The SEC’s Investor Advisory Committee (IAC) on September 9, 2021, voted unanimously to recommend that the commission step up its oversight of SPACs because of the unprecedented surge in such deals over the past year and a half.
The advisory panel is worried about risks to investors amid the SPAC frenzy, prompted in part by celebrity endorsements.
Its recommendation also comes as the SEC staff is working on a draft rulemaking proposal related to SPACs. The current plan is for the staff to present a proposal for the commission’s consideration next year.
The IAC wants robust disclosures of the role of the SPAC sponsor, including the sponsor’s expertise and capital contributions. There should also be information about any potential conflicts of interest on the part of the sponsor and other insiders and any divergent financial interest of the sponsor relative to that of the retail investors in the SPAC.
A SPAC—Special Purpose Acquisition Company—is a type of blank-check or shell company without operations that raises capital publicly for the sole purpose of identifying and merging with a target private operating company.
It has been popular because of the speed of the deals and the certainty of price. A SPAC registers redeemable securities for cash, sells them to investors, and puts the proceeds in a trust for a future acquisition of a private operating company. Upon finding a target private company, it merges with it, completing the deal—this is called de-SPAC.
The IAC also wants disclosure about the manner in which the sponsor plans to assess the capability of the potential targets to be a public company from a governance and internal control perspective. This disclosure should also include whether the sponsor will take any steps to make sure that the target company can meet minimum quality standards operating as a public company.
Moreover, the advisory panel wants disclosure on the minimum pre-de-SPAC diligence that the sponsor will commit on the accounting practices used by the target company, including audit history, use of GAAP and non-GAAP figures, and audit committee. The committee wants more information about the audit committee composition, its communication with the auditor and management.
In addition, the committee said there should be plain English disclosure in the registration statement about the economics of the various participants in a SPAC process and their impact on dilution to allow for better comparison of SPACs, as well as benefits and risks of a SPAC transaction compared to other types of investments.
“We took a look at … some of the key issues… and suggested a number of areas where heightened scrutiny of disclosure for new registrants proposing IPOs of new SPACs could be pushed to do a little bit more,” said IAC member Christopher Mirabile, Senior Managing Director of Launchpad Venture Group.
There are a “number of areas where we recommended that the commission staff dig in a little harder and push as hard as they can on the disclosure to try to help retail investors, who are not necessarily as knowledgeable as insiders …, understand the securities they are purchasing and the steps that are going to need to occur for value appreciation in the securities as well as sort of the cost mechanics of these deals,” he said.
SEC Chair Gary Gensler, who put SPAC on the commission’s rulemaking agenda, said he agrees with the panel that the commission can do more to strengthen SPAC disclosures, especially around dilution. He said one recent study found that SPAC sponsors generate significant dilution and costs for investors.
“I’ve asked staff to look closely at each stage of the SPAC process to ensure that all investors are being protected,” Gensler said at the IAC meeting. “This includes developing rulemaking recommendations to elicit enhanced disclosures and conducting economic analysis to better understand how investors are advantaged or disadvantaged by SPAC transactions.”
The SPAC boom has been occurring amid the global COVID-19 pandemic, which has depressed economic growth, especially at the onset.
Of the 389 IPOs that raised $125 billion in the first three months of 2021, 298 were SPAC IPOs, raising $87 billion, the IAC noted.
“This rate of SPAC growth not only set a new record: this first quarter activity exceeded all the funds raised for the entire 2020,” according to a discussion paper drafted by a subcommittee of the IAC. “Although the second quarter of 2021 saw a slow down with 61 SPACs having raised funds, this rate was still over four times the average quarterly rate for the 2018-2019 period.”
Mirabile said that a lot of SPACs are not yet de-SPACed, and it may be appropriate for the panel to revisit the issue in the future.
This article originally appeared in the September 13, 2021 edition of Accounting & Compliance Alert, available on Checkpoint.
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