Going public through the de-SPAC process as an alternative to the traditional IPO initially presented benefits to privately held companies, allowing them to go public more quickly to take advantage of favorable market conditions, particularly during the height of the COVID-19 pandemic. U.S. de-SPAC listings rose significantly over the past year, aided by a surge in retail participation in the market created by the growth in low or no commission trading platforms. In 2021, there were 302 de-SPAC deals with $622.9 billion invested, with year-on-year gains of 152% in 2020 and 182% in 2021 (Source). However, in the first quarter of 2022, total de-SPAC deal value equaled only $8.13 billion, compared to $54.59 billion in the fourth quarter of 2021 and a peak of $147 billion in the first quarter of last year (Source).
This method of going public can present unique challenges for some companies, including limited or no sell-side sponsorship, an initially unstable investor base, an extended roadshow process between the combination announcement and listing day – and very high investor expectations. Target companies that go public by merger with a SPAC have much more latitude to give projections of future performance than they would with a traditional IPO. If those projections are not met, the market reaction can be devastating.
Many of the companies that went public via SPAC have today fallen below their listing price and have considerably underperformed the broader market. According to Bloomberg, the IPOX SPAC Index fell 9.5% during the first quarter of 2022, which was its worst quarterly performance since the index was launched in July 2020. This contributed to a decline of more than 22% over the past three quarters (Source), versus a market drop of 9.5% from July 1, 2021 to March 30, 2022 for the broader market (i.e., the Russell 2000.)
The most dramatically underperforming companies in this group are sometimes poorly understood or have not come close to meeting their initial projections. Many lack experienced public company management and have only fledgling investor relations programs, which make them ideal targets for activist investors.
Some of these companies may attract investors who see value creation potential from a future catalyst, but activist investors are, at their core, value investors who at some point decide to become the catalyst. So, what can vulnerable companies do now to prepare for increased investor criticism and reduce the odds of becoming an activist target?
Here are some steps they can consider:
- Reevaluate your investment narrative to ensure it reflects current company, industry and macro realities. The economy and ability to fund losses and raise capital have changed dramatically since the heyday of de-SPAC listings. Reset targets as necessary. This may require an internal review of the company’s strategy combined with a candid assessment of investor and analyst perceptions. Companies whose growth prospects have changed through no fault of their own have a unique second chance to get it right and begin rebuilding credibility with investors simply by demonstrating their ability to adjust to new business conditions.
- Get to know your shareholders. Identify those likely to be supportive of management in the event of a proxy contest and those that may be more sympathetic to an activist’s campaign – then engage with them accordingly. Proxy solicitation firms are especially good at determining this, so we typically urge our clients to use one even if there are no contested items on your annual meeting proxy.
- Think like an activist and understand your vulnerabilities. Determine the likely value-unlocking actions that could be pushed by an activist, and the critiques of the board and management that the activist might use to convince shareholders that its plan is needed. Prepare to provide rationale for corporate strategies that activists may question. Take action, if possible, to remove these vulnerabilities.
- Be ready. Conduct “tabletop” activism preparation exercises and ensure alignment among the executive team on potential responses. Your initial reaction to an activist can have a significant impact on the outcome of the engagement. Activists often say that a company’s unwillingness to engage in good faith at the outset leads to escalation and intransigence.
Many companies that have gone public through the de-SPAC process face significant challenges; however, being caught off-guard by an activist doesn’t have to be one of them.