There’s no denying that 2020 has been a SPAC-tacular year, with an impressive, record-setting number of SPAC transactions both announced and closed, met with equally impressive returns. Not surprisingly, public attention has followed, with top-tier media coverage on the topic already doubling in 2020 from 2019, according to Factiva data.
On Thursday, August 13th, we hosted a webinar entitled, “SPAC to the Future: A conversation on seller considerations for the new era of SPACs.” Moderated by Managing Director and Head of M&A and Activism, Pat Tucker, and Senior Vice President, Sheila Ennis, the two were joined by a panel of experts from Freshfields, J.P. Morgan and Morrow Sodali for an in-depth discussion on the ins and outs of SPACs. The panel identified many of the drivers observed in the recent SPAC 2.0 era, the considerations for target companies when evaluating whether a SPAC is the right choice for going public and what’s next for this alternative transaction structure and asset class.
What is a SPAC?
SPACs, or special purpose acquisition companies, are corporate vehicles created for the sole purpose of acquiring an existing private company and taking it public. SPACs go public through a typical IPO process, the proceeds from which are put into a trust to be used exclusively to complete an acquisition. SPACs are typically sponsored by an institution or group of individuals with expertise in a particular industry or sector and have typically 24 months to identify a target company, acquire it, and close the deal. In most cases, if this does not take place within the specified time period, the SPAC is required to liquidate its capital back to the original investors, typically with interest. This time around, high profile investors are launching SPACs, bringing increased prestige to a transaction approach that has historically been considered a capital raise of last resort.
Once a target is identified and the merger transaction is announced to the public, the pressure is on to complete the deal within the prescribed completion window. The attorneys on the panel shared that while many of the disclosure rigors of the traditional IPO are similar to the process for being acquired by a SPAC, the marketing process is truncated and is vastly different from the rigors of two weeks of travel for face to face meetings with potential investors. At a special shareholder meeting held after the applicable disclosure document clears SEC review, the SPAC shareholders have the option to vote in favor of the transaction, and subsequently keep their shares in the target company or require the SPAC to redeem their shares for cash.
While there have been other cycles during which SPACs enjoyed popularity, they have experienced an unprecedented surge in the past year, with over $50 billion in completed SPAC deals since January 2019, and over $25 billion in SPAC capital raised in 2020, according to data from SPACinsider. But why are we seeing more SPACs now than ever?
Panelists at Thursday’s webinar discussed the momentum in SPACs being driven by a number of factors, including the fact that there is a stronger appetite among institutional investors this time around, and their interest is being amplified by a very active retail investor base that has entered the market during the COVID-related shut down. Higher quality sponsors, from former buy-side executives and seasoned dealmakers, such as Bill Ackman, to established PE firms and institutions, such as TPG and Goldman Sachs, are all throwing their hats into the SPAC ring. Their deep relationships are drawing more committed capital than ever before, spurring more interest from other savvy institutions and dealmakers. Additionally, the high-profile successes of the recent SPAC transactions for Nikola, Clarivate and DraftKings, among others, draw more attention, and more importantly, capital, to the burgeoning space.
SPAC or IPO: How to go public?
When evaluating different methods of going public, the panelists all agreed that targets must first consider their capital raising needs and operational objectives. For companies not in need of primary capital, a “direct listing” might be the easiest route. But for companies in need of primary capital, both the SPAC and IPO process provide a better vehicle for tapping into the liquidity of public markets.
One significant differentiator for companies choosing between SPACs and IPOs is price discovery. Unlike IPOs, which price the offering at the conclusion of a roadshow process that includes conversations with potential institutional investors, SPACs will negotiate and agree on a company’s valuation at the time of signing the definitive merger or business combination agreement. For companies in industries with regulatory uncertainty, such as gaming or cannabis, or for companies that are pre-revenue or more difficult to value, the SPAC process allows for a negotiated price among involved parties. Additionally, for companies with end-market or supply chain uncertainty, a SPAC provides a vehicle to fund the balance sheet and facilitate additional acquisitions to roll up a fragmented industry.
With SPAC transactions, sponsors can bring committed capital into the vehicle via PIPE (private investment in public equities) transactions. PIPE transactions are still subject to the SPAC requirements (including the requirement that the deal close within a prescribed period), but if approved, it leaves the standalone, “de-SPACed” company with a pool of certain capital from the onset.
From the perspective of target companies interested in going public, SPACs pose unique benefits that are particularly notable:
- Direct Dialogue with Investors – While SPACs are already publicly listed entities, there are slight differences in the requirements and conventions for disclosure compared to companies that choose the IPO route. Through the SPAC, the target company can share financial projections directly with the market instead of through the mouthpiece of a sell-side analyst or investment bank. For companies that value direct projections, or perhaps are more aggressive with their projections than analysts, SPACs provide an opportunity to have a more transparent dialogue with investors and share the company’s story more directly.
- Sponsor Support – Partnering with a strong sponsor has many advantages for targets, which usually benefit from the resources of an experienced business leader committed to identifying the best possible deal to create value for all stakeholders. Strong sponsors can also tap into their respective networks to build strong management teams for targets and gain access to additional capital through PIPE investments.
- Focus on Building the Business – With a well-qualified sponsor guiding the transaction, although some degree of marketing and investor engagement cannot be completely avoided, in a SPAC transaction, companies don’t have to take part in the traditional IPO roadshow process, which requires significant time and energy from the management team in order to market their company to investors. From management’s perspective, this allows the leadership team to continue focusing on the operations of the business and not get distracted with the complexities and time demands of navigating the IPO process.
While SPACs have a clear set of benefits, they certainly don’t come risk-free. At Thursday’s webinar, the panelists discussed some of the risks and additional considerations for targets considering going public via SPAC:
- Process Uncertainty – As is the case with all SPACs, the amount of cash that will be available following redemptions is inherently uncertain. For SPACs that can’t guarantee a certain amount of cash, sponsors might have to look to PIPE offerings or some other form of financing to generate additional commitments. The fluidity in deal terms also makes merging with a SPAC potentially risky, as the “de-SPACing” process after a target is identified and an agreement finalized is reliant on market reception. Although early price discovery might present a benefit to some companies, the re-negotiation of a deal when a business has been incorrectly valued and potential redemptions exceed expectations can pose some unforeseen challenges.
- Resource Risk – For some companies, the shorter timeframe of the SPAC process circumvents the hard work that helps them build the muscles needed to be public companies. Companies that take the SPAC route may find themselves lacking support resources. They might have strong finance functions, but without a strong investor relations capacity, companies may struggle to move quickly to adjust to their new reporting obligations and the shareholder engagement reality inherent in the public markets.
- Shareholder Rotation – A strong investor relations function is critical to being able to navigate the transition to long-term public shareholders as a target is acquired and publicly lists via a SPAC. Once the dust settles and some of the hedge funds and short-hold retail investors cash out, their positions need to be filled with the fundamental, long-term institutional investors that will make up the company’s shareholder base going forward.
With both SPACs and IPOs, the end goal is the same – go public, raise capital and create a liquid currency. Regardless of which process is selected, private companies need to be prepared to move ahead as an efficient public company that can comply with a very different set of rules and requirements to what they were formerly accustomed to.
Right now, the SPAC pipeline remains strong, and Thursday’s panelists indicated that this trend is likely here to stay. As serial SPAC sponsors continue to make deals, they will continue to pave the way and encourage more sponsors to enter the space. With a market ripe with hundreds, if not thousands of strong targets for SPACs, there is plenty of interest in going public with the help of a SPAC sponsor, and target companies are becoming more and more comfortable with SPAC acquisitions as they become more ubiquitous. In private equity as well, SPACs represent an attractive opportunity for investment firms to take their holdings public and create an effective exit.
Overall, SPACs offer very real and convincing opportunities to generate liquidity, value and return to shareholders. As with anything in business, SPACs are not risk-free and come with potential tradeoffs from listing via the traditional IPO process. Companies that find themselves considering a business combination with a SPAC will need to assess these risks in deciding not only whether they are ready to list, but also how they will list in order to generate maximum yield for existing and future equity holders