On March 11, 2021, the SEC’s Investor Advisory Committee convened and hosted a panel discussion regarding special purpose acquisition companies (SPACs). The panel aimed to shed light on the recent increase in SPAC activity, the risks associated with this increased activity, and potential policy implications.
Acting SEC Chair Allison Lee delivered opening remarks. She noted that SPACs act as a potential avenue for bringing private issuers to the public market. She added the need for appropriate disclosure for SPACs and adequate recourse against sponsors and underwriters. Commissioner Hester Peirce (see Commissioner Peirce’s remarks), Commissioner Elad Roisman, and Commissioner Caroline Crenshaw echoed Acting Chair Lee’s opening points on SPAC investor protection safeguards, misaligned incentives, and regulation relating to SPACs.
We outline key takeaways from panelists below.
SPAC History. Axios Business Editor, Dan Primack, kicked off the panel with a reminder that SPACs are not new; the version we are familiar with today was created in the 1990s. Primack credited the tech IPO bubble in the late 1990s for suppressing the use of SPACs during that time. In 2016, only 14 SPACs were raised, Primack noted, compared to 248 in 2020. There are more SPACs today than in the history of the vehicle’s existence. Primack explained that increased supply of target companies eager to access the public markets was among the key factors driving elevated SPAC market activity. This is evidenced by the hundreds of new unicorns. He also attributed this increase in SPAC activity to the current state of the capital markets and the desire by retail investors to access investments with growth potential. Finally, Primack mentioned sponsor incentives as another driver.
Concerns. Primack raised concerns relating to serial SPAC sponsors. Regulations prevent SPACs from speaking with a target prior to completing its IPO. With serial SPAC sponsors, this is almost unavoidable. For example, in exploring targets for a sponsor’s “SPAC I,” the sponsor has knowledge of a target before a future “SPAC II” is formed. Primack also acknowledged that leaked information regarding SPAC business combinations can negatively impact the outcome of a business combination more so than it would in the context of a traditional merger, as a SPAC’s sole purpose is to merge with a target and its securities trade solely based on this activity. Finally, Primack signaled that retail investors may be less familiar with the risks associated with SPACs.
Access to the Public Capital Markets. Dana Settle, Founding Partner of Greycroft, a venture capital firm, focused on the opportunities that SPACs present. For years, VC investors’ assumption was that M&A transactions were the only exit option for private companies, as public markets were out of reach. SPACs serve as an avenue for growth- stage companies to access the public capital markets.
New Public Company Boards. In Settle’s remarks, she touched on the creation of new company boards’ seats to be filled with diverse members as a result of new public companies stemming from SPAC transactions. Citing a McKinsey study, Settle also noted that board compositions which include operators, not just investors, have been critical to the positive performance of a company post de-SPACing.
Research Coverage. Settle also acknowledged that the health of a newly public company is dependent on adequate aftermarket support and research. The dearth of equity research has plagued many new public companies.
A Sober Look at SPACs. NYU School of Law Professor, Michael Ohlrogge, summarized recent research outlined in his paper “A Sober Look at SPACs.” Prefacing his remarks, Professor Ohlrogge noted his research focused only on companies that went public through a SPAC merger between January 2019 and June 2020.
Post-Merger History. Professor Ohlrogge highlighted that SPACs have dramatically underperformed as compared to popular indices. His research concludes that the costs of a SPAC transactions are twice those of a traditional IPO. According to his research, while a SPAC may raise $10 per share form investors in its IPO, by the time the median SPAC finalizes its initial business combination, the cash per outstanding share generally will be two-thirds of its original value. This is due, in part, to SPAC warrants. As Professor Ohlrogge explained, SPAC warrants represent “free money” that go to early investors as they are redeemed. When incorporated in the SPAC’s cost structure, SPAC investors bear the cost of this dilution.
Policy Suggestions. Professor Ohlrogge highlighted that SPACs exploit a “loophole” in the Private Securities Litigation Reform Act (PSLRA). In fact, it is not a “loophole,” but rather that, as a public company, a SPAC can use forward-looking statements, and the PSLRA protections are not available to an IPO issuer. Professor Ohlrogge called for the SEC to equalize treatment with respect to forward-looking statements. Professor Ohlrogge also suggested that SPAC disclosure should include cash per share, net of SPAC dilution and other costs. Finally, Professor Ohlrogge called for a unified framework for evaluating SPACs, IPOs, and direct listings, instead of considering individual regulatory and stock exchange proposals.