By Soyoung Ho
In the past couple of years, the number of special purpose acquisition companies (SPACs) has increased significantly, and SEC Chairman Jay Clayton wants to make sure that such companies make proper disclosures so investors can make informed decisions. And a top SEC official said the agency staff will closely look at SPAC filings to protect investors.
Along with the traditional initial public offering (IPO), direct listing and SPAC are other ways for companies to raise funds from public markets.
“I am happy to see that kind of competition and alternatives; I do think we should be encouraging more companies to be in our public markets,” Clayton said during the Annual Meeting of the Securities Industry and Financial Markets Association (SIFMA) held virtually on October 19, 2020. “But they present different issues for investors. For example, on SPACs, I want to make sure investors, particularly retail investors, understand the incentives of the sponsors and for the selling company in the de-SPACing transaction when they vote on it or make those related investment decisions, and also understand that it’s not the same as IPO.”
The simplest SPAC is a shell company that raises capital publicly just to identify and merge with a target operating company. The merger transaction infuses the target operating company with capital that it might otherwise raise in an IPO. SPAC shareholders become shareholders in the new public operating company. This process tends to allow private companies to raise capital in public markets more quickly than a traditional IPO.
“One of the nice things about an IPO for retail investor is, you know, that a host of institutional investors kicked the tires on that IPO when it came time to bring to market and the pricing. That’s a good thing,” Clayton said. “That doesn’t happen to the same extent with SPAC. I am not saying that’s a reason not to do a SPAC or not to invest. But you need to understand that. We need to make sure that’s well disclosed.”
Record Number of SPACs
Clayton’s remarks come as the SEC has seen a record number of SPAC filings this year.
The market regulator has reviewed over 800 IPOs, and of those over 200 were SPACs, according to William Hinman, the director of the SEC’s Division of Corporation Finance.
This “is obviously something we have not faced before, something which portends a fair amount of M&As,” Hinman said during SEC Speaks 2020 conference hosted by the Practising Law Institute on October 8. “We put out our review work on the back end, and that’s a significant development for us this year on top of everything else going on.”
Thorough SEC Staff Reviews of SPAC Filings
Hinman emphasized that the staff review of SPAC filings is just as rigorous.
“We want to set the record straight on this. Some people say [SPAC] is a short cut way to an IPO. From our perspective at least—this is different from maybe the market’s perspective, where people are interested in pricing dynamics and after market performance and being able to go to market at a particular point of time,” Hinman said. “In terms of reviewing a SPAC and the process a SPAC issuer would go through, there really is not a short cut there through the SEC process.”
A SPAC gets fully reviewed like an IPO. At the front end, the process may be quicker because there is no operating company for the staff to dig through the financials. But at the back end, when a SPAC is successful, the staff looks at it much the same way it looks at an IPO.
“The financials would have to be the same as we see in IPO,” Hinman said. “The review process would be very very similar…. We expect the gatekeepers, the underwriters, and the initial IPO, the folks that engage in de-SPACing transactions … to be thoughtful about disclosures. We will be reviewing those disclosures.”
Closer Scrutiny of Sponsors
At the same SEC Speaks conference, Commissioner Allison Herren Lee also discussed SPACs at some length, with an emphasis on ways to protect investors.
She said that the commission should focus on how SPACs disclose risks and sponsor compensation because investors rely heavily on the sponsor’s experience and expertise in identifying a target company.
“In the short term, a SPAC investment acts largely as a blank check, so it is critical that the offering documents clearly disclose the material risks involved, as well as the ways in which the sponsor will be compensated for its services,” Lee said in her speech. “Likewise, the Commission should consider whether there are ways to further align the interests of sponsors and investors to ensure that sponsors are incentivized by the quality of any potential target.”
She explained that a SPAC in most cases must return money to investors if it has not identified a target company within 18 to 24 months of fundraising. But a chunk of the sponsor’s compensation comes from shares of the post-acquisition operating company. She believes this may create an incentive for sponsors to pursue not the best acquisition to secure compensation.
This article originally appeared in the October 21, 2020 edition of Accounting & Compliance Alert, available on Checkpoint.
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