A
reverse split round-up, also called a
reverse split with special treatment, or an
arbitrage opportunity by some, is a special scenario in which a publicly-traded company must give special treatment to small shareholders to control its total number of shareholders. This special treatment comes in the form of an automatic increase in a small shareholder's number of shares after the reverse split (r/s) above and beyond, proportionally, the increase in shares afforded to other holders. That is, you, the small shareholder, have the opportunity to profit without risk.
These r/s round-ups occur primarily on the OTC BB, and this is no coincidence. Although, according to the OTCBB website, there exists no specific requirement to maintain a certain number of shareholders, there is, in fact, a reason to maintain a certain number of holders.
- First, there is a requirement to maintain a number of holders that allow for a market to be made at all.
- Second, Under SEC rules, a company with a class of securities registered under the Securities Exchange Act of1934 may choose to terminate its registration if certain conditions are met - if the securities have fewerthan 300 record holders, for example, or if there are fewer than 500 record holders and the company's total assets have not exceeded $10 million at the end of the company's three most recent fiscal years. So, it does not bode well for the future of the company to suddenly reduce its number of holders below the 300 threshold. That move would make it appear as if the company intended to be delisted, a common move in the world of the bulletin board, where start-ups and failures struggle in keeping up with filings and reports.
- Finally, there is a minimum number of shareholders necessary to be listed on the NASDAQ or AMEX. It should come as no surprise that the number required is 300. Again, a company who begins to reduce its shareholders is sending a very bad message to potential shareholders.
Of course, it is already very telling that a company on the OTCBB would conduct a R/S, and it happens quite often, so points two and three above may not provide the best of explanations.
But do recognize that, if a company starts up the printing press and begins to finance its operations by issuing more and more shares, it will eventually reach is maximum authorized share count. That is, the company will no longer be able to issue shares. So, naturally, the company must conduct a reverse split, where 1 share is exchanged for a lesser number of shares, with the price per share (pps) being increased so that a shareholder maintains the pre-r/s value.
For example, if a company determines that it will conduct a 1:10 reverse split, the current pps is
$1 and you hold ten shares, you will hold 1 share with a pps of $10 after the r/s. As you can see, the value hasn't changed.
As the company continues with more and more reverse splits, it loses shareholders. To compensate for this, it provides special treatment in the form of a reverse split round up to those who hold less than a certain number of shares.
To better understand the reverse split round-up, I'll provide you with a real-life example from the not-to-distant past:
MNPC .OB did a reverse split, which included a symbol change to NWMO .OB. It was a 1:300 reverse split, with the pre-R/S price per share being $0.08. This means that if one were to have 30,000 shares of MPNC before the split with a value of $2400, he or she would have 100 shares post-R/S with a value of $2400.
They announced this move in a document known as a DEF 14C, which is required on their behalf. From the DEF 14C:
SPECIAL TREATMENT OF STOCKHOLDERS HOLDING FEWER THAN 30,000 (BUT AT LEAST 100) COMMON SHARES AND FRACTIONAL SHARE TREATMENT
The Company's board of directors approved special treatment of stockholders as of the Effective Time (as defined in the Certificate of Amendment to Amended and Restated Certificate of Incorporation attached hereto as Exhibit A) holding fewer than 30,000 shares of common stock to prevent those stockholders from holding less than 100 shares after the Reverse Split. The special treatment is being afforded to preserve round lot stockholders (i.e., holders owning at least 100 shares).
Accordingly, stockholders holding less than 30,000 shares but at least 100 shares as of the Effective Time, and who continue to hold such shares as of the effective date of the Reverse Split ("Eligible Holders"), will receive 100 shares of common stock after the Reverse Split.
The Reverse Split will not affect the common stock held by stockholders holding less than 100 shares as of the effective date of the Reverse Split. The result of this special treatment is that additional shares of common stock will be outstanding than if the Reverse Split identically affected all stockholders.
No fractional shares will be issued for any fractional share interest created by the Reverse Split and held by a stockholder with more than 100 shares after the Reverse Split; those stockholders will receive a full share of common stock for any fractional share interests created by the Reverse Split.
So, if you were to hold 100 shares pre-R/S (with a total cost of $8 +commission), you would have expected to receive 100 shares post-R/S with a value of $2400.
Of course, what really happened was a bit different, and many received around $15 dollars in stead, for a gain of about $1500.
Now, you understand what a reverse split round-up is and how it can be very profitable.
