Reverse takeover

Reverse takeover

Reverse takeover (reverse IPO) is the acquisition of a public company by a private company to bypass the lengthy and complex process of going public. The transaction typically requires reorganization of capitalization of the acquiring company.


In a reverse takeover, shareholders of the private company purchase control of the public shell 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.

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.


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 dilution 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.


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 lock-up on the shares owned by the group they are purchasing the public shell from, otherwise there very likely will be a stock dump. 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. Possibly the biggest caveat is that most CEO's are naive and inexperienced in the world of publicly traded companies, unless they have past experience as an officer or director of a public company.

A major disadvantage of going public via a reverse merger is that such transactions rarely introduce liquidity to a previously private stock unless there is bona fide public interest in the company. Without decent analyst coverage, many reverse merger companies end up relegated to the OTC market (also called the pink sheets), and never end up giving holders of the formerly private company the liquidity they expect. While probably an overstatement, there is an adage on Wall Street that companies which use reverse mergers to gain a stock exchange listing or quotation are doing so not because it is convenient, but rather because it is their only real choice. Whether this sentiment is valid, it has a significant and adverse impact on the perception of reverse merger companies among Wall Street analysts and other investment professionals. In other words, whether you are a private company that is being talked into such a transaction by investment bankers or a retail investor who keeps getting calls from brokers trying to pawn off shelf company shares, buyer (and seller) beware.

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 valuation 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


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 Nucor.
* ValuJet Airlines was acquired by AirWays Corp. to form AirTran Holdings, with the goal of shedding the tarnished reputation of the former.
* Aérospatiale was acquired by Matra to form Aérospatiale-Matra, with the goal of taking the former, a state-owned company, public.
* The game company Atari was acquired by JT Storage, as marriage of convenience.Citation
last =Bloomberg Business NEws
title =Atari Agrees To Merge With Disk-Drive Maker
newspaper = New York Times
pages = 1
year = 1996
date = February 14
url =
* US Airways was acquired by America West Airlines, with the goal of removing the former from Chapter 11 bankruptcy.
* The New York Stock Exchange was acquired by Archipelago Holdings to form NYSE Group, with the goal of taking the former, a mutual company, public.
* ABC Radio is to be acquired by Citadel Broadcasting Corporation, with the goal of spinning the former off from its parent, Disney.
* Frederick's of Hollywood parent FOH Holdings was acquired by apparel maker Movie Star in order to take the larger lingerie maker public." [ Frederick's of Hollywood goes public with merger] ." Reuters. December 19, 2006.]
*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.

See also

* Capital formation
* Initial public offering
* Private company
* Public company
* Private Investment in Public Equity


External links

*William K. Sjostrom, Jr., [ The Truth About Reverse Mergers] , Entrepreneurial Business Law Journal
* [ John L. Petersen on Shell Mergers]
* [ Reverse Merger and SPAC Blog] by David Feldman, author of * [ Reverse Mergers]
* [ Industry publication titled Reverse Merger Report, published by Deal Flow Media]
* [ Alinta trying to reverse IPO]

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