Given recent stock market declines, many listed companies currently trade at substantially reduced share prices relative to earlier in 2022. Reduced share prices can cause many challenges for a listed company, one of which is that if a company listed on the NYSE or Nasdaq trades below $1.00 per share over 30 consecutive trading days, the company may be delisted by the applicable exchange. One of the principal ways companies seek to increase their share price and, if applicable, maintain their listing eligibility is by implementing a reverse stock split (sometimes referred to as a share consolidation). Below, we discuss some of the key issues for a board of directors and management team to consider when weighing the costs and benefits of a reverse stock split.
What is a reverse stock split?
In a reverse stock split, a company reclassifies its issued and outstanding shares into a smaller number of shares (for instance, every five outstanding shares are reclassified into one share). When the reverse stock split becomes effective, outstanding shares are exchanged for a lower quantity of shares based on the designated ratio, and these “post-split” shares trade under a new CUSIP number. At least at the outset, the company’s stock price increases in the same proportion as the number of shares decreases.
What triggers delisting on the NYSE or Nasdaq?
Both the NYSE and Nasdaq require listed companies to maintain a share price above $1.00.
- The NYSE will issue a deficiency letter to a listed company if the average closing price of its shares is less than $1.00 over a 30 consecutive trading-day period. NYSE listed companies must notify the NYSE within 10 business days of receipt of the deficiency notice of either their intent to cure or to be subject to the exchange’s suspension and delisting procedures. NYSE listed companies have six months to cure the deficiency following receipt of the deficiency letter. The cure period can be extended to the company’s next annual meeting if a shareholder vote is required to approve the reverse stock split (even if beyond six months from receipt of the deficiency letter).
- Nasdaq will issue a deficiency letter to a listed company if its shares fail to satisfy the $1.00 minimum closing bid price requirement for 30 consecutive business days. Like companies listed on the NYSE, Nasdaq listed companies have a 180-day period to cure the deficiency following receipt of the deficiency letter. However, unlike the NYSE, a second 180-day period is available for companies listed on the Nasdaq Capital Market tier if the company satisfies the $1 million market value of publicly held shares requirement and meets all other initial inclusion requirements of the Nasdaq Capital Market (other than the $1.00 closing bid). Companies listed on the Nasdaq Global Select Market or Nasdaq Global Market tiers that are unable to comply with the initial 180-day compliance period may transfer to the Nasdaq Capital Market to take advantage of the additional 180-day compliance period offered by that tier.
Do companies need to make public disclosure upon receipt of a deficiency letter from the NYSE or Nasdaq?
Domestic registrants are required to file a Form 8-K (Item 3.01) within four business days of receipt of the deficiency letter from the exchange, disclosing the failure to satisfy a continued listing requirement of the NYSE or Nasdaq and, if applicable, any action or response that, at the time of filing, the company has determined to take in response to the deficiency letter. Companies listed on the NYSE are also required to issue a press release disclosing receipt of the deficiency notice. If the company fails to issue the press release, the NYSE will issue one.
Foreign private issuers are not required to file a Form 8-K upon receipt of a deficiency letter. However, NYSE-listed companies are required by the NYSE rules to issue a press release within 30 days of receipt of the deficiency letter. A foreign private issuer would also be required to disclose receipt of a deficiency notice on a Form 6-K if the company was otherwise required to disclose the notice under the rules of its home country.
Key Considerations for a Reverse Stock Split
1. Does it make sense commercially?
A reverse stock split will reduce the number of issued and outstanding shares, and this reduction may be substantial depending on the ratio used. If a listed company has a relatively low number of issued and outstanding shares prior to the reverse stock split, then even fewer shares will remain in issue following the reverse stock split with which to maintain a trading market. Similarly, if a listed company has a concentrated shareholder base (for instance, because one or more founders or pre-IPO investors have substantial holdings), the free float following a reverse stock split may be quite low. If few shares remain outstanding or as part of the free float following the reverse stock split, there may be insufficient trading to support the share price (or to attract investors). In addition, companies should be mindful of the minimum number of shares outstanding required under the applicable listing standard for the exchange on which they are listed.
2. Are there other options?
Companies intend, by implementing a reverse stock split, to increase their share price in proportion to the split ratio used (e.g., a 1-for-5 reverse stock split ratio would result in the post-split share price increasing at the outset by 5x). A company can seek to increase its share price in other ways, some of which may be more attractive depending on the circumstances. For instance, some companies seek to increase their share price through buying back their shares in open market purchases or otherwise. Others may seek to increase value through a merger, a financing, or another significant corporate event. Given that a reverse stock split significantly reduces the number of outstanding shares and does not address other factors which may impact the company’s valuation, a reverse stock split may not prove attractive to all companies.
3. How does a company effect a reverse stock split?
Generally, approval of a reverse stock split requires adopting an amendment to the company’s certificate of incorporation (or comparable charter document) to reflect the reclassification or consolidation of shares. This, in turn, generally requires shareholder approval. The specific requirements arise from the law of the jurisdiction in which the company is formed, as well as the terms of the company’s charter documents. Local law requirements will determine whether a company will need to amend its organizational documents which in turn will require the company to undertake a proxy solicitation, and ultimately secure a shareholder vote, in order to effect the reverse stock split.
Annex A includes an indicative timeline for a Delaware company to call a special meeting of stockholders at which to approve a reverse stock split.
4. What vote is required?
The approval threshold required to implement a reverse stock split may impact its feasibility. Under Delaware law, a reverse stock split requires approval of a majority of the outstanding shares. Under the law of the Cayman Islands, a reverse stock split requires an ordinary resolution (which requires a majority of the shares present at the shareholder meeting). The relative concentration (or lack thereof) in a company’s shareholder base may make shareholder approval easier or harder to obtain. In addition, a company’s charter may establish a higher voting threshold than the threshold required by applicable law, and the charter (or other agreements) may grant approval authority to specific shareholders. Any such higher approval threshold or special approval rights may also impact feasibility.
5. How quickly can a company effect a reverse stock split?
It depends, but the process could take a few months. The law of the jurisdiction of organization and the company charter will establish requirements for the notice period a company must provide its shareholders prior to a shareholder meeting. If the company is subject to the U.S. proxy rules, the proxy statement it prepares must comply with the disclosure requirements of the Securities Exchange Act of 1934 and will be subject to review by the SEC. In addition, the company’s proxy solicitor must conduct a broker search prior to the record date for the meeting. Given these requirements, companies must plan ahead if they intend to seek approval for a reverse stock split. This is especially true if they are considering a reverse stock split as a result of receiving a deficiency letter from the NYSE or Nasdaq, as the cure periods under the stock exchange rules are of limited duration.
6. How would a reverse stock split impact outstanding equity-linked securities and other agreements?
Convertible notes, warrants, and other equity-linked securities will generally include adjustment provisions whereby the conversion rate or exercise amount is modified as a result of a reverse stock split. Companies also will need to consider the impact of a reverse stock split on their employee benefit plans and any outstanding stock options and other equity awards. If companies have agreements with covenants that may be impacted by a reverse stock split they will need to consider whether an amendment to such agreements is required. Any such requirements to obtain amendments to the company’s contracts could impact the timing for implementing a reverse stock split.
7. Practical considerations and final thoughts
Effecting a reverse stock split demands close coordination among the company, counsel, the company’s transfer agent, and the company’s proxy solicitor. In addition to securing shareholder approval, work is required behind the scenes to satisfy stock exchange requirements and to set up the reverse stock split in the DTC system. Companies seeking to effect a reverse stock split will be well served to organize their team of advisors and service providers as early in the process as possible, to give careful consideration to the key issues discussed above, and to develop a detailed timeline and allocation of responsibilities as early as possible.
________________________
Annex A: Indicative Timeline for Special Meeting of Stockholders*
