A stock swap, which is also referred to as a share exchange, share-for-share exchange, or stock-for-stock, occurs during an acquisition. The company doing the takeover offers its own share at a predetermined rate in exchange for the shares in the company it aims to acquire.
During the initial period, each shareholder of the company being sought for a takeover will be offered a pre-determined number of shares from the predatory corporation. Before the exchange takes place, each party carefully values the company so that a fair swap ratio can be calculated.
In order to make the share exchange appealing, the acquiring company usually offers the shareholders of the other company a premium, offering to buy the shares at a higher price than the one quoted on the stock exchange. The company being targeted for acquisition might use the stock swap as a strategy to resist the takeover.
Another use of the term stock swap occurs in the less common circumstances of an employee who wants to exercise their stock options and turn them into shares. An employee who was a co-founder or early higher of a highly successful startup might find that they have the option to purchase many shares of the stock, but that the money required to purchase those shares is prohibitive. In such circumstances, the employee may use the value of shares already owned to pay for the new shares. Rather than selling those shares to raise the cash to exercise the option, the employee merely swaps out the shares to pay for the exercise of many more shares. A corporation may also use this strategy to gain a larger shareholding in another company.
For more details about stock swaps and their rules, please go to the Boursa Kuwait Rulebook.