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What's behind the SPAC-tacular boom of 2020?
Publication date: 22 Dec 2020
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What you need to know
- 2020 has seen increased IPO and SPAC activity
- When deciding how to go public, private companies and their owners should consider the benefits and challenges of a SPAC transaction
The rise of SPACs
2020 will forever be known as the year that brought us both a global pandemic and a historic presidential election. But amid those headlines, it has also been the year of an active initial public offering (IPO) market through investment vehicles known as “SPACs.” The term refers to a “special purpose acquisition company,” and it has become a popular way for a company to go public. Sometimes referred to as a “blank check” company, a SPAC is created with capital from its initial investors, undergoes an IPO to raise additional capital, and acquires a private company target that becomes a public company (or a subsidiary of one).
Typical SPAC transaction
While SPACs have been used for years as alternative investment vehicles, they have increased in popularity as a way for private companies to access liquidity via the public market. The SPAC spree of 2020 has been largely driven by:
- The players: High-profile SPAC sponsors with experienced management teams are entering the SPAC space.
- The private equity appeal: SPACs offer an exit opportunity for private equity owners looking to cash out on their investment in the private company target in a shorter timeframe than in a traditional IPO.
What to expect in a SPAC transaction
Private companies and their owners should consider all of the benefits and challenges of a SPAC in deciding whether it is the right investment vehicle for them.
Benefits
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 | Access to capital and potential to sell a bigger stake in the company
SPACs give private companies access to public markets, particularly during times of market instability, and help open the door to permanent capital. A SPAC raises capital through an IPO prior to acquiring a private company target. If it needs additional capital to complete the transaction with the private company target, it may raise funds through various vehicles, including a private investment in public equity (PIPE).
Additionally, SPAC transactions typically allow private company owners looking for an exit strategy a chance to sell a larger stake in a company than might otherwise be possible in a traditional IPO transaction.
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 | Greater market certainty
Missing the right pricing “window” can have a significant impact on the success of a company’s traditional IPO. With SPACs, target companies can negotiate a “locked in” price of their stock with the SPAC sponsor as part of their agreement and avoid the potential valuation hit that can happen with traditional IPOs in times of market volatility.
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 | Flexible deal terms
In addition to the ability to negotiate the sale price of the company to the SPAC, SPAC transactions provide flexibility to negotiate other parts of the deal. For example, if investors decide to withdraw their capital before the acquisition closes, SPAC sponsors might agree to fund any cash shortfalls at the time of closing.
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 | Access to experienced managers
Partnering with a strong sponsor may allow a private company target to benefit from its resources and experience. A seasoned sponsor may help when additional capital is needed. It may also tap into its network to build a strong management team for the target.
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Challenges
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 | Potential for increased cost
When a SPAC is formed, it issues “units” in an IPO that consist of a share of common stock and a fraction of a warrant to purchase common stock that becomes exercisable once the SPAC transaction is completed. With the dilutive nature of the warrants, the economic cost of a SPAC transaction may exceed that of a traditional IPO.
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 | Possible loss of control
The private company and its owner(s) may lose some control as the SPAC sponsor may negotiate representation on the board of directors and more active involvement in the post transaction company.
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 | Public company readiness
When a target company and a SPAC sign a letter of intent, it triggers the need for certain SEC filings that the company must complete within a specified time period. While the shorter window may mean the private company becomes publicly traded sooner, the set deadlines may place a high burden on the company and its management team. Alternatively, a company intending to go public through the traditional process sets the timing for its IPO. This means a company going public via a SPAC will likely need to meet an accelerated public company readiness timeline when compared to a traditional IPO for substantially the same preparation, due diligence, prospectus-drafting, and SEC engagement and oversight, including the following.
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 | Accounting and reporting complexities
A SPAC transaction may result in a change in control. Determination of whether the target or the SPAC is the accounting acquirer may require judgment and can lead to different accounting models.
Pro forma financial statements will typically be required to provide a comprehensive view of the SPAC transaction, including multiple redemption scenarios.
Additionally, a SPAC transaction typically requires multiple steps of legal or equity restructuring that could have tax implications.
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- William Hinman, then Director, SEC Division of Corporation Finance, October 2020, Practising Law Institute’s The SEC Speaks in 2020
What comes next?
Ultimately, deciding how to go public is a strategic decision. We expect the SPAC pipeline to remain strong given the large investment of capital in existing SPACs seeking targets and the growing number of private equity firms, venture funds, and operators forming SPACs. However, with the possibility of variation in deal structures and sponsor relationships, private companies and their owners should consider the benefits and associated risks before determining whether merging with a SPAC is the right path forward for them.
To have a deeper discussion, contact:
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