The FCA’s four-week consultation into Special Purpose Acquisition Companies (SPACs) has begun, with decisions around strengthening investor protections expected to be announced and in place by early summer 2021.

The consultation which proposes to amend rules to allow an alternative approach for listed SPACs comes at an inflection point in the global SPAC narrative. Players in the UK have looked on the monumental US boom and burgeoning EU landscape with envy. Pressure is mounting not only from those positioned to benefit from the listing transactions themselves, but regulators and authorities motivated to reduce the number of strong fintech brands seeking a more appealing listing environment outside of the UK.

SPACs: what is the UK context?

The Hill Review launched by Rishi Sunak in late 2020 addressed the SPAC scene, proposing that the UK loosen elements of the listing regime, namely those tied to trading suspensions. Ron Kalifa’s Fintech Review also underscored the need to improve the UK listing environment through free float reduction, dual class shares, and the relaxation of pre-emption rights.

At the time, outgoing CEO of Innovate Finance Charlotte Crosswell stated that the Lord Hill report and the “Kalifa Review of UK Fintech published last week, provide recommendations that will cater to the changing dynamic of our listing and capital raising environment. We have an incredible pipeline of companies who are scaling rapidly and we must respond accordingly to provide options for growth and patient capital in the private and public markets.”

Crosswell was also pleased to see the Review addressing the competitive market for SPACs which are increasingly targeting European tech and fintech companies. “The world has become even more interconnected, which risks a race to attract our most exciting companies to overseas markets. While it is important to retain high corporate governance standards, we must also show that we are willing to adapt our listing rules to attract the most exciting companies onto our public markets.”

Despite SPAC strength in the US since early 2020, the SEC’s recent announcements have added to a formalised expression of discomfort around the listing route. The FT writes that US regulators have begun raising their concerns around the boom, “questioning everything from optimistic revenue projections to the involvement of celebrities such as Jennifer Lopez and Alex Rodriguez.” The recent appointment of Gary Gensler as new chair of the SEC has also instilled concern given his hardline approach to Wall Street in the past.

Why are SPACs the flavour of the month?

Spac Research states that over $180 billion has been raised in the US since the beginning of 2020 across 563 listings. For comparison, $1.4 billion was raised for 10 listings throughout the entire 2013.

However, the 2021 UK Listing Review notes that activity for SPACs in the UK remains dormant by comparison. In fact, only four SPACs were listed in the UK in 2020, which raised an aggregate total of £0.03 billion. The Review furthers that “the recent use by a number of technology-focused companies of the de-SPAC route in the US indicates that the UK is losing out on home-grown and strategically significant companies coming to market in London.

SPACs function as shell companies set up by investors to raise money through an IPO to acquire another company and take that company public.

Once a SPAC has raised money through an IPO, that cash will sit in an interest-bearing trust account until the SPAC’s sponsors identify a company they wish to purchase. When a SPAC is formed often the sponsors will, as part of the SPAC’s investment policy, identify a certain industry and/or geographical area for their intended target (e.g., fintech companies), but investors will not know what the specific acquisition target will be. This freedom afforded to SPAC sponsors is what has led to them being labelled “blank cheque companies.”

The key attraction of a SPAC lies in the speed of this route to take companies public, certainty, and reduced costs.

Eschewing stringent disclosure obligations and avoiding the time-consuming roadshows with potential investors typical with a conventional IPO, firms – particularly attractive tech start-ups and fintech – can navigate the entire process within a few months. SPACs reduce valuation uncertainty as funds are raised prior to the listing and the price can be negotiated and agreed upon ahead of time, also, as fintechs are able to work directly with their sponsor they have the luxury of more flexible contract terms. These factors combine to significantly reduce the associated costs of going public via a SPAC compared with the conventional IPO.

What does the FCA’s consultation aim to achieve?

The FCA is proposing to amend rules to allow an alternative approach for listed SPACs that are able to demonstrate the higher levels of investor protection - similar to those which have developed in certain overseas jurisdictions.

Specifically, the FCA proposes that SPACs which comply with higher levels of investor protection should not be subject to suspension requirements.

This query was raised in the March 2021 Listing Review which spells out that a key factor contributing to why UK SPAC financing has not emerged at scale is regulatory, and relates specifically to FCA rules which can require trading in a SPAC to be suspended when it announces an intended acquisition.

The trading suspension rule is seen as a key deterrent for potential investors in UK SPACs as it exposes investors to the possibility that they will be ‘locked into’ their investment for an uncertain period following the identification by the SPAC of the acquisition target, even if they wish to exit.

Arvin Abraham, an attorney who leads the UK Fintech practice at McDermott Will & Emery reveals to Finextra: “The suspension requirements are perhaps questionable because they lock-in SPAC investors from the time an acquisition is announced and for a defined period of time.  Liquidity is curtailed as the SPAC shares are no longer freely tradeable during this period, which could potentially have a negative effect on investor participation and on promoters wanting to list their SPACs on UK exchanges.”

He furthers that the “proposed changes address the biggest hurdle to a more robust SPAC listing environment in the UK. However, it remains to be seen whether they go far enough as the US has had much longer to develop market practice around SPAC listings and to evolve the construct as an acceptable way to list.” 

The features that the FCA proposes SPACs include in order to avoid a suspension include the following:

• setting a minimum £200 million raise with the initial SPAC listing to encourage high levels of institutional investor participation;
• ring fencing monies raised from public shareholders to either fund an acquisition or be returned to shareholders;
• ensuring shareholder approach for any proposed acquisition based on sufficient disclosure of key terms, confirmation of the fairness of terms, and the existence of any conflict of interest;
• a redemption option which allows investors to exit a SPAC prior to the completion of an acquisition, and a time limit on a SPAC’s operating period if an acquisition is not completed; and,
• sufficient disclosures around key terms and risks provided to investors throughout the period of the SPAC IPO to the announcement and conclusion of any takeover deal.

On the proposals, Clare Cole, director of market oversight at the FCA, explains that the body is consulting on a set of clear conditions based on which we will not look to suspend the listing of a SPAC. These changes, the FCA hopes, should encourage issuers that are willing to provide transparency and strong protections to investors.

“This should support market confidence and aligns our approach more closely with standards in other international markets. We would expect our changes to provide a more flexible regime for larger SPACs, while still ensuring investor protections, potentially resulting in a wider range of large SPACs listed in the UK, increased choice for investors and an alternative route to public markets for private companies,” adds Cole.

“Our position outside the EU allows the FCA to have a new, more nimble approach to domestic policymaking. But in doing so, we are guided by the principles of robust regulation, high standards and strong safeguards.”

Is the UK correct to promote SPACs as appetite wanes in the US?

Barron’s reports that the US IPO market is experiencing a correction and in April, just 13 SPACs listed their shares (valued at $3 billion) compared to 109 blank-cheque companies which raised $35.4 billion just one month earlier. The FT furthers that investor consternation alongside increased regulatory scrutiny from the SEC makes one consider whether the SPAC attraction is potentially facing a reckoning.

The piece outlines that there is a rising number of shareholder lawsuits in New York which allege that directors have breached their fiduciary duty by providing inadequate disclosures at the time of the transactions. “Short sellers, who bet on share prices to fall, have also taken aim alleging fraud at multiple companies that went public through SPACs.”

Recent research published by Stanford business and corporate law professor Michael Klausner found that costs built into the SPAC structure are subtle, opaque, and far higher than has been previously recognised.

Klausner told Institutional Investor that blank-cheque companies that completed deals between January 2019 and January 2020 fell an average of 34.9% in the 12 months post-merger. He added that it is not clear how much of an impact the SEC’s warrants guidance will have.

The research also finds that for a large majority of SPACs, post-merger share prices fall, and second, that these price drops are highly correlated with the extent of dilution, or cash shortfall, in a SPAC. This implies that SPAC investors are bearing the cost of the dilution built into the SPAC structure, and in effect subsidising the companies they bring public. Klausner and his peers question whether this is a sustainable situation.

Concluding optimistically, Abraham notes that the UK has a dynamic and successful fintech ecosystem and that the financing landscape for fintech in the UK remains robust.

“Even without a fast option to access public markets via SPACs, UK fintechs have been able to access plentiful sources of private capital and to successfully access the public markets via traditional IPOs. The successful IPO of cyber-security company Darktrace, resulting in a £2.2 billion valuation, is a case in point. However, adding an expectable regulatory market for SPACs is also desirable.”

“The potential for enhancing access to SPACs as an alternative source of liquidity is welcome and we continue to watch with interest. However, SPACs are not an option that is right for all companies or investors.”