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A reverse takeover (RTO), reverse merger, or reverse IPO is the acquisition of a
public company A public company is a company whose ownership is organized via shares of stock which are intended to be freely traded on a stock exchange or in over-the-counter markets. A public (publicly traded) company can be listed on a stock exchange ( ...
by a
private company A privately held company (or simply a private company) is a company whose shares and related rights or obligations are not offered for public subscription or publicly negotiated in the respective listed markets, but rather the company's stock is ...
so that the private company can bypass the lengthy and complex process of going public. Sometimes, conversely, the public company is bought by the private company through an asset swap and share issue. 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 company A shell corporation is a company or corporation that exists only on paper and has no office and no employees, but may have a bank account or may hold passive investments or be the registered owner of assets, such as intellectual property, or s ...
/ SPAC 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 A board of directors (commonly referred simply as the board) is an executive committee that jointly supervises the activities of an organization, which can be either a for-profit or a nonprofit organization such as a business, nonprofit orga ...
. The transaction can be accomplished within weeks. 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. Depending on the underwriters' agreements and other forward purchase agreements, the size of the company taken public in a reverse merger can exceed the market capitalization of the shell company/SPAC by a considerable amount. In the United States, 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 and Exchange Commission The U.S. Securities and Exchange Commission (SEC) is an independent agency of the United States federal government, created in the aftermath of the Wall Street Crash of 1929. The primary purpose of the SEC is to enforce the law against market ...
for reporting issuers. The disclosure is filed on Form 8-K and is filed immediately upon completion of the reverse merger transaction.


Benefits


Flexibility

Going public through a reverse takeover allows a privately held company to become publicly held at a lesser cost, and with less stock dilution, when compared with an
initial public offering An initial public offering (IPO) or stock launch is a public offering in which shares of a company are sold to institutional investors and usually also to retail (individual) investors. An IPO is typically underwritten by one or more investme ...
(IPO). While the process of going public and raising capital is combined in an IPO, in a reverse takeover, these two functions are separate. In a reverse takeover, a company can go public without raising additional capital. Separating these two functions greatly simplifies the process.


Resilience to market conditions

In addition, a reverse takeover is less susceptible to market conditions. Conventional IPOs are subject to risk of poor timing: if the market for a given security is "soft", the underwriter may pull the offering. 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.


Expediency

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. A 2013 study by Charles Lee of
Stanford University Stanford University, officially Leland Stanford Junior University, is a private research university in Stanford, California. The campus occupies , among the largest in the United States, and enrolls over 17,000 students. Stanford is conside ...
found that: "Chinese reverse mergers performed much better than their reputation" and had performed better than other similar sized publicly traded companies in the same industrial sector.


Drawbacks


Baggage

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 shell companies could have existing shareholders who are anxious to sell their stock. 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.


Fraud risk

On June 9, 2011, the United States
Securities and Exchange Commission The U.S. Securities and Exchange Commission (SEC) is an independent agency of the United States federal government, created in the aftermath of the Wall Street Crash of 1929. The primary purpose of the SEC is to enforce the law against market ...
issued an investor bulletin cautioning investors about investing in reverse mergers, stating that they may be prone to fraud and other abuses. The 2017 documentary film
The China Hustle ''The China Hustle'' is a 2017 finance documentary produced by Magnolia Pictures and directed by Jed Rothstein. The documentary reveals systematic and formulaic decades-long securities fraud by Chinese companies listed on the US stock market. ...
lays out a series of fraudulent reverse mergers between private Chinese companies and U.S. publicly traded firms, with the acquiring companies often operating as a front for non-existent business activity and defrauding US investors in the process. A large part of these scams was played through small US banks willing to ignore clear warning signs when promoting these newly merged companies to the public market.


Other

Reverse mergers may have other drawbacks. Private-company CEOs may be naïve 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.


Examples

* The corporate shell of the
REO Motor Car Company The REO Motor Car Company was a company based in Lansing, Michigan, which produced automobiles and trucks from 1905 to 1975. At one point, the company also manufactured buses on its truck platforms. Ransom E. Olds was an entrepreneur who founde ...
(whose sole asset was a tax loss carryover), 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 ValuJet Airlines, later known as AirTran Airlines after joining forces with AirTran Airways, was an ultra low-cost U.S. airline, headquartered in unincorporated Clayton County, Georgia, that operated regularly scheduled domestic and internat ...
was acquired by AirWays Corp. to form AirTran Holdings, with the goal of shedding the tarnished reputation of the former. *
Aérospatiale Aérospatiale (), sometimes styled Aerospatiale, was a French state-owned aerospace manufacturer that built both civilian and military aircraft, rockets and satellites. It was originally known as Société nationale industrielle aérospatiale ...
was acquired by
Matra Matra (an acronym for Mécanique Aviation Traction) was a French industrial conglomerate. During its years of operation, it was engaged in a wide range of business activities, primarily focused around automobiles, bicycles, aeronautics and wea ...
to form
Aérospatiale-Matra Airbus SE (; ; ; ) is a European multinational aerospace corporation. Airbus designs, manufactures and sells civil and military aerospace products worldwide and manufactures aircraft throughout the world. The company has three divisions: '' ...
, with the goal of taking the former, a state-owned company, public. * The game company
Atari Atari () is a brand name that has been owned by several entities since its inception in 1972. It is currently owned by French publisher Atari SA through a subsidiary named Atari Interactive. The original Atari, Inc., founded in Sunnyvale, Ca ...
was acquired by
JT Storage JT Storage, Inc. (also known as JTS Corporation) was a maker of inexpensive IDE hard drives for personal computers based in San Jose, California. It was founded in 1994 by "Jugi" Tandon—the inventor of the double-sided floppy disk drive ...
, as marriage of convenience. * US Airways was acquired by
America West Airlines America West Airlines was a major American airline, founded in 1981, with service commencing in 1983, and having reached US$1 billion in annual revenue in 1989, headquartered in Tempe, Arizona. At the time of its acquisition of US Airways, Amer ...
, with the goal of removing the former from
Chapter 11 bankruptcy Chapter 11 of the United States Bankruptcy Code ( Title 11 of the United States Code) permits reorganization under the bankruptcy laws of the United States. Such reorganization, known as Chapter 11 bankruptcy, is available to every business, whe ...
. This deal was unique because unlike many examples listed in this section, US Airways creditors (not shareholders) were left with control. * The
New York Stock Exchange The New York Stock Exchange (NYSE, nicknamed "The Big Board") is an American stock exchange in the Financial District of Lower Manhattan in New York City. It is by far the world's largest stock exchange by market capitalization of its liste ...
was acquired by Archipelago Holdings to form
NYSE Group NYSE Euronext, Inc. was a transatlantic multinational financial services corporation that operated multiple securities exchanges, including the New York Stock Exchange, Euronext and NYSE Arca (formerly known as ArcaEx). NYSE merged with Ar ...
, with the goal of taking the former, a
mutual company A mutual organization, or mutual society is an organization (which is often, but not always, a company or business) based on the principle of mutuality and governed by private law. Unlike a true cooperative, members usually do not contribute to ...
, public. * ABC Radio was acquired by Citadel Broadcasting Corporation, with the goal of spinning the former off from its parent,
Disney The Walt Disney Company, commonly known as Disney (), is an American multinational mass media and entertainment conglomerate headquartered at the Walt Disney Studios complex in Burbank, California. Disney was originally founded on October ...
. *
CBS Radio CBS Radio was a radio broadcasting company and radio network operator owned by CBS Corporation and founded in 1928, with consolidated radio station groups owned by CBS and Westinghouse Broadcasting/Group W since the 1920s, and Infinity Broad ...
was acquired by Entercom, with the goal of spinning the former off from its parent,
CBS Corporation The second incarnation of CBS Corporation (the first being a short-lived rename of the Westinghouse Electric Corporation) was an American multinational media conglomerate with interests primarily in commercial broadcasting, publishing, an ...
. * 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 Reuters ( ) is a news agency owned by Thomson Reuters Corporation. It employs around 2,500 journalists and 600 photojournalists in about 200 locations worldwide. Reuters is one of the largest news agencies in the world. The agency was est ...
. December 19, 2006.
*
Eddie Stobart Edward Pears Stobart (born 18 April 1929), better known as Eddie Stobart, is a British businessman who started an agriculture business in the late 1940s. This became ''Eddie Stobart Ltd'' in 1970 and expanded to a haulage company during the 19 ...
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. * Clearwire acquired Sprint's Xohm division, taking the former company's name and with Sprint holding a controlling stake, leaving the resulting company publicly traded. *
T-Mobile US T-Mobile US, Inc. is an American wireless network operator headquartered in Overland Park, Kansas and Bellevue, Washington, U.S. Its largest shareholder is a multinational telecommunications company Deutsche Telekom AG, which , holds 48.4 pe ...
which was called T-Mobile USA, Inc. at the time acquired MetroPCS and after the merger was completed changed the company name to T-Mobile US and began trading on the New York Stock Exchange as TMUS. * When the
Holland America Line Holland America Line is an American-owned cruise line, a subsidiary of Carnival Corporation & plc headquartered in Seattle, Washington, United States. Holland America Line was founded in Rotterdam, Netherlands, and from 1873 to 1989, it operated ...
(HAL) was sold to Carnival Corporation & plc in 1989, the former owners (the Van der Vorm family) put the proceeds in an investment company (HAL Investments), using the cruise line's former Dutch listing to go public. * When VMWare was acquired by
Dell Dell is an American based technology company. It develops, sells, repairs, and supports computers and related products and services. Dell is owned by its parent company, Dell Technologies. Dell sells personal computers (PCs), servers, data ...
, a reverse merge was in place so the latter would be back to the stock market as a public company. * In July 2020, Fisker, Inc announced plans to go public via a merger with Spartan Acquisition Corp (SPAQ), a " blank-check" company backed by
Apollo Global Management Apollo Global Management, Inc. is an American global private-equity firm. It provides investment management and invests in credit, private equity, and real assets. As of March 31, 2022, the company had $512 billion of assets under management, ...
.


See also

* Capital formation *
Initial public offering An initial public offering (IPO) or stock launch is a public offering in which shares of a company are sold to institutional investors and usually also to retail (individual) investors. An IPO is typically underwritten by one or more investme ...
*
Privately held company A privately held company (or simply a private company) is a company whose shares and related rights or obligations are not offered for public subscription or publicly negotiated in the respective listed markets, but rather the company's stock is ...
*
Public company A public company is a company whose ownership is organized via shares of stock which are intended to be freely traded on a stock exchange or in over-the-counter markets. A public (publicly traded) company can be listed on a stock exchange ( ...
*
Private investment in public equity A 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. It is an allocation of shares in a public company ...
*
Limited company In a limited company, the liability of 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. In a company limited by shares, the li ...


References


External links

* William K. Sjostrom, Jr.
"The Truth About Reverse Mergers"
''Entrepreneurial Business Law Journal''
"Are Chinese Reverse Mergers Toxic?"
Prof. Charles Lee,
Stanford Graduate School of Business The Stanford Graduate School of Business (also known as Stanford GSB) is the graduate business school of Stanford University, a private research university in Stanford, California. For several years it has been the most selective business schoo ...
{{Corporate finance and investment banking Mergers and acquisitions