SPACs: FAQs

SPACs are generally formed by a group of sponsors, usually high-profile and well-regarded executives with experience in a particular industry or business sector. They will sometimes have at least one acquisition target in mind, but they don't identify that target to avoid extensive disclosures during the IPO process. This is why they are called "blank check companies'' as IPO investors have no idea what company they ultimately will be investing in.

A typical SPAC IPO structure consists of a Class A common stock shares combined with a warrant, which gives the holder the right to buy a certain number of additional common stock shares from the company in the future, at a certain price.

Once the IPO is complete and funds have been raised, the SPAC sponsors have 18 to 24 months to de-SPAC or complete an acquisition. Otherwise, funds must return to investors.

Typically, a SPAC will look at target companies that are two to four times its size, and undertake a reverse merger. The sponsors may ask existing institutional investors or new outside investors for additional funds using a Private Investment in Public Entity (PIPE) transaction.

Once the merger completes, the operating company (the target) becomes a publicly traded company by taking over the public company status of the SPAC.

SPACs are typically not allowed to use the raised proceeds for any reason other than an acquisition. So, in case no acquisition is made within the stipulated time, the money will be returned to the investors.

SPAC IPOs can be completed considerably faster than traditional IPOs (often in as little as two months). The financial statements required for the SPAC IPO registration statement are short and can be prepared in a matter of weeks (compared with months for an operating company under a traditional IPO approach). There are no historical financial results to be disclosed or assets to be valued, and business risks are minimal.

For private companies and their owners, a SPAC structure offers a number of benefits:

• A less burdensome, more stable route to public markets than a traditional IPO
• The involvement of high-profile sponsors could enhance the business and increase value
• The opportunity to retain significant ownership interest in the listed company
• A route to market for companies that might be difficult to market through a traditional IPO (for example, because they are unprofitable or have a complicated business history)
• The valuation and stock price is negotiated as part of the merger agreement, providing the company with some insulation from initial market volatility
• An exit opportunity for private equity owners who want to cash out their investment in a shorter time frame than a traditional IPO.

For investors, the attraction is the opportunity to co-invest with sponsors with specific industry knowledge and expertise, who may have access to potential acquisition targets that might not otherwise be available to them through public markets.

A SPAC investment is also considered to hold potential for higher reward with limited risk. Financial institutions have been attracted to SPACs because they offer the opportunity to deploy capital in a challenging economic environment of low interest rates and high market valuations.

• Forward-looking financial statements are a key feature of de-SPAC transactions – outlining expected future financial growth of the target company. As with any forward-looking statements, careful due diligence is essential.
• The success of the SPAC is closely related to the expertise of the sponsors, their cultural and strategic fit with the target company, and potential synergies.
• Valuations take on critical importance, amid a growing trend of valuation arbitrage between private and public equity markets.
• SPACs can be expensive. As part of the transaction, the SPAC sponsor typically receives a block of shares worth about 25% of the IPO proceeds. This can translate to about 20% of the outstanding shares of the new company, perhaps a steeper cost than the company would like to “spend.”
  

Under current listing rules in the UK, an acquisition by a SPAC is treated as a reverse takeover, which means the SPAC must suspend trading its shares once a target company is acquired until a prospectus is published and transaction completed. This has fueled a trend for UK businesses to tie up with US SPACs to effect an IPO in the US, in order to circumvent this rule.

In March 2021, the FCA announced that it will undertake a short consultation on UK listing rules around SPACs. It is widely expected this consultation will result in an easing of the share trading suspension requirement before the end of this year.