How can a holding company use public stock to buy private businesses?

How does a deal paid in public stock work?

1. The buyer is a listed holding company. The stock must trade, or the seller has no way to turn it into cash. See whether a holding company should go public.
2. You agree a value per share. Common approaches are a fixed price in the purchase agreement or an average of recent trading prices. Each puts the price risk on a different party.
3. You split the price. A typical small deal pays some cash at closing, a seller note for part, and stock for the rest. See how to pay a seller with stock instead of cash.
4. You issue the shares under an exemption or a registration. Most small deals use a private placement exemption, so the shares are restricted when issued. Larger deals can register the shares on a Form S-4.
5. The seller waits out a holding period. Under Rule 144, restricted shares in an SEC-reporting company generally can be resold after six months, or one year for a non-reporting issuer, subject to conditions. See why sellers accept public stock more readily.
6. You file the disclosures. A public company reports a material acquisition agreement, the completed acquisition and unregistered share issuances on Form 8-K.

Why use stock instead of cash?

• It conserves cash and debt capacity. An SBA 7(a) loan is capped at $5 million per borrower including affiliates, so a buyer doing several deals runs out of that currency. See how to fund acquisitions without more SBA debt.
• It aligns the seller with the group. A seller who holds shares gains if the whole company grows.
• It can defer the seller's tax. If the deal qualifies as a tax-free reorganization or a qualifying contribution, tax on the stock portion is generally deferred until the seller sells the shares, while cash is generally taxed at closing. See whether a seller can defer taxes by taking stock.
• It lets the platform's multiple work for you. Buying earnings at a low multiple and paying with stock valued at a higher one is the core of multiple arbitrage. It works only while the market keeps valuing the platform above the businesses you buy.

What are the risks?

• Dilution. Each share issued reduces existing holders' percentage. If the stock is cheap when you issue it, you pay more for the business than the headline price says.
• Price risk for the seller. The stock can fall between signing and the day the seller can sell. Sellers often ask for a floor or a cash top-up.
• Overhang. Many sellers selling at once can push the price down. Buyers often ask sellers to agree to limits on how fast they sell.
• Weak stock. A thinly traded stock makes a poor currency. Sellers discount it or refuse it.
• Legal and tax complexity. Securities and tax treatment depend on the deal. Confirm both with securities and tax counsel before you offer stock.

Do I need to be public to pay in stock?

No. A private company can issue shares, or a rollover interest, to a seller. Private stock is harder to value and has no market, so most sellers discount it heavily or want cash. The practical advantage of a listing is that the seller can sell.

Related questions

How much of the price can I pay in stock?

There is no fixed share. Small deals that use stock usually pay a minority in shares. The right mix depends on the seller's tax position, the strength of your stock and how much cash and debt you can raise.

Can a small holding company do this?

Only if it is listed and its stock trades. See whether a holding company with $1 million to $5 million in revenue can go public and what it costs.

Does paying in stock make sense with an SBA loan?

It can complicate it. See what happens to SBA loans when the parent goes public.

What comes next

If a stock currency is part of your plan, decide it before your first deal, because the listing takes months and the structure of the parent decides what you can issue. Joel Arberman has taken 17 companies public (11 direct listings, 4 reverse mergers, 2 IPOs) over 30 years, and the Holding Company Playbook gives a direct answer on whether going public fits your plan. For the listing routes themselves, see PublicFinancial.com.

Where these numbers come from: the stock-versus-cash figures are from the academic study of 6,000+ IPO registrations cited in our article on paying sellers with stock. Rule 144 holding periods are from SEC Rule 144. The SBA cap is from SBA SOP 50 10 8 and 8.1 as summarized in our SBA 7(a) rules article. This is general information, not legal or tax advice. Meraki Partners, LLC is an advisory firm, not a broker-dealer, law firm or accounting firm.

Related articles

• How do you pay a seller with stock instead of cash?
• Why do sellers accept public stock more readily than private stock?
• Can a seller defer taxes by taking stock?
• Should an acquisition holding company go public?
• How do you build a holding company for acquisitions?

Meraki Dealmakers is a service of Meraki Partners, LLC, an advisory firm. It is not a broker-dealer, investment adviser, business broker, law firm or accounting firm. This article is general information, not legal, tax or investment advice.