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Watching a stock you own get delisted from an exchange can be a traumatic event. It’s like getting yourself removed from a golf membership club because you are no longer worthy. With the current 2008 economic conditions, many companies are facing the risks of getting delisted from exchanges because most exchanges require the stocks to trade at a mininum of $1/share to stay listed. Nasdaq has recently issued an alert about its temporary suspension on minimum bid and market value requirements [PDF] so that businesses can focus on their core operations rather than complying with exchange listing requirements.

If you own some of the stocks that are already trading below $1/share or have been issued a warning for delisting, don’t fret just yet. All may not be lost. Sure, by now, you probably would have lost a bundle on paper. But it is essential to remain objective and focus on what you could do to get over this period of uncertainty. Here are a few tips on how to cope with a stock facing the threat of exchange delisting.

Step 1: Learn the Pros and Cons of Being Listed on Exchanges

Exchanges are like exclusive membership clubs. A business has to meet certain requirements to qualify for listing on exchanges. Different exchanges have different requirements. Nasdaq is generally more lenient and targeted towards smaller, high growth businesses such as high-tech companies. NYSE has a stricter list of standards and also charge higher listing fees; up to $250,000 annually. Members in the NYSE includes most blue chip companies that are more stable. A company is not necessarily a superior company just because it can afford the higher fees to get listed on NYSE. Some smaller companies choose to enlist on “lesser” exchanges like NASDAQ and AMEX due to the cost savings to be had. Remember, the exchanges are created to make capital more accessible to businesses, not just for investors to profit from trading stocks. So, being delisted from an exchange doesn’t necessarily mean that the company is dead in the water. All it means is the company will have a harder time raising equity capital. Many private companies do just fine by issuing debt in lieu of selling shares.

Step 2: Understand The Reasons for Delisting

Despite the prestige that comes with an exchange listing, some companies choose to voluntarily delist from an exchange. These companies would usually choose to delist because the company has merged with or been acquired by another company, or management and shareholders of the company decided to take the company private. Believe it or not, a voluntary delisting can sometimes be a good sign. Some smaller companies such as S & K Brands delist to save on the high cost of complying with regulations such as the Sarbanes-Oxley Act and exchange listing fees. [1]

Most companies however get delisted involuntarily. This could be due to a failure to satisfy exchange listing requirements such as minimum bid price, minimum publicly traded shares, minimum shareholders’ equity, or minimum market capitalization. A notice to delist usually indicates the company is already in deep trouble and could be headed for bankruptcy. Read the notice of intention to delist issued by the exchange to determine what rules are violated. If minimum bid price is the only reason for delisting, the business could be doing okay. The market may very well be just overreacting.

Step 3: Understand What Happens to a Delisted Company

When a company gets delisted, the company does not cease to exist. All delisting means is that the company will no longer trade its shares through the major exchanges. Instead, it will continue to trade in the public on Over-the-counter Bulletin Board (OTCBB) or the less regulated Pink Sheets. Demand for the shares will drop significantly because many institutional investors are prohibited from investing in penny stocks due to their inherent risks. When there is less demand for the stock of a company, liquidity of the shares could be a problem. In other words, trying to sell your shares may take longer than it would have taken at the major exchanges, especially if you own a lot of shares.

Too, since the price per share of delisted stocks are usually less than $1/share, the stocks are highly volatile. A $0.05 increase in the price of a stock that’s trading at $0.50/share results in a ten percent increase. Because of the volatility, some adventurous day traders would call the OTCBB and Pink Sheets fertile hunting grounds for huge profits. You could make a 50% profit in a matter of hours. But on the flip side, you could lose just as much. Such trading is definitely not for the faint-hearted.

Step 4: Re-evaluate The Value of The Business

The next step is to re-evaluate the value of the business. What has changed since you last analyzed the business? What caused the market to change its view towards the company so drastically? What is the prospect of the business? Does it stand a chance to restore its former glory? Is the cause for delisting temporary? Can management pull the company together and turn it around? These are all questions you should be asking about the company.

As gloomy as it sounds, this is the time to consider the liquidation value of the company. Will shareholders have anything left after all creditors have been paid off? What is the likelihood of the company regaining its good standing at the exchange?

Step 5: Hold or Sell

Once you have analyzed the business, you must act decisively. If you have decided that the problem is temporary and there is light at the end of the tunnel, by all means stick to your guns and hold on to the stock. Otherwise, it is time to bite the bullet and cut your losses. As painful as this may be, you will thank yourself in the future for having the courage to act.

Step 6: Conduct a Post-mortem

Don’t forget to conduct a post-mortem. Understand what went wrong. Find out what you could have done better to avoid this kind of costly mistakes in the future. Be objective. It is best to leave emotions at the door. Ask yourself if there are things you overlooked? Were there assumptions that should have been confirmed before you invested? Most importantly, learn from your mistakes. The lesson learned is very painful, but it will stick forever. And you’re almost guaranteed to be a better investor.

Step 7: Don’t Dwell On The Past

Finally, once you’ve learned your lesson, it’s time to move on. Don’t let the past haunt you for the rest of your investing career. It’s a painful lesson you’ll never forget. But opportunities still abound. Twenty years from now you will be telling this story to your grandchildren in your mansion, laughing away while you’re at it. As the old adage says: You can only learn from making mistakes.

References

1. Jerry Knight, Delisting A Stock Isn’t A Death Knell, Washington Post, May 23, 2005.

Side note: My recent post Read Financial Footnotes, Invest Safely was featured on the Festival of Stocks #116, the Rich Life Carnival #21, the Investing Carnival For November 25, 2008, and the Old School Value’s Recommended Readings - Nov 28, 2008. I enjoyed reading the articles in the carnivals. I hope you do too. If you’re a beginner investor, I suggest you read this post about stock market success for beginners.