Given the tough market conditions, reversing into a cash shell may seem an attractive way to go public. But, as Oliver Haill reports, it’s not without risk

The pipeline of companies floating on the stock exchange has dried up considerably of late. During the first six months of last year, 106 new companies joined AIM, generating a hefty £3.5 billion of new cash. By the end of this June, fewer than half that number had floated, raising just £801 million.

If you still see value in going public at the moment then the chances are you have what it takes to brave reversing into a listed cash shell – a company with money on its balance sheet but no trading business.

Exclusive new research from M&A’s sister publication Business XL has found that 43 such vehicles are parked on the junior exchanges of AIM and PLUS-quoted, five fewer than last year. Combined, these companies have £113.1 million in the bank, up from £80 million in 2007 (see Table 1).

While this may still seem like a modest amount, it’s worth bearing in mind that most cash shell takeover transactions involve a simultaneous fundraising.

“In the present nervous environment, cash shells are one of the few viable routes to market,” asserts Rob Smith, serial AIM company finance director. He is currently at biotech concern Curidium Medica, which two years ago reversed into an AIM-listed shell company with a simultaneous £1.5 million fundraising. Last year, Smith was also involved with the reversal of KPM Autos into a purpose-built AIM-listed shell, now renamed Eco City Vehicles.

Smith finds the process of reversing into listed shells easier and cheaper than the traditional IPO, which on AIM will cost about £500,000.

“You don’t have to pay brokers for finding money, making the shell route slightly cheaper,” he says. “And when you want to raise money by the traditional means, you have to see around 100 fund managers and potential investors.
“In the current market, with people sitting on their hands, you may have to see even more fund managers. The attraction of a cash shell is that you only have to persuade two or three people.”

INSIDE A SHELL

Smith says that KPM Autos’ owners were put off going down the IPO route as the valuations that City brokers put on the company fell short of their expectations. But they were introduced
to the directors of an AIM cash shell, who saw their value proposition more quickly than the brokers. “In the end it was very easy,” Smith says. “You can make a decision without it being an arm-wrestle.”

His experience at Curidium Medica proved not only that negotiations on price are less onerous, but also that the process can be more suitable to companies with a difficult story to tell. Curidium is involved in a complicated area of medical science, and a normal flotation would have required lots of due diligence into the technology itself.

However, the company didn’t want to put a report on its technology into the public domain at the time. Being able to convince a small number of individuals about the technology and its possible market allowed Curidium to sell itself in a more focused, less time-consuming way, says Smith.

LIMITED OPTIONS

Mark Watts, managing partner of shell specialist Marwyn Capital, agrees with Smith that options are limited right now. “We’ve got cash and our investors have got cash,” he says. “If you’re selling your business or want to extract some liquidity at the moment, what other options do you have? We offer a route to liquidity for people who want to exit.”

Investment house Marwyn, which is behind cash-rich AIM shell Marwyn Materials, has floated a number of purpose-built shells.
It populates them with a couple of senior directors, a pool of investors and an initial lump of cash to make reverse acquisitions of private companies.

In the past three years, as well as sitting on the board of many of these companies as a non-executive, Watts has overseen the raising of more than £1 billion in acquisition funding for more than 30 transactions. Sectors to have benefited from Marwyn’s interest in recent years include confectionery and snacks, hazardous waste disposal, drug and alcohol testing, and online gaming.

Marwyn’s strategy, as with most other shells, does not offer an immediate exit for the owner of the company reversing in, but an injection of cash and an opportunity to gain some liquidity. According to Watts, this can allow the company leaders “to concentrate on the things they like and are best at”.

It is slightly different from the usual approach, where the incumbent directors stay on only as non-executive members of the board. This is the chosen modus operandi of small company finance house Ruegg, which has been involved in around ten transactions involving cash shells on both PLUS and AIM.

ADD IT UP

A senior adviser there, Mark Burnell, has put his own money, alongside that of other investors, behind four current PLUS-quoted cash shells, on whose boards he sits as a non-executive director. He has already “proved” the model himself with a shell called Israeli
Acquisitor 1, into which a Greek software company reversed with a £3 million fundraising. He is involved with four shells in the leisure, financial services and natural resources sectors, and says “we’re keen to do reverse deals as soon as possible”.

“The attractions for companies to reverse into a shell are obviously the cash we have in the bank, which is about £400,000 in each one at the moment, plus ours are all perfectly clean with no skeletons in the closet.”

For make no mistake, there are real risks attached to taking the shell route – such as debts and obligations to previous suppliers and lenders. Burnell notes that purpose-built shells should be a more attractive proposition than their “dirty” cousins: “You can get disgruntled shareholders who are keen to liquidate as soon as they can. In purpose-built shells you generally get shareholders who are in for the long-term.

“Also, the cost of a reverse takeover into some shells can be higher than an IPO because you have two sets of lawyers and accounts, but with a clean shell the advantage is that it has conducted relatively few transactions and so there’s less to audit.”