In the past two years, SPACs — short for special purpose acquisition companies — have created considerable buzz. Raising record sums and drawing high-profile investors and founders, these “blank-cheque” or “blind pool” companies have become an increasingly attractive investment and acquisition vehicle and are poised to retain a vital place in our capital markets. SPACs are an attractive vehicle for potential sponsors and, at the same time, provide retail investors with an opportunity to co-invest in a vehicle similar to a private equity fund. Investors, sponsors and targets alike have much to gain from SPACs but not without some risks.
Below is a summary of the main advantages and challenges associated with SPACs.
Investors are issued both shares and warrants in a SPAC initial public offering (IPO). However, they benefit from downside protection as, at the time of the qualifying acquisition (or “de-SPAC”), they can redeem their shares if they do not like the choice of target company. They can also trade warrants separately from shares or keep them and exercise them for shares in the resulting company.
Founders (or sponsors) typically subscribe for a 20% equity interest in the SPAC on closing of the IPO for nominal consideration. Balancing this upside is the financial risk faced by the founders who must capitalize the SPAC with sufficient “at-risk capital” to cover launch-related and operating costs.
Targets, on the other hand, find SPACs attractive due to the available cash and ability to lock in their value early in the process and therefore not be subject to the whims of the market and lengthy IPO road shows.
Not every SPAC is the same, so investors in a SPAC should consider the SPAC’s specific features, including capital structure, the qualifying acquisition timeline, and the experience and history of the founder group. As for target companies, they need to understand not only the SPAC structure, but also the differences between potential buyers.
While a SPAC IPO is relatively straightforward, the qualifying acquisition is more challenging to complete. Recent innovation in the SPAC sector is intended to address this challenge, including creative new structures such as the use of "stapled" units, where the share and warrant separate only after closing of the qualifying acquisition, and forward purchase agreements, where investors agree, as part of the IPO, to commit funds on closing of the qualifying acquisition without the right to redeem.
Have more than five minutes? Contact Norbert Knutel, Jill Davis or any member of our Capital Markets group to learn more. You can also check out our recent Continuity podcast on SPACs.
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