Replies to post #22183 on RespireRx Pharmaceuticals Inc (fka RSPI)

[neuroinv]

Taking a break from dinner preparations, I see the Board has been quite busy. I think Dew nailed the meaning of the registration quite well. I would only add that--and I think I mentioned something along this line a couple weeks ago--Cortex wants to have all options open. By having a financing ready to go, they can offset a prospective partner's perceived leverage offered by a shrinking cash position. It's not just a bluff, they can get money if need be, but I think this is also a way of maximizing their position in partnership discussions--or for that matter, any M&A talks that might be happening.

NeuroInvestment

[DewDiligence]

Re: Hedge funds, short-selling, and private placements

>…you alluded to the fact that the ability of bio financiers to do naked shorting had been severely curtailed during the current economic crisis. Since this has long been part of their MO, any thoughts on how severely this impacts raising money?<

I presume you’re referring to #msg-33749911.

The issue is not naked shorting per se, but rather the ease with which hedge funds have been able to circumvent the SEC prohibition on covering a short sale with shares acquired in a private placement.

Let’s say Company X hears from the investment banker for the small biotech firm, Y, that Y is seeking to raise money in a registered direct placement. X cannot legally short Y’s shares and cover the short with shares of Y acquired in the placement.

But X can cut a deal with Company Z to accomplish essentially the same thing. X says to Z, “If you short Y, we’ll furnish the shares you need to cover. If the short makes money (as we know it will [wink]), we’ll split the proceeds. If by some chance, the short loses money, we’ll make you whole.”

If Z has a decent working relationship with X, the proposed deal is a no-brainer for Z because there is zero risk and a high probability of a profit. Hence, Z opens a short position in the shares of Y.

When Y’s private placement goes off, X gets its registered shares. After a brief waiting period for cosmetic purposes, X delivers the shares to Z. Using these shares, Z closes out its short position; X and Z split the proceeds according to their prior agreement.

Now take the above transaction and multiply it by 15. Why? Well, Company X is nobody special—it’s just a run of the mill hedge fund. If X knows about Y’s pending placement, the chances are many other firms know about it too and some of them will opt to play the same game.

All told, it’s hardly surprising that the share prices of small biotechs commonly went into freefall in the trading sessions immediately preceding the announcement of a private placement.

--
Fast forward to the present: The crisis in the financial markets has has made it harder and more costly to borrow shares of small, relatively illiquid companies for shorting, and this renders the kinds of schemes described above substantially less appealing. The consequence is that several small biotechs who would probably have been able to obtain financing in the old days have either filed for bankruptcy or are on the verge of doing so. Some of the affected companies are mentioned in #msg-33720220 and the Reply chain to that post.

[DewDiligence]

>The inability to use naked shorting would presumably be less of a factor when using the registered direct approach, as opposed to an unregistered PIPE.<

I think the opposite is true.

Again, the issue is not so much naked shorting, but rather that the financial crisis has made any shorting of small illiquid companies a less attractive undertaking. This affects both PIPEs and registered direct placements inasmuch as the buyers in both kinds of deals often made money on the short side as described in the previous post.

However, the consequence of the financial crisis is greater for registered direct placements than for PIPEs because the kinds of schemes described in the prior post were much easier to implement in registered placements.

(Using the terminology in the prior post: a registered placement allows Company Z to cover its short position quickly but a PIPE incurs a waiting period for the shares to be registered before they can be used to cover.)