Buyer Beware: Is That Shell Company a Shell?

– *updated April 10, 2011 –

Buying a shell company can either be a fast track to listing on an exchange or quotation market or untold trouble for an otherwise great company. Why? Not all shell companies are true shells. They may have unresolved litigation, undisclosed financial obligations, disgruntled stockholders, and a regulatory history that will not go away among other things. Sellers and finders of shell companies are not likely to tell you the entire truth about the problems or potential problems you may be buying with a shell. Their interest is very different than your own. Once they have your money they have no incentive to solve the problems left behind and entering into litigation is a poor remedy for the buyer in this situation.

Currently, there is a glut of failed dot com shells on the US and Canadian Shell market. We strongly recommend you walk away from all of these shells unless you are very familiar with the Principals and previous business involved. It is almost impossible for your legal counsel to find all the contracts, obligations and legal actions launched against these companies without a lot of time and expense and even then there will be questions as to what you are buying into. These companies also tend to carry considerable bad will from stockholders and others who invested in the original business. The history of a bad reputation is hard to shake.

We have advised clients to not proceed in several transactions we have vetted on the basis of our due diligence of the shell company in question. In three instances, the client chose to proceed despite our advice through another attorney. In all three instances the client seriously regretted this decision. One ended up inheriting a litigation action that cost US$750,000 to settle. The shares had been rolled back improperly and the action was disputed by disgruntled stockholders. Another found themselves on the hook for a bank loan of $2.5 million that had been assigned to a third party who subsequently defaulted on the loan. A third found the company they purchased halted by the SEC days after closing. It turns out the sellers knew the SEC was about to issue a trading ban against them and the company. The attorney for the sellers wanted a clause removed from the purchase agreement dealing with potential regulatory actions and the seller’s were pressing for the deal to close ASAP.  We refused to remove the clause and the client chose to close the deal with another attorney despite our warnings.

What Can You Do To Protect Yourself?

In an ideal world, all purchasers are looking for a virgin shell company listed on the exchange of their choice with virtually no business or trading history. The Wolfe letter, and the policy of the National Association of Securities Dealers, have almost eliminated virgin shell companies being available in the US. Any US listed shell company available for sale will have had a pre-existing business at some point in time.

In order to protect yourself and your business involve your legal counsel early in the process. Your legal counsel should vet the shell company and principals to the extent possible and point out any potential problem areas and residual risks they cannot protect you from.

Consider asking if your securities attorney can source a shell company for you. Most know the players in this area and their reputations.  It is not a guarantee you will not encounter problems, but at least your attorney is on your side and not on the side of the seller or the finder.

Ask questions. For starters: when and what business was the shell company involved with? Has the shell company been dormant and if so for how long? Has the company ever declared bankruptcy? Are the financial records up to date, SEC filings, State corporate filings, tax filings, corporate record book etc. Did the company operate in more than one State or outside the US? Were the shares and other securities properly issued? What is the history and background of the Principals involved? Has there been any trading? How did the company become fully reporting? These questions are just the start. Many more questions will need to be answered before you should consider a transaction with a particular shell company.

A Canadian Note

In Canada, TSX-V capital pool companies (“CPC“) are blank check companies waiting for a business venture. In the past, CPC companies were often not considered viable vehicles given the structure of CPC companies, the rules of the TSX-V, and the lack of interest by a majority of US and international investors in TSX-V companies. The TSX has made a number of changes recently to increase the desirability of CPC companies. If you are looking for a shell company you may want to take a look at the CPC option. As of February 20, 2003, there were approximately 70 CPC companies on the TSX-V looking for a RTO with an operating business.

Private companies interested in listing on the TSX-V (usually natural resource companies) often still shop for a TSX-V shell company with a history. You will need to conduct the same type of due diligence on these shell companies as you would for any US shell company.


We are not trying dissuade you from going public via a shell company acquisition  A number of our past and present clients have gone public through shells with little to no serious problems. The trick is: use legal counsel; do the due diligence necessary; and understand the risks you cannot be protected from no matter how much digging you or your legal counsel do on the shell and the Principals involved.

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The articles on this website are not intended to create, and do not create, an attorney-client relationship. You should not act or rely on information on this website without first seeking the advice of a lawyer. This material is intended for general information purposes only and does not constitute legal advice. You are advised to contact legal counsel prior to undertaking any securities transaction. Laws change and there are subtle nuances to the rules that may apply in your particular circumstance.