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Wednesday, February 10, 2016 1:40:58 PM
Against these advantages are arrayed a considerable number of disadvantages, which are:
Cash. A company may not achieve an immediate cash inflow from the sale of its stock, as would be the case if it had taken the path of an initial public offering. Instead, a stock offering may be delayed until a later date.
Cost. Even the lower-cost reverse merger approach still requires a large ongoing expenditure to meet the requirements of being public. It is difficult for an active business to spend less than $500,000 per year for the auditors, attorneys, controls, filing fees, investor relations, and other costs needed to be a public entity.
Liabilities. There is a risk associated with buying the liabilities that still attach to the old public company shell. This risk can be ameliorated by acquiring only a shell that has been inactive for a number of years.
Stock price. When a company goes public through a reverse merger, the sudden rush of selling shareholders puts immediate downward pressure on the price of the stock, since there are more sellers than buyers. When the stock price drops, this makes any stock options issued to employees less effective, since they will not profit from exercising the options. Also, if the company intends to use its stock to make acquisitions, it will now have to issue more shares to do so.
Thinly traded. There is usually only a minimal amount of trading volume in the stock of a public shell company – after all, it has been sitting quietly for several years with no operational activity, so why should anyone trade its stock? Also, immediately following the purchase of the shell, the only stock that is trading is the original stock of the business, since no other shares have yet been registered with the SEC. It takes time to build trading volume, which may require an active public relations and investor relations campaign, as well as the ongoing registration of additional stock.
This lengthy list of problems with public shell companies keeps many companies from buying them. In particular, take note of the annual cost of being public, and the issue with thinly-traded stock. The cost should completely block smaller companies from taking this path, while the lack of a market for the stock offsets the main reason for begin public, which is having tradable stock.
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