The Rise of SPACs in the post-COVID market
By Luis Felipe Catao, Head of Law at KCL M&A Society
SPACs have been the steering wheel of the global M&A market in 2020. Why? Will the American boom spread to the UK?
The acronym “SPAC” stands for Special Purpose Acquisition Companies. A SPAC is a newly incorporated company with no operational business – also known as “shell” or “blank-cheque” companies. Ultimately, SPACs are companies that will raise funds through an IPO with the objective of subsequently merging or acquiring a private company.
To ensure the SPAC complies with its prospectus, the proceeds from the IPO are held in a trust account until a Target is flagged or the shares are redeemed by the investors. In the United States, investors usually can redeem their shares in a SPAC if the company fails to secure a Target within 24 months. This means that the SPAC is prevented from spending the funds raised from the IPO otherwise than to finance a merger or buy back the shares from investors. Investors in shell companies can range from well-known private equity funds and hedge funds to the general public. Funds that have invested in SPACs include hedges Third Point, Glenview Capital Management and Bill Ackman’s Pershing Square Capital Management as well as private equities Apollo Global and TPG Capital. These stand to profit after the Target has been taken over.
In the past few months, the number of SPAC IPOs has soared to unprecedented levels. In 2020 only (YTD), there have been 141 SPAC IPOs, tripling 2019’s total of 58. Perhaps what is most impressive is the fact that over 65% of these have taken place after august. Why is that the case?
Source: Refinitiv through FT
There are three reasons why a private company might choose to go public through a SPAC as opposed to the traditional IPO. Firstly, it allows for a negotiation of how much the Target will earn in going public since this will be financed by the SPAC. The stock market can be unpredictable – especially during a pandemic – and negotiating the terms of a public listing provide a luxury that is simply unavailable through the traditional IPO. Secondly, the Target company stands to benefit from the SPAC’s expertise. For instance, Hyliion added Vincent Cubbage and Stephen Panh as new directors of their board following their merger with shell Tortoise Acquisition Corp. Thirdly – and most importantly – listing a private company through a SPAC is faster than a traditional IPO. This is due to the complex listing requirements of an IPO that can take up to years before completion. Releasing a prospectus, finding a sponsor, and filing with the relevant authorities are just a couple of examples. Because these requirements have already been complied with by the SPAC at the very outset, a private company can become public in a matter of a couple of months. In the words of Playboy’s Ben Kohn, a SPAC provides unmatched “efficiency” in relation to the traditional IPO.
This dynamic aspect of a listing through SPAC justifies the soaring number after the pandemic crisis. The coronavirus has filled the market with uncertainty and negatively impacted the vast majority of industries – be that through falls in demand, disruption of supply chains or regulatory changes. All of these have had a direct impact on companies’ net revenue. Therefore, businesses – especially private companies whose shares cannot be bought from the comfort of the general public’s computer – have experienced cash flow issues through no fault of their managers. In summary, COVID has made access to liquid capital more important than ever. In this vein, companies have resorted to the public market for those funds. And what is the quickest way to go public? A SPAC.
Nonetheless, SPAC IPOs are not a bed of roses. The main disadvantage of a SPAC merger for private companies will be having to dilute a significant proportion of its shares. One of the key elements of a SPAC acquisition is that initial sponsors of the SPAC get a proportion of shares in the Target. This can be costly and is one of the reasons why SPACs have had a negative reputation in the past years; they were mainly seen as a way for sponsors to get rich. Ultimately, it is likely that the price of benefiting from the myriad advantages of a SPAC is that the deal can be more expensive than a traditional IPO.
Will the SPAC boom spread to the UK?
Although SPACs are booming in the US, the total number of UK SPAC IPOs in 2020 is zero. To say more, it is unlikely that this boom will spread across the pond. The regulatory framework of the UK does not mirror the favourable conditions for SPAC success as its American counterpart.
Firstly, shareholders in a US-listed SPAC are given the chance to vote on what company will be acquired. SPACs listed on The LSE do not have to comply with such a requirement. In times where investors do not want to take on significant risks, putting their faith in the board of a SPAC can be costly. Secondly, national investors in the UK do not view SPACs with the same set of eyes that the Americans do. These place an unparalleled concern with the possibility of cash drags. Finally, the listing of the SPAC’s shares on the Main Market will be suspended upon announcement of any acquisition in the UK, preventing potential investors from trading shares until the enlarged company releases a new prospectus. This procedural requirement kills the entire purpose of utilizing a SPAC IPO in times of crisis: speed. These factors are reflected by the discrepancy between the number of US SPAC IPOs and UK-based IPOs in the past years.
This year’s “SPACs-boom” is a direct result of the financial consequences of the coronavirus crisis – notably, the need for liquidity. In this vein, this need can be satisfied faster through a SPAC acquisition than public listing through an IPO. Although the US has proven fertile soil for successful SPAC-led IPOs, this fever is unlikely to infect the UK.
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