Starting off the January gates at a blistering pace, electric vehicle (EV) manufacturer Mullen Automotive (NASDAQ:MULN) recently found itself struggling for traction. Incurring choppy trading on Tuesday, MULN stock dipped half a percent in the late afternoon session. Currently, investors must weigh the potential impact of both a reverse stock split approval and a critical court hearing.
First, according to a Form 8-K filed with the U.S. Securities and Exchange Commission (SEC), Mullen disclosed that its shareholders voted for approval of a reverse stock split. From the 8-K document, the split will occur “in an amount not less than 1-for-2 shares and not to exceed 1-for-25 shares, with the exact ratio to be set within that range at the discretion of our Board of Directors.”
On paper, a reverse split should be a positive catalyst for MULN stock. A few days ago, Bloomberg warned that Mullen effectively drowned its stakeholders in shares. True, the dramatic expansion of outstanding shares into the billions made MULN one of the most active of all U.S.-listed stocks based on volume.
However, as Bloomberg’s Chris Bryant wrote, “Mullen is case study for the dangers of creeping shareholder dilution and how as the tech bubble bursts, retail investors can find themselves taken for a ride.” Once up over 31% on a year-to-date (YTD) basis, MULN stock now sits around 6% below parity.
Perhaps most tellingly, the Financial Industry Regulatory Authority (FINRA) warned that low-priced, high-risk stocks tend to attract reverse splits. Generally, investors see through the cynicism — usually to stay listed on a major exchange — thus resulting in negative outcomes.
MULN Stock Stuck at a Crossroads
To be sure, not all cases of reverse stock splits lead to long-term equity erosion. It’s not completely out of the question, then, that MULN stock could benefit from the aforementioned proposal. However, this debate may become moot pending the results of two putative shareholder class action suits.
Essentially, the lawsuits allege that the increase in the share count of MULN stock — supposedly approved during last year’s annual shareholders’ meeting — should never have occurred. The issue centers on a dispute regarding the eligible share count, with the allegation that a majority did not grant an expansion of shares.
Both plaintiffs filed suit with the Delaware Court of Chancery, which must side with either the plaintiffs or Mullen. Unfortunately, that’s where the matter gets tricky.
If the Court of Chancery sides with the plaintiffs, Mullen would have effectively increased the count of MULN stock beyond the authorized limit. According to the Corporate Finance Institute, authorized shares represent the “legally allowed maximum number of shares that a company can issue to investors.”
Of course, companies can always raise this limit, but they must first receive authorization to do so. If a majority of stakeholders of MULN stock did not vote for an expansion of the share pool last year, then the subsequently issued shares will likely be voided.
At time of writing, Mullen did not disclose the results of the court hearing.
Why It Matters
After sparking intense interest earlier this month, reality may be creeping in on MULN stock. Further, data from Fintel reveals a steady rise in short interest against Mullen shares. On Jan. 10, the short interest reached 10.83% of MULN’s float. Yesterday, this stat hit 14.83%.
On the date of publication, Josh Enomoto did not have (either directly or indirectly) any positions in the securities mentioned in this article. The opinions expressed in this article are those of the writer, subject to the InvestorPlace.com Publishing Guidelines.