneficial in this area.
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Requirements
Necessary to
Close a Reverse Merger or Public Shell Merger
- Business
plan of merger partner. Sufficient information to complete and
file the required 8-K with the SEC.
- Management
information, including completion of the "Officer and Director
Questionnaire," for all Officers and Directors designated by the
private company merger partner.
- Agreement
on structure and terms of merger.
- Letter
of intent with escrow payment made to public company or its principal
shareholders. (This must happen for the public company to cease
negotiations with other merger prospects.)
- Audited
Financial Statement, conformed to US, GAAP for the private merger
partner. The audit statements of the private company have to be
consolidated with the public company's financial statements.
- Agreed
merger fee in escrow with the securities attorney representing the
merger partner.
- Consent from the majority, preferably 100%, of existing shareholders of the private
company to merge or exchange their shares for shares of the public company.
- Agreement for the Officers and
Directors of the public shell to be replaced with the Officers and
directors designated by the private company merger partner.
- List
of all shareholders in the private company that will make the share
exchange.
- Number
of shares to be outstanding “post merger”, and a complete
breakdown of share ownership post merger. Note: It is often
necessary for the public shell to do a reverse split and/or cancel
shares owned by the affiliates of the public share prior to completing
the merger.
- Agreement on state the company will be domiciled in post merger.
- Satisfaction
of warranties and representations between public shell and merger
partner.
- Designation
of securities attorneys and SEC qualified auditors that will represent the
private merger partner.
- Preparation
of the share exchange agreement, stock purchase agreement, definitive
merger agreement, and all other documents necessary to complete the merger.
- Final preparation
of the 8K that is required to be filed with the SEC within 4 days of
closing the merger. The 8-K must disclose the same type of
information that it would be required to provide in registering a class of
securities under the Securities Exchange Act of 1934.
(See Sec
Final Rule 33-8587, pdf file)
- It has been our experience that
the private company's ability to deal with all these issues is
instrumental in determining the timing in closing the merger, and the
long term success after closing a reverse merger
or public shell purchase.
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Examples of Successful
Reverse Mergers with Public
Shells
- Armand
Hammer, world-renowned oil magnate and industrialist, is generally
credited with having invented the “Reverse Merger”.
In the 1950s, Hammer invested in a shell company into which he
merged multi decade winner Occidental Petroleum.
- In
1970 Ted Turner completed a reverse merger with Rice Broadcasting,
which went on to become Turner Broadcasting.
- In
1996, Muriel Siebert, renown as the first woman member of the New York
Stock Exchange, took her brokerage firm public by reverse merging with
J. Michaels, a defunct Brooklyn Furniture company.
- One
of the Dot Com fallen angels, Rare Medium (RRRR), merged with a
lackluster refrigeration company and changed the entire business. This
was a $2 stock in 1998, which found its way over $90 in 2000.
- Acclaim
Entertainment (AKLM) merged into non-operating Tele-Communications in
1994.
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Filing a
Form 211 to Receive a Trading Symbol
Rule 15c211 was designed to allow non-reporting
public company’s securities to be quoted on the National Association of
Securities Dealers’ (“NASD”) Over-the-Counter Bulletin Board (“OTCBB”)
by filing some simple disclosures.
Now, companies seeking to obtain a quote on the NASD
OTC/BB are required to file reports with the Securities and Exchange
Commission (“SEC”), under
Section 15D of the Securities Exchange Act of 1933 (the “Act”), as
amended, or section 12G of the 1934 SEC Act. A company who has filed a
registration statement with the SEC using an SB-1, SB-2, or Form 10, will
become a reporting company when the SEC declares the registration statement
effective. Once the company is reporting, it is
eligible to have a market maker file a Form 211 with the NASD. The 211
must be approved by the NASD, which normally takes 3 to 6 months, before
the company can trade its stock on the OTC/BB. The NASD will require
40 to 50 shareholders and sufficient public float to approve the 211
application.
If you need assistance in having a Form 211 filed with
the NASD so that your company can trade on the OTCBB, we can help prepare
that paperwork and introduce you to a market maker.
Contact us for more information.
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Houston, Texas 77068
Phone: 281-440-7530 * Fax: 281-440-7518
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