Conning, lying, thieving Garrett Krause speaks to the masses;
A Letter from the Chairman
Garrett K. Krause
June 22, 1999
The Reverse Merger Report
Introduction:
This report has been generated for Sara Hallitex shareholders to clarify the philosophy behind the Company's use of “reverse mergers” in some of its business dealings. Contrary to certain public perceptions, the reverse merger is a thoroughly legal and widely used business practice. When properly executed under strict Securities & Exchange Commission guidelines, a reverse merger can be beneficial on several levels to companies and investors alike. It is hoped that any shareholder concerns regarding this issue will be addressed through the content of this report.
What is a “Reverse Merger”?
Traditionally, companies enter the public market by finding an underwriter and filing an IPO Registration Statement with the Securities & Exchange Commission (SEC). An alternative method of going public is to conduct what is called a “reverse merger”.
A reverse merger is a process in which a non-public company acquires a public shell-- a struggling or defunct company still listed on a stock exchange-- and merges into it, thereby becoming a public entity. A shell is a non-operating company with stock owned by the general public. Shells come into existence when an operating company ceases operations or when it spins off a subsidiary. Shells can be categorized as "pure" or "cash heavy"; a pure shell has neither assets nor liabilities, and a cash heavy shell has cash retained after selling its assets and settling its liabilities.
The conversion from private to public company is generally accomplished by a standard merger creating a single operating entity composed of the public shareholders of the shell and the assets and business of the private company. The combination of the public shell and the private company is usually accomplished in a "tax free" stock-for-stock exchange. This method of becoming a public company minimizes the cost of going public and thus allows issuers greater discretion in the allocation of economic resources.
When the reverse merger is complete the operating company seeking to go public is merged into the public shell company. The public shell company is the legal surviving corporation. The name of the public company is changed to the name of the former private company and controlling stock is transferred to the shareholders of the former private company. The net effect: the former private operating company is now public retaining the same business, officers and directors with its shares being traded on the OTC Bulletin Board or NASDAQ. The original shareholders of the public shell company also benefit in that their former worthless shares now have real value.
The decision by company management to go public or to remain private is largely the result of a cost/benefit analysis. Likewise, when choosing whether to go public through a shell or through a registered public offering, management seeks to determine which method yields the maximum benefit at the lower cost. As long as disclosure requirements for the SEC are satisfied, the practice of going public through a shell will continue to thrive.
Benefits of Reverse Mergers:
The reverse merger business strategy can be beneficial in many ways. For the private company going public benefits from the public trading of its securities include:
Increased liquidity of the ownership shares of the company
Higher per share price and thus higher company valuation
Greater access to the capital markets through the possible future secondary stock offerings, the exercise of warrants and private placements.
The ability of the company to make acquisitions of other companies using its own stock.
The benefits of going public through a reverse merger vs. a traditional IPO include:
Costs that are significantly less than costs required for an initial public offering, often in the $100,000 to $200,000 range.
The timetable is considerably shorter than for an IPO, about 30 days compared to 6 to 12 months.
Additional risk is involved in an IPO. Example: an IPO may be withdrawn due to unstable market conditions even after most up-front-costs have been paid.
IPO's require greater attention from top management, taking away their focus on core business matters.
Less dilution of ownership control
The acquiring company does not require an underwriter
Post-merger, higher valuation for the resulting company.
(Source: First Diversified Financial Services, Inc.)
Reverse Merger Success Stories:
The use of reverse mergers has produced some of the more successful public companies operating worldwide:
* Telecommunications giant Ted Turner built his empire from quite humble beginnings. In 1970, operating with no cash and with a simple exchange of stock, Turner acquired publicly traded Rice Broadcasting, owners of station WJRJ-TV, through a reverse merger. At the time, WJRJ-TV was a struggling UHF station on the verge of complete failure. “I had never watched the station, because I couldn't even get it on my set”, Mr. Turner recalled in his biography Citizen Turner, “I never watched television in those days. I had no idea what UHF stood for.”
After completion of the reverse merger, Mr. Turner, virtually insolvent but with a visionary business plan and control of a public company, was then able to tap into the capital markets of Wall Street. After the infusion of public and private capital, WJRJ-TV later became superstation WTBS reaching cable systems across the nation.
Mr. Turner's stake in the former Rice Broadcasting, which later became part of Turner Broadcasting System, now a unit of Time Warner, Inc. (NYSE: TWX) is now worth over $3 billion.
* In 1956, legendary tycoon Armand Hammer invested capital in a struggling public shell company called Occidental Petroleum (NYSE: OXY). In his autobiography, Hammer, Mr. Hammer described the financial state of Occidental at that time:
“The company's outstanding 600,000 shares were trading at $0.18 a share on the Los Angeles Stock Exchange…The company had total assets of only $78,000, including $14,000 in cash at the bank. It was trading at a loss…I said, ‘Judging from the balance sheet, the stock isn't worth its market value. I think it'll have to go into bankruptcy.'”
After petroleum engineers determined sizable oil and gas reserves on two company land leases, Hammer decided to invest in Occidental. Essentially effecting a reverse merger, Hammer contributed $100,000 for controlling interest in the company.
Over the years, Hammer managed to build Occidental Petroleum into an international oil, gas and chemicals giant with 14,300 employees and $10.6 billion in annual operating revenues as of 1996.
* In 1962, Warren Buffett started acquiring shares of Berkshire Hathaway, a New England-based textile concern in severe financial decline, through a private investment partnership. After taking control in 1965, Mr. Buffett liquidated company assets and began focusing on investments. Berkshire Hathaway (NYSE: BRKa/BRKb) eventually became the centerpiece and holding company for Mr. Buffett's fortune.
Since 1965, the company has enjoyed annual compound growth in value of 23.3%. In that time it never lost value, even gaining during the severe recession of 1973-1975 and has outperformed the S&P 500 in all but three years. Its shares have never been split and currently trade at around $71,000.00 per share. The company's current market capitalization is some $108.8 billion.
* In 1996, Muriel Siebert, who in 1967 became the first woman to buy a seat on the New York Stock Exchange, took her brokerage firm Muriel Siebert & Co. (NASDAQ: SIEB), Inc. public through a reverse merger with J. Michaels, a liquidated Brooklyn, NY furniture company. Today, the resulting public company Siebert Financial Services boasts offices in three states, over 100 employees and over $25 million in annual revenues. The company recently acquired the retail brokerage accounts of William O'Neil & Co., the parent company of Investors Business Daily. (Source: Muriel Siebert & Co., Inc.)
* LCA-Vision, Inc. (NASDAQ: LCAV) is a leading provider of laser refractive surgery for vision correction. In 1995, company founder and CEO Dr. Stephen Joffe, MD effected a reverse merger by acquiring a majority of the common stock of Maxoil, Inc., an oil and gas concern inactive since 1993. After FDA approval of LCA-Vision's laser procedure, the company used private capital and company stock to acquire additional laser centers in the South and Midwestern U.S. The company, then trading on the OTC Bulletin Board, built enough market capitalization to move to the NASDAQ SmallCap market.
After the move, LCA-Vision used its stock to acquire a chain of refractive surgery centers from another existing company. LCA-Vision issued several million of its own shares in return acquiring the other company's 19 wholly-owned and operated refractive surgery centers around the country.
Today, LCA-Vision, Inc. conducts its operations in 21 cities in the U.S., Canada and Finland earning revenues of $35.2 million in fiscal 1998. (Sources: Entrepreneur Magazine, June 1999; LCA-Vision, Inc.)
* Pentair, Inc. (NYSE: PNR) was founded as a partnership on July 6, 1966 and became a Minnesota corporation in August the same year. In December 1966 the new Company launched an initial public offering of 200,000 shares at $1.15 per share.
Today, Pentair, Inc. is a diversified manufacturer of professional tools and equipment, water and fluid technologies, and electrical and electronic enclosures serving customers around the world. The company conducts its operations through 56 locations in North America, Europe and Asia. The company has some 10,500 employees and earned revenues of $1.94 billion in 1998. The company's stock adjusted for splits, trades at around $43.00 per share.
United Shipping & Technology, Inc. (NASDAQ: USHP) manufactures, markets and operates self-service, automated package delivery systems for consumers and small business shipping. In 1992, the company, then operating as privately owned U-Ship International effected a reverse merger, acquiring the outstanding shares of Eurodynamics Corporation, a foundering public firm. The resulting company was eventually renamed United Shipping & Technology.
Armed with new access to capital, the company was able to channel finances into R&D. From 1991 to 1998, the company's primary business was developing, manufacturing and marketing intelligent shipping kiosks for use by consumers and small businesses that ship packages and priority letters through major carriers. In 1996, the company secured agreements to install its kiosks in hundreds of Kinko's and OfficeMax locations across the country. In 1998, the company revised its business strategy to broaden its focus to include same-day local courier and dock truck services in major metropolitan markets. United Shipping & Technology aims to become a national leader in courier and related services through a series of courier business acquisitions.
The company continues its activities in the shipping and informational kiosk business, but is also focusing on integrating its kiosk technology and its courier business while developing an integrated communications and dispatch system along with other supporting technology.
The number of success stories related to reverse mergers is a testament to its effectiveness. As a proven business process, the reverse merger will continue to flourish in the future.
Why do reverse mergers fail?
On average, private companies as well as traditional IPO's fail equally as often as reverse merger firms. The failure of any company, public or private, can usually be linked to any number of mitigating factors including poor management, cash flow shortages, burdensome short and/or long-term debt, inferior products, etc. The actual reverse merger process has no bearing on the success or failure of a given company.
Within the basic structure of a reverse merger there must be an existing public company that has failed, been liquidated or is currently non-operative to create a shell company. Most of these failed or dormant public companies-turned-public shells funded their original operations via traditional IPO's.
Thus, the issue of whether a company has gone public via reverse merger or traditional IPO is patently immaterial.
The reverse merger as part of the SaraIPO program
What is the definition of an Initial Public Offering, or “IPO”? Quite simply, when private companies raise capital by offering stock on a public stock exchange, the first sale of this stock is referred to as the Initial Public Offering. A reverse merger conducted through the SaraIPO program works in a similar manner: upon completion of a reverse merger, the Company is able to offer stock in a well-managed, formerly private firm on a public stock exchange. Thus, both traditional IPO's and reverse mergers accomplish the same objective: taking private companies public.
Why does Sara Hallitex transact a large reverse stock split in the shell corporation prior to a reverse merger?
Before a reverse merger transpires, most public shell companies usually have 1,000,000 to 20,000,000 shares outstanding, most likely trading around $0.01 per share. Current Sara Hallitex reverse merger policy guidelines call for shareholders in a public shell company to retain between 100,000 and 200,000 shares of stock, or around 1-to-2% equity interest in the resultant company after completion of a reverse merger and subsequent financing. On average, the new stock is distributed to some 150 original public shell shareholders. The balance of the company's stock is then distributed to Sara Hallitex Corporation for its dividend distribution program. Additionally, there are a certain number of shares issued for the continued financing of the newly formed company.
As a result, by effecting a large reverse stock split Sara Hallitex management is able to distribute more stock to its shareholders in the form of dividends instead of leaving this ownership position in the hands of the shareholders of a previously failed public company. Quite frankly, the compensation that former public shell shareholders receive in the form of new company stock is more than generous when compared to the stock they once held at $0.01 per share with little or no market value.
What is the future of the SaraIPO program? Will the Company always use reverse mergers in taking subsidiaries public?
The SaraIPO program offers a unique formula to finance, incubate and eventually publicly launch emerging-growth companies that were previously unable to reach the public market. The SaraIPO program will allow shareholders to participate directly in current and secondary offerings in future SaraIPO firms. Primary allocations of SaraIPO shares will be offered directly to Sara Hallitex shareholders on a first-come basis. Any remaining unsold shares will then be available and offered to the general public. In short, the SaraIPO program represents the Company's first foray into the market of traditional direct IPO's.
Thus, Sara Hallitex shareholders will not only continue to reap the benefits of SaraIPO stock dividends; they will also enjoy the first right to acquire more stock in a company at a pre-determined IPO price. The SaraIPO program will also be used to raise private placements for current Company subsidiaries.
Even as Sara Hallitex moves into the more traditional IPO market in taking its subsidiaries public, the Company will continue to use reverse mergers, when applicable, as a practical course of action in its overall mergers & acquisition strategy.
Closing Comments:
I hope this report has given shareholders the information necessary to quell the myth that all reverse mergers are inherently “bad” or a “scam”. The Management of Sara Hallitex will continue to adhere to the Company's business plan and model, incubating its subsidiaries as private as well as public companies. Under this model, all of our companies continue to grow and prosper. Similar to the examples cited earlier in this report, each of our companies, with the proper financing, management and business plan, have the same opportunity to become a “star” or “blue chip” public company.
If you have any further questions about this report please contact the offices of Sara Hallitex Corporation:
Sara Hallitex Corporation
4344 Promenade Way, Suite 102P
Marina del Rey, CA 90292
Tel: 310-823-5008 (Investor Relations Dept.)
Fax: 310-827-6255
Email: invrel@sarahallitex.com
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