Special Purpose Acquisition Company (SPAC) – Definition
In order to list a SPAC on the London Stock Exchange, the step by step process begins with an Initial Public Offering (IPO).
This will give sponsors the opportunity to attract investment from those seeking to generate returns via an acquisition or another asset.
A special purpose acquisition company (SPAC) is a “blank check” shell business company, formed by private individuals, that is set up to raise capital through an initial public offering (IPO), with the idea to merge or acquire another private company business.
SPAC investment in 2020 witnessed more than $80 billion in gross proceeds.
What is the advantage of SPAC?
Basically, SPAC is a much cheaper and faster path to public ownership, courtesy of an experienced partner
- A great opportunity for SPAC’s sponsors secure large shareholdings in that private company
- Paves way for a much better and greater control
The Financial Times reported that US SPACs raised $41.7B in the first 9 months of 2020, representing 44% of all public offerings. A new one is targeting #medicaltechnology.https://t.co/uo0k7p2PWz#medtechdownload #investing pic.twitter.com/Ze4H78AD5j
— Jaunt – Building Up Great Companies (@Jaunt_up) December 10, 2020
How Does A Special Purpose Acquisition Company (SPAC) Work?
The industry definition of a special purpose acquisition company is ‘a newly incorporated company with no existing operations or underlying business that is founded by one (or a group of) sponsors, being well known entrepreneurs, private equity or industry experts with the objective of making one or more platform acquisitions.’
In general terms, funds for the company are acquired via IPO, and these will then be used to make an acquisition. You may have heard the term ‘blank check’ company when discussing SPAC’s, whose investment strategy will be made public in its listing document.
Shares and warrants are often received by investors upon IPO, whilst founders/sponsors will normally hold ordinary shares or performance related preference shares entitling them to an enhancement once the share price following acquisition reaches a 15% hurdle. That will be in addition to their 10-20% equity holding.
Known as a ‘promote,’ the reason for so doing is to incentivise the founders to generate value for and create positivity with institutional investors. Founders should also be looking to undertake certain requirements to the SPAC in order to be able to execute the acquisition.
Funds raised from institutional investors via IPO should ideally be kept in a ring-fenced bank or trust account, and not released until the acquisition is complete.
Should the acquisition not complete within a specified timeframe, which is often set at two years from initial fund raise, monies will be returned and the company wound up.
‘First loss’ capital is a term coined for when monies are returned to investors before sponsors, the latter of whom will generally have to take the financial hit if the company is wound up.
It’s therefore incumbent upon founders to identify the acquisition and execute the deal as quickly as possible and within the stated investment strategy.
Is SPAC a good investment?
Interestingly, though SPACs are becoming more popular these days, they’ve been around for years.
Though it’s unwise to jump on the bandwagon because it might seem to be the fashionable thing to do, the fact remains that the number of SPAC IPOs has increased year on year for the last four years.
Even when the markets slowed throughout 2020, it’s notable that more than £50 billion was raised in the 10 months to October of last year.
It’s become abundantly clear why SPACs are so popular with both the investing public and private operating companies too.
Turning a private company into a publicly traded one takes less time with a SPAC, given that the de-SPAC process will normally take just half a year from an initial letter of intent to the de-SPAC transaction. Compare that to 12 months or more via the IPO route. Indeed, the long drawn out IPO process is avoided.
Not to mention that investors appear to prefer the unique options afforded by a SPAC, which include walking away via forcing a redemption.
Operating companies also have the opportunity of cash payouts to private shareholders once the deal has closed, whilst gaining access to the capital markets from the public equity issued in the acquisition.
SPAC vs IPO
The reverse of a traditional IPO is one way of explaining the difference between it and a SPAC. Simply put, an IPO is a company looking for money, a SPAC is money looking for a company.
Acquiring a private company to put in its shell within two years is often the reason that a SPAC will go public first. This helps the management team to raise significant amounts from large institutional investors.
Speed to market is one reason why SPACs are now preferred to IPOs. Further, given that there is long-term investment involved because of the way funds have been raised, rather than say trying to hawk the company to investors around the country, there is added assurance.
Investors clearly understand that the auditing process is considerably shortened because, with no company in the shell, there are a lack of financial statements and related material and therefore fewer SEC comments.
SPACs allow founders to get assurances from investors earlier too, as opposed to the night before as has happened with IPOs.
The SPAC IPO process
To begin the process, units of share (cash shell) and one/two warrants undergo an Initial Public Offering (IPO).
This would almost always see that 100% of gross proceeds are held in trust, and with SPACs in particular, the sponsor subscribes for founder securities and purchases additional warrants.
With regards to the cash shells, sponsors will purchase founder shares and these will represent the ‘first loss’ capital in the case of no acquisition.
A portion of the underwriting fee is paid upon closing with the balance deferred.
Common practice dictates that an over-allotment option is usually in favour of underwriter.
In order to source their target company, the sponsor will use their industry knowledge and make use of their business network.
It’s normal practice for the completion of an acquisition to take an average fixed period of 24 months. However, longer timelines can prove to be attractive investments in weaker markets.
At this stage the company will raise debt as well as using proceeds and issuing equity to ensure that an acquisition of a particular target can be funded.
A Special Purpose Acquisition Company will need shareholder approval, which will often mean undertaking a roadshow for investors and shareholders.
The cash shells need board approval only.
In order to become a normal operating company, it has to ‘de-SPAC.’ This involves paying a deferred underwriting fee and having the business operating under a public listing in order that it can create value for sponsors and investors.
Should the business combination not be executed within the agreed timeline, then liquidation occurs.
In that eventuality, proceeds are returned to shareholders minus any expenses.
SPACs in Europe
There were 190 SPAC listings delivered in the US during 2020 – with a total of $63 billion raised – whilst European-based SPAC listings lagged behind in comparison.
European listings have generally been focused to this point on consumer, technology and healthcare, however, it’s believed that during 2021, the pipeline of SPACs in Europe will significantly increase.
De-SPAC-ing in the US should see additional capital available, which is bound to increase confidence in all markets. An uptake in Europe could see a SPAC generate as much as 4.6%, paid in full at the merger stage compared to European IPOs meagre 3.4% of the deal value by comparison.
There is less flexibility with a European SPAC compared to a US one, mainly due to the legal structuring. For example, US investors are allowed to redeem shares should they decide not to back the acquired company, and some European investor-led SPACs have therefore decided to to list in New York. A familiarity there with the product there is what has seen the surge to list, however, European investment and SPAC vehicles are expected to ramp up in the coming months.
SPACs in London 2021 – What to expect
The London market will remain viable for SPAC sponsors in 2021, however, the question is whether interest in listing there will ensure a bigger migration from elsewhere to London this year.
There is certainly evidence that some US-based SPACs are targeting businesses outside of that country, with London an obvious focal point. Indeed, LSE standard segment-listed SPACs do tend to have some features which will make them appealing to stakeholders.
When looking at differences between London-listed and New York-listed SPACs, there is a significant issue surrounding shareholder rights when De-SPACing.
The UK doesn’t require shareholder approval of the acquisition for example. US shareholders can redeem shares when closing the acquisition.
Investors in US SPACs generally have more control and flexibility in certain aspects, which would therefore make a UK SPAC unattractive, albeit reduced execution risk by way of a lack of protracted timetable makes a UK SPAC far more competitive for private equity buyers and, consequently, a much more attractive proposition.
Under the LSE’s listing rules, the classification of a London-listed SPAC’s initial acquisition being regarded a ‘reverse takeover’ ensures that trading is suspended in the SPAC’s securities at the time of announcement. This lasts right up until an FCA-approved prospectus relating to the enlarged business is published.
Although there are reasons for and against London, on balance, it is our belief that an LSE-standard segment-listed SPAC is the right route to go down in 2021.