David Feldman's book, Reverse Mergers: Taking a Company
Public Without an IPO, now in its third printing, was published in 2006
by Bloomberg Press (available on http://www.amazon.com).
View David Feldman's reverse merger blog at www.reversemergerblog.com.
Joseph Smith and David Feldman are coauthors of PIPES:
Revised and Updated Edition - A Guide to Private Investments in Public Equity
(Bloomberg Press, 2005) available on http://www.amazon.com.
In the News
David
Feldman is quoted in the June 2006 issue
of Nature Biotechnology in an article
about bio-techs and reverse mergers.
Reverse
Mergers Attract Top-Tier Biotechs in
Sluggish IPO Market
by
Stacy Lawrence
Now
that valuations and market performance
have plummeted, many biotech companies
have little chance at an initial public
offering (IPO). Some therefore turn
to the old trick of doing a reverse
merger, as an attractive financing option.
Essentially the acquisition of a public
company shell by a privately held company
to access public capital, the reverse
merger has been highly stigmatized in
the past. But nowadays the most financially
strapped companies aren't the only ones
considering this option. Private biotechs-and
lately even a few top-tier private companies-
have been announcing reverse mergers.
With the Security and Exchange Commission
(SEC) recently tightening rules, reverse
mergers have become validated as a way
of raising funds.
In the first four months of this year
there were at least seven announced
biotech reverse mergers. During the
same period, there were 18 IPOs for
biotech companies, making reverse mergers
a viable option even if they have not
eclipsed a weak IPO market. "Reverse
mergers are one of an array of options
that private companies are looking at
to access capital," says Elizabeth Silverman,
a former biotech equity research analyst
with Robertson Stephens who is now an
independent consultant based in New
York City. "It's definitely on everyone's
mind to take a good look at it. That's
really different. When I started on
Wall Street in the early nineties you
definitely didn't back into a shell.
That stigma is now gone."
Among the most recent moves, Infinity
Pharmaceuticals, a private biotech based
in Cambridge, Massachusetts, announced
in mid-April that it would do a reverse
merger into the publicly held Discovery
Partners International (DPI) of San
Diego, a former fee-for-service drug
discovery company. A few similar deals
have been announced recently including
the acquisition of Carlsbad, California-based
CancerVax by Micromet located in Munich,
and Seattlebased Xcyte Therapies by
Cyclacel located iin Dundee, UK. Both
of these private companies are based
in Europe and are now publicly listed
on US markets, as a result enjoying
greater access to capital than they
might have otherwise.
All of these deals involved private
biotechs acquiring public biotechs on
the decline; each deal also involved
an exchange of cash held by the acquired
company for a substantial share in the
resulting company "There is a somewhat
higher grade of company that is taking
the reverse merger route because they
found difficulty in IPO valuations,"
argues Bill Kridel, founder and managing
director of life sciences investment
bank Ferghana Partners based in New
York City. "Most of the bigger reverse
mergers are into the US," he asserts,
"because the fundamental US capital
markets are better."
Reverse mergers can have several advantages
over an IPO, not least of which is that
they are faster and less expensive because
they usually require less intricate
financial reporting to regulatory agencies,
says Silverman. Providing there is a
'clean' shell without major liabilities,
including financial obligations or debts,
a reverse merger runs around $100,000
to execute whereas an IPO costs anywhere
from $500,000 to more than a $1 million
dollars, according to Sergio Garcia,
partner in Fenwick & West, in San
Francisco.
Once a reverse merger is complete, it
usually means a major infusion of cash
for then biotech companies, either through
the actual acquisition or more commonly
via a subsequent private investment
in public equities (PIPEs). And it can
even provide a route to an exit for
private investors who can then publicly
dispose of stock, presumably after a
year or two once the company has established
itself on the market.
"Investment bankers have been
creating many, many shells," asserts
David Feldman, managing partner at law
firm Feldman Weinstein in New York City
and author of a book on reverse mergers
due out in the third quarter of 2006.
In fact, in the past few years all sorts
of investors, from hedge funds to investment
banks and even venture capitalists have
begun creating cash-endowed public company
shells with the intention of using them
for a reverse merger, according to Feldman.
Even so, "Reverse mergers are not as
well understood by managements who know
well about raising capital-they sell
bonds, get grants," points out Bill
Kridel of Ferghana, "This is inherently
less obvious."
Now with the current IPO slump,
reverse mergers have become more appealing
to both public and private investors.
"It's not those shady guys from the
eighties," argues Feldman, "now it's
all the major middle market investment
banks." During the 1970s and 1980s,
reverse mergers were associated with
unscrupulous financial dealings. But
as the SEC has regulated it more closely
since the early 1990s and required more
detailed financial disclosure, the practice
has become more acceptable. In his speech
introducing stricter accounting standards
for reverse mergers, last June, William
Donaldson, chairman of the SEC, said,
"While we continue to see abuse with
some transactions involving shell companies,
we recognize that companies and their
professional advisors often use shell
companies for many legitimate corporate
structuring purposes."
In addition, the SEC has also forced
PIPE investors to clean up their act
over the past few years. Until recently
PIPE investors simply drove a company
into the ground while extracting a profit.
But with tighter SEC regulation,
PIPEs have become a valid funding mechanism
for corporate growth, which usually
accompanies a reverse merger deal, says
Feldman.
As far as reverse mergers have come
in the past few years, some inherent
difficulties remain. Most importantly,
without an investor road show where
a company sells itself to institutional
investors before an IPO, companies that
go public via reverse mergers lose out
on a huge opportunity for visibility.
"You are an investment banking orphan,"
states Silverman.
Feldman agrees. "Support for
a reverse merger is earned rather than
manufactured. You aren't going to have
a pop in the stock price like in an
IPO. Don't even look at your ticker
for a year," he advises his clients
who are executing a reverse merger.
"Then hire a good investor relations
firm to get your story out."
