What is a Reverse Takeover?

A reverse takeover is when a private company becomes a public company by purchasing control of the public company. The private company shareholders acquire majority ownership of the public company and control of the combined company’s board of directors.

After a reverse merger, the combined company is a single, publicly traded company. 

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How does a reverse takeover work?

A private company buys publicly listed shares to obtain majority control of the public company. Once the takeover is complete, the private company shareholders can change the company name to represent the new combined company. 

The public company subject to reverse takeover is often a “shell company”, without ongoing and active operations. 

Investors with shares in the shell company realise profit through the private acquisition of the publicly listed company. Share value should respond positively as the combined, publicly listed company becomes active. 

Benefits of a reverse takeover

There are several reasons a company chooses to become publicly listed through a reverse takeover rather than a conventional initial public offering (IPO).

1. Easier access to capital

Private companies can generally only access private forms of equity, while public companies potentially have access to funding from a broad pool of public investors. 

A reverse takeover allows a private company to go public without the requirement to raise capital. Time and money saved on executing a reverse takeover compared to an IPO can be directed to ensure efficient operations. 

2. Fast-tracking public listing

Reverse takeover offers a fast track to become a publicly listed company. A reverse takeover may be completed in as little as 30 days, whilst an IPO can take up to or more than a year. 

3. Lower cost and regulatory requirements

An initial public offering (IPO) involves regulatory scrutiny and incurs legal and administrative costs, often involving hiring an investment bank. An IPO is also dependent on market conditions, with delays likely if the number of buyers in a given market is unsuitable for the listing to proceed at a given time. 

By contrast, a reverse takeover can be completed in as little as 30 days or up to four months, with costs limited to the purchase costs of a controlling stake in the publicly listed company’s stock. There are no registration requirements, though it is worth noting that the publicly listed company must report the reverse merger to the Securities and Exchange Commission (SEC) in the United States.

4. Reducing risk and retaining control

A reverse takeover reduces risks associated with market fluctuations and timing. Many private companies undertaking a conventional IPO will hire an investment bank to underwrite and market the shares for the company preparing to go public. 

Reverse mergers also allow the management of a private company greater control over the new company and raise capital without diluting their ownership. 

5. Gaining entry to a foreign company

Reverse takeovers are a strategy by which a company can cross borders and gain access to a foreign share market. 
For example, a private company based in the United Arab Emirates could purchase a publicly listed American shell company to achieve exposure to the American share market.

Downsides of a reverse takeover

1. Lack of investor attention

A reverse merger may not provide instant access to capital through the stock market. This may occur if the publicly listed shell company hasn’t previously traded or operated in a different industry. 

Private companies are not always required to publish financial statements, so investors may hesitate to risk trading an unknown name.

2. Risk of overvaluation

When shares are publicly listed, potential investors may deem shares to be less risky than private investment, as the company must abide by public company rules and regulations. Publicly listed shares are liquid, enabling investors to buy and sell in the public market, where there are many willing buyers. This may over-inflate the company's value. 

It’s worth noting that the private company executing a reverse takeover will become responsible for any debts or liabilities of the public company, including any outstanding lawsuits that need to be resolved. Additionally, a private company management team may lack experience operating in the highly regulated environment of a publicly traded company. 

3. Risk for fraudulent activity

The downside of sidestepping regulatory processes through a reverse takeover is that the process may be seen as less legitimate, and the company may be suspected of fraud or attempting to deceive investors. 

There are many legitimate reasons for establishing a publicly listed shell company, including: facilitating finance or enabling offshore corporations to work across borders. 

The private company must ensure thorough due diligence and prevent asymmetrical information sharing. Shell companies may also be used for illegitimate purposes, including tax evasion, money laundering, or attempts to avoid law enforcement.  

4. Liquidation mayhem

Shell company targets of reverse takeovers (RTOs) may be available due to past problems. Existing shareholders may be looking for a suitable opportunity to exit, and may ‘dump’ shares following the reverse merger. This can be mitigated by ensuring a lock-up period post-deal where shareholders guarantee not to sell their shares..

Examples of reverse takeovers

Tesla and SolarCity reverse takeover

Tesla acquired SolarCity, announcing the $2.6 billion all-stock transaction on 1 August 2016, subject to a 45-day ‘go-shop’ period where Solar City could solicit alternative buyers. The joint proxy statement and a prospectus were released to shareholders on 12 October 2016 following the deal's completion. 

Burger King and Justice Holdings reverse takeover

Fast food chain Burger King became a private company following the purchase by 3G Capital in 2010. Just two years later Burger King was absorbed into publicly listed ‘Justice Holdings’, once again becoming a public company. 

Berkshire Hathaway - Warren Buffet

Warren Buffet purchased the textile manufacturing company Berkshire Hathaway in 1965. After liquidating the textile business he merged the company with his private insurance company to become publicly listed. 

Nikola and VectoIQ

Nikola, a private company established in 2015, completed a reverse merger with special purpose acquisition company (SPAC) VectoIQ in June 2020, with shares trading from 4 June. Nikola raised over $700 million to increase electric battery production and hydrogen fuel vehicles.

Failed examples of reverse mergers

A reverse takeover fails if the takeover is incomplete, public trading of the combined company is suspended or securities registration is revoked. 

China Changjiang Mining & New Energy Co

On 1 April 2011, the SEC suspended trading of this combined company due to questions about the accuracy and completeness of the information in the public filings of China Changjian Mining & New Energy Co (CHJI), including financial statements for 2009 and 2010, for which independent audit opinion was withdrawn. 

China Valves Technology Securities

China Valves entered the US market as a publicly traded company in 2007 using a reverse merger, trading until 4 March 2015, when the SEC revoked registration following findings that the company and directors intentionally misled investors, overstated income and understated liabilities of its subsidiaries, along with illegal payments to employees. 

Addressing fraudulent reverse takeovers

Chinese companies undertook 159 reverse merger transactions on US exchanges between 2007 and 2010, however, the SEC revoked the registration of 65 fraudulent entities. New regulations made it more difficult for small businesses to achieve public listing in US markets across borders. 

In Australia, the risk of fraudulent reverse takeover transactions was addressed with amendments to ASX Guidance Note 33, in effect on 1 January 2014 which clarified that after 3 years of dormancy, a public entity could be delisted.

What is the difference between a special purpose acquisition company (SPAC) and a reverse merger?

A SPAC is a shell company with no prior operations or history. There are no liabilities and the SPAC sponsors retain control of the shell company. 

A SPAC allows investors to redeem their investment where they disapprove of the merger. Shareholders can vote on the proposed merger, and where the vote fails to win a majority the SPAC is liquidated and investor funds are returned. 

The dormant shell company in a reverse merger may have previously conducted business and hold assets or liabilities. The private company management gains control of the shell company and there is no option for the shareholders to redeem funds or vote against the reverse merger.

What contributes to a successful reverse merger?

Approval of shareholders of both parties to a reverse merger makes the merger process smoother, along with a thorough due diligence process which may include ‘continuous disclosure’ and compliance with public listing rules. 

Future uses for reverse takeovers

Capital markets are expected to rebound in 2024 and beyond as the market welcomes alternative routes to public listing. This is evident in Australia with a positive market response to recent alternative transactions. 

In 2024 Chemist Warehouse will take an innovative route to listing, with ASX-listed Sigma Healthcare in exchange for scrip and cash. Chemist Warehouse shareholders will receive $700 million in cash and an 86.76% stake in the merged group. The indicative market capitalisation is more than $8.8 billion. 

With an increase in reverse takeovers as a strategy for public listing, competition for shell companies will rise, making transactions more expensive. Regulatory bodies must respond appropriately to changing market needs as capital markets evolve. Private companies will continue to find creative ways to grow using RTOs and other strategies that enable small to medium businesses effective access to capital.