Reverse Mergers

• Effective August 22, 2005 the SEC adopted new rules and rule amendments regarding shell companies
• The new rules define a "shell company" as a registrant (i.e. a company that has filed a registration statement under either the Securities Exchange Act of 1934 or the Securities Act of 1933 and is therefore subject to the reporting requirements discussed above) with no or nominal operations and either no or nominal assets, assets consisting solely of cash and cash equivalents, or assets consisting of any amount of cash and cash equivalents and nominal other assets
• The new rules also prohibit the use of an S-8 registration statement by shell companies (an S-8 registration statement registers stock plans for employees and consultants)
• In addition the new rules require a shell company that is reporting an event that causes it to cease being a shell company to disclose the same type of information that it would be required to provide in registering a class of securities under the Securities Exchange Act of 1934 (i.e. Form 10) on form 8-K within 4 days of the reportable event
• The final rule release (SEC Release No. 33-8587), in summarizing the SEC's position (page 3) specifically states "The rules and rule amendments we are adopting today do not address the relative merits of shell companies. We recognize that companies and their professional advisors often use shell companies for many legitimate corporate structuring purposes. Similarly, our definition and use of the term "shell company" is not intended to imply that shell companies are inherently fraudulent. Rather, these rules target regulatory problems that we have identified where shell companies have been used as vehicles to commit fraud and abuse our regulatory processes."
• When a private operating business mergers into a reporting shell company (either a forward or reverse merger), that private operating business in effect immediately becomes a reporting public company (often referred to as "back door registration") without the necessity of filing a registration statement and going through a comment period
• Under the new rules, the surviving entity, would be required to file an 8-K within 4 days which would include the same information usually provided in a Form 10, including audited financial statements on the operating business (which is not the reporting public company) (other information is history of the business; backgrounds of the officers and directors; disclosure of any shareholder owning in excess of 5%; management discussion and analysis, including liquidity and capital resources; risk factors; etc..)
• By compliance with the new rules, a private operating business, can be become a fully reporting bulletin board public entity immediately
• A simple change of control of a reporting shell would not be an "that causes it to cease being a shell company" - a change of control does require the filing of a Form 8-K within 4 days but would require the information normally included in a Form 10
• All companies - reporting and non reporting shells (and none shells for that matter) - must look to state law of the state they are incorporated in - as to voting rights of shareholders (when shareholders are entitled to vote on a matter; what percentage of shareholders are required to pass on a matter; quorum; notice; actions by consent, etc..)
• In addition to state shareholder voting rights, companies subject to the Reporting Requirements under Section 13 ('34 act filers) must also comply with the proxy rules of the SEC (in addition to the state law rules)