Back Door Listing: Meaning, Pros and Cons, Example

A back door listing provides a way for a private company to go public if it doesn’t meet the requirements to list on a stock exchange. The company gets on the exchange by going through a back door. This process is sometimes referred to as a reverse takeover, reverse merger, or reverse IPO.

Key Takeaways

• A back door listing is a way for a private company to go public if it doesn’t meet the requirements to list on a stock exchange.
• One company will acquire another or create a shell corporation that allows the two companies to continue operations independently of each other.
• A private company will sometimes engage in a back door listing simply to avoid the time and expense of engaging in an IPO.
• Shareholders in the target company may get some cash for the deal.
• A back door listing can hurt profits if the two companies don’t have a natural fit.

How Does a Back Door Listing Work?

A private company avoids the public offering process and gains automatic inclusion on a stock exchange by going through a back door listing. The buyer may merge both companies’ operations following the acquisition or create a shell corporation that allows the two companies to continue operations independently of each other.

A private company will sometimes engage in a back door listing simply to avoid the time and expense of engaging in an IPO although this isn’t as prevalent.

Benefits of Back Door Listings

One of the major upsides of going through a back door listing is that it’s a cost-effective way for a private firm to go public. It doesn’t have to go through the expense of regulatory filings or funding to go public because it can strike up a deal with an already public company.

Private firms may also inject life into a troubled company without the need to raise more money from the market. Not only does this bring a new set of people to the table but it may also bring new technology, products, and marketing ideas.

There’s also an upside for existing stock owners. Shareholders in the target company may also get some cash for the deal. It may mean added value for the new entity’s shareholders as well if the merger is successful and the two companies’ synergy is compatible.

Downsides of Back Door Listings

There are also disadvantages to undergoing a back door listing as with any other process. It doesn’t happen very often so it may be cumbersome to explain to shareholders, leaving them confused and upset.

The process can also lead to new shares being issued for the incoming private company. This leads to share dilution that can decrease existing shareholders’ ownership and value in the company.

A back door listing might help boost a failing public company’s bottom line but it can have the reverse effect as well. It may hurt profits in the end if the two companies don’t have a natural fit.

Important

Trading of the listed company can be halted or suspended until the merger is fully executed depending on which country the listing is located in.

Example of a Back Door Listing

Say a small private firm wants to go public but it just doesn’t have the resources to do so. It may decide to buy out an already publicly traded company to meet the requirements. The company would need a lot of cash on hand to make this possible.

Let’s take a hypothetical example of two companies, Company A and Company B. Company A, the private company, buys control of Company B through its shareholders. Company A’s shareholders will then control Company B’s Board of Directors. 

The merger is negotiated and executed when the transaction is complete. Company B will then issue a majority of its shares to Company A and Company A will then begin to do business under Company B’s name and merge the operations of both. Company A may open up a shell corporation and keep the two operations separate in some cases.

What Is a Real Life Example of a Back Door Listing?

One of the more significant examples of a back door listing occurred when the New York Stock Exchange (NYSE) acquired Archipelago Holdings. The two agreed to a nearly $10 billion deal and created the NYSE Group in 2006. Archipelago was one of the exchange’s main competitors even though it offered trading services electronically compared to the open outcry system of the NYSE.

What Is a Shell Corporation?

A shell corporation has no employees and it offers no products or services. It effectively exists in name only.

What’s the Effect of Share Dilution?

Share dilution occurs whenever a company issues additional shares of its stock. The result is that there are more shares outstanding but the overall value of all shares remains the same. Each share outstanding therefore becomes worth less as a result because more shares have a piece of the pie.

The Bottom Line

A back door listing is literally what the name implies: Someone or something is entering through other than the main entrance. It happens in trading when a private company can’t go public because it doesn’t meet stock exchange requirements or if it doesn’t want to go public. It often involves a merger between a public company and a private company.

Whether it provides a worthwhile investment for traders depends on several factors. Do some thorough research into the situation if you’re considering it.