Loyola University Chicago School of Law, JD 2022
SPACs have been around for decades and often existed as last resorts for small companies that would have otherwise had trouble raising money on the open market. But they’ve recently become more prevalent because of the extreme market volatility caused, in part, by the global pandemic.
While many companies chose to postpone their IPOs due to the pandemic, others chose the alternate route to an IPO by merging with a SPAC. A SPAC merger allows a company to go public and get a capital influx more quickly than it would have with a conventional IPO.
What is a SPAC?
A special purpose acquisitions company (SPAC), also known as a “blank check company,” is essentially a shell company set up by investors with the sole purpose of raising money through an IPO to eventually acquire another company. One way to think about a SPAC is as the reverse of a traditional IPO. A SPAC goes public first, usually with a highly regarded executive team able to raise money from large institutional investors, with the intent to acquire a private company to put in its shell within about 24 months.
When a SPAC goes public, it has no commercial operations or even stated targets for acquisition. The money raised through the IPO is placed in an interest-bearing trust account and cannot be disbursed except to complete an acquisition or to return to investors if the SPAC is liquidated. SPACs have two years from the IPO date to complete an acquisition or they must return their funds to investors.
Why have SPACs suddenly become so popular?
Six years ago, Goldman Sachs had a strict policy against underwriting SPACs. Four years ago, the New York Stock Exchange did not list any SPACs. Since then, Goldman Sachs has sponsored two of their own SPACs and the NYSE has listed more than 60 SPACs. Economists suggest that this change can be attributed to a combination of a shift in supply and demand and increased SEC regulations.
Supply and Demand: The number of public companies has gone down dramatically over the last 20-30 years, but the amount of money flowing into the public markets has simultaneously been increasing. Because the stock exchanges make their money by bringing on new companies, they’ve pushed to bring more SPACs into the market.
Regulation: The SEC has become more involved, which has proven to boost the reputation of SPACs in the investment world. The SEC has stepped in to set a fixed price for each IPO, as well as regulate voting and redemption rights to the benefit of all parties involved.
Why might a company participate in a SPAC deal rather than a traditional IPO?
Certainty: SPACs take the risk out of the IPO underwriting process. With traditional IPO pricing, the volatility of the markets has a significant influence on how accurately pre-IPO shares are priced in the initial market. This high level of risk can even affect whether or not a company goes public.
Timing: SPAC IPOs are quicker, and filing is less cumbersome than a traditional IPO because the SPAC is a wholly new company, there are no financials to provide to the SEC that you would see with a normal operating company. The entire SPAC IPO process takes less than half the time of a traditional IPO.
What are the regulatory concerns to this traditional IPO alternative?
As SPACs have grown in popularity, questions have arisen regarding the equitable regulatory treatment of SPACs and traditional IPOs for certain similar activities. Many market participants view SPACs as an easier or “backdoor” entry into a public listing. SEC Chairman Jay Clayton said in a September 2020 interview that the agency is critically evaluating SPAC disclosures, especially certain compensation disclosures.
Similarly, the increased popularity of SPACs has led to concerns over investor protection. SPAC IPO investors purchase their shares without knowing the future target companies; if the investors do not like the proposed acquisition, they can get their money back. Some are concerned that a lack of transparency and investor and regulatory scrutiny could be risky for investors. Because SPAC deals in the past have resulted in fraud, market participants remain concerned that investor protection could be an issue if not properly regulated.
According to Goldman Sachs, the SPAC market is showing no signs of slowing down. As the economy recovers and life returns to normal, regulators will be forced to consider how to regulate Wall Street’s hottest new trend.