The Securities and Exchange Commission has approved new rules that tighten U.S. stock exchange listing standards for companies that have gone public through a reverse merger. The new rules, which had been proposed during the past summer by the New York Stock Exchange, the NYSE Amex, and the Nasdaq Stock Market, were adopted by the SEC on November 9. These new rules will make it more difficult for companies, particularly those based in foreign jurisdictions, to list their securities on U.S. stock exchanges following a reverse merger, an exchange offer, or other equivalent combination with a publicly traded shell company.
The new rules are the result of an initiative commenced by the SEC more than a year ago to determine whether certain companies with foreign operations -- including those that were the products of reverse mergers -- were accurately reporting their financial results and to assess the quality of the audit reports prepared by those companies' auditors. In its November 9 release, the SEC noted that, in recent months, U.S. stock exchanges and it had suspended or halted trading in more than 35 companies based overseas, citing a lack of current and accurate information about those companies and their finances, a number of which had been formed by reverse mergers.
The new rules are intended to provide investors with easier access to financial reports issued by reverse-merger companies, whose shares are listed on a U.S. stock exchange. In a reverse merger transaction, an existing publicly traded company (and, as applicable to the new rule, a "shell company") combines with a private operating company in a transaction in which the shell company is the surviving legal entity.
In a June Investor Bulletin, the SEC previously warned that many companies "either fail or struggle to remain viable following a reverse merger" and urged investors to research potential investments in such carefully. This suggested research, if it can be adequately performed, is viewed as especially important because, after the reverse merger:
- the private operating company's historical, as well as current, financial statements form the basis for all post-merger SEC disclosures;
- the private operating company's operations constitute the core, if not all, of the post-merger company's business; and
- the private operating company's shareholders typically control substantially all of the post-merger company's stock.
The new rules will require a company that becomes publicly traded through a reverse merger to complete a one-year "seasoning period" following the reverse merger. During such period, and prior to being admitted for trading on the NYSE, the NYSE Amex, or Nasdaq, the reverse-merger-company must have filed with the SEC all required reports and its shares must have traded on the U.S. over-the-counter market or on another regulated exchange (domestic or foreign). Further, those shares must have maintained a minimum trading price for "a sustained period," as well as during 30 of the 60 trading days prior to the date of (i) the initial listing application and (ii) the actual listing with the exchange.
The rules provide certain exceptions from the new listing requirements. Reverse-merger-companies are exempt if they:
- have filed at least four annual reports with the SEC since completing the reverse merger; or
- complete (subsequent to or concurrently with the reverse merger) a firm commitment underwritten public offering with proceeds to the company of at least $40 million.