- In H1 2021, more money was raised through SPACs than in all of 2020, which itself was a record-setting year.
- Before considering a SPAC transaction, a company’s leaders must honestly evaluate whether the firm is ready to go public.
- Although SPACs may have once been thought of as a niche option, the experts agree that SPACS are here to stay.
Over the past few years, there has been an explosion of interest in special-purpose acquisition companies, or SPACs (pronounced “spacks”). In H1 2021, more money was raised through SPACs than in all of 2020, which itself was a record-setting year. In light of the booming market, many investors and entrepreneurs find themselves wondering what exactly SPACs are — and how they might be able to use them.
Silicon Valley Bank recently brought together four experts to discuss such topics as whether a SPAC or an initial public offering is the best way to go public, when SPACs are particularly advantageous and what companies should consider before using a SPAC. The webinar featured Olympia McNerney, US head of SPACs for Goldman Sachs Group, Inc.; Justin Hamill and Ryan Maierson, partners at Latham & Watkins, LLP; and Barrett Daniels, partner and west region SPAC leader at Deloitte & Touche LLP.
What are SPACs
A SPAC is a shell company formed to raise capital via an IPO. The funds are held in escrow, then used to finance the acquisition of an operating company, most often in an off-market transaction.
Goldman Sachs &; Co. LLC. (2021). Comparing a SPAC vs. IPO.
Proponents of SPACs say they offer more flexibility and better control over pricing than a traditional IPO. Although SPACs are sometimes billed as a faster way to go public, the panelists agreed that the timeline between a SPAC and an IPO is essentially the same.
What is a deSPAC
A “deSPAC” is the process by which a SPAC merges with an existing company, taking that company public in the process.
Once a merger target has been identified, the deSPAC process involves doing due diligence on the company; formalizing a letter of intent, or LOI; and getting approval for the merger from the US Securities and Exchange Commission by filing a Form S-4 proxy financial statement. During the deSPAC process, the SPAC also identifies investors, often through private investments in public equity, or PIPEs. Typically, the deSPAC process must be completed within two years of the SPAC’s IPO.
Why you should know about SPACs
Although SPACs were generating some interest prior to the COVID-19 pandemic, the number of SPAC deals and the amount of funding funneled through SPACs have increased dramatically since early 2020.
Consider the number of SPAC transactions in recent years:
- 2019: 57 deals, totaling $13 billion
- 2020: 240 deals, totaling $76 billion
- 2021 (through June 11): 339 deals, totaling $106 billion
Although interest in SPACs might not continue to grow at the pace it has in recent years, the panelists agreed that SPACs are here to stay.
What are the benefits of using SPACs
As discussed in SVB’s Q2 2021 State of the Markets Report, using a SPAC can be beneficial for companies that might not be good candidates for a traditional IPO.
- Companies in capital-intensive sectors. SPACs are appealing to companies in sectors that typically require significant capital to grow and become profitable. These companies can use SPACs as an alternative to debt financing. Recently, the largest and most plentiful SPAC transactions have occurred in the frontier tech, consumer internet, and energy and resource innovation sectors.
- Early-stage companies. Half of SPAC transactions in 2020 were for companies at Series C or earlier. By using SPACs, early-stage companies can include forecasts in their regulatory filings, which is not allowed when pursuing a traditional IPO.
SPACs allow founders to leverage the networks and expertise of SPAC sponsors, usually savvy financial professionals experienced in the IPO process. In addition, fundraising via a PIPE requires targeted marketing to specific investors rather than the broad-brush approach as with an IPO. As a result, SPAC marketing costs may be lower than those for a traditional IPO.
SPAC vs. IPO: How the options compare
Companies trying to determine whether to pursue a SPAC merger or a traditional IPO should consider the following criteria, according to the panelists.
- Valuation. Whether a SPAC or an IPO will maximize valuation depends on the market conditions; the current interest in SPACs and PIPEs may make SPACs slightly more advantageous.
- Price transparency. With an IPO, companies don’t know their share price until the opening bell rings and the market assesses their worth. By contrast, SPAC pricing is typically negotiated ahead of time, giving companies greater predictability.
- Proceeds. Because SPACs combine SPAC and PIPE proceeds, they often exceed the proceeds of an IPO.
- Shareholder base. IPOs appeal to a broader base of investors, although the panelists noted that more investors are becoming comfortable with SPACs.
- Sponsor monetization. With an IPO, sponsors get paid at the IPO; with a SPAC, they wait to see their payout until the merger has closed.
To maintain flexibility, companies can also select to follow a dual track, moving toward both a SPAC and a traditional IPO. This option is available until the point that exclusivity is demanded, usually when an LOI is signed with a SPAC.
The drawbacks of SPACs
Taking advantage of the current SPAC frenzy can be tempting, but it’s important that companies not do so until they are truly ready to go public. Companies that take this step too soon often have trouble sustaining their success post-IPO.
SPACs typically face several challenges:
- Financials. During a SPAC transaction, a company must undergo an audit of at least two years of financials. This level of documentation is sometimes challenging for early-stage companies.
- Technology. Companies often need to implement systems and other technology, such as NetSuite, in order to be able to meet the rigorous reporting requirements of the SEC. In order to do these implementations appropriately, it often takes time and significant effort.
- Personnel. The SPAC process is time- and resource-intensive, and many companies lack the staff to navigate it while also running the business. Hiring a full-time project manager familiar with the process of going public can help alleviate this challenge.
Companies considering a SPAC transaction should begin addressing these challenges before they formally start the SPAC process.
In addition, early-stage companies should be mindful of the forecasts they include in their SPAC regulatory filings. In 2020, half the companies that completed a SPAC transaction failed to meet their revenue forecasts, and 40% saw their revenue decline, according to SVB’s Q2 2021 State of the Markets Report.
SPAC timeline and deliverables
Many companies considering SPACs do so in hopes of going public more quickly. Although a SPAC timeline can be expedited in the early phases, there is no way to speed up the SEC regulatory review. The panelists agreed that the time savings for a SPAC versus a traditional IPO is often minimal.
Goldman Sachs & Co. LLC. (2021). Illustrative IPO & SPAC Dual Process Timeline.
The timeline for a SPAC transaction and deSPAC merger can be divided into three phases:
Phase 1: Prior to signing LOI (roughly eight weeks)
- Expressing interest
- Signing nondisclosure agreements
- Gathering data and negotiating initial terms
- Signing a formal LOI that includes an exclusivity clause
Phase 2: Between LOI and announcement (roughly five to six weeks)
- Completing due diligence on the company being acquired
- Drafting and negotiating a purchase agreement/merger proxy
- Drafting an investor presentation and initial contact with prospective investors
Phase 3: Between announcement and closing (roughly nine weeks)
- Announcing acquisition and filing SEC Form S-4 proxy financial statement
- Presenting a roadshow and following up with investors
- Closing and funding
Public market readiness
Before considering a SPAC transaction, a company’s leaders must honestly evaluate whether the firm is ready to go public.
Deloitte Development LLC. (2021). IPO Areas of Focus.
The panelists suggested evaluating a firm’s readiness using the following criteria:
- Investor relations. Does the company have an investor relations team and infrastructure in place?
- Corporate governance. Does the company have adequate governance, including reporting, optimization and disclosures?
- Tax. Is the company compliant, optimized and up-to-date on tax filings?
- Human capital. Does the company have adequate structures in place to attract and integrate talent?
- Systems, processes and controls. Can the company meet regulatory requirements?
- Financial and SEC reporting. Does the company have adequate technical accounting infrastructure to produce reports?
The panelists cautioned that people who are not familiar with SEC regulations often underestimate the complexities of the required reports and audits. Even companies with meticulous recordkeeping and quarterly reports will likely need to intensify their processes to meet SEC demands.
Certifications for Sarbanes-Oxley
The Sarbanes-Oxley Act of 2002, or SOX, regulates securities for publicly traded companies. Companies must complete three certifications to maintain SOX compliance.
- Section 302. The CEO and the CFO make quarterly and annual certifications related to reporting and disclosures (required from the first quarterly filing).
- Section 906. The CEO and the CFO certify that all financial reports fairly present the financial materials and are SOX-compliant (required from the first quarterly filing).
- Section 404. The CEO and the CFO certify annually that they are responsible for internal financial reporting, accompanied by an independent auditor’s report (required from the second annual filing).
The process of becoming SOX-compliant is expensive and time-consuming, but some companies are able to defer SOX compliance for five years if they meet the criteria for emerging growth companies. The panelists recommended that companies participating in a SPAC take advantage of this provision as a way to ease their burden during the SPAC process.
SPACs are here to stay
Although SPACs may have once been thought of as a niche option, the panelists agreed that they are here to stay. Indeed, SPACs are a valuable financing mechanism for companies that don’t fit neatly into the commercial VC-backed operating model.
Want to learn more about SPACs from industry leaders? Reach out to Cody Nenadal at CNenadal@svb.com for more information about how Silicon Valley Bank supports SPAC transactions.
This blog represents views from the SVB webinar and featured panelists, and are not the views of Latham.