Reverse mergers and shell companies

Reverse mergers and shell companies

On Behalf of | Nov 3, 2020 | Business & Corporate Law |

When private companies in North Carolina and around the country want to go public, they can either make an initial public offering or enter into a reverse merger. IPOs are the preferred way to go public because they raise capital that can then be used to invest in and grow the business. Reverse mergers are rare and are generally entered into by companies that wish to gain access to new markets quickly or would not be able to withstand the kind of scrutiny associated with IPOs.

Buying an already public company

A reverse merger is the process by which a private company becomes a publicly-traded company by acquiring a company that is already public. Private companies that enter into reverse mergers do not have to obtain regulatory approval, which is why investors and government watchdogs tend to view these deals with suspicion. However, reverse mergers are quite legal and may make a great deal of sense to private companies that wish to go public and do not need to raise large amounts of capital.

How reverse mergers work

Private companies usually complete reverse mergers by acquiring stock in the company they intend to merge with. When the private company owns more than 50% of the stock, it effectively controls the company. It can then replace the board of directors or make other changes. Public companies that are acquired in this way are often referred to as shell companies.

Evaluating reverse mergers

While reverse mergers can be an attractive and legitimate business strategy, they are often associated with companies engaging in fraud. Attorneys with business law experience could help investors to avoid costly mistakes by conducting due diligence on the companies involved in a reverse merger to ascertain the legitimacy of their intentions. Attorneys could then give investors the information they need to make prudent decisions.