Following an emerging trend in the United States, the Toronto Stock Exchange has published for comment proposed amendments to the TSX Company Manual that would allow special purpose acquisition corporations (SPACs) to be listed on the TSX.
A SPAC is a holding or "shell" company, with no current operations or business, that completes an initial public offering to raise a substantial amount of capital and then uses that capital to acquire one or more operating businesses at a later date, similar to a reverse merger or reverse take-over. This type of entity has also been known as a "blank cheque" company in the United States.
The introduction of SPACs to the Canadian marketplace would be a significant departure from the current regulatory regime. Although capital pool companies (CPCs) are permitted on the TSX Venture Exchange for small issuers with a market capitalization of less than $2 million, the TSX requires full disclosure of the proposed use of proceeds raised and the existence of a viable, ongoing business. Expanding the regulatory environment to allow for this type of structure in Canada would make it much easier for larger issuers beyond the CPC regime to have access to new sources of capital. It will be interesting to see how this investment vehicle will be received by the Canadian market, particularly in light of the recent market volatility in world markets. Subject to any amendments and further public comment periods, the TSX Proposal would also require approval by the Ontario Securities Commission.
The requirements set out in the TSX Proposal take into consideration SPAC rules recently adopted by the New York Stock Exchange and those proposed by NASDAQ (which are expected to be adopted in the near future), as well as commercial practices that have developed with the use of SPACs in the United States. Until the recent moves by the New York Stock Exchange and NASDAQ, SPACs in North America were typically listed on the American Stock Exchange. According to the TSX, as at April 30, 2008, 94 SPACs in the U.S. had completed their IPOs, raising an aggregate of US$18.6 billion, but had not yet completed the necessary qualifying acquisition. In 2007, there were 66 IPOs completed by SPACs in the U.S. that raised approximately US$12 billion – this represented 23% of the IPOs in the U.S. in 2007 and 18% of the capital raised. Most of the major U.S. investment banks have been involved in taking these transactions to market.
There are three key areas addressed by the TSX Proposal: (i) the TSX original listing requirements to be met by the SPAC, including IPO requirements, capital structure and use of the IPO proceeds; (ii) the TSX continued listing requirements that a SPAC must meet prior to completing a qualifying acquisition; and (iii) the process relating to the completion of a qualifying acquisition or failing that, the liquidation distribution of the SPAC.
Original Listing Requirements
IPO Requirements
The TSX Proposal stipulates that a SPAC must raise a minimum of $30 million on its IPO with securities offered at a price of at least $5.00 per security. In the view of the TSX, this minimum threshold is sufficient to allow the SPAC to acquire an operating business that would be able to meet the TSX original listing requirements. At the time that the SPAC is applying for listing on the TSX, it must not be involved in an active business and it may not have entered into a written or oral, binding or non-binding agreement in respect of a qualifying acquisition. Despite not having an operating business, a SPAC's securities are sold on the experience and record of its management team and the sector in which it will make its qualifying acquisition.
As a means of aligning the interests of the founding securityholders of the SPAC with public securityholders, the TSX Proposal requires the founding securityholders to hold an equity interest of at least 10% in the SPAC. Generally, the founding securityholders would acquire their securities in advance of the IPO at a price that is typically significantly less that the IPO price. A proposed maximum equity interest for the founding securityholders has not been specified in the TSX Proposal but the TSX has indicated that it would generally consider an interest greater than 20% to be excessive. In addition, the securities held by the founding securityholders cannot be transferred prior to the completion of a qualifying acquisition, are restricted from voting on the qualifying acquisition and are not permitted to receive proceeds from any liquidation distribution (described further below).
Capital Structure
As currently drafted, the TSX Proposal requires that the securities issued by the SPAC include a conversion right and a liquidation distribution feature. The conversion right would allow securityholders, other than founding securityholders, who vote against a proposed qualifying acquisition to convert their securities into a pro rata portion of the IPO proceeds held in trust if the qualifying acquisition is completed. The liquidation distribution feature returns a pro rata portion of the IPO proceeds held in trust to securityholders, other than founding securityholders in respect of their founding securities, if a qualifying acquisition is not completed within the required time frame. In addition, the TSX Proposal stipulates that the SPAC may not obtain any form of debt financing until the time of or after the qualifying acquisition.
While the conversion right offers investors some protection if a qualifying acquisition is deemed by investors to be inappropriate or is not completed at all, the right could prove to be cumbersome and even detrimental to SPACs as it may create uncertainty as to the amount of capital available to complete an acquisition. In some cases in the U.S., investors have voted against a proposed transaction and then exercised the conversion right simply to make a profit when the SPAC is liquidated.
IPO Proceeds
Following the completion of an IPO, the TSX Proposal provides that a minimum of 90% of the gross proceeds must be put into trust with a trustee unrelated to the transaction. These funds would be required to be invested in certain permitted investments by the trustee and any interest earned on the IPO proceeds would be available to be used by the SPAC to fund administrative expenses, provided that any such intended use is disclosed in the prospectus.
To align the interests of the underwriters with those of the securityholders, the TSX Proposal requires the underwriters to deposit 50% of the commission earned on the IPO into trust with the proceeds from the IPO. This portion of the commission would then be released upon the completion of a qualifying acquisition or, failing that, distributed to securityholders as part of a liquidation dissolution. If a securityholder exercises the conversion right and the qualifying transaction is completed, the securityholder is entitled to receive his or her pro rata share of the trust funds, including the deferred commissions.
Continued Listing Requirements Prior To Completion Of A Qualifying Acquisition
To prevent the dilution of securityholders in the SPAC prior to the completion of a qualifying acquisition, the TSX Proposal restricts the issuance of additional securities, such that only rights offerings can be made to existing shareholders. As with the IPO, a minimum of 90% of the funds that are raised on a rights offering must be put into trust with the IPO proceeds. A SPAC would also be restricted from having any security based compensation arrangements in place prior to the completion of a qualifying acquisition.
Completion Of A Qualifying Acquisition
SPACs would have up to three years from the date of the closing of the distribution under the IPO prospectus to complete a qualifying acquisition. The value of the qualifying acquisition must represent at least 80% of the IPO proceeds held in trust. A proposed qualifying acquisition must be approved by a majority of securityholders, other than the founding securityholders, at a duly called meeting. The issuer may also set other conditions for the completion of the qualifying acquisition, such as a maximum percentage of securityholders exercising their conversion right. Prior to the meeting, the SPAC would be required to prepare and mail an information circular containing prospectus level disclosure that has been pre-cleared by the TSX. If multiple acquisitions are required to meet the minimum thresholds stipulated by the TSX Proposal, each transaction must be approved by the securityholders and each transaction must close concurrently and prior to the three-year deadline. As proposed, securityholders who vote against a qualifying acquisition would be entitled to convert their securities for their pro rata portion of the IPO proceeds held in trust.
The TSX Proposal would also require SPACs to file and obtain a receipt from the applicable securities commissions for a final prospectus containing full, true and plain disclosure regarding the resulting issuer assuming completion of the qualifying acquisition. The receipt must be issued prior to mailing the information circular for the meeting of securityholders called to approve the proposed qualifying acquisition. Failure to obtain a receipt for the prospectus prior to completion of the qualifying acquisition will result in the delisting of the SPAC.
Liquidation And Delisting Following Failure To Complete A Qualifying Acquisition
SPACs that fail to complete a qualifying acquisition prior to the three-year deadline would have to complete a liquidation distribution within 30 days after the deadline, following which the SPAC would be delisted on or about the liquidation distribution date. The founding securityholders may not participate in the liquidation distribution with respect to their founding securities.
Continued Listing Requirements Following Completion Of A Qualifying Acquisition
The resulting issuer will be subject to the TSX continued listing requirements and any other applicable continuous disclosure requirements from securities legislation.
Conclusion
The comment period for the TSX Proposal ended on September 15, 2008. It remains to be seen how the proposal will be received and what changes, if any, will be made to it as a result of input from various players in the process. In any event, the introduction of SPACs to the Canadian capital markets would be of considerable assistance to the development of small to medium sized issuers beyond CPCs on the TSX Venture Exchange. Allowing SPACs in the Canadian marketplace will, among other things, give entities looking for innovative ways to raise capital greater flexibility.
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