A subsidiary spin-off is a transaction where a parent corporation’s stock ownership of a subsidiary is distributed to the parent corporation’s shareholders giving the shareholders direct ownership of the former subsidiary. Typically, the subsidiary shares are distributed to the shareholders pro rata as a dividend. In fact, two of the requirements for an unregistered spin-off, as set forth in Staff Legal Bulletin No. 4 issued by the Securities and Exchange Commission, are that the distribution be pro rata and that no consideration be paid by the shareholders (i.e. a dividend).
A more complex form of a spin-off is commonly referred to as a Reorganized (“D”/355) which is where the parent corporation forms a shell subsidiary, transfers the stock to the shell subsidiary, which in turn distributes the stock to the parent shareholders.
Reasons for Spin-Offs
There are many reasons a company may choose to complete a spin-off, however, the most common reasons include: (i) to separate profit centers to increase shareholder value; (ii) shedding in-house providers to free up regulatory or other conflicts; and (iii) separating regulated and unregulated businesses.
Using a dividend to distribute the subsidiary stock usually means no shareholder vote or approval is required. However, a vote may be required if the subsidiary constitutes all or substantially all of the parent’s assets. Practitioners must review state corporate law to be sure to abide by voting requirements.
Parent Company Compliance
Under federal securities laws, if a vote is required, the parent must comply with the proxy requirements of Section 14 of the Exchange Act of 1934 and the rules promulgated thereunder. If no shareholder vote is required, the parent corporation must comply with Staff Legal Bulletin No. 4. In particular, the subsidiary shares (the shares distributed to the parent company shareholders) do not need to be registered if the following five conditions are met: (i) the parent shareholders do not provide consideration for the spun-off shares; (ii) the spin-off is pro-rata to the parent shareholders; (iii) the parent provides adequate information about the spin-off and the subsidiary to its shareholders and to the trading markets; (iv) the parent has a valid business purpose for the spin-off; and (v) if the parent spins-off restricted securities, it has held those securities for at least one year. Below is a discussion of each of the five conditions.
The mechanics of actually distribution the subsidiary shares involve: (i) setting the exchange ratio; (ii) fixing the record date; and (iii) having the transfer agent issue and mail the shares.
The risks of a spin-off are generally minimal and include losing valuable revenue of the subsidiary and shareholder complaints or lawsuits.
Securities attorney Laura Anthony provides expert legal advice and ongoing corporate counsel to small public Companies as well as private Companies seeking to go public on the Over the Counter Bulletin Board Exchange (OTCBB). Ms. Anthony counsels private and small public Companies nationwide regarding reverse mergers, due diligence on public shells, corporate transactions and all aspects of securities law.
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