Principal Advantages of a Reverse Merger by John Lowy

By John Lowy

My article in the Spring 2015 issue of MicroCap Review discussed the advantages of going public via a reverse merger as opposed to an IPO.  Indeed, as I noted in that article, there are very few broker-dealers these days that will underwrite IPOs that intend to raise less than $40,000,000.  So, a reverse merger is very often the only way to go public. 

So, if your company is considering going public as the next big step in its corporate history, and if-quite likely—that the IPO route is unavailable—you should be aware of the many good reasons why a private company would want to go public.  Here are several:

- Higher valuation. Public companies almost always trade at a premium to the valuation of similar private businesses. In certain sectors this discrepancy is dramatic.  There have been many industry reports showing that, all things being equal, publicly-held companies are worth as much as 3-4 times the value of similar privately-owned companies.

- The ability to use stock in a public company as a form of currency. This provides leverage for making acquisitions, and allows a business to grow more quickly, without incurring debt.

- Stock options. Stock options in a public company are very useful in hiring and retaining key employees, especially in industries where competition for qualified staff is intense.

- Liquidity for the Principals. To state the obvious, there’s nothing wrong, and a lot of good, in being liquid on a personal basis.  Once a company is publicly-traded, and after a brief holding period, principals of the now-public company may legally sell their shares to the public in accordance with SEC Rule 144.

- Prestige. The prestige of being a public company usually results in winning more and larger accounts, attracting better employees, and negotiating better rates from vendors.

- Easier access to capital. This might be the most important reason for becoming a public company.  Almost all companies have a continual need for capital, and being public significantly increases the availability of capital.  Below are some of the methods by which the newly-public company can raise capital; the principal advantage is that, because investors can see the exit strategy, the ability to raise capital is significantly enhanced, the time required is minimized, and the equity dilution is substantially reduced.

Here, briefly, are some of the many ways by which a public company can raise capital—debt and/or equity—to grow the company’s business: 

1. What is probably most common for newly-public reverse merged companies is the PIPE financing (Private Investment in Public Equity), by which a financing source invests directly into the public company.  PIPE transactions are often structured as convertible debt instruments, so that the investor can protect itself against the downside while enjoying the benefits of the upside when the company prospers.

2. Other forms of traditional financing, such as bank loans, which can be secured more easily by the stock of the principals.

3. A secondary public offering.  This has the potential advantage of being a combination of raising capital for the company and also allowing the company’s principals to publicly sell some of their shares. As noted above, there’s no shame in being liquid!

4. Standby Equity Distribution Agreement (“SEDA”).  This is a variation of the secondary public offering.  In a typical secondary, the underwriter commits to purchase all of the shares at a given price, on the day that the registration statement is declared effective by the SEC.  In a SEDA, shares are registered with the SEC, but sold to the public only if and when the company requests that any of those registered shares be resold, i.e., when the company needs capital.  The disadvantage of a SEDA is that it can be a continuing offering until all the shares are resold, thus making stock price appreciation more difficult.  The advantage of a SEDA is that the timing of the capital raise is totally within the company’s discretion.

5. Regulation S offering to non-U.S. persons.  An increasing number of non-US companies are reverse merging into U.S. public companies, with the intent of raising capital in the United States.   Those companies often retain ties with investors and investment bankers in their home country.  In general, provided that no investor is a “U.S. Person” (as defined in that Regulation), any U.S. public company can raise an unlimited amount of capital in a Regulation S offering.  In my experience, although Reg. S investors will be receiving “restricted securities,” with a required holding period before they can be publicly resold, a reverse merger into a U.S. public company, followed by a Regulation S offering, provides those non-U.S. investors with the advantage of the U.S. securities market when they resell their securities. 

So, given the many advantages of being a public company, especially the increased ability to raise capital at higher valuations, private companies, no matter where they are based, should consider becoming publicly traded in the United States, via a reverse merger. 

Editor's Note: 

John Lowy is the founder (in 1993) and CEO of Olympic Capital Group, Inc. (www.ocgfinance.com), and is the principal of his law firm John B. Lowy PC, both based in New York City. John is a highly-respected and acknowledged expert in reverse mergers, capital formation, financial consulting and initial public listings.  He is also a licensed FINRA-registered representative with Transnational Capital Corporation, a New York-based broker-dealer.

As an attorney, an advisor or as a principal, John has led or participated in more than 200 such transactions, creating market value in excess of $5 billion.  He has been instrumental in leading the process by which many companies have reverse merged and achieved listings on the NASDAQ or the AMEX. 

In addition to the U.S., John has completed transactions for clients based in Australia, Brazil, Canada, the Caribbean, China, Hong Kong, India, Korea, Philippines, Singapore, South Africa, Turkey, UK, Vietnam and other nations.  The sectors in which these clients are engaged range from high tech to low tech, real estate, pharmaceuticals, medical devices, oil and gas, mining, solar power and other renewable energy, entertainment, food, forestry, agriculture, education and retail, among others.

John received his B.A. from Tufts University and began practicing law after graduating from the University of Pennsylvania Law School.