INSIGHT: The First 90 Days—How Nasdaq Liquidity Rule Changes Impacted the Market

On Aug. 5, Nasdaq’s new liquidity listing standards took effect. While the new standards are unlikely to significantly impact most private companies seeking to list on Nasdaq in connection with a traditional IPO, they have the potential to create substantial additional burdens on smaller companies that are looking to list on Nasdaq through (i) uplisting, (ii) reverse merger or (iii) a small IPO.

Under the new standards, in determining an issuer’s Nasdaq eligibility, Nasdaq now:

1. excludes “Restricted Securities” from calculations of an issuer’s public float, market value of public float and round lot holders;
2. requires that at least 50% of an issuer’s round lot holders hold unrestricted securities with a market value of at least $2,500; and
3. requires a minimum average daily trading volume for securities trading over-the-counter (OTC) of at least 2,000 shares during the 30 trading days prior to listing (with trading occurring on more than half of those 30 days).

The changes to the listing criteria apply to all Nasdaq tiers, but the changes to the Nasdaq Capital Market, which is the tier on which most smaller companies seek to list, will impact such companies, and particularly small Chinese companies, in a number of ways.

Impact on Companies Seeking to Uplist to Nasdaq

An issuer that trades in the OTC markets is required to meet all of the Nasdaq initial listing requirements, including the requirement of having at least $15 million in public float (or $5 million if the issuer meets certain net income requirements), in order to make the leap to Nasdaq.

Under the previous rules, public float included all shares not held by affiliates. Under the new rules, the shares must be “unrestricted” in order to be included in the calculation of public float, even if they are held by non-affiliates.

In addition, in the past, many issuers conducted a reverse stock split before uplisting in order to satisfy the minimum bid price or closing price requirement. These issuers may now need to reconsider this action because they now must also show Nasdaq that they have a daily trading volume of at least 2,000 shares during the prior 30 trading days with trading occurring on more than 16 days unless such issuers will be conducting a firm commitment underwritten public offering of at least $4 million.

Impact on Companies Seeking to List Through Reverse Merger

A “reverse merger” is a transaction whereby a private company becomes a Nasdaq-listed company by merging with and taking control of a Nasdaq-listed company. Upon closing, the private company’s shareholders will own the majority of the listed company’s outstanding stock. However, in many cases, shareholders of the private company are required to lock up their shares for a period of time following the closing of the transaction.

Under Nasdaq’s new rules, the surviving public company in the reverse merger now must have a market value of its unrestricted publicly-held shares of at least $15 million and at least one million unrestricted publicly-held shares.

Under the new rules, all shares subject to a lock-up agreement are now considered Restricted Securities and therefore might prevent the reverse merger company from satisfying the applicable new standards. Companies seeking to list through reverse merger now may need to voluntarily file a registration statement to register additional shares to increase its public float.

In the alternative, companies may choose not to lock up the shares received by the private company’s shareholders, which may cause the stock trading price of the surviving public company following the reverse merger to be more volatile.

Companies Seeking to List Through a Small IPO, Especially Small Chinese Issuers

Historically, many smaller private issuers seeking to raise capital in the public markets have undertaken IPOs with gross proceeds of $10 million or less. Under the new rules, most smaller private companies will need to undertake an IPO of at least $15 million in order to list on Nasdaq unless they meet certain net income requirements.

In light of these facts, these smaller companies may choose or be forced to list their securities on other exchanges.

According to a recent report in Reuters, Nasdaq has become more stringent on approving the listing of Chinese companies undertaking IPOs with a primary concern that the shares of many small Chinese companies trade thinly following their U.S. listing because most of the shares sold in the IPO are sold to, and remain in the hands of, a few insiders.

Under the new standards, instead of having an issuer’s insiders holding most of the shares sold in the IPO while its 300 round lot shareholders only own a number of shares sufficient to meet the minimum Nasdaq standard, a small Chinese company will have to make sure it has at least 300 round lot holders who have at least 100 unrestricted shares and that the market value of such shares of at least half of such holders is at least $2,500.

Nasdaq has broad discretionary authority over the initial and continued listing of securities on the Nasdaq exchange. Nasdaq indicated in its FAQs that it may delay the U.S. listing of an issuer that does not demonstrate a strong nexus to the U.S. capital markets, including issuers having no shareholders, operations, management or board members with links to the U.S.

Certain Chinese companies have recently been required by Nasdaq to provide assurance that a minimum percentage of their offering proceeds will be from U.S. investors and some issuers were required to add U.S. citizens to the board of directors prior to receiving Nasdaq approval.

Any Chinese issuer seeking a Nasdaq listing should consider these factors even if it meets all enumerated criteria for initial or continued listing on Nasdaq.

The New York Stock Exchange has yet to introduce similar rule changes, but it would be prudent for any small issuer seeking a NYSE listing to consider the concerns of Nasdaq.

This column does not necessarily reflect the opinion of The Bureau of National Affairs, Inc. or its owners.

Author Information

Eric Hellige co-chairs Pryor Cashman’s Corporate Group and is also a member of the Banking + Finance Group. Widely recognized as one of the country’s top corporate attorneys, he brings more than three decades of experience advising on corporate transactions, mergers and acquisitions and commercial and securities matters for clients around the world.

Will (Wanglin) Rao is a member of Pryor Cashman’s Corporate Group, where he represents domestic and international companies in corporate and securities matters, with a particular focus on Chinese private and public companies.