Explainer | SPAC back in focus — All you need to know

The COVID-19 pandemic played a huge role in popularising SPACs as traditional IPOs were seen as “expensive and time consuming” due to terms of registrations, disclosures and processes (Illustration by Suneesh K.)

Special purpose acquisition companies, or SPACs, are back in focus and this time it may not be good news — on the policy or corporate side.

Democratic United States Senator Elizabeth Warren is firm on pushing through with a bill that will crack down on SPACs. A report seen by Reuters stated the reason as a “proliferation of bad deals that resulted in huge losses for investors”.

Further, publishing powerhouse Forbes has reportedly nulled plans for a SPAC due to petering investor interest in the instrument, two sources told The New York Times.

Policy pressure & corporate pull-back, the double edged-sword

Reuters reported that Warren’s ‘SPAC Accountability Act of 2022’ would impose a range of checks and balances — from increasing liability for parties involved in such deals, to enforcing investor disclosures and longer lock-in periods for investors who bank-roll these deals.

The bill is not expected to have popular support, it is however expected to pile on the pressure on an industry already facing new regulatory proposals from the US Securities and Exchange Commission (SEC).

Also Read | Elizabeth Warren plans bill to crack down on black cheque deals

The pressure is evident, and Forbes cancelling plans for its SPAC seems to prove. The company is expected to make an announcement this week itself, one source told the NYT. The deal was announced in August 2021, while the instrument was hot off buzz due to the Playboy, Buzzfeed and Virgin Atlantic deals. The aim was to value Forbes at $630 million post listing.

Buzzfeed underwent a SPAC deal in December 2021 and shares have since nosedived by over 50 percent, Snap Inc. last week said it expects weak profits this quarter, and Vice had to cancel its SPAC fundraise and turn to more private investors as the market soured. All these examples hail a broader trend moving away from SPAC deals.

So, what are SPACs exactly?

SPACs are essentially an investment structure or an entity, set up specifically or specially for the purpose or objective of making an acquisition or buyout. It is a “shell company” without any commercial operations and is run by an experienced management team (with expertise in a certain segment or sector) or a sponsor.

The sole aim of a SPAC is to raise capital via an IPO to acquire a private business at a later date and then take it public without going through the traditional route of IPOs.

These companies own and manage nothing except the funds that they raise, and when they have an IPO, they do not even have to recognise the ultimate acquisition target. Hence, SPACs are also referred to as “blank cheque companies”.

Steps involved in a typical SPAC listing

A management team normally invested in a SPAC (around 20 percent) presents its plan to raise the remaining 80 percent via public shareholding. The more experienced, professional and reputed the team, higher the interest. The IPO money is kept safe in an escrow account (cash conserved) or trust to be accessed later once the acquisition target is identified.

SPAC teams have a usual timeline of two years. If the process fails to complete the SPAC gets delisted and liquidated with the entire escrow amount refunded to investors. Those investors who want to pull out earlier can sell their shares but keep the warrants, which they can cash-in on if the SPAC is more successful than expected.

Are SPACs an alternative to IPOs?

The COVID-19 pandemic played a huge role in popularising SPACs as traditional IPOs were seen as “expensive and time consuming” due to terms of registrations, disclosures and processes. SPACs as they stand presently involve lesser parties, lesser negotiations and are perceived to offer a faster and flexible route for venture capital funds and private equity majors to take their private companies public.

These are also cheaper and accessible to mass retail investors — who often comprise of young, savvy, new age investors. Another plus, is that SPACs are a privately negotiated deal with a set price, and hence, less vulnerable to a sudden phase of market turmoil with downside protection on bets.

What are the drawbacks?

SPAC investors are usually unaware of what their funds will be used for and what the eventual target will be. Further, their funds are “stuck” or held in escrows for a period of two years and could lie idle in case the deal falls through.

Also, not all SPACs are a guaranteed success. Careful scrutiny and filter of the management team is warranted. Investors also need to read the fine print very carefully as certain clauses could diminish the refund money.

Others also argue that all the attractive SPAC bets have already been completed, which means the pool is “less attractive” now.

Also Read | The SPAC craze: What’s the big deal anyway?

So what about India?

Capital markets regulator, the Securities and Exchange Board of India (SEBI) is working on a framework for SPACs in India to enable listing of startups on domestic stock exchanges, sources had said to PTI in June last year.

Under the framework, SEBI may put in place a separate set of regulations on SPAC, whereby detailed listing rules would be provided for such firms. This would include a minimum threshold size for an IPO, sources said.

The regulator is expected to provide qualifying criteria for sponsor to ensure only seasoned and sophisticated individuals, with senior management level business and public company experience are allowed as a sponsor for an IPO through a SPAC vehicle.

The founder or sponsor might be required to invest a minimum amount of seed capital and remain invested even post de-SPAC for a specific period of time under the new framework.

The SPAC listing rules may define the requirement of due-diligence, audits, controls framework on financial reporting to be included in the draft papers related to the target operating companies for pre-clearance with the Sebi before the merger is taken-up for approval from the SPAC shareholders.

The framework is likely to impose a condition not to proceed with the proposed qualifying acquisition if more than a pre-determined percentage of public holders of securities vote against the proposed acquisition.

Also Read | Forbes will scrap plan to go public via SPAC

More recently on May 19, 2022, the Hindu BusinessLine reported that SEBI has informed the Parliamentary Standing Committee on Finance that it is “deliberating on the framework of SPACs” and that a sub-group of their primary market advisory committee (PMAC), set up to look into the matter “is in the process of finalising its report”.

“Subsequently, a consultation paper for public comments may also be issued … Steps regarding SPACs framework may be taken only after consultation with PMAC,” sources told the paper.

A February report by the Ministry of Corporate Affairs’ company law committee recommended “introducing an enabling provision to recognise SPAC under the Companies Act and allowing a SPAC incorporated in India on the domestic and global exchanges”, SEBI also told the Standing Committee.

Will the instrument work in India?

There has been increasing demand that SPACs should be allowed in India as well.

Vikas Bagaria, Partner for Audit and Assurance at Deloitte India wa particularly optimistic about how SPAC could benefit $1 billion unicorns in the fintech, edu-tech, healthcare, consumer, e-commerce, food delivery and mobility sectors.

“These new age companies are attracting capital and are now at the forefront of India's startup ecosystem. However, current listing options available to these unicorn firms in India is limited. The SPAC framework will provide significant opportunities allowing public and retail investors to participate in acquisition of private operating companies by an Indian SPAC investment vehicle," Bagaria told PTI.

He also noted that SPACs would “offer liquidity and visibility to the founders and private company investors and will provide access to seasoned management and financiers for a private company”.

Market experts on the whole have pointed out the advantages, while raising various regulatory concerns.

They noted that SPACs give public shareholders the advantage of investing along with the sponsors in the SPAC like private equity type transactions; allows sponsors the advantage of rapid deployment of capital to take advantage of opportunities; and helps the target company acquired by the SPAC going public during periods of market instability or volatility in traditional IPO markets.