OTC Cases and Reverse Mergers: Aftermarket is Key


Small and growing companies that are private and need to raise money are merged with an OTC shell in a reverse merger. They expect the share price to be high in the public market and then they can sell shares privately, perhaps in a classic PIPE arrangement. The price in the private deal is usually a discount on the public price.

Unfortunately, whether the company makes a PIPE deal or not, the stock performance of the new public company after a reverse merger with a public shell is usually abysmal. The usual reverse merger stock chart looks like a profile of a waterfall as the stock begins trading with high expectations, only to fall to a near-zero offer after a while.

There are several possible reasons for this poor performance. First of all, fictitious promoters will almost certainly sell their shares. This action will be a substantial part of the business. Even agreeing to block their shares may not be of much help if they have given shares to others or held shares in other accounts that are not part of the blocking agreement.

Second, it is possible that substantial blocks of stocks are in the hands of market makers. When you were making markets in more than 300 stocks, inevitably one of them would sink next to nothing. When the shares were going very small offering, he accumulated them with the possibility that the company would later be used in a reverse merger. Since the price was extremely low, it took me little to accumulate a large number of shares. When the reverse merger was announced, I would be eager to sell my position. After selling the position, it would stop trading in the stocks. So the company that anticipated having me as a market maker lost on both counts: I was a salesperson and I left the market.

There were also other market makers who specialized in low-priced stocks. Unlike our firm, they had limited funds to take positions in stocks. These distributors provided little or no liquidity in the market. When the shares rose, they would also sell out and possibly stop trading.

Therefore, many reverse merger companies that thought they were buying a shell with market makers were in fact not getting a real market.

The only reason for a market maker to trade a stock is because they believe they will see a trading volume that will allow them to profit from the spread. You know that unless the company maintains aggressive relationships with investors, there will be no volume in a small company’s stock and the price will decline. No new purchases = lower prices.

This brings us to the next reason why reverse merger companies have bad aftermarket markets: They have been told by their lawyers, their financial advisers, and the people who sold them that once they go public, the company will have unlimited access to the money.

In fact, all the company gets is an exit strategy that can be used to attract investors. You still have to grab an investor, take him down, and get his wallet out of him. Since the lawyers, financial consultants, and the reverse merger company make money when the ghost deal closes, they somehow forget to explain what happens after the closing. That is not your problem; it’s yours.

The last reason reverse merger companies don’t do well in the secondary market is the worst. They can be victims of short sellers.

Wall Street, as everyone should know, is not a place where mercy reigns. It is a place inhabited by sharks. Sharks prey on the weak and the unwary.

Short sellers know that small businesses need a steady flow of money to grow. Growth requires constant new money, even profitable growth.

To get this money, reverse merger companies, indeed all companies, must keep their stock prices high. When shorts storm stocks, they know that lowering the price can destroy the company. A low share price is a bad reflection of a company. He says this company is weak and is likely to double down. He says that this company cannot raise money at a good price. Customers, employees, and investors will go out and avoid a company with a low share price. If you don’t know how to survive the ravages of short sellers, your business is in serious jeopardy.

In short, conducting a reverse merger without a complete aftermarket plan is a trap for the unwary. A reverse merger company sold a list of assets about a reverse merger that is the total solution is likely to find its share price going down. You should have a fundraising and investor relations plan that includes recruiting investors and market makers and fighting attacks from short sellers.

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