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The PIPEs Report - October 10, 2005
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Private Companies and Investor Fuel
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Dual Dealing
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Companies searching for capital and alternative routes to the public markets are increasingly closing reverse mergers and completing PIPEs simultaneously. The practice is giving PIPE funds more investment opportunities in a crowded market and is providing fledgling public companies with otherwise unattainable operating capital. These alternative public offerings or 'shell IPOs' are emerging as competition for SPACs (specified purpose acquisition companies), blank check companies created through conventional initial public offerings to effect a merger with private operating companies.
PIPE issuers that have become public via reverse mergers have long composed a small but steady segment of the private placement market. But until recently, most companies generally waited months before pursuing a PIPE. That began changing about 12 months ago, and over the last six months, concurrent reverse merger/PIPE transactions have picked up steam.
The trend has been most apparent to Timothy Halter of Halter Financial Group, which has structured turnkey reverse merger transactions with private companies since 1995. The firm, which sells public shells to clients, has filed to copyright the phrase 'Alternative Public Offering,' or APO, to brand the simultaneous PIPE and reverse merger process. 'Our experience in the past was that about nine out of ten reverse merger transactions were just reverse mergers,' says Halter, who also has an interest in a fund that invests in reverse mergers. 'Today, of the six deals in our pipeline, five of them have a capital-raising component.' Indeed, some 36 companies have completed a reverse merger and a PIPE this year, and of those, 19 completed a PIPE at the same time they closed the reverse merger, according to data compiled by TPR. Those issuances raised some $187 million, and at least three companies have returned to the market for more financing. China BAK Battery, for example, raised $17 million by issuing 8.6 million common shares for $1.97 each when it completed its reverse merger in January, according to PrivateRaise, which tracks private placements of more than $1 million. Then in mid-September, China BAK issued an additional 7.9 million common shares at $5.50 a share to raise $43.5 million. The company, which manufactures lithium ion batteries, was recently trading around $7 a share (see 'Shell IPOs Boom,' p. 9).
Halter, who shepherded China BAK through the reverse merger and PIPE deal last winter, says the APO concept has attracted hedge funds because investors can negotiate for a sizable discount - China BAK's January PIPE represented a 60% discount compared with a 23% discount in its second PIPE. On the flip side, even though an exit strategy exists, which also appeals to investors, liquidity is virtually non-existent for a period of time after a merger. Case in point: Over July, August and September, China BAK's daily volume averaged about 1,600 shares.
'For certain institutions who must first and foremost like the fundamentals of the company, the APO allows them to come in at an early stage and buy at a private valuation with an exit resolved,' Halter says. 'The only question is liquidity and whether or not the company will develop liquidity going forward.'
Any fear of illiquidity is hard to find, however. Some 17 funds and several individuals took part in China BAK's first placement, and Halter says the deal was oversubscribed. Many of those same investors participated in the recently closed PIPE, he adds.
Battle Brewing
Investors and agents anticipate the growing number of simultaneous PIPE and reverse merger deals will put pressure on SPACs. Both vehicles provide private companies with an alternative to the traditional IPO process, but SPAC experts have pointed to SPACs' ability to provide operating companies with immediate capital while reverse mergers typically did not. Yet of some 30 SPACs created over the last 18 months, only two have been able to complete acquisitions with private companies.
Halter suggests that reverse mergers combined with a PIPE are more cost effective and timely than merging with a SPAC. Under his firm's typical APO structure, he says, companies negotiate their PIPE deals with investors, then the financing is put into escrow until the deal is complete. SPACs, on the other hand, possess a pre-determined amount of capital, and once a merger is proposed, the company must submit a proxy to shareholders for approval.
With new rules requiring reverse merger companies to submit 10-K quality financials immediately upon completing the transaction, reverse mergers typically take about 45 to 60 days to close after an audit is conducted, Halter says. By comparison, it took the SPAC Millstream Acquisition Corp. about seven months to complete its combination with NationsHealth, a Medicare supplier of medications that also provides discount drug cards.
'From a company's point of view, if it can get the same amount of money, the same dilution with less time and no risk, what advantage is there to choosing the SPAC route?' Halter asks. One of the most active SPAC bankers acknowledged last week off the record that reverse mergers and simultaneous PIPEs are creating the same capital- raising event for private companies via an alternative route to the public markets. But, he pointed out, SPACs have experienced management with a vested interest in seeing the acquired company excel - the SPAC principals must hold the target company's stock for three years after an acquisition.
Rampant Demand
While concurrent reverse merger and PIPE transactions might prove more appealing to issuers than SPACs, they're also providing funds with additional investment opportunities in a private placement market that's awash in capital. On the other hand, is the abundance of capital and subsequent demand for deals simply driving investors to assume more risk? In the past, PIPE fund managers who were considering investing in a reverse merger company would observe how the firm operated in the public market before participating, says Nimish Patel, a partner with Richardson Patel, who is seeing growing interest from issuer clients in the concept. But that's hardly the case anymore.
'Frankly, I think there are so many investors in the PIPEs area now, and they're looking for different companies,' says Patel. His firm, along with Gottbetter & Partners, represented homeland security company Electronic Sensor Technology in its $4.1 million raise in conjunction with a reverse merger in February. 'There are a lot of great private companies that are in revenues with significant EBITDA that could be great public companies. But liquidity is the name of the game, and so investors are requiring a simultaneous reverse merger as a condition to getting the money.'
Most reverse merger companies that complete immediate PIPEs file a plethora of financial disclosures to become eligible to trade on the OTC Bulletin Board. But the demand also is leading funds to invest in APOs that list on the Pink Sheets, where disclosure requirements are more lax. Uni-Pixel, for example, a display panel technology company, issued some 3.5 million shares of Series A convertible stock to investors to raise $12.2 million in February when it completed a reverse merger with Real-Estateforlease.com.
The deal included a 6% annual dividend payable in cash or preferred shares, a three-year term, and a fixed conversion price of $1.75 a share, which represented a 47.8% discount at the time the deal closed. The company's shares were recently trading around $4.50. Fordham Financial Management facilitated the PIPE, receiving an aggregate of some $1.7 million in fees and travel reimbursements, as well as five-year warrants to purchase more than 1 million common shares at $1.75 each.
Halter, who was involved in the Uni- Pixel reverse merger, downplays the significance of a Pink Sheets listing. All APO companies intend to list on the Nasdaq or AMEX, he says, and Pink Sheet companies first must go through the process to become a reporting company. 'In all instances, it's a company's fundamentals that determine whether it qualifies for a listing, and all these companies qualify going in,' he says. 'Investors wouldn't put their money in unless the companies qualified and planned to list.'
Active Flow
The most recent simultaneous reverse merger and PIPE deal closed in early September, when American Technologies Group's subsidiary, Omaha Holdings Corp., paid $11 million in cash to acquire North Texas Steel, a structural steel fabrication firm. Laurus Funds provided some $12 million in three separate secured convertible debenture transactions to American Technologies to finance the transaction: a $7 million revolving facility based on accounts receivable and inventories, a $3 million Term A note, and a $2 million Term B note.
The securities are convertible into shares of Series D and Series F preferred shares until American Technologies increases its authorized common shares to 15 billion, and the preferred shares are only convertible into common stock as long as shares exist for conversion. Additionally, American Technologies issued seven-year warrants to purchase an aggregate of some 860 million common shares for $0.0033 a share and an option to purchase 3.1 billion shares for $0.00001 a share. The company was trading between 1 cent and 2 cents a share in late September.
Additionally, American Technologies issued a $500,000 convertible note, as well as warrants and options to purchase an aggregate of more than 2 billion shares, to Gryphon Partners, and a $150,000 convertible note to Nite Capital.
David Grin, managing partner and cofounder of Laurus Funds, downplays the significance of the reverse merger and says they're simply a part of the PIPE market. 'We've done them in the past, we continue to do them, and we're going to do them in the future,' he says. 'For a fundamental fund like ours, which does deals on a longerterm basis, it makes sense.'
To date this year, the largest concurrent reverse merger and PIPE occurred in June, when the cutlery, appliance and gadget icon Ronco Corp. issued some $13.3 million shares of Series A convertible preferred stock to raise $50 million and merged with Fi-Tek VII. The placement's terms included a 5% annual dividend payable quarterly in cash or in additional preferred shares, and a fixed conversion price of $3.77 a share, which represented a 53% discount at the time the deal closed. Ronco's shares were recently trading around $5.30. Sanders Morris Harris served as placement agent, earning $3.5 million (7% of the issuance amount) and five-year warrants to purchase some 266,700 common shares at $3.77 a share.
More big deals may be on the way, however. Halter will be in China this month to explore a potential $100 million APO. While heavy interest in past deals such as China BAK doesn't guarantee the same acceptance of APO's going forward, Halter remains bullish on the concept. 'The model works,' he says. 'And if a model works, you have no lack of investors to participate, provided the companies are good.'
-- Joe Gose --
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Strong Track Record
Thu, 09 Sep 2010 11:04:00 GMT
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*Note: Representative Transactions (partial list)
Deal Direct
We maintain a large inventory of public shells that we control as principals. As we do not act as intermediaries our transactions are conducted on a principal to principal basis.
Most Knowledgeable
For the past fourteen years, we have conducted and participated in seminars on the reverse merger process. We have instructed hundreds of attorneys, CPAs and professionals about the process.
Capital Raising
We have the ability to invest our own capital in our clients’ transactions. We invest side by side with our institutional partners, and have a relationship with and are a principal in an independent investment fund that invests in reverse merger transactions.
Turnkey Solution
We have the people and experience to handle every aspect of the reverse merger process so you can stay focused on your business.
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