Delancey Street can help take your Cannabis venture public. We understand how reverse mergers work, and work with companies of all stages – get the legal and financial advice they need to go public. We can help you find a shell, and take you through all the phases. A reverse merger shell is a company that is acquired by a private, smaller company for the purpose of going public. The reverse merger is an efficient method of going public for companies that are smaller in size. Companies who are interested in a reverse merger are usually aiming for greater liquidity, growth opportunities, and access to more capital.
What is a reverse merger shell?
A privately held company invests in a shell company. A shell company is a public company that may or may not be traded publicly on the stock exchange. The completed merger results in a new entity where the smaller company ceases to exist. The shell company’s standing is used for the purpose of building the private company’s profile and credibility in the marketplace. The shell company’s history eliminates much of the red tape that typically goes with a private company attempting to go public.
As a part of the merger, the private company has to consider the new company’s structure. The private company dictates the structure of the new company. The two businesses often combine the private company’s offering with the shell’s structure. The ownership structure of the company is often changed during the course of the merger.
Controlling interest requirements
In order for the reverse merger to be completed, 51 percent of the stock should be owned by the acquiring company. The shell company’s stock is purchased by the private company, which is often in negotiations about the pricing for the bulk purchase of stocks. Some experts recommend 90 percent as the benchmark for achieving controlling interest in the public company.
Undocumented liabilities become problematic if the company isn’t properly vetted. The company must be vetted to uncover any liabilities. While transparency is expected throughout the reverse merger process, the acquiring company should be particularly vigilant in reviewing the shell company’s history.
SEC and reverse mergers
The SEC has been focused on cracking down on fraud, which complicates the process for ethical reverse mergers that occurred. The rampant use of these transactions to go public have made it slightly challenging for private companies to go public and attract investors quickly when traded. The transactions are now under scrutiny by the SEC, and new rules have been enacted to curb this behavior. The new rules require that companies meet listing requirements if they have gone public through using a reverse merger. The company must be traded domestically or on a regulated US exchange during what’s called a “seasoning period”. Once this seasoning period is completed, the audited statements and reports must be filed. The company is required to sustain a minimum price for anywhere between 30 and 60 days before requesting inclusion on other exchanges.
What to consider during the due diligence phase
The company should be vetted across multiple areas. All undocumented liabilities should be identified and addressed. The shell company’s financials and margins should be researched. Any assets, equipment and inventory should all be evaluated during the preparation stages. There should be patents and intellectual property that should be factored into the negotiations stage. The acquirer should be comfortable with all of the background information of the shell before making a purchase.
The reverse merger is a process by which a smaller, private company acquires controlling interest in a public company. The public company is the shell company and it is often dormant with little to no operational activities in progress. The process can be completed in a matter of weeks at the fraction of the costs that come with the IPO option. The reverse merger’s success hinges on the leadership and due diligence performed prior to the merger.