Special purpose acquisition companies (SPACs), also known as "blank cheque companies", are re-emerging as a powerful alternative to traditional IPOs in the current volatile market. Dealogic reports that in 2019 SPACs raised a record $13.4bn in proceeds. Barrons confirms that the trend continues in 2020, in spite of (or perhaps because of) the market disruptions caused by Covid-19. According to Barrons, SPACs are on pace for another record year, having already "raised more than 75% of 2019's record total". Not convinced? Consider this: Bill Ackman's blank cheque company, announced on 22 June 2020, at what may prove to be the nadir of Covid-related market uncertainty, is expected to raise as much as $6.5bn, making it one of the largest structures of its kind in history.
Why the sudden enthusiasm for SPACs? The markets were once enamored with the notion of blank cheque companies. They provided an alternative route to the public markets which was particularly attractive to entrepreneurs in the technology industry, they were perceived as more democratic in that they are not restricted to institutional or sophisticated investors, and they were often less expensive than a traditional fund structure. But critics felt that they were extremely risky for investors, and those doubts proved founded in some well publicised cases of fraud. However, in times of commercial uncertainty, the idea of a blank cheque company with a large war chest and a skilled management team poised and ready to identify profitable targets and move on them quickly has undeniable appeal. Many investors who have shied away from market volatility are experiencing "fear of missing out". SPACs offer the promise of being back in on the action when the time is right.
Appleby has the expertise and experience to assist with all stages of the SPAC life cycle, from the initial formation and listing to advising on the business acquisition and de-SPAC.
What is a SPAC and How is it Structured?
SPACs are companies that are formed to raise capital through an IPO to fund a strategic acquisition down the road, typically within 18 to 24 months. Cayman Islands exempted companies are one of the most popular vehicle choices for SPACs owing to their flexibility and their familiarity to international investors and stock exchanges.
The IPO will typically consist of "units" comprised of shares and warrants (representing the right to acquire additional shares) in the SPAC. The sponsor will retain a minority ownership interest in the SPAC (typically around 20%) to make sure they have "skin in the game", with the sponsor's founder shares granting exclusive board appointment and removal rights during the period prior to the first business combination. Warrants or long-term call options at a fixed price may also be separately issued to incentivise the management team.
The SPAC will have described in its offering documents the sector into which it is seeking to invest. The technology and energy sectors remain popular. The management team of the SPAC will be, or will be supported by, experts in the identified sector who are tasked with finding the right target for the business combination. Since the target is usually unidentified at the offering stage, and therefore not subject to the usual due diligence that an investor would undertake before deciding to buy shares in the ordinary fashion, confidence in the management team is key. Arguably, the investor is investing in the management team itself, rather than the company, as the success or failure of the venture will rest on the management team identifying the right target. There are, however, a number of protections built into the structure for the public investors which may include:
- A requirement for the SPAC to conclude its first acquisition within a stated timeframe, typically within 18 to 24 months depending on the rules of the stock exchange.
- A right for investors to approve the proposed investment once it is identified and/or a right for investors to have their shares redeemed or repurchased by the SPAC and exit the structure.
- Minimum deal value requirements. For example, where the SPAC is listed on the NYSE the SPAC must complete one or more business combinations having an aggregate fair market value in excess of 80% of the assets held in the trust account.
- Independent valuation requirements where the target is affiliated with the sponsor or management team.
If a business combination is not concluded within the specified time period, the SPAC will be liquidated and the proceeds held in the trust account will be returned to the public investors. Sponsors do not participate in this capital return and are subordinated to the public investors.
It is important to note that a SPAC is not itself a mutual fund or a private investment fund under Cayman Islands law, as companies whose investment interests are listed on a stock exchange (including an over-the-counter market) are exempt.
The Trust Account
After setting aside a portion of the funds to meet the listing expenses and the SPAC's ongoing operational costs, the bulk of the IPO proceeds are segregated in a trust account with a third party financial institution. The funds in the trust account may only be released in specific predefined circumstances, namely upon the earlier of the closing of the first business combination or the redemption of investors' shares in the event that the SPAC is unable to complete an acquisition within its stated term.
The Listing
A SPAC IPO is perhaps best described as "an IPO of a company to be named at a later date". Popular SPAC listing venues include the NYSE, NASDAQ, and the LSE's Main Market and AIM. The listing process for a SPAC is generally quicker and more straightforward than listing an operating company. However the lack of an operating history and business will limit the types of listing available – for example, a SPAC is unable to obtain a premium listing on the LSE's Main Market.
The "de-SPAC"
The method used to acquire the target business will depend on the identity of the target itself but will commonly be affected by way of a merger, stock exchange, asset acquisition or other similar business combination. The Cayman Islands has a well-understood, straightforward and efficient statutory merger regime that makes it ideal for this application. The Cayman Islands merger regime is permissive and offers flexibility for Cayman SPACs to merge with one or more Cayman Islands and/or foreign targets (where the laws of the foreign jurisdiction permit), and the merger consideration may generally take any form approved by the shareholders (including cash, asset transfer or issuance of shares or any combination of the foregoing).
The approval threshold for a statutory merger (subject to any higher threshold or additional requirements in the articles of association) requires only a special resolution passed in accordance with the articles of association – typically, a two-thirds majority of those shareholders attending and voting at the relevant meeting.
The SPAC may raise additional funds to help fund the business combination, including through borrowings under loans or bond issuances, further share and warrant issues or a combination of the foregoing.
After the company 'de-SPACs' and becomes a normal operating company, the business continues to operate as a publicly listed company under the rules of the relevant stock exchange with the management team working to create value for investors and the sponsor.
The Cayman Islands Advantage
As mentioned above, the Cayman Islands exempted company is an ideal vehicle for a SPAC. The Cayman Islands statutory merger regime is designed to allow the SPAC to move quickly and efficiently at the acquisition stage. The Cayman Islands also offers other advantages which are summarized below:
Reputation: due to its well established legal system, stability and strong financial services industry, the Cayman Islands have a reputation as a high quality offshore centre.
Flexibility: the Cayman Islands have the advantage of progressive "leading edge" legislation, developed in consultation and collaboration with industry stakeholders.
Central time location: the Cayman Islands' central time location (GMT-5) is ideal for organisations operating their businesses from Asia, Europe and the Americas.
Tax neutrality: Cayman has no capital gains, income, profits, corporation or withholding taxes (whether on the offshore vehicle or on holders of securities issued by such vehicle). If the offshore vehicle is incorporated as an exempted company it can obtain a renewable undertaking from the Cayman Islands Government that it will remain tax-free for a 20 year period and in the case of exempted trust or an exempted limited partnership the period is up to 50 years. Investors in Cayman vehicles must always obtain advice on the impact of taxation in the jurisdiction in which they are tax resident before investing.
Speed: once all necessary information, including "know your client" documentation, is gathered and verified, a Cayman Islands company can be incorporated within a day.
Availability of world-class professional services: Cayman has a wealth of lawyers, accountants and other service providers with renowned expertise.
Trustworthy and reliable legal system: Cayman Islands law, derived from English common law and supplemented by local legislation, ensures that Cayman Islands entities are internationally understood and accepted. The Cayman court system is well developed with appeals ultimately going to the Privy Council in London. Since 2009, the Financial Services Division of the Grand Court (FSD) has built a reputation for the effective determination of extremely complex cases. With an exceptionally strong, commercially minded and experienced bench, the FSD is uniquely well placed to handle any dispute fairly and efficiently.
Compliance culture: the Cayman Islands has long been committed to implementing best international practices and is compliant with the anti-money laundering and anti-terrorist financing requirements of the Organisation of Economic Cooperation and Development (OECD) and Financial Action Task Force. Cayman is on the OECD's anti-money laundering "white list" and has entered into a multitude of tax information exchange agreements.
Stable and business-oriented government: the Cayman Islands are a British Overseas Territory and have a history of stable government, committed to promoting the financial services industry.
Exchange controls: there are no exchange control regulations in the Cayman Islands. As such, money and securities in any currency may be freely transferred to and from the Cayman Islands.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.
